Are offshore trusts still efficient for UK income tax and capital gains tax?
In this article we consider how the 2024 Spring Budget announcements are likely to impact offshore trusts settled by:
- UK resident individuals, who are non-UK domiciled and not deemed domiciled in the UK under current rules (“non-doms“), prior to 6 April 2025;
- UK resident individuals who, from 6 April 2025, qualify for the new 4-year exemption regime (“four-year FIG regime“) with respect to foreign income and gains (“FIGs“);
- non-UK resident non-doms whose foreign-situs assets (not being indirect interests in UK residential property, including “relevant loans” in connection with such) (“non-UK assets“) will not be subject to UK inheritance tax (“IHT“) after 5 April 2025; or
- non-UK residents (whether prior to becoming UK resident or while being a UK resident non-domiciliary under the common law) who qualified as UK deemed domiciled before leaving the UK.
What are the proposed changes from 6 April 2025?
In order to consider the ongoing efficiency from a UK tax perspective of offshore trusts created by the above categories of individuals, it is first necessary to set out the proposed relevant measures. These are subject to change, particularly if the government runs out of time to enact legislation before the general election. The IHT proposals are also subject to consultation. The current proposals are, however, as follows.
- The remittance basis of taxation will be abolished from 6 April 2025; so too will the concept of domicile for UK income tax, capital gains tax and IHT. In place of the current non-domiciled regime, there will be an exemption regime based on residence and available to new arrivals for the first four-years: we have defined this as the four-year FIG regime.
- Liability to IHT will also be determined by residence, with worldwide assets becoming subject to IHT where the individual has been resident in the UK for ten tax years, and for a further ten years after they cease to be UK resident.
- The “protected trust regime”, whereby offshore trusts created by non-UK domiciled settlors are currently afforded protection from look-through taxation on FIGs in the structure, including after they become deemed domiciled in the UK, will cease to apply from 6 April 2025. Offshore trusts created after 5 April 2025 will not qualify for protection.
- The current proposals focus on new FIGs in the structure arising from 6 April 2025. However, there is currently no commentary on whether the settlor (and beneficiaries) can access the taxed post-5 April 2025 FIGs in priority to the pre-6 April 2025 FIGs and how this might be achieved.
- Offshore trusts settled by non-doms prior to 6 April 2025 will retain their “excluded property” status for IHT purposes, even if the settlor is able to benefit. This means that the non-UK assets in the trust continue to be excluded from the scope of IHT.
- Offshore trusts settled after 5 April 2025 will be liable to IHT entry, ten-yearly anniversary and exit charges if the settlor is subject to the new IHT ten-year rule at the relevant time. Where the settlor later becomes subject to IHT on their worldwide assets and remains so at relevant junctions, the entire trust fund will be exposed to IHT in the trust, as well as in the settlor’s estate if the trust is settlor-interested (under the IHT gift with reservation of benefit rules).
Below we examine how these proposed changes could apply depending on different categories of settlor.
I am UK resident and have already created an offshore excluded property trust: how do these proposals affect me?
The first question is whether on 6 April 2025 the settlor qualifies for the new four-year FIG regime to identify when the underlying FIGs in the structure might become taxable on the settlor.
Table A below captures the overriding considerations after 5 April 2025, looking at two cases:
| Case One: | Current non-doms, who will not qualify for the four-year FIG regime from 6 April 2025 (because the 2024/25 tax year is at least their fourth of UK residence) |
| Case Two: | Current non-doms, who will qualify for the four-year FIG regime from 6 April 2025 (because the 2024/25 tax year will be their third (or less) of UK residence) |
| Tax | Case One | Case Two |
| IHT | In respect of non-UK assets settled prior to 6 April 2025, the trust remains an excluded property trust. Where the settlor adds non-UK assets after 5 April 2025: • an IHT charge will arise on entry if the settlor is already subject to IHT on a worldwide basis under the proposed ten-year IHT rule. • IHT ten-yearly anniversary and exit charges may apply to the extent of the added property, if the ten-year IHT rule is met at the relevant time. Such added property will also create IHT exposure in the settlor’s estate in these circumstances where the trust is settlor-interested. | In respect of non-UK assets settled prior to 6 April 2025, the trust remains an excluded property trust. Where the settlor adds non-UK assets after 5 April 2025: • an IHT charge will only arise on entry if the settlor is then subject to IHT on a worldwide basis under the proposed ten-year IHT rule. • IHT ten-yearly anniversary and exit charges may apply to the extent of the added property, if the ten-year IHT rule is met at the relevant time. Such added property will also create IHT exposure in the settlor’s estate in these circumstances where the trust is settlor-interested. |
| Income tax | If the trust is settlor-interested, all income in the structure arising after 5 April 2025 will be attributed to the UK resident settlor and taxed on the arising basis. The transitional rule whereby only 50% of foreign income is subject to UK tax may apply for tax year 2025/26 where the settlor is not deemed UK domiciled under current rules and claims the remittance basis in 2024/25 (but we await details on how this transitional rule applies to trusts). Income at company level may be subject to the motive defence. | While the UK resident settlor is subject to the four-year FIG regime, they will not be taxable on the non-UK income in a settlor-interested offshore trust. |
| Capital gains tax | If the trust is settlor-interested for capital gains tax (which the vast majority of trusts will be, even if not settlor-interested for income tax), all capital gains arising in the structure after 5 April 2025 will be attributed to the UK resident settlor and taxed on the arising basis. Gains realised at company level may be subject to the motive defence and/or treaty relief. | While the UK resident settlor is subject to the four-year FIG regime, they will not be taxable on the foreign gains in a settlor-interested offshore trust. |
The removal of the protected trust regime may have a very significant impact on any UK resident settlor.
This is because the anti-avoidance rules that charge a UK resident settlor to UK income tax and capital gains tax are aggressive and complex, with the potential for what might appear to be a disproportionate tax liability.
The settlor of an offshore excluded property trust should take legal advice to understand how these new rules will apply to them and what the financial implications are. Trustees are encouraged to do likewise.
I am UK resident and non-UK domiciled: can I create an offshore trust before 6 April 2025?
Yes.
Many UK resident, non-doms will now ask whether they ought to settle an offshore excluded property trust. Such people should think carefully about the tax efficiency of such a structure, however, especially if the trust will be settlor-interested. While IHT could be mitigated, the underlying income and gains of the structure would be taxable directly on the settlor after the four-year FIG regime. This might be acceptable and, in specific situations, beneficial so the analysis will be on a case-by-case basis.
The UK taxation of such an excluded property trust will follow Table A.
I am non-UK resident and non-UK domiciled, but I intend to move to the UK: can I create an offshore trust?
Yes. We provide further commentary through Case Three and Case Four below.
| Case Three: | Current non-UK resident non-doms, who will become UK resident in 2024/25 (i.e. before the proposed changes take effect) and qualify for the four-year FIG regime from 6 April 2025 |
| Case Four: | Current non-UK resident non-doms, who will become UK resident in or after 2025/26 (i.e. after the proposed changes take effect) and qualify for the four-year FIG regime from 6 April 2025 |
| Tax | Case Three | Case Four |
| IHT | In respect of non-UK assets settled in trust prior to 6 April 2025, the trust remains an excluded property trust. Non-UK assets settled on trust (or added to an existing excluded property trust) after 5 April 2025 will become chargeable to IHT if the settlor becomes subject to IHT on a worldwide basis under the IHT ten-year rule. | In respect of non-UK assets settled in trust prior to 6 April 2025, the trust remains an excluded property trust. Non-UK assets settled on trust (or added to an existing excluded property trust) after 5 April 2025 will become chargeable to IHT if the settlor becomes subject to IHT on a worldwide basis under the IHT ten-year rule. |
| Income Tax | Before 6 April 2025, the protected trust regime will apply. From 6 April 2025, and while the settlor is subject to the four-year FIG regime, they will not be taxable on foreign income in a settlor-interested offshore trust. Once the settlor no longer qualifies for the four-year FIG regime, Case One will apply. | While the settlor is subject to the four-year FIG regime, they will not be taxable on foreign income in a settlor-interested offshore trust. Once the settlor no longer qualifies for the four-year FIG regime, Case One will apply. |
| Capital Gains Tax | Before 6 April 2025, the protected trust regime will apply. From 6 April 2025, and while the settlor is subject to the four-year FIG regime, they will not be taxable on the gains in a settlor-interested (for capital gains tax) offshore trust. Once the settlor no longer qualifies for the four-year FIG regime, Case One will apply. | While the settlor is subject to the four-year FIG regime, they will not be taxable on the gains in a settlor-interested (for capital gains tax) offshore trust. Once the settlor no longer qualifies for the four-year FIG regime, Case One will apply. |
While a settlor is subject to the four-year FIG regime, under current proposals, their FIGs can be “remitted” tax-free to the UK. This would include FIGs arising in trust structures which are attributed to a UK resident settlor or “matched” to distributions to UK resident beneficiaries. The latter is not the case under the protected trust regime.
I am non-UK resident, but I created an offshore trust when I lived in the UK while non-UK domiciled: what happens if I come back to the UK?
There will be many settlors of offshore excluded property trusts who have since left the UK.
In the event that the settlor returns to the UK, we will need to determine their personal UK tax status both in terms of UK domicile (if they return in tax year 2024/25) and whether they would qualify under the proposed four-year FIG regime from 6 April 2025.
For IHT purposes, if the settlor has lost their UK deemed domiciled status (under the current rules) by 6 April 2024, then such settlor might be in a position to resettle any offshore trusts before 5 April 2025. This will be important but bespoke planning.
In relation to UK income tax and capital gains tax, if the settlor is not able to benefit from the four-year FIG regime, while the trust will still be an excluded property trust for IHT, the protected trust regime will not apply to it (see Case One). If the settlor does qualify under the four-year FIG regime, Case Two will apply.
Detailed and early professional advice will be key so as to analyse planning options. Where an individual has an offshore trust, some questions to ask their advisers are as follows.
- What is the IHT exposure for the trustees and for me personally and what can be done to mitigate this exposure?
- What is my personal liability to income tax and capital gains tax in the UK in relation to the trust and its underlying companies, and what can be done to mitigate this exposure? (This analysis should be in-depth, to include consideration of costs, availability of the motive defence and applicable tax treaties.)
- Should I retain the current offshore trusts and/or set up new trusts before my arrival in the UK? (This will need to be assessed in light of the individual assets involved as the benefits of a trust may vary.)
- Should I receive a significant distribution from the trust before 6 April 2025? How will this be taxed and would the two-year Temporary Repatriation Facility (whereby non-doms can bring into the UK previously unremitted FIGs arising prior to 6 April 2025 at a tax rate of 12%) offer any benefits?
Closing thoughts
The Spring Budget non-dom announcements will have significant implications for offshore trusts and their settlors who are or may become UK tax resident. We will only be able to grasp the full extent of these implications once the draft legislation has been published, both in relation to the four-year FIG regime and the proposed changes to IHT. We might not have much certainty on the latter for some time, as the government intends to enter into a consultation period.
Affected UK-resident, non-doms may want to consider alternatives to trusts once their ability to set up an excluded property trust is taken away from 6 April 2025.
By removing the protected trust regime, the government will lay open offshore trusts to the full force of the UK’s anti-avoidance rules applicable to settlors for income tax and capital gains tax purposes. These rules are notoriously complex and punishing. To understand where your structure fits into these regimes has never been more pressing.