Taxing gains made by non-UK residents on direct

Introduction

With effect from April 2019, the UK will introduce a tax for non-UK residents who dispose, directly or indirectly, of UK commercial property. While capital gains on closely held residential property is already subject to tax, this extension to commercial property is a key change for investors. The impact of this change may lead to a reconsideration of the optimal property holding structure.

The key details

• One regime for disposals of interests in commercial and residential property, regardless of the residence of the seller.
• Rebasing will take place at April 2019, with an election to opt for historic base cost, and it is only gains attributable to increases in value from that point that will be subject to the new tax for non-residents.
• Indirect sales will be taxed, where the entity is “UK property rich” (75% or more of gross asset value is represented by UK property) and the non-UK resident seller holds at least 25% of the entity (subject to a two year look back test).
• Where the non-UK resident is a corporate, the charge will be at the corporation tax rates (currently 19%, but potentially falling to 17% by 2020). In all other cases the charge will be to capital gains tax.
• There is an exemption for entities that are UK property rich where all but an insignificant part of the UK property is used or acquired for use in a trade carried on by the entity or a person connected with the entity (this is expected to apply to, for example, supermarkets and utility companies).
• Special rules will apply to collective investment vehicles.

Existing reliefs

• Persons currently exempt from UK capital gains tax (such as pension funds and sovereign wealth funds), otherwise than by reason of being non-resident, will remain exempt or outside the scope.
• Non-UK resident companies may be entitled to substantial shareholding exemption (SSE), which has been expanded to wholly or partially exempt disposals by certain investors, “Qualifying Institutional Investors”.
• Certain double tax treaties may offer protection from gains on disposals of UK property rich companies. However, these treaties are subject to change and the new tax charge is subject to an anti-forestalling provision which looks to counteract arrangements designed to avoid the new charge through accessing certain double tax treaties.
• A Real Estate Investment Trust is currently exempt from capital gains on disposals of UK property, and an Investment Trust is exempt from all capital gains tax. Both are listed fund vehicles.

It is key to understand the impact on the financial modelling of the different scenarios. Going forward, there may be little to choose from in UK tax terms between investing via a UK company or a non-UK company in a low tax jurisdiction. The current rate of corporation tax is lower than the income tax rate, a position that has changed considerably over the last few years (the rate of income tax was historically lower than the rate of corporation tax). As the capital gains tax benefit of holding property through a non-UK resident company may no longer be relevant for new acquisitions, the question of where to incorporate the property holding vehicle may become more one of practical convenience rather than tax being a driving factor. In all cases, consideration should be given as to how the investor is taxed in its home jurisdiction.

Comparison of property investment holding structures – UK Tax

* Taxable where non-resident investor has interest of 25 per cent or more (during the last two years) in a vehicle, deriving at least 75 per cent of value from UK land, otherwise not taxable

** If a Real Estate Investment Trust is a “collective investment scheme” or “alternative investment fund”, the gain on exit will be taxable, otherwise not expected to be taxable

^ While a Real Estate Investment Trust is not subject to capital gains tax on disposals of UK property, there is a 20 per cent withholding applied when gains are distributed to shareholders as a Property Income Distribution

^^ Only gains accruing on or after April 2019 are subject to tax

° UK stamp duty at 0.5 per cent is payable on the consideration for a sale of UK shares; UK SDLT is payable on transfers of UK land; VAT may be chargeable in some circumstances.