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Capital losses and non-doms: pre and post FA 2008 By Malcolm Finney

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31st Oct 2008
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FA 2008 modified the rules, it’s a case of swings and roundabouts, as Malcolm Finney explains.

Finance Act 2008 (FA 2008) has modified the rules applicable to non-UK situs (as in “situated”) capital losses for the non-UK domiciled but UK resident individual.

However, the rules applicable where the individual claims or has claimed in the past remittance basis treatment, post FA 2008, are different from those rules applicable to the individual who is not required to claim remittance basis treatment but is still subject to tax on the remittance basis.

For the UK domiciled and UK resident individual the position, pre and post FA 2008, is in principle the same.

Whilst capital gains arising on the disposal of non-UK situs assets were (and post FA 2008 continue to be) within the charge to capital gains tax if and when such gains were/are remitted to the UK, capital losses arising on such disposals (ie disposals of non-UK situs assets) could not be used for offset against any gains (whether arising on UK or non-UK situs assets) under any circumstances.

In short, capital losses arising on the disposal of non-UK situs assets (referred to as “foreign capital losses”) were completely unusable for the non-UK domiciled individual.

Post FA 2008, however, such capital losses if realised on or after 6th April 2008 can now be utilised (see below).

Non-UK domiciled but UK resident individual who is not required to claim remittance basis treatment
For the non-UK domiciled but UK resident individual who is not required to claim the remittance basis (but can still use this basis) capital losses on non-UK situs assets realised, on or after 6th April 2008, may be automatically offset against chargeable gains in the same manner as applies to the UK domiciled and resident individual. The categories of individual not requiring a formal claim for remittance basis treatment are:

  1. those individuals whose “unremitted foreign income and gains” (basically foreign income and capital gains arising in the relevant tax year less the amount of such income and/or gains which are remitted to the UK in that tax year) for the relevant tax year is less than £2,000
  2. those individuals who have no UK source income or gains, who have been UK resident in not more than six out of the nine tax years immediately preceding the relevant tax year and who have remitted no income or gains to the UK in the relevant tax year
  3. those individuals who have no UK source income or gains, who are under eighteen throughout the relevant tax year and who have remitted no income or gains to the UK in the relevant tax year.

As categories 2. and 3. comprise non-UK domiciled but UK resident individuals who have no UK source income or capital gains and who have not remitted any non-UK source capital gains, any capital losses arising on UK or non-UK situs assets will automatically be offset against the non-UK situs unremitted capital gains (to the extent there are any such gains).

Individuals falling within category 1. (which requires unremitted income/gains to be less than £2,000 for the relevant tax year) may utilise capital losses arising on non-UK (or indeed UK) situs assets for offset against remitted capital gains, unremitted capital gains and any capital gains arising on UK situs assets.

Example 1
Z a non-UK domiciled but UK resident individual remitted £10,000 (ie all) of her non-UK situs capital gains for 2008/09 to the UK. Z has also made non-UK situs capital losses of £17,000 in 2008/09.

Z’s UK situs asset capital gains are £11,000.

Z has not remitted £1,750 of interest which has arisen on Z’s Isle of Man bank account in 2008/09.

Z will fall into category 1. (above) and thus the remittance basis will apply automatically for 2008/09.

Z is able to offset Z’s capital losses on the same basis as a UK domiciled individual.

Thus, £17,000 of capital losses may be offset against the £21,000 of capital gains.

For those individuals falling within categories 1, 2, or 3 (ie those individuals entitled to remittance basis treatment without the need to lodge a claim) the annual capital gains tax exemption is also available to reduce net capital gains for a tax year.

Non-UK domiciled but UK resident individual claiming remittance basis treatment
Where, however, the remittance basis needs to be claimed by the non-UK domiciled but UK resident individual (ie where the remittance basis does not apply automatically) the rules for offset are complex and not completely favourable.

The new rules do not simply allow aggregate capital losses, whether arising on the disposal of non-UK or UK situs assets, to be offset against aggregate capital gains, whether arising on non-UK or UK situs assets.

Consider the pre FA 2008 tax position:

Example 2
X is a non-UK domiciled but UK resident individual who in the tax year 2007/08 had the following chargeable gains and capital losses:

UK situs asset capital gains £25,000
UK situs asset capital losses £5,000
Non-UK situs asset capital losses £20,000
Non-UK situs asset capital gains £12,000 (unremitted)

X is able to offset the £5,000 capital losses against the £25,000 capital gains producing net capital gains of £20,000.

The £20,000 capital losses are simply not available for use.

The £12,000 capital gains are subject to tax only when remitted to the UK.

Compare the consequences in Example 3 below where all that changes is the tax year to 2008/09.

In order to use any post 5th April 2008 foreign capital losses requires that the non-UK domiciled individual makes an election for the first tax year in respect of which a claim to the remittance basis has also been made. A failure to make such an election precludes the individual utilising any post 5th April 2008 capital losses under any circumstances at any time in the future; the election is thus a once and for all opportunity. The election is irrevocable and thus once made cannot be revoked at any time.

For many non-UK domiciled individuals the first tax year in respect of which a claim for remittance basis treatment is likely to be made is the tax year 2008/09 (ie the first tax year that the provisions of FA 2008 apply). This may, however, not apply in every case. For example, in the tax year 2008/09 the individual may not have any, or only de minimis, non-UK situs income and/or capital gains and thus a claim to the remittance basis may not be worthwhile (this is particularly so where the £30,000 may be potentially payable).

Where capital gains arising from the disposal of non-UK situs assets are not remitted until a later tax year, following the tax year of disposal, such remitted gains in that tax year of remittance are not eligible for reduction by any utilisable capital losses.

Thus, only capital gains arising in a particular tax year can be reduced by the offset of capital losses which are available for offset in that tax year (which may include capital losses from previous tax years brought forward).

It is also to be noted that non-UK domiciled individuals covered by these rules (ie those non-UK domiciled individuals who are UK resident and who have claimed remittance basis treatment) are denied the annual exemption (£9,600 for tax year 2008/09).

The provisions of FA 2008 lay down the order in which utilisable capital losses must be offset; in other words the order laid down is mandatory and the individual does not have complete freedom on the manner of utilisation of the capital losses.

The normal ordering of capital loss offsets (for capital gains tax purposes) remain and thus capital losses of the tax year (ie capital losses arising on UK situs assets and foreign capital losses) in which capital gains also arise are to be offset against such capital gains before any capital losses brought forward from prior tax years may be used.

The mandatory order of utilisable capital losses for the tax year is as follows:

(a) first, the losses are offset against gains arising from non-UK situs asset disposals which are remitted to the UK in the same tax year in which the disposals occur;
(b) second, any surplus of losses still remaining must be offset against gains arising on the disposals of non-UK situs assets arising in the tax year but not remitted to the UK;
(c) third, and again to the extent that a surplus of losses still remains, such surplus must be offset against any other chargeable gains (basically gains arising from UK situs asset disposals) arising in that tax year.

Once capital losses on UK situs assets for the tax year and foreign capital losses arising in the tax year have been offset as above, utilisable capital losses brought forward may then be used to the extent that there are still capital gains against which these losses may be offset.

Example 3
This Example is Example 2 above but the tax year 2007/08 is changed to 2008/09.

Heinz Berlin is a non-UK domiciled but UK resident individual who in the tax year 2008/09 had the following chargeable gains and capital losses:

UK situs asset capital gains £25,000
UK situs asset capital losses £5,000
Non-UK situs asset capital losses £20,000
Non-UK situs asset capital gains £12,000 (unremitted)

Heinz has £25,000 of capital losses available for utilisation (this compares to a figure of £5,000 for 2007/08 in Example 8.2).

First, the capital losses must be offset against any non-UK situs capital gains arising in 2008/09 and remitted to the UK in 2008/09. In this case there are no such capital gains.

Second, the capital losses must be offset against any non-UK situs capital gains arising in 2008/09 and not remitted to the UK ie £12,000. Thus, the £25,000 of capital losses reduces the £12,000 to nil leaving unused capital losses of £13,000.

The £13,000 of capital losses can now be used to reduce the capital gains arising from the UK situs assets (ie £25,000) to £12,000.

No further reduction is available as Heinz is not entitled to the annual exemption.

Comparing Examples 2 and 3 shows quite different capital gains tax consequences for Heinz.

It may be noted that whereas pre FA 2008 capital losses arising on UK situs asset disposals were immediately offsettable against gains arising on UK situs asset disposals, post FA 2008 this is not the case. Until such losses (aggregated with any non-UK situs losses of the same tax year plus any losses brought forward) have first been offset against non-UK situs asset gains (whether remitted or unremitted), they cannot be offset against the UK situs asset gains.

A touch of “swings and round-a-bouts” it seems.

Conclusion
The provisions of FA 2008 have improved the capital gains tax position of the non-UK domiciled but UK resident individual albeit at the cost of some complexity.

It does, however, mean that the remittance of foreign capital gains to the UK is reduced to the extent that foreign capital losses are available for offset.

As indicated, it is important not to generate non-UK situs capital losses in a tax year when significant other non-UK situs capital gains are to be realised, yet remain unremitted. The basic name of the game is thus to try and crystalise offshore capital losses in a tax year when offshore gains are to be remitted to the UK and/or where only UK source capital gains are to be made.

Account also needs to be taken of any foreign tax which may be creditable against any UK capital gains tax charges (ie to avoid wasting capital loss offsets).

It should also be remembered that capital gains computations are carried out in sterling and thus major depreciations in sterling over the holding period of a non-UK situs asset may exacerbate any UK capital gains tax liability; also noting that foreign currency and foreign currency bank accounts are each chargeable assets and thus capable of producing capital gains and/or capital losses.

This article is based on the author’s forthcoming book “Wealth Management Planning: The UK Tax Principles” published by Wiley & Sons and will be available in November 2008 http://eu.wiley.com/WileyCDA/WileyTitle/productCd-0470724242.html Malcolm Finney may be contacted at [email protected]

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By jeangrantham
31st Oct 2008 19:49

Time Flies
I am a little perturbed as the calendar sitting atop my computer is frantically telling me that today it is Halloween (31 October) but, apparently, it lies as this article is dated 14 November!

Tardis anyone......?

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