Individuals who are domiciled in the UK are subject to inheritance tax (IHT) on their worldwide assets. Those individuals who are not UK domiciled are liable to IHT only on assets located in the UK.
Domicile is complex but in general refers to the location of the permanent home of an individual; typically, an Englishman who lives in England is domiciled in England. However, it is possible for, say, a Frenchman who comes to live in England to become English domiciled; this would happen if the Frenchman decided to remain in the UK permanently.
In a similar fashion, an Englishman may choose to go and live permanently in France and acquire a French domicile. It is the common law under which the above determinations are made.
Deemed UK Domicile Rules
However, for IHT purposes only, an individual may be “deemed” to be UK domiciled despite any determination under common law to the contrary. A determination of deemed UK domicile status occurs in one of two sets of circumstances:
1. Where a non-domiciled (e.g. a Frenchman) individual lives in the UK for 17 out of 20 successive tax years he becomes deemed UK domiciled; or
2. Where a UK domiciled individual acquires a foreign (e.g. French) domicile, he remains deemed UK domiciled for three more years.
Under point 1, the individual becomes liable to IHT on worldwide assets. Under point 2, even though a foreign (e.g. French) domicile has been acquired, the individual concerned remains within the charge to IHT for three more years on worldwide assets.
Example 1
Henry Smith has lived all his life in the UK; he is UK domiciled under common law. He decides to leave the UK and live in France for the rest of his life, acquiring a French domicile. He moves to France on 1st January 2010.
For IHT purposes, he continues to be subject to IHT on his worldwide assets until 1st January 2013; thereafter he is no longer deemed UK domiciled and is then exposed to IHT on UK assets only.
Example 2
Francois Paris moved to the UK on 1st July 1994, intending to return to France at some point in the future. On 6th April 2010, he becomes deemed UK domiciled for IHT purposes.
Emigration
For the UK domiciled individual who emigrates on retirement it is not unusual for such individual to wish to fall outside any charge to IHT by acquiring a foreign domicile. Unfortunately, even if the individual acquires a foreign domicile, under point 1 (above) the individual remains within the charge to IHT for three more years.
Thus, during this three year period should the individual die or make any lifetime gifts (and die within seven years of making the gift) an IHT charge arises.
One option to remove this exposure for this three year period is for the individual to invest in UK government gilts, as such investments are not subject to IHT unless the individual is ordinarily resident in the UK (domicile in this very specific form of investment is irrelevant).
As the individual has left the UK he will have lost his ordinary residence status; this circumnavigates the charge to IHT for the three year period.
Inter-spouse Transfers
Inter-spouse transfers are exempt from IHT but this is not so where the transfer is from a UK to a non-UK domiciled spouse. In this case only the first £55,000 of transfers is exempt. It is therefore important for two non-UK domiciled spouses to monitor the possibility of one of them (but not the other) becoming deemed UK domiciled and plan accordingly. It is important to appreciate that the deemed UK domicile status is completely irrelevant for income tax and capital gains tax purposes.
Practical Tip
After having acquired a non-UK domicile, investing in UK gilts for the three year period of deemed UK domicile status will reduce/preclude an IHT charge until the three year period expires.
By Malcolm Finney
