Tax Policy Associates

Day: 29 February 2024

  • The Conservative case for abolishing the non-dom rules

    The Conservative case for abolishing the non-dom rules

    It’s being reported that Jeremy Hunt is considering abolishing the non-dom regime. Some are suggesting he’s thinking of stealing Labour’s policy. But he could have a rather different objective – a principled reform of the existing rules, which are currently deeply irrational.

    The non-dom rules mean (very broadly) that a foreigner living in the UK who is classified as having a non-UK domicile isn’t taxed on their foreign income and gains, unless they bring (“remit”) the proceeds into the UK. That can continue for up to 15 years, even if they live in the UK for all of that time.

    Labour are committed to abolishing the non-dom regime. It’s probably fair to say this is for three reasons:

    • Labour believes the non-dom regime is of little practical use to normal people arriving in the UK (even highly paid ones), but of huge value to the exceedingly wealthy.
    • That means the rules are inequitable, because some people (non-doms, sometimes very wealthy) pay less tax on their income than normal UK domiciled individuals (whether poor or wealthy).
    • Labour doesn’t believe large numbers of non-doms will leave the UK as a result of scrapping the rules, and can point to supporting evidence. Hence they believe abolishing the non-dom regime could raise funds for spending.

    That all suggests the non-dom rules should be scrapped and replaced with a simpler system that operates for a shorter amount of time, perhaps providing a more useful exemption to “normal” people, but a less useful exemption for the very wealthy. That appears to be Labour’s current policy.

    It’s possible Jeremy Hunt is considering stealing Labour’s clothes, out of some mixture of principle (perhaps he agrees with the above analysis!) and politics (it will neuter a popular Labour policy).

    But it’s also possible that Mr Hunt has his own reasons for wanting to abolish the non-dom regime, which are similar in some respects to Labours, but with a very different emphasis. For example:

    • Mr Hunt could believe that the rules are absurdly complicated given the uncertainty around the “domicile” definition. If so, he’s correct – HMRC accurately but unhelpfully says the concept “cannot be defined precisely“. This is not how tax rules should work.
    • He may also regard it as deeply irrational that the non-dom rules, and the remittance basis in particular, creates a powerful incentive for some very wealthy people to keep their wealth outside the UK.
    • On the other hand, Mr Hunt may be more relaxed about the vertical inequity created by the rules, particularly if he believes there is an overall economic benefit.
    • And he may be less sanguine about the prospect of non-doms fleeing the UK upon any abolition of the rules, and therefore not see abolition as a practical source of revenues. That seems to have been Mr Hunt’s view back in 2022.

    These views point to abolition, but a different kind of abolition from Labour.

    Mr Hunt could abolish the concept of “domicile” and replace it with a simple year-count using the (very successful) modern statutory residence test (sufficiently simple that it can be fairly comprehensively summarised in flowcharts like this).

    He could then also abolish the “remittance” concept and simply exempt non-doms on all of their foreign income and gains.

    But, unlike Labour, he might keep the current 15 year limit (or perhaps reduce it slightly).

    There would be some obvious advantages from such a change:

    • The rules would be fairer, and much more useful to moderately wealthy immigrants (think: doctors, IT professionals, junior and mid-level bankers) who have some wealth abroad, but can’t justify the cost of advisers to manage their “remittance” position, and so don’t get much benefit from the non-dom regime.
    • The UK would therefore, at the margins, become more attractive to moderately wealthy immigrants.
    • The rules would be less easy to manipulate if they had a simple robust test of domicile.
    • The UK economy might benefit from an influx of spending from non-doms who no longer need to manage their remittances very cautiously.

    This does raise some difficult questions:

    • That influx of spending from non-doms could have negative effects, e.g. adding to asset price inflation. I’m not an economist, so I’m not able to assess the pros and cons here.
    • There would be winners and losers, as there are from most tax changes – replacing domicile with a simple statutory test would be better for some people and worse for others. But many of the wealthy losers would manage their affairs so they didn’t in fact lose (e.g. by leaving the UK). The wealthy winners would cash their winnings – we’d collect less tax from them. Would this be overcome by additional tax from the immigrants we attracted, or from multiplier effects from “good” new spending from existing non-doms?
    • Non-doms would be able to bring more funds into the UK without paying more tax; this could be portrayed as a tax-cut for the very wealthy (and in some respects it would be).
    • How do you deal with the transition from the old rules to the new? There must be £10bns of unremitted non-dom income and gains sitting offshore. Do you keep make those funds subject to the old remittance rules forever? That means you keep all the complexity, and reduce the benefit of encouraging non-doms to bring funds to the UK. Or do you bin the remittance rules entirely, and effectively have an amnesty on non-doms’ offshore funds? That means you lose the small-but-significant tax currently collected from historic remittances. There could be simplified compromise approaches, for example a 15% flat rate on all historic remittances (but then you need to keep mixed fund rules to track what is a historic remittance and what isn’t). No easy answers!

    These would be good questions for Mr Hunt to consider.

    However all discussions about the non-dom rules should come with a health warning: remember the trusts. The 15 year limit is essentially voluntary for the very wealthy, because a non-dom who is about to run into the time limit can put foreign property in a trust, and then (big simplification alert) essentially preserve the benefit of the non-dom rules forever. Any non-dom reform which doesn’t change the treatment of these trusts will not materially impact the very wealthy. A reduction of the 15 year limit would have only a very limited impact on people in this category.

    Any reform (Labour or Conservative) that doesn’t properly consider the position of trusts will be half-baked.

  • Did Angela Rayner fail to pay CGT on her house sale?

    Did Angela Rayner fail to pay CGT on her house sale?

    There is currently press speculation that Labour Deputy Leader Angela Rayner failed to pay CGT on her house sale. Ms Rayner’s statement suggests she may have misunderstood the law. In some scenarios that could mean she failed to pay CGT of up to £3,500, but potentially less or zero. The amount of tax involved is therefore small but, in the interests of transparency, it would be helpful for Ms Rayner to clarify the position.

    Here’s what appears to have happened, based on press reports and Angela Rayner’s statement:

    • Angela Rayner bought her house on Vicarage Road in Stockport for £79,000 in January 2007.
    • In September 2010, AR married Mark Rayner. At some point shortly before or after that date, AR moved into MR’s house.
    • AR’s brother moved into her house from that time. AR didn’t charge him rent.
    • AR sold her property in March 2015 for £127,500. So a gain of £48,500 before we consider costs of acquisition/disposal (such as estate agent fees) and improvements such as extensions etc.
    • MR’s property was sold in April 2016 for £145,250. We don’t know the purchase date or price.
    • AR and MR separated in 2020

    Ms Rayner says “As with the majority of ordinary people who sell their own homes, I was not liable for capital gains tax because it was my home and the only one I owned.”

    This, however, isn’t how the rules work. Married couples can only have one principal residence for CGT purposes. A married couple who own more than one home are free to choose which is their “principal residence” for CGT purposes by sending a nomination to HMRC within two years of the situation arising.

    I suspect many people would find every part of this surprising. Most taxation works by reference to individuals, so it’s odd this rule allows only one principal residence per married couple. Odder still that marriage potentially creates a big tax disadvantage. And even more curious that you are free to choose which property is your “principal residence” without reference to whether it really is. It’s therefore hard to blame Ms Rayner for misunderstanding the rules.

    But it’s important to remember two things:

    First, the tax system is complicated, and lots of people accidentally pay the wrong amount of tax (I’ve done it myself). That’s not a crime. It’s not a crime even if you’re careless or negligent. Ignorance is (in effect) a defence to the crime of tax evasion – because “tax evasion” means intentionally and dishonestly failing to pay tax. Calls for prosecutions for tax evasion were silly when we were talking about Nadhim Zahawi; they’re plain daft when we’re talking about Angela Rayner.

    Second, everyone still has a duty to pay the correct amount of tax, and ignorance is no defence to having to pay it. Pay the wrong amount of tax (for any reason) and you’ll have to make up the difference, plus interest. And if you were careless, or fail to fess up to HMRC, then you’ll pay penalties too.

    How much CGT is due

    There are, broadly speaking, three possible scenarios:

    1. AR and MR nominated AR’s house as their principal residence from 2010 to 2015

    Again, it may seem weird that you can nominate somewhere as your principal residence when you don’t live there, but you can provided it’s been your home at some point, and you’re not renting it out. Letting someone live there for free is fine, and there’s no suggestion AR charged her brother rent.

    In this scenario then AR had no CGT to pay, but MR potentially had CGT on his 2016 sale – if there was a gain (we know nothing about whether there was or not).

    2. AR and MR nominated MR’s house as their principal residence

    AR still gets the principal residence relief for the three years before her marriage. She also automatically received principal residence relief for the last 18 months of her ownership.

    When the relief applies for part of a period of ownership, you make a simple pro-rata calculation. AR therefore is exempt for about 63% of the gain, and taxable for 37%.

    What’s the gain? It’s the £127,500 sale price less the £79,000 purchase price, i.e. £48,500. AR should also deduct “allowable expenditure“. This will include estate agent, survey and conveyancing costs on the sale and purchase- I’d guesstimate all of this was around £4,000. There may also have been costs of improving the house, for example building an extension or conservatory – broadly speaking anything that adds value (but decorating doesn’t count). I’ll assume for the moment there were no improvement costs (that may be wrong given Ms Rayner’s reference to her brother being good at DIY).

    So if we limit the allowable expenses to that £4k, the pro-rated gain would be £16k (£44,500 x 37%).

    The CGT annual exemption amount for 2014/15 was £11,000. Meaning a taxable gain of about £5k and CGT of about £1.5k.

    And if AR had spent £15k or more on improvements, there would be no gain.

    So if we are in this scenario, and AR spent less than £15k on improvements, it may be that she accidentally failed to pay up to £1.5k of CGT. The rules are pretty complicated, with lots of special cases, so it would be wrong to assume this is the correct number. It is, however, probably the upper limit, and there are circumstances which could result in a smaller figure.

    The other point about this scenario is that AR probably deserves more criticism: if she understood enough about the rules to make a nomination, then why didn’t she pay the correct amount of tax?

    But it is of course also possible, and probably most likely, that she made no nomination at all.

    3. AR and MR didn’t make a nomination

    In that case the principal private residence relief applies by reference to the property that was AR and MR’s main residence as a matter of fact.

    If AR moved in with MR from 2010 then that means the result will be the same as in scenario 2. If she moved in the year before, then she’d be exempt for about 48% of the gain rather than 63%. So more CGT to pay – about £3.5k rather than £1.5k.

    Or the other way to view this is that, if she’d moved into MR’s house in 2009, AR would need to have spent £23k on improvements to have no capital gain.

    The £3.5k figure is again probably an upper limit, and there are circumstances (aside from improvement expenditure) which could result in a smaller figure.

    What next?

    I’m not generally in favour of forcing politicians to publish all the details of their tax affairs – anyone with something to hide will hide it, and all we’ll see are prurient details of their financial affairs, plus the occasional accident/mistake. But now the story is out, it would be sensible for Ms Rayner to speak to a tax adviser and work out what her CGT position in 2015 actually was. If it turns out she failed to pay a small amount of CGT, I think most people would understand that as a mistake – but it’s a mistake she can and should explain and correct.

    Credit to Politax for getting there first with this article; we both take a slightly different approach but end up in the same place.

    Angela Rayner official photograph by David Woolfall, licensed under the Creative Commons Attribution 3.0 Unported license.

    Footnotes

    1. If that’s wrong then the position gets more complicated. Possibly more CGT. Possibly, because of the availability of letting relief, less/zero CGT (and letting relief probably doesn’t apply to informal arrangements where no rent is charged, although the point is not entirely clear). ↩︎

    2. Who are living together – this is defined to basically mean “not separated”, so even if a married couple live separate lives in separate houses, they are probably “living together” for tax purposes ↩︎

    3. Because they could have changed their nomination. ↩︎

    4. Given the large gain that arises from buying a council house at a discount, nominating AR’s house may have been the rational move, even if it was slightly less valuable than MR’s house. ↩︎

    5. The rules are now less generous – you only get nine months ↩︎

    6. 2,981 days of ownership, 1,339 days in which she lived there, 548 days for the last eighteen months. (1,339 + 548) / 2,981 = 63%). ↩︎

    7. Probably! It is a bit of an unusual situation, because the purchase is plainly not at market value, thanks to the discount. CGT rules provide that, where a transaction is not at arm’s length (or between connected persons) then the actual value paid is replaced by the market value. One could argue that the unusual nature of a council house sale-at-a-discount, where the parties don’t negotiate at all, is that it’s not at arm’s length. If so, Ms Rayner would have £26,000 less gain, and so (after the pro-rata calculation and annual exemption) not tax to pay. However I am very doubtful that is the correct result. My instinct is that the council and Ms Rayner are unrelated parties, acting commercially, and the fact the sale terms are driven by statute doesn’t stop the sale being at arm’s length. However I have not researched the point and it may be more nuanced than this. Thanks to S for suggesting this point. ↩︎

    8. I made some quick calls, and real estate contacts estimated that in 2015 the survey will have cost around £400, estate agent fees on her sale would have been about 1.5% plus VAT, plus conveyancing fees of about £600 on sale and purchase. ↩︎

    9. Assuming AR had exhausted her basic rate band and so was taxed at 28%; also assuming AR had no other capital gains that year, and no carried-forward losses. These feel like reasonable assumptions. And finally, assuming that AR didn’t sell part of her interest in the property to MR before the sale, so using his annual exemption as well. That would likely have eliminated any CGT, but it’s the kind of planning that seems unlikely for someone who was not receiving tax advice at the time. ↩︎

    10. I made a bad mistake in the original version of this article, and forgot that the improvement amount is subject to the same pro rata calculation as the gain. So I said £5k of improvements would mean no gain. My apologies – and many thanks to Martin Wardle on LinkedIn. It goes to show the danger of advising in an area where you don’t have real expertise. The original article was based on a discussion with three experts in this area, one of whom kindly reviewed the draft. However I added the “amount of improvements you’d need to eliminate the CGT” just before publishing, and didn’t check with the experts. So naturally that’s the bit I got wrong. It’s not good enough – my apologies. The practical difference means we’re probably now at the “new kitchen and bathroom plus other works” level of improvement required to zero the CGT, rather than just a new kitchen. ↩︎

    11. Bearing in mind in this scenario we are assuming Ms Rayner lived in the house until she married ↩︎

    12. The same bad mistake – the original version of this article said £12k ↩︎

    13. Again noting the assumption that she moved out of Vicarage Road in 2009 ↩︎