The Government appears to have a love-hate relationship with wealthy foreign individuals and their families that live in the UK, but retain their permanent home elsewhere. Officially these people are called “resident non-domiciliaries”, but are more often called: “non-doms”. The UK enjoys the wealth they bring and inject into the economy, but struggles with how such individuals should be taxed. Nowhere is this more apparent than when it involves works of art held by non-doms.
Non-doms have the opportunity to be taxed on the more favourable remittance basis, which broadly means that they are only taxed on foreign income and gains which are brought into, or used in, the UK. This is in contrast to most UK resident taxpayers who have no choice but to pay income tax or CGT on all their worldwide income and gains. This favourable tax treatment for non-doms comes at a price: non-doms who have been resident in the UK for at least seven years must pay a £30,000 per year charge for the privilege of that remittance basis, rising to £60,000 per year once they have been resident for 12 years and, from 6 April 2015, rising to £90,000 once they have been resident for 17 years or more.
However, the circumstances in which a non-dom can be deemed to have “remitted” income or gains to the UK can be wider than one might think and may pose a particular challenge to non-dom owners of works of art that were purchased abroad out of certain types of foreign income or capital gains.
For instance, before April 2008 there was a loophole that if certain types of foreign income, such as investment income, were used to buy items that were then brought into the UK in specie, there was no tracing through the assets to tax the income they represented. This meant works of art could often escape the taxation net. However, that all changed in April 2008 and now if works of art or other assets are brought into the UK a tax charge may arise on any foreign income or gains initially used to purchase them.
Even though some art brought into the UK will now be taxed as it passes through border controls, there are some useful exceptions. For example, the remittance charge does not apply to purchases from funds that arose prior to the individual becoming UK resident. Nor does it catch assets purchased out of foreign income (not including earnings) which were already owned at 11 March 2008, or works of art (and other assets) which were purchased afterwards but were already in the UK on 5 April 2008. In addition, art can be brought to the UK for temporary purposes (275 days or fewer) without triggering a remittance, as can assets purchased from foreign income or gains totalling less than £1,000.
When the changes were first introduced, art institutions lobbied hard to ensure that foreign owners were not deterred from displaying important and interesting works of art in UK museums or making use of the services of UK art restorers to repair damaged paintings and so on. As a result, works of art can be brought into the country to be displayed in museums (although for a limited period only) or for repair without triggering a remittance of the purchase funds. This was a helpful relaxation and an example of the influence the art institutions have on treasury and revenue matters.
However, some difficulties still remained. Most notably, these rules sometimes worked in such a way that sales in the UK by UK art houses may have been discouraged. This is because a remittance could be triggered on the quantum of the income and gains that were used to purchase works of art when they were sold (or otherwise converted into money) in the UK. Additionally, CGT was levied on the owner’s increase in value since purchase. This effectively meant that a UK tax liability could arise on both the purchase price and the profit. The easiest way to avoid this was by moving the art outside of the UK before selling it, but that was clearly bad news for the UK art market.
However, this all changed from 2012 after further lobbying. Since 6 April 2012, broadly, a tax charge will not be triggered on the original income or gains used to purchase the asset if the proceeds are taken offshore or reinvested in a particular type of qualifying investment within 45 days of the sale proceeds being ‘released’. The sale proceeds are defined as purchase price less any agency fees and other incidental costs of the disposal that were deducted prior to payment.
The term ‘released’ is rather convoluted but means the day on which the sale proceeds were first made available by the seller for the use or benefit of the owner or certain people connected to him. In practice, therefore, owners will generally have 45 days from receiving the proceeds of sale to take them offshore to avoid them being taxed. If the proceeds are paid in instalments (e.g., because the value is very high) each instalment must be taken offshore within 45 days of that instalment being released.
Further, and most helpfully, where works of art (and other chattels) are sold in the UK, the resultant gain can be subject to the remittance basis (if appropriate) rather than being automatically subject to CGT. In practical terms, no CGT will arise where the proceeds are removed from the UK or reinvested within 45 days and any gain will only become taxable if the proceeds of sale are subsequently brought back or otherwise used or enjoyed in the UK. This is potentially a very important concession, as without it, even if the income or gains used to purchase the object were not taxable when it was sold in the UK, any profits would have been. Therefore, for assets which have significantly increased in value, this change alone may have made sales through UK art houses more attractive.
The net effect of the above two changes, taken together, is that from 6 April 2012 all UK income tax and CGT on the sale of a work of art in the UK can effectively be avoided if the proceeds are then swiftly deposited and kept abroad.
In addition prior to April 2013 if you had the misfortune to have your favourite painting stolen or destroyed in a fire whilst it is in this country and you subsequently received insurance monies to compensate you for your loss, you might have faced the double blow of a tax bill on any untaxed foreign income and gains that you used to purchase it as well as CGT on the insurance pay-out. Thankfully from 6 April 2013 the law was changed so that no tax charge arises if exempt property is lost, stolen or destroyed in the UK. Where compensation is received for such property, this will not be treated as a remittance so long as either the entire payment is taken offshore within 45 days or used to make a qualifying investment. Although all of these changes are very welcome and may go a little way to encourage sales of assets by UK auction houses, there are (inevitably) limitations.
Self-evidently, these changes only help remittance basis users if one of the exemptions applies in the first place. Disappointingly the bringing of art to the UK for public display exemption is still a bit limited, even though the original criteria has been widened by the removal of the conditions that property brought in for public display must be a work of art, collector’s item or antique, and that it must attract a VAT relief.
Whilst such measures are encouraging for non-doms who would like to bring their works of art to the UK, the most significant reason why all the various changes may have a limited impact is that they only help remittance basis users, that is those foreigners who elect to pay the annual charge. By the Government’s own admission the numbers of non-doms who claim the remittance basis (and so pay the remittance basis user charge, where appropriate) are relatively small. Non-doms who do not opt to be taxed on the remittance basis but are taxed on all worldwide income and gains as they arise will have been taxed on monies used to purchase the art (assuming it was taxable in the first place) and will continue to face a CGT bill when the artwork is sold, whether in or outside the UK.
A final limitation is that income tax and CGT are not the only taxes that non-doms need to worry about; any UK assets worth more than £325,000 on current figures will be chargeable to inheritance tax upon death, unless specific exemptions apply. Therefore it is often advisable for non-doms who do not need or want to keep valuable art with them in the UK to keep it elsewhere rather than fear a 40% tax bill should they meet an untimely end.