As the 5th April deadline approaches Debbie Lumsden, Private Client Director at VG, explores the top three considerations for clients and their advisors when contemplating settling an offshore trust as part of deemed domicile planning.
Deemed domicile planning presents a once in a lifetime, golden opportunity for ultra and high-net worth individuals (HNWIs) to settle protected settlements and enjoy the resulting income tax (IT), capital gains tax (CGT) deferral advantages and continued inheritance tax (IHT) protection for non-UK assets.
As the 5th April deadline approaches Debbie Lumsden, Private Client Director at VG, explores the top three considerations for clients and their advisors when contemplating settling an offshore trust as part of deemed domicile planning.
Timing – when to settle?
Most non-dom clients (non-doms) start thinking about planning in the year prior to their 15th year of UK tax residence, however, in the current political climate there are reasons why non-doms may want to consider settling a protected settlement sooner rather than later.
Asset values have, in large, been impacted negatively as a result of COVID-19 and Brexit; now may be the optimal time to ask if the ‘right’ assets are held and, if so, should they be settled into trust whilst assets are at depressed prices in order to minimise tax leakage.
COVID-19 continues to be an important political risk for 2021 and has already prompted unprecedented government policy responses with a focus on government finances. The UK Government recently commissioned reports by the Office of Tax Simplification into both IHT and CGT. The latter received notable interest and publicity amidst concerns that it may provide pointers as to what future CGT changes may look like and concerns that CGT rates might rise to match IT rates. Whilst there is certainty under the current CGT regime and before rates potentially rise, HNWIs should take advantage of their ability to control the timing of the disposals of their assets in order to optimise their tax position and consider transferring assets into a protected settlement.
Longer-term, the next UK general election is only three years away (unless one is called sooner) and a change in government could alter, or remove altogether, the attractive benefits which the “Protected Settlement Regime” introduced by the Conservative government in 2017 provide for non-doms settling offshore trusts.
How much to settle?
Perhaps obvious, but a critical consideration; what proportion of the wealth should be transferred into trust? To answer this requires a detailed understanding of the client or family’s lifestyle and their planned foreseeable expenditure to calculate the portion that should be retained outside of the Trust to fund this.
Protected settlements provide IT and CGT deferral advantages such that beneficiaries are only taxed to the extent they receive a benefit. Therefore, provision for the intended beneficiaries’ immediate needs outside of the Trust should be considered to mitigate future tax exposure. If the settlor and their family decide to leave the UK in the future, become non-UK resident and resident in a low or no tax jurisdiction, there may be an opportunity to receive tax-free distributions from the Trust.
Controlling the settlement
Whilst most clients like to, as far as possible, legitimately retain an element of control over the management of the Trust, particularly in relation to investments, clients and their trustees should be mindful of the level of control that a settlor exerts in order to protect the tax residence of the trust offshore.
Another important consideration is ‘tainting’ and its impact of potentially losing the benefits of protected trust status resulting in the trust becoming effectively transparent and the income and gains being taxable on the settlor. Amongst other things, a trust will lose its protected status and become tainted if the Settlor enters any arrangement with the Trustees that is not on arm’s length terms and results in extra value passing to the Trust.
This is critical to bear in mind when settlors have a desire to be involved in the Trust’s investments in a management or advisory capacity, especially if they are financially sophisticated and are qualified to do so. If an arrangement like this is to be considered by the trustee, it is critical to ensure the settlor is remunerated at a market rate for their services, that the formal tax advice is obtained, and a formal agreement is entered into. Additionally, the Settlor should consider that payment for their services will be from trust monies, which are essentially outside the scope of UK tax, will be taxed in the UK at their marginal rate, which may not be desirable.
To mitigate restrictions over control, we are seeing an increased demand for private trust companies (PTC). Whilst usually more costly, a PTC provides optimum control; a PTC is effectively the settlor’s own trust company where assets vest in the PTC, rather than in a third-party Trustee, and control over investments can be exerted via the composition of the board, voting rights and/or through an investment advisory committee. In certain circumstances, UK-resident settlors can be directors of PTCs, but care is needed to balance associated risks when drafting the constitutional documents.
For non-doms approaching their 15th year of UK tax residence, establishing a trust before they become ‘deemed domiciled’ should be seriously considered and supported by a team of trusted advisors, like VG, who are able to consider and implement bespoke solutions to suit client’s preferences in relation to the management of a trust’s investments.
Talk to us about your or your client’s wealth structuring needs!