Offshore Trusts Print
UK source income of an offshore trust is liable to tax in the UK if a beneficiary or potential beneficiary is resident here. Any income distributions to a UK resident beneficiary will be taxable on the beneficiary, but if the income distributed arises from a UK source it will normally be taxed in the first instance at the trust level, so the beneficiary will be able to claim credit for the UK tax paid by the trust.
Where a UK non-domiciled resident beneficiary receives a distribution of overseas income or gains from an offshore trust he will be taxed on the income or gains, subject to his entitlement to claim the remittance basis, and provided he pays the remittance basis tax charge, if relevant. It should be noted that even if the offshore trust has suffered foreign tax on its income, the beneficiary receiving the distribution from the trust is unlikely to be entitled to claim tax credit relief for any of the tax paid by the trust, in particular if the distribution is from a discretionary trust.
Prior to April 2017 where the offshore trust is a settlor-interested settlement, the income of the trust was automatically taxable on the settlor even where no such income had been distributed to him. If the income was foreign source then the settlor could avoid paying tax on this income by claiming the remittance basis, and paying the remittance basis tax charge if relevant. He was not able to avoid a tax liability on any trust income which had a UK source.
The main difference between the tax treatment of the settlor and a beneficiary is that the beneficiary is only taxable if a distribution is made to him by the trustees, whereas the settlor is automatically taxable on the trust income.
From 6 April 2017 as part of the package of measures introduced to bring long term resident non-domiciles within worldwide taxation, the taxation of offshore trust income has been changed so that income of an overseas settlement is not attributed to the settlor provided that the income is Protected Foreign Source Income (“PFSI”).
Income arising under a settlement is PFSI if conditions A to F are met.
Condition A is that the income would be relevant foreign income if it were income of a UK resident individual
Condition B is that the income is from property originating from the settlor Condition C is that when the settlement is created the settlor
- is not domiciled in the UK, and
- if the settlement is created after 5 April 2017, is not deemed domiciled in the UK
Condition D is that there is not time in the tax year when the settlor is either domiciled in the UK, or deemed domiciled in the UK as a “returner”
Condition E is that the trustees of the settlement are not UK resident for the tax year
Condition F is that no property or income is added to the trust by the settlor or another settlement of which he is the settlor or a beneficiary at any time when the settlor is domiciled, or deemed domiciled in the UK
The settlor is in much the same position as a beneficiary, and is only taxed on any income, gains or benefits received from the trust. This is commonly referred to as “trust protection”.
The trust protection will be lost if the trust becomes “Tainted”. This would occur if, after 5 April 2017:
Property or income is added to the trust by the settlor or another settlement of which he is the settlor or a beneficiary, and at the time of provision, the settlor is UK domiciled, or deemed domiciled, or
At any time in the tax year the settlor becomes domiciled in the UK or becomes deemed domiciled in the UK as a returner.
If a trust becomes tainted, then the trust protections are permanently lost from the beginning of the tax year in which the tainting takes place. The settlor will be taxable on the income and gains of the trust from that year onwards.
The above trust protections also apply to the income and gains of underlying companies within the trust structure provided the income has been received by a company which is not resident in the UK, and the trustees are participators in that company. A structure involving more than one company is also protected where the trust’s holding is shares in the top company within the structure.
As tainting cannot not occur until the settlor becomes UK domiciled, or deemed domiciled, he may add further amounts to the trust in years whilst he remains not domiciled or not deemed domiciled. If distributions are made to him outside the UK he may claim the remittance basis to avoid a UK tax liability on the distribution.
Up to 5 April 2008 capital gains of an offshore trust were not taxable on a non-domiciled UK resident individual, even where the gain was remitted to the UK. From 6 April 2008 to 5 April 2017, the capital gains of an offshore trust are taxed on the remittance basis whether the assets are UK situs, or offshore.
Trustees of offshore trusts can make an irrevocable election to rebase all the trust assets at their value as at 6 April 2008, so that the assets are deemed to have been acquired at their market value on 6 April 2008. Accordingly, where the election is made, any gains taxable on a non-domiciled beneficiary will be limited to the growth in value from 6 April 2008 up to the date of disposal.
This election must be made no later than 31 January following the end of the tax year during which the first capital distribution is made to a UK resident beneficiary after 5 April 2008. It should be noted that for these purposes either the provision of living accommodation or the granting of a loan are treated as capital distributions.
Capital distributions made to non-domiciled beneficiaries are matched to gains, but these are limited to gains made after 6 April 2008, so there is no retrospective taxation of gains made by an offshore trust before 6 April 2008 which are distributed to beneficiaries after that date. The matching is first made against gains arising in the year, or prior years. If there are no such gains then the distribution is matched with gains of subsequent years.
Under PFSI trust protection, foreign source income is matched to benefits received by the settlor. This means that from 6 April 2017 overseas trusts have been able to invest in UK situs assets without triggering a remittance charge on the settlor provided the settlor, his spouse, minor children and grandchildren do not benefit from the investment.
Gains are no longer attributed to the settlor under Section 86 TCGA 1992 unless the settlor is actually domiciled in the UK, or the trust is tainted by further additions by the settlor. Instead, the settlor is taxed on the benefits he receives from the trust – in the same way as any other beneficiary.
Until 5 April 2018, capital gains of a trust were matched to all capital distributions made to beneficiaries, wherever they were resident. From 6 April 2018 trust gains are no longer be matched to benefits distributed to non-resident beneficiaries. This also applies to unmatched benefits made before 6 April 2018 which are subsequently matched to trust gains arising after 5 April 2018. There is one exception to this rule, and that is for the year the trust is terminated when gains are apportioned across UK resident, and non-resident beneficiaries.
Income distributions, or capital payments made to a close family member of the settlor from 6 April 2018 are attributed to the settlor. A close family member of the settlor is defined as:
The settlor’s spouse, civil partner, or partner living together with the settlor as if they were spouses;
Any children of the settlor who are under 18;
Any children of the settlor’s spouse, civil partner, or partner who are under 18.
New anti-avoidance rules also came into effect from 6 April 2018 to prevent onward gifting of both income and capital distributions. Where a distribution is made to a non- UK resident beneficiary, or a beneficiary who is a remittance basis user who does not remit the distribution to the UK, and that beneficiary subsequently makes directly, or indirectly a gift to a UK resident, then the UK resident may be taxed on the gain as if the trust had made the distribution to him at the time the onward distribution is made.
Two types of onward gift are caught by the legislation:
Onward gifts made within 3 years of the receipt of the distribution by the original beneficiary, and
Gifts made by the beneficiary at any time before receipt of the trust distribution which are made in anticipation of receipt of the trust distribution.
The onward gifting rules apply to gifts made after 5 April 2018 even where the original distribution from the trust was made before 6 April 2018.