Long-term UK expats in South Africa may need to pay massive UK inheritance tax

UK expats who have lived in South Africa for many years often remain liable for UK Inheritance Tax (IHT).

IHT is payable on capital accumulated during a deceased’s lifetime, on which tax has already been paid, and is currently 40% of the total value of the deceased’s estate after exemptions – meaning that expats are passing more and more on to the taxman than ever before.

Howard Bilton is a UK barrister and Chairman of The Sovereign Group, with offices located in the UK as well South Africa, he is well placed to understand the complexities of both regions when it comes to IHT. He says that the issue at play here is that of domicile. In simple terms, your domicile is the country that you regard as your real homeland and intend to return to often. While you can be resident in more than one country, or in none at all, you must be domiciled somewhere and can only be domiciled in one place at a time. The law assigns everyone a domicile of origin, which can be replaced by a domicile of choice, but will revert back in certain circumstances.

“The default position is that those who acquired a UK domicile of origin at birth will keep that UK domicile for their entire lives, and with it their liability for UK IHT. However, while difficult, it is possible for UK persons to acquire a new domicile of choice. That is the only way to escape UK IHT,” says Bilton

Legally, the test is simple: Has a person formed the intent to remain in a new country indefinitely? If the answer is ‘yes’, that person is then domiciled in the new country.

But, convincing the UK tax authority (HMRC) of this is not so simple, and expats must accumulate and document evidence to support their claim of a new domicile of choice. “Generally, it will be impossible to convince HMRC that a new domicile has been acquired for the first six or seven years of an expat living abroad, but thereafter, if the facts and circumstances support a statement of intent, there is a good chance that a new domicile has been or can be acquired,” says Bilton.

Many emigrants believe that they are allowed to visit their original country for up to 90 days a year without altering their tax status. This may be true as far as income tax is concerned, but is likely to be seen by HMRC as proof that an expat has not abandoned the domicile of origin.

In instances like acquiring property or establishing social and economic ties, these can be understood as contributing to showing permanence in a new country. Marrying a local resident could also prove a strong tie but there is a potential pitfall: transfers of assets between spouses are normally exempt from tax as the spouse may need the wealth for support. But in such cases, if both spouses are UK-domiciled, tax is merely delayed and not altogether avoided, and bites when assets are passed to the next generation. If one spouse is not UK-domiciled there is no UK IHT on the next gift, and so the tax is charged immediately.

Losing ties with the UK is also helpful but not essential, explains Bilton. “For example, owning residential property in the UK doesn’t necessarily entrench your domicile there provided you can show that you have greater connections with a new country than those you have retained with the UK.”

Globetrotters face yet another domicile-related trap when it comes to UK IHT. Even if a UK expat has established a new domicile of choice, leaving that country and moving elsewhere means they will lose their new domicile and revert back to their UK domicile of origin, unless they remain in their new country of residence for long enough, and can prove their intent to remain there, in order to claim a new domicile of choice. During this time, their liability for UK IHT is revived.

To circumvent this, Bilton advises expats to transfer their wealth into a trust as soon as UK domicile is lost. “Assets held in trust remain outside the scope of UK IHT forever unless the taxpayer returns to the UK.”

Bilton recommends that expats who cannot prove a new domicile of choice should establish a Family Investment Company (FIC). When assets are transferred to an FIC, the rights and obligations attaching to the shares of that company are divided between shares that carry votes, shares that carry the right to income (dividends), and shares that carry the right to the underlying assets (capital). The transferor retains the voting shares and thereby controls the assets, and may also retain some or all of the income shares in order to receive dividends, but the capital shares are given away. The gift of the capital shares would be a Potentially Exempt Transfer (PET) and are thus tax-free as long as the donor survives the gift by seven years.

“IHT can be planned out relatively easily – but the key to any planning is to first get certainty on domicile,” says Bilton. “We strongly recommend that anyone who has any doubt about their domicile should seek expert advice at the earliest opportunity.”