Inheritance Tax Traps UK Non-Domiciled Residents Need To Be Aware Of

This article is about the English law concept of ‘Domicile’ and what it can mean for British expats residing outside the UK, including key domicile inheritance tax traps to avoid.


Every few years, the media in the UK becomes ablaze with stories about so called ‘Non-Doms’ – wealthy foreign nationals who reside in the UK, but who are domiciled elsewhere.

This status can confer significant tax advantages if the Non-Dom’s sources of wealth are kept outside of the UK, compared with ‘ordinary’ Brits living in the UK, who have no choice but to pay income, capital gains and inheritance taxes on a ‘worldwide’ basis.

The optics of this might attract the attention of the press if for example, you are the Chancellor of the Exchequer and your spouse is a wealthy non-dom.

However, this article is not going to comment on the politics around the controversial leak of Akshata Muthy’s tax status, but rather explain why it’s important for Brits who no longer reside in the UK, to consider the technicalities around domicile status.


A Brief Overview of Domicile

When we hear the word ‘domicile’ used, we often consider it as meaning something like ‘the place where I live, at the moment’.

However, In English law it has a much a more powerful and enduring meaning; think of it as more like ‘the country which you are deeply and strongly connected to, no matter where you happen to be living right now’.

This is important, as it can have all sorts of legal and, in particular, tax consequences, as we shall see in this article.


How is Domicile status given?

Under English law, everyone has a domicile somewhere, and only in one place at any particular time.

We are all regarded – again under English law – as obtaining a ‘Domicile of Origin’ when we are born.  Reflecting the very distant times in which the domicile laws were drawn up, we normally acquire our Domicile of Origin from the Domicile of our father at the moment of our birth.

Leaving aside the somewhat sexist application of the law, then, this Domicile of Origin sticks with us throughout our life unless replaced by an acquired ‘Domicile of Choice’ when we are adults.

In order to displace an existing domicile (e.g. a Domicile of Origin) with a new Domicile of Choice, an individual is required to move to another jurisdiction with an intention to remain there permanently or indefinitely, of which we will go into more detail below.


Domicile Inheritance Tax Traps

It is a fact not always fully appreciated that, while a Brit ceasing to be a UK tax resident generally becomes much less exposed – or in many cases not liable at all – to UK income tax or capital gains tax, such a person’s estate remains fully exposed to UK inheritance tax (IHT) (headline rate: 40%) – on a worldwide basis.

Unless, that is, they (or rather, typically, their trustees or executors) can demonstrate that a change of domicile occurred before the relevant ‘IHT event’ took place.

Relevant IHT events are mainly either transferring valuable assets to a trust or death itself.

To put this another way, a British national could leave the UK to reside in a new location, die many years later without ever having returned to live in the UK and yet still have their entire estate – not just any assets left in the UK – taxed at 40% by Her Majesty’s Revenue & Customs.

In our experience, there are many long-term British expats residing internationally who are not fully aware of this potentially very costly trap.

So, the – perhaps – obvious answer is to claim that a change of domicile has indeed taken place.  In other words (going back to our technical introduction), that the person’s Domicile of Origin has been replaced by a Domicile of Choice.

All very well, but unfortunately not always easy to demonstrate.

The first hurdle is that, for the first three or so years after leaving the UK, the tax law says that you will be treated as UK domiciled for IHT purposes in any event.

Assuming that you survive those first few years, the next hurdle is reaching the evidence threshold needed to show that your Domicile of Origin in the UK has been abandoned for a new Domicile of Choice in your chosen location.

The standard of proof required is the same as in criminal law suits – i.e., the ‘beyond reasonable doubt test’, rather than the (civil case) ‘balance of probabilities’ test.

This means that HMRC will prosecute any case where there is a reasonable amount of IHT at stake and it perceives weaknesses in the submission.


What evidence do you need to replace your Domicile?

Well, there is no prescribed checklist, but ultimately the intention to remain permanently in the place of claimed domicile must demonstrably be there, backed by evidence not only of creating strong personal, family, social and, as the case may be, investment and business connections in your new domicile location, but also the cutting of equivalent connections in the UK.

When the club house chat about domicile takes place, the old story about having a burial plot in the local cemetery usually gets trotted out.

Of course, it is helpful to have one lined up, but alone it (or any other single piece of evidence) will not cut it.

What is advisable for clients to consider doing, is preparing a signed statutory declaration stating their domicile position.

This then exists as a contemporaneous record of all the relevant facts and circumstances, ready to be deployed in defence of a new domicile claim when the time eventually comes.


Other Domicile Traps

There are a couple of other traps to be aware of, which we will briefly outline.

Firstly, even careful planning to ensure a credible case for a change of domicile can be undone by becoming ‘UK tax resident’ again – even for a short period of time.

Under a relatively recent change in the rules, in such a case the Domicile of Origin will be deemed to revive while ‘UK resident’ and risks HMRC taking an adverse position, even if the person concerned who subsequently ceases being ‘UK tax resident’ never stops living in their Domicile of Choice in the meantime.

Secondly, it is worth noting that the normal unlimited IHT exemption for transfers between spouses is disapplied if the donor spouse is UK domiciled and the surviving spouse is not UK domiciled.

For example, a country such as Monaco is a place where nationals of many countries co-exist, it is not uncommon for a British expat to marry a non-British spouse; hence if the British spouse dies while considered UK domiciled (even if living at the time in Monaco – as described above), leaving significant wealth to the non-British spouse, then up to 40% IHT may get charged on the value of the transfer.

While a discussion of potential measures to avoid this scenario is beyond the scope of this article, it should be borne in mind when considering IHT and estate planning generally in relevant cases.

We hope you have found this article informative.  If you would like further information or wish to discuss your personal affairs or general tax and estate planning then please contact the team at Abacus Trust Group, and we will be pleased to assist.


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