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Sovereign Published Articles

Many UK expatriates are unaware that their estates are subject to UK Inheritance Tax (IHT) for as long as they remain UK domiciled, and shedding UK domicile is not easy - an individual can stay UK domiciled many years after leaving the UK. The rate of IHT on death is 40%, which is charged on the total value of a person's worldwide assets that exceeds the nil rate band (currently £325,000). Liability to UK IHT can therefore come as a nasty surprise to the family of a deceased UK expatriate.

An individual is generally considered to be domiciled where they are deemed by law to have made their permanent home. A person will usually take their father's domicile at birth and this is described as their domicile of origin. It is possible to adopt an alternative domicile of choice by establishing a permanent home in another country at some point after an individual has reached the age of 16.

To establish an alternative domicile of choice it is not only necessary to prove that this new home is permanent, but that the individual has no intention of returning to the UK to live. Many UK expatriates will be unable to satisfy this requirement because, although they may go abroad to work or live, they intend to return to the UK. And even if they do not intend to return to the UK, actually proving this intention may be very difficult.

There are some expatriates who have been non-UK resident for a considerable time but who do not intend to stay in their new country indefinitely. If they do establish a domicile of choice but then leave, they immediately revert to their UK domicile of origin automatically. At this point their worldwide assets will again be exposed to the 40% UK IHT.

The concept of a "trust" was originally developed by the English courts and its origins go back to medieval times. In essence it is an arrangement whereby one person, called a trustee, becomes the legal owner of any property that is transferred into trust by its owner, the settlor, but holds it for the benefit of another person, called a beneficiary. The trust property can include anything that is capable of being transferred such as land, money or shares, including investments held under insurance policies.

The holder of such assets will also generally wish, in the event of death, to transmit their assets to the next generation - or anyone else, such as a charity, that they might favour - in the most efficient and discreet manner that is possible. But usually probate must first be obtained in respect of any assets held in the deceased's own name before they can be transferred to the heirs, and there may be exposure to IHT both in the deceased's country of domicile, as well as their country of residence. Obtaining probate invites publicity and the attention of tax authorities and usually involves significant legal or accounting costs.

Furthermore, in some countries - particularly civil law jurisdictions and Islamic countries - local "forced heirship" rules may apply, which restrict the ability of a testator - a person leaving a valid will when they die - to decide how their assets should be distributed after death. Whilst some countries insist that upon death all the property of an individual domiciled in that country must, in every circumstance, pass to specified dependents in specified portions (the forced heirs), other countries may permit a testator to give away a proportion of his estate, provided the balance passes to forced heirs.

Creating a trust can alleviate all such issues. A trust, from which the settlor is excluded as a beneficiary, means that no IHT would be payable on the value of the trust property upon the death of the settlor and, because there would be no need to bequeath assets by will, there would also be no need to obtain probate in order for chosen heirs to have the benefit of those assets. A trust would also provide effective asset protection against unknown future creditors.

UK-domiciled individuals are restricted as to the amount of assets which can be transferred into trust without triggering a lifetime IHT charge (the lifetime rate is 20%). The nil rate band is presently £325,000. In addition it is possible to settle assets with a value equal to the annual exemption (£3,000) each year into trust.

The 40% IHT charge saved through moving such assets into trust would therefore lead to a potential saving of £130,000 (40% of £325,000) for each individual, plus any growth on the underlying investments. Where a husband and wife are both of UK domicile, each can settle up to £325,000 to provide a tax-free inheritance for their children, thus potentially saving £260,000 plus growth.

In other words, care should be taken to organise your assets so that the so-called "voluntary tax", better known as Inheritance Tax, can be successfully mitigated.

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