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Pitfalls of trading in UK property via offshore companies

Trading in UK property via offshore companies is now much more problematic than it used to be.

For UK residents it was once possible to defer tax on UK trading profits received by an offshore company entitled to reliefs or exemptions from UK tax, under a UK double tax treaty. This technique is now too problematic to be recommended any more. The real show-stopper is s130 of the Taxation (International and Other Provisions) Act 2010 which stops the treaty exemption from enuring to the benefit of a UK resident. The treaty-protected income is now chargeable to UK income tax when it is deemed (by ss720-727 of the Income Tax Act 2007) to be the income of the UK resident shareholder / transferor. In effect s130 stops a tax treaty from being an antidote to ss720-727.

Some commentators take the view that UK residents can benefit from the use of low-tax EU companies to override UK anti-avoidance rules. It is valid to say that s720, by deeming income of, say, a Cyprus company to be the income of a UK resident participator, treats a Cyprus company less favourably than a UK company in the same set of circumstances. However, the reality is that a trade in UK property is a UK trade, and unless there is substantial economic activity in Cyprus, the ability to rely on the EU Treaty Freedoms to conduct a UK trade for UK resident shareholders is going to be questionable nowadays.

Non-EU registered offshore companies (e.g. BVI companies) conducting UK trades are simply chargeable to tax in the UK on the trading profit, either to UK corporation tax or basic rate income tax, depending on whether the BVI company has a permanent establishment in the UK or not. This is regardless of the fact that the BVI company's shareholders and directors are non-UK resident. For UK resident shareholders, use of a non-UK resident BVI company risks s720 income tax charges at the additional rate of 45%.

For UK resident but non-UK domiciled tax payers, trading in UK property via UK companies now seems the sensible course.

The rest of this article considers the tax planning possibilities that surround the use of UK companies as UK property traders for UK resident but non-UK domiciled taxpayers.

For a UK resident but non-domiciled tax payer conducting a property development business in the UK, the advantages of using a UK company include the following:

  • UK corporation tax is 20%. This is the nominal rate of corporation tax. The effective tax rate will be much lower than this after allowable deductions and reliefs.
  • The UK resident beneficial owner can act as the director of the UK company and run the business. This is surely more satisfactory than him setting up an offshore company and worrying how to ensure central management and control is exercised outside the UK, whilst he retains his own input into the business from the UK. Procuring reliable and robust offshore arrangements will be expensive, and the management and administration of offshore companies is nowadays costly. There is always then the possibility that the offshore arrangements will be attacked by HMRC.
  • A UK company's income can be retained and not distributed. There is no s720 deeming provision that faces all offshore companies and their UK resident participators.
  • If dividends are distributed these will be taxed in 16/17 at rates of 7.5%, 32.5% and 38.1% depending on the marginal rate of the UK resident recipient of the dividend (after the exempt amount of £5,000 has been utilised).
  • One problem with substantial accumulation of profits in a UK company is that it can prevent the shareholder from claiming UK Inheritance Tax (IHT) relief on the shares of the UK company. This is known as business property relief. A possible planning point here is to set up an offshore holding company with a view to selling the shares of the UK company to extract the profits. A buyer will pay 0.5% stamp duty and resulting gains of the offshore holding company can be kept offshore without apportionment of the gains to the UK participators if the shares of the offshore holding company are placed into trust.

Alternatively, thought could be given to forming a BVI company instead of a UK company, and ensuring the BVI company is UK tax resident under management and control principles. This would be the case if the UK resident beneficial owner acts as the director. In this way the BVI company offers the following advantages:

  • it is subject to the low rate of UK corporation tax,
  • the UK taxpayer / shareholder is not subject to s720 apportionment charges,
  • the BVI company offers a shield from UK IHT so that accumulation of trading profits need not be problematic from an IHT perspective (the BVI shares are non-UK situs assets - this is a clear advantage over a UK company). However, if the company owns UK property that is residential property, changes to IHT law anticipated in April 2017 are likely to make the BVI company shares UK IHT assets to the extent that their value reflects UK residential property.

For some clients who have legitimate reasons for confidentiality the BVI or other offshore company has the merit of not requiring a PSC register.

Whilst this short article has illustrated the potential problem areas of using offshore companies in UK property trades, the next Focus will examine how offshore companies may still legitimately protect non-UK resident shareholders from unnecessary UK tax exposure, in the course of UK property trades or investment activity.

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 Martin Palmer

Martin Palmer
T: +44 (0)117 918 1321

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