Non-doms are in the news again, with one British political party wanting to scrap non-domiciled status if they are elected to be the next Government on 7 May. This sort of headline reinforces the casual view that being a non-dom is always advantageous for UK tax purposes. However, if you are part of a mixed domicile couple, where one of you is UK domiciled and the other isn’t, you might disagree. Estate planning is not plain sailing for you.
Most married couples don’t think twice about mixing up their assets. Buying houses jointly or contributing to a joint bank account, for example. There are usually no UK tax consequences in doing so.
Inheritance Tax (IHT) has a specific spouse exemption, categorising flows of wealth which would otherwise be transfers of value for IHT purposes as exempt transfers instead. This generous exemption is curtailed where a UK domiciled spouse makes a transfer to a non-UK domiciled spouse, though (but not the other way around). Since the Finance Act 2013, the spouse exemption available in this situation is the same as the prevailing IHT nil rate band, so currently £325,000 – and that is a lifetime limit; transfers do not drop out of the equation after seven years. So if the UK domiciled spouse dies first and leaves all assets to his spouse who is still not UK domiciled, actual or deemed, at that point, there may be no spouse exemption available.
The lack of a full spouse exemption for lifetime transfers means that the reservation of benefit rules can also apply to gifts from UK domiciled spouses to non-UK domiciled spouses. These have no seven year run off, of course, unless the reservation of benefit ceases, at which point the UK domiciled spouse is treated as having made a transfer of value.
The Finance Act 2013 did offer some assistance to non-UK domiciled spouses in this situation, allowing them to elect to be UK domiciled. The election can be made in lifetime or on death and be made effective up to seven years before the date of the election, although not before 6 April 2013. However, making an election needs careful consideration as the election will remain effective (and thus the electing spouse will be regarded as UK domiciled for all IHT purposes) unless and until the electing spouse is not resident in the UK, in accordance with the UK statutory residence test, for four successive UK tax years. For example, most IHT excluded property owned by an electing spouse will no longer be excluded property once an election is effective. Pre-6 April 2013 transfers and gifts with reservation of benefit (even if the reservation ceases after 6 April 2013) cannot be ‘neutralised’ in this way, though.
What practical steps can mixed domicile couples take to avoid getting themselves in an IHT muddle? Here are a few suggestions:
- If a house is being purchased jointly, think carefully about who is providing the funds. If the UK domiciled spouse is providing all of the purchase price but the property is purchased in joint names, that could use up some of the UK domiciliary’s limited spouse exemption.
- Preferably don’t operate joint bank accounts. There is a lot of technical debate about the tax implications of making additions to and withdrawals from such accounts. To avoid getting into such debates, try to maintain separate bank accounts if possible.