British expats are wealthy foreign nationals living in the United Kingdom but hold residence or elsewhere. These expats can enjoy several tax benefits if their sources of income/wealth emerge from outside of U.K. borders. Our article will provide information on and about avoiding U.K. inheritance tax traps when you are a British expat.
What are the U.K. tax traps?
Expats who are also U.K. tax residents are exposed to all taxes applicable in the U.K., including the two major ones – income tax and capital gains tax. The capital gains tax is incurred when a person’s assets are exposed to the inheritance tax, which can be as much as 40% of the wealth generated.
However, if British expats prove that their domicile status changed before the inheritance tax event occurred, the taxation can be avoided. Inheritance of property usually occurs when assets are transferred from a family member to the successive members or trust upon the initial owner’s death or when they are still alive but wish to transfer wealth to the said party (family member, government or trust). If the assets are passed onto a family member, they are subject to pay the U.K. government an inheritance tax upon gaining the wealth generating asset under capital gains tax.
Another loophole in the entire U.K. inheritance tax system is that when a British national leaves the country to live in a different country, even after he or she dies years later without returning to the U.K., he or she can have their entire estate left behind which is taxed at 40% by the HMRC.
Even when you leave the country, the British government considers you as a U.K. domicile for the first three years of leaving the country so that they can treat you as a taxpayer for any inheritance tax events. The next problem arises when you are supposed to provide documented proof that you have abandoned your U.K. domicile for a residency in another country. If you have left behind a considerable amount of IHT at stake, the HMRC pursues such cases legally, and the domicile documents you submit to the government to change your residence are considered weak in the eyes of the British law.
The evidence required to change domicile are –
- A documented or demonstrable intent to permanently stay in the country where you are seeking resident status
- Strong family, business, personal, social or investment connections with the domicile location
- Equivalent connections in the United Kingdom need to be shown as severed
- More than one piece of evidence to support your intent to stay in the said country
- Signed stature declaration that states your domicile position
Other domicile traps to avoid in the U.K.
- If you happen to become a temporary U.K. taxpayer after filing for a change of domicile, all your steps to change the domicile can stand undone
- If the donor spouse is the U.K. domiciled and the receiver spouse is not, the unlimited inheritance tax exemption with respect to transfers between them is not applied
- There is only a minimum threshold of estates being lower than 325K pounds being exempted from inheritance tax for individuals
Conclusion: How to avoid these domicile tax traps?
- When you are planning to gift someone your assets or estate, ensure that you have at least seven more years to live for the property to be considered a gift and be exempt from inheritance tax
- You can reduce your estate’s value by dispersing your assets evenly during your lifetime to different people and be exempted from the tax, provided the estate does not benefit you anymore
- You can consider leaving some part of your estate to charity as any asset left to the charity is completely free from inheritance tax in the U.K., provided the charity is registered in the United Kingdom
- You can also consider giving, not all, but more than 10% of your estate to charity to bring down your overall inheritance tax rate from 40% to 36%
- U.K. expats can carry out unused annual exemptions to the company taxable year for one year
- Make use of the annual exemption by way of dividing £3000 worth of your estate amongst however many people you like
- The succeeding family members can make use of the taper relief if the donor passes within seven years of passing on the estate as a gift
If you want to learn more about U.K. inheritance tax traps, request an introduction to speak with an expat tax specialist.
