New rules for gains on direct and indirect disposals of UK property by non-residents and changes to tax on rental income of non-resident companies
These rules apply to non-resident investors in UK property.
Following the recent consultations, draft legislation has been published in relation to taxing gains made by non-residents on all UK property from 6 April 2019 and in relation to moving non-resident corporate landlords from income tax to corporation tax from 6 April 2020.
The capital gains draft legislation confirms that all non-residents will be subject to tax on gains on direct disposals of UK property, although those who are exempt from capital gains for reasons other than being non-resident, such as overseas pension schemes and sovereign immune investors will continue to be exempt.
The legislation also confirms that all non-residents will be taxable on indirect disposals of UK land. The indirect disposal rules will apply where a person makes a disposal of an entity that derives 75 percent or more of its gross asset value from UK land.
There will be an exemption for investors in such entities who hold a less than 25 percent interest.There will be a trading exemption so that disposals of interests in property-rich entities that hold the underlying property on trading account for a 12 month period before the sale, and where it is reasonable to conclude that the property will continue to be held on trading account (or sold) for a significant period after the sale, will not be chargeable disposals where the land is used in the trade.
It will be possible to calculate the gain or loss on a disposal using the original acquisition cost of the asset or using the market value of the asset at commencement of the rules in April 2019. Both options will be available for both direct and indirect disposals.
Losses arising to non-resident companies under the new rules will be available in the same way as capital losses for UK resident companies.
The draft legislation includes reporting requirements for the capital gains. The general rule will be that a return in respect of the disposal must be delivered to HMRC within a ‘payment window’ of 30 days following the completion of the disposal, and a payment on account made at the same time.
The draft legislation in respect of non-resident corporate landlords confirms that from 6 April 2020 non-UK resident companies that carry on a UK property business, or have other UK property income, will be charged to corporation tax, rather than being charged to income tax as at present.
A non-resident company that has a period of account that straddles 5 April 2020 will be required to submit two tax returns, one under income tax for profits arising up until 5 April 2020 and one under corporation tax in respect of profits arising from 6 April 2020.
The non-resident capital gains legislation is largely in line with the consultation document issued in November 2017. The commencement date has been confirmed as 6 April 2019 and gains on both direct disposals and indirect disposals are included.
There are however a number of changes in the legislation from what was envisaged in the consultation document. In particular, we are pleased that whilst the consultation envisaged a five year look back rule in relation to the 25 percent investor threshold, this has been relaxed to two years. In addition, an investor will not be caught by this rule if the 25 percent interest was held only for an insignificant period of time in the two year period. Although there is no definition of insignificant, it is hoped that this may help to ensure that some cornerstone investors in funds are not caught by these rules where their long-term interest in the fund is less than 25 percent.
The 25 percent exemption will not however be available for collective investment vehicles investing in UK real estate. The definition of collective investment vehicles will be decided in further consultation (see below).
We welcome the fact that the legislation has confirmed that existing reliefs and exemptions will apply to non-residents as they do for residents. This will include, among the other exemptions and reliefs, the Annual Exempt Amount, the Substantial Shareholdings Exemption, and the no-gain/no-loss intra-group transfer rules.
We also welcome the fact that the rebasing election will apply for both direct and indirect disposals. This is an extension to the consultation proposal which envisaged an election being available only for direct disposals. However, where the original cost basis is used to calculate an indirect disposal and this results in a loss it will not be an allowable loss.
One piece of good news is that in order not to dis-incentivise on-shoring, the Government has agreed that companies who become UK resident on or after 6 April 2019 will retain the ability to calculate their gains or losses using rebasing to April 2019 market values. This will provide some additional flexibility for many offshore investors who may find it more cost effective to manage their structures in the UK rather than have to continue managing them outside of the UK.
The legislation does not address how the rules will apply to collective investment vehicles investing in UK real estate. Some additional rules are being considered, to be published in the coming months, which will seek to address concerns raised in the consultation over the taxation of exempt and similar investors and multiple tax charges on funds.
The following core proposals are being considered:
Although many respondents to the consultation called for a new type of more lightly regulated tax-transparent UK fund vehicle to attract those currently investing through offshore structures to move their investments to the UK, it is disappointing to note that the Government has indicated that it will not be taking this forward.
In addition, it is also disappointing that the Government has stated that it will not take forward any form of SDLT seeding relief which would have encouraged investors to move property out of offshore structures into the UK.
Finally, although the consultation suggested the introduction of a reporting requirement for certain advisors in respect of indirect disposals, the Government has acknowledged that this will be difficult to implement in practice. It has therefore decided not to introduce a reporting requirement for third-party advisors.The draft legislation in respect of moving non-resident corporates from income tax to corporation tax is also in line with what was expected following the consultation held during 2017.
Although non-resident companies will benefit from a lower tax rate under corporation tax (17 percent) than is currently suffered under income tax (20 percent), the tax base of many companies is likely to increase as a result of the requirement to calculate the UK property income profits in accordance with corporation tax principles. In particular, a non-UK resident company which carries on a UK property business will be chargeable to corporation tax in respect of its profits that arise from loan relationships or derivative contracts that the company is a party to for the purpose of that business. This will include the application of measures such as the corporate interest restriction rules and the anti-hybrid rules.
We welcome the fact that transitional provisions will be made in respect of existing UK property businesses carried on by a non-UK resident company so that the change from income tax to corporation tax will not create a disposal event for capital allowances purposes and to ensure that income is neither taxed twice nor falls out of account, and that an expense is only relieved once.We also welcome the fact that existing income tax losses will be grandfathered so that it will be possible to carry them forward to the corporation tax regime. They can be offset against future UK property business profits that are chargeable to corporation tax although they will not be available for offset against other types of income receivable by the non-UK resident company that are also within the charge to corporation tax. It will also not be possible to surrender these losses as group relief.
The legislation include a number of rules regarding derivative contracts and these seem sensible. For example, there will be a requirement to make a just and reasonable adjustment where there are fair value movements arising from a derivative contract which have been brought into account for income tax but which would not have been similarly brought into account under corporation tax because of a disregard regulations election. This ensures that the correct amounts are brought into account over the term of the derivative contract.
We are pleased that the legislation has confirmed there will be a benefit for non-resident companies that incur contaminated land expenditure, as post 6 April 2020 they will be able to claim relief for that expenditure that was previously not possible under income tax. Transitional provisions are being made so that relief for past capital expenditure on contaminated or derelict land of an existing UK property business incurred before 6 April 2020 is not available for relief. Relief for later capital expenditure will be available for the corporation tax accounting period in which the expenditure is incurred, subject to the required election being made.
The capital gains tax measures will be effective from 6 April 2019 and the change for non-resident corporate landlords will apply from 6 April 2020.
For further information please contact:
+44 (0)20 7694 5341
T: +44 (0)20 7311 6052