Mark McLaughlin outlines the government’s proposals to move from a domiciled-based tax system to a residence-based regime.
Mark McLaughlin CTA (Fellow) ATT (Fellow) TEP is General Editor of the Tax Annuals 2023/24 and co-author of Tax Planning 2022/23.
The writing has been on the wall for some time that the remittance basis of taxation would soon be consigned to tax history. Prior to the general election, the Labour party had declared its intention to close the domicile ‘loophole’ and abolish the remittance basis if it gained power. However, the Conservative government beat Labour to the punch by announcing the abolition of the remittance basis in Spring Budget 2024, as part of changes to the taxation of non-UK domiciled individuals.
Of course, the previous government’s intended tax changes will not now see the light of day. However, the overall move towards tax reforms in this area is being taken forward by the new government, albeit in amended form. On 31 July 2024, the government published an updated policy paper ‘Changes to the taxation of non-UK domiciled individuals’, which sets out the reasoning and purpose behind the replacement of a domicile-based tax regime with a residence-based one:
‘The government is committed to addressing unfairness in the tax system, so that everyone who is long-term resident in the UK pays their taxes here. The government will therefore remove the outdated concept of domicile status from the tax system and implement a new residence-based regime which is internationally competitive and focused on attracting the best talent and investment to the UK.’
In very broad terms, the remittance basis has been described as an ‘alternative’ basis of taxation to the arising basis, which is the default basis for income tax and capital gains tax (CGT) purposes for individuals who are resident in the UK. Under the arising basis, foreign income of UK residents is charged in the tax year it arises overseas. Similarly, capital gains are subject to UK tax in the year the gain accrues (ie usually the tax year of the asset’s disposal).
By contrast, the remittance basis is potentially available to individuals who are not domiciled in the UK; if it applies, foreign income and gains are only taxed in the UK when they (or amounts ‘in respect of’ or ‘representing’ those income or gains) are ‘remitted’ to the UK. If they meet the necessary criteria, individuals can decide on a year-by-year basis whether to use the remittance basis; if they choose not to use the remittance basis, the arising basis applies.
The new government (like the previous one) intends that the remittance basis of taxation will be abolished for UK resident, non-domiciled individuals. The last tax year for which a remittance basis claim can be made will be 2024/25.
The remittance basis is to be replaced with a new four-year foreign income and gains (FIG) regime for individuals, which will provide 100% relief on FIG for new arrivals to the UK in their first four years of tax residence, provided they have not been UK tax resident in any of the 10 consecutive years prior to their arrival.
The four-year regime will apparently apply to FIG arising from 6 April 2025. Any FIG that arose before 6 April 2025, while an individual was taxed under the remittance basis, will continue to be taxed when remitted to the UK, as at present. The government’s policy paper confirms: “This includes remittances of pre-6 April 2025 FIG for those who are eligible for the new 4-year FIG regime”.
The previous government had stated that individuals who have been UK resident for tax purposes for less than four years on 6 April 2025 after 10 years of non-UK residence would be able to use the FIG regime for any tax year of UK residence in the remainder of those four years. However, the mechanics of the FIG regime to be introduced by the new government have yet to be made public. The statutory residence test (SRT) will be used to determine tax residence on a year-by-year basis (with treaty residence or non-residence and split years being ignored), and that will almost certainly remain the case.
A new temporary repatriation facility (TRF) is intended. The TRF will be available for individuals who have been taxed on the remittance basis. Individuals who previously claimed the remittance basis will be able to remit FIG that arose before 6 April 2025 and pay a reduced tax rate on the remittance for a limited time after the remittance basis has ended.
Under the previous government’s proposals, the TRF tax rate was to be 12%, which would have been available for the tax years 2025/26 and 2026/27 only. The reduced rate of tax under the TRF, and the length of time for which the TRF will be available, have not been announced by the new government.
In addition, the government is exploring ways of expanding the TRF’s scope, including in relation to stockpiled income and gains within overseas structures. Thus, it seems that the TRF will be more comprehensive than was planned by the previous government. Some commentators have also speculated that the TRF period could be longer than under the previous government’s proposals. More detailed information on the TRF is expected at the next Budget.
A form of CGT relief will be available for UK resident individuals who are ineligible for the four-year FIG regime (or who choose not to make a claim for a tax year). Without a form of transitional relief, such individuals would be subject to CGT on foreign gains in the normal way. However, transitional provisions for CGT purposes will allow current and past remittance basis users to rebase foreign capital assets held to their value at the rebasing date when they dispose of them.
The government will reveal the rebasing date at the Budget. The previous government had intended that an election facility would be available for non-UK domiciled individuals who had claimed the remittance on disposals of foreign assets (from 6 April 2025) which were held personally on 5 April 2019, to rebase such assets to their value as at that date, such that individuals who made the election would be taxed only on capital gains since 5 April 2019. However, it does not necessarily follow that the new government will adopt 5 April 2019 as the rebasing date.
The present government (like the previous one) intends retaining some form of overseas workday relief (OWR), albeit on a ‘simplified’ basis.
Under the previous government’s proposals, a form of OWR was also to be retained, which would be available for the first three tax years of an individual’s UK residence.
The ‘new’ OWR will be similar to the current one in terms of providing relief on earnings for employment duties performed outside the UK. The new OWR will provide income tax relief regardless of whether those earnings are brought to the UK. From 6 April 2025, eligibility for OWR is to be based on an employee’s residence and whether the individual opts to use the four-year FIG regime.
Protected trust status, which offered protection from tax on income and gains arising within settlor-interested trusts, will cease to be available for non-domiciled (and deemed domiciled) individuals who do not qualify for the four-year FIG regime, from 6 April 2025.
The previous government had proposed that FIGs that arose in settlor-interested trusts before 6 April 2025 would be taxed on trust settlors or beneficiaries if matched to worldwide trust distributions. However, the present government has not yet confirmed the tax treatment of FIGs prior to 6 April 2005.
The government intends reviewing offshore anti-avoidance legislation, including the transfer of assets abroad and settlements legislation. The stated intention is to ‘modernise the rules and ensure they are fit for purpose’ by removing ambiguity and uncertainty in the legislation, making the rules simpler to apply in practice, and ensuring the anti-avoidance provisions are effective.
However, it is not anticipated that the review will result in any changes before the start of 2026/27.
Inheritance tax (IHT) is currently a domicile-based system. At present, individuals domiciled in the UK are liable to IHT on chargeable worldwide property. Non-UK domiciled individuals are also liable to IHT, but generally limited to chargeable UK property. However, the government also intends moving from a domicile-based regime to a residence-based system for IHT purposes.
The basic test for whether non-UK assets are in scope for IHT purposes from 6 April 2025 will be whether a person has been resident in the UK for 10 years prior to the tax year in which the chargeable event (including death) arises, with a ‘long-tail’ provision to keep a person in scope for 10 years after leaving the UK.
The scope of liability to IHT arising on deaths before 6 April 2025 will be unaffected by these changes, so will continue to be charged according to the existing rules.
At present, an asset situated outside the UK is generally ‘excluded property’ for IHT purposes if the person beneficially entitled to it is an individual domiciled outside the UK. Foreign property in a trust is generally excluded property unless the settlor was domiciled in the UK when property (or additional property) became comprised in the trust. The government seems intent on ending the use of excluded property trusts in IHT planning, which were set up to keep assets outside the scope of IHT.
However, some form of transitional provision seems to be under consideration. The government’s policy paper states it is recognised that trusts will already have been established and structured to reflect the current rules on excluded property trusts, so the government is considering how these changes can be introduced in a manner that allows for appropriate adjustment of existing trust arrangements, while ensuring that the treatment of all long-term UK residents is the same for IHT purposes.
The government intends conducting external engagement before publishing details on the application of these new rules at the next Budget, including transitional arrangements for affected settlors of excluded property trusts. It should be noted that the government will not be publicly consulting on moving to a residence-based IHT system; so, it seems the change will be happening, although the government will review stakeholder feedback that was provided following the Spring Budget and conduct external engagement on the design of the new IHT regime.
By contrast, the transitional proposals put forward by the previous government were that the current IHT treatment would continue for any non-UK property settled by a non-UK domiciled settlor which became comprised in a settlement before 6 April 2025. New trusts and additions to existing trusts made by a non-UK domiciled settlor from 6 April 2025 would have been subject to the residence-based rules. If this transitional approach is not adopted by the new government, a possible alternative might be that the IHT treatment of the trust will follow the tax residence status of the settlor. However, any alternative transitional approach (if any) remains to be seen.
Whilst the intended tax reforms relating to residence, domicile and the remittance basis appear to be largely similar to the proposals announced by the previous government, the new government’s proposals are not quite as generous.
The previous government had proposed that individuals moving from the remittance basis to the arising basis on 6 April 2025 who were not eligible for the new four-year FIG regime would, for 2025/26 only, pay tax on 50% of their foreign income (but not foreign chargeable gains).
However, the new government has stated that this proposed 50% reduction in foreign income subject to tax for individuals who lose access to the remittance basis in the first year of the new regime would not be introduced.
There are various similarities between the changes to the taxation of non-UK domiciled individuals which were intended by the previous government and those outlined in the policy paper published by the present government. This should come as no surprise, as the Conservatives and Labour had each targeted this area for change before the general election.
The narrative in the new government’s policy paper of being ‘…committed to addressing unfairness in the tax system, so that everyone who is long-term resident in the UK pays their taxes here’ indicates the perception of an unacceptable advantage in the remittance basis of taxation. The government considers that the new residence-based tax regime will be ‘internationally competitive and focused on attracting the best talent and investment to the UK’. Only time will tell whether the changes, when enacted, achieve the new government’s ambitions in this context.
