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Neil Da Costa puts a recent Advanced Tax Exam question under the microscope, pointing out where mistakes might have been made.
In this article I will be taking you through a technical debrief of Emma, which was question 2 of the Sep/Dec 2019 Advanced Tax Exam. You can download the question from the ACCA website under past exams. Overseas aspects for individuals feature regularly in the Advanced Tax so it is crucial for you to master this.
In this scenario, Emma is a non-UK domiciled individual who is becoming a UK resident and needs advice about overseas rental income possibly being remitted to the UK. Emma is also planning on making a gift of shares in a UK family company, Vyc Ltd. Finally, she is also planning on selling a commercial property in Manchester.
As a tax advisor in a multicultural country like the UK, it is important to understand the tax implications for non-UK domiciled individuals who are UK resident.
This was a very tricky question, as many of the tax benefits generally available do not apply in this question, so I recommend you carefully read the question and think about it before looking at the solution.
a. Rental income in the country of Falgar
Emma has a domicile of origin in Falgar, but will be treated as deemed UK domiciled if she has been UK resident for at least 15 out of the past 20 years.
Emma was UK resident from 6.4.96 until 1.2.17, which was 20 tax years. She then moved to Falgar from 1.2.17 until 1.5.20, or three tax years. Emma then resumes UK residency in 20/21.
For the tax year 20/21, Emma has been UK resident for at least 15 out of the past 20 tax years so is deemed to be UK domiciled.
As she is UK domiciled, she is subject to income tax on her worldwide income. This means that her rental income from Falgar is taxable in the UK even if the income is not remitted to the UK. This is because the remittance election is only available to individuals who are not UK domiciled.
Her rental income will be taxed in the UK at 40% as she is a higher rate taxpayer. She can claim double tax relief for the 26% tax in Falgar even though there is no double tax treaty between the UK and Falgar as unilateral relief is available.
Double tax relief is the lower of UK and overseas tax so will be 26% and the net tax payable will be 40 – 26 = 14% tax.
(Note: If Emma was not UK domiciled, she could make the remittance election and by avoiding remitting the income to the UK to escape paying income tax on the rental income in the UK. However, in so doing she would lose her personal allowance, annual exemption and be subject to the remittance basis charge.)
b. Gift Of Shares In Vyc Ltd
Circumstances Resulting In The Maximum Inheritance Tax Liability (IHT) The gift of unquoted shares to Edward will be a PET and IHT is payable if Emma dies within seven years. The IHT liability will be reduced by the following:
• Unquoted trading company shares in Vyc Ltd owned for two years by Emma are eligible for 100% BPR. However, if Edward sells the shares before Emma dies then no BPR is available on death. Alternatively, the shares may not be relevant business property due to a change of trade to trading in investments.
• Emma’s nil rate band is £325,000.
However, Emma has made another PET of £280,000 to Lily on 1.10.15 which will consume part of the NRB if Emma dies within the next seven years (before 1.10.22). The remaining NRB available for the PET of shares would be 325,000 – 280,000 = 45,000.
• The tax on death will be reduced by taper relief as long as the gap between the date of the gift (1.7.20) and the date of death is at least three years.
Consequently, if Emma dies before 1.2.23 then no taper relief is available.
As a result of these three factors, if Emma dies by 30.9.22 then a maximum IHT liability will arise as £280,000 of the NRB would already be consumed and no taper relief would be available on death. In addition, no BPR is available on death if Edward sells the shares before 30.9.22 and does not replace them with relevant business property.
A gift for IHT is computed based on the loss in value to the donor. Emma and her husband Bill are related parties and her unquoted shares will be valued based on a combined holding considering Bill’s shares as well.
This means that, before the gift, Emma’s shares will be valued as part of a 54% holding, so each share is worth £19. After the gift of 10,000 shares Emma’s shares will be valued as part of a 44% holding, so each share is worth £13.
The value of the PET is (35,000 x 19) – (25,000 x 13) = 340,000
Annual exemptions of £3,000 for 20/21 and 19/20 are both available which will be deducted before the remaining NRB of 45,000.
Maximum IHT liability will be (340,000 – 6,000 – 45,000) x 40% = £115,600
Is CGT gift relief available on the gift of unquoted shares?
While unquoted trading company shares are a business asset for gift relief, gift relief is only available if the donee is UK resident for the tax year at the time of the gift.
Edward has been travelling in Asia so is not UK resident and the gain cannot be postponed under gift relief.
(In order for gift relief to apply, Edward must be UK resident. In addition, both Emma and Edward must make a joint election within four years from the end of the tax year in which the gift took place 5.4.21 + 4 years = 5.4.25.)
c. Sale of industrial property In Manchester, England
Emma is a temporary non-UK resident for CGT purposes because:
1: She was UK resident for at least four out of the past seven years immediately preceding the tax year of departure (16/17).
2: Emma’s period of non-UK residence is less than five years.
Emma is returning to the UK within five years, so is liable to CGT on disposals of all assets while she is abroad, if the asset was owned prior to her leaving the UK.
Emma owned the Manchester property before she left the UK so even if she sells it while she is in Falgar, the gain will be taxable in the year she returns to the UK. The gain of £330,000 will still be taxed in 20/21. If Emma sells the property while abroad, this will result in a CGT liability of (330,000
12,000) x 20% = 63,600. The aftertax proceeds will be 330,000 – 63,600 = 266,400.
If Emma sells the property once she returns to the UK, the gain will still be taxable, but she will be able to increase the sale proceeds by £60,000.
This would result in a CGT liability of (390,000 – 12,000) x 20% = 75,600. The after-tax proceeds will be 390,000 – 75,600 = 314,400.
There is no benefit in selling the property before returning to the UK so to maximise the after-tax proceeds, Emma should sell the property in Manchester once she returns to the UK, yielding extra after-tax proceeds of 314,400 – 266,400 = 48,000.
• Neil Da Costa is a senior tax lecturer at Kaplan Financial