The abolition of the non-dom tax regime – an American perspective

Many US citizens and US ‘Green Card’ holders who live and work in the UK have benefited from the UK’s non-domicile (non-dom) tax regime. If you are such an individual, the Chancellor’s Budget announcements will be of interest. However, an American in the UK will need to view those changes through a different lens due to Americans’ lifelong relationship with the US Internal Revenue Service (IRS).

As a result of this relationship with the IRS:

• An American is already subject to US Federal Income Tax on their world-wide income.
• The Chancellor’s Budget announcements will eventually make Americans living in the UK liable to UK tax on world-wide income – perhaps sooner than originally envisaged.
• If you are an American in the UK, your focus should be on managing the interaction of these two different tax regimes on your world-wide income.
• This is a completely different perspective from that of a non-US individual, who will be considering the future impact of the UK taxing income/gains which may have suffered little or no tax elsewhere to date.

Although there are some broad guidelines on how the US and UK tax systems interact, you should review your situation with an advisor who understands both systems. It is possible that such a review might result in a ‘surprise. Nobody likes tax surprises, so it is better to be aware early so there is time to prepare a strategy.

Broad guidelines on the interaction of US and UK taxes

1. The UK allows a credit for US tax charged on certain income/gain arising from a US source.

•  In some circumstances (e.g. a dividend received from a US company) not all of the US tax paid will be eligible for credit. When that happens, the US/UK Tax Treaty contains a mechanism for the avoidance of double taxation.

2. The US allows a credit for non-US tax against US tax charged on income/gain arising from a source outside the US.

• Credit is given after sorting income/gain and the associated foreign taxes into different ‘baskets’.
• Cross-crediting between baskets is not permitted. This aims to prevent the US tax on foreign income suffering low or zero foreign tax being reduced by a credit derived from a high foreign tax suffered on another income source.

3. Where a foreign tax credit is available, the economic cost will be whichever of the US or the UK applies the higher rate of tax on the income/gain in question.

How does this impact a US person moving to the UK?

Qualifying individuals will not pay UK tax on any of their foreign income and gains (FIG) in the first four tax years after becoming UK tax resident. As such FIG can be remitted to the UK and enjoyed in the UK with no UK tax.

There should be a reduced need for pre-entry planning given this four-year ‘grace period’. There are, however, some nuances to be careful of, particularly with respect to Trusts, LLCs and S Corporations, so taking proactive pre-entry advice is still important.

Following the fourth tax year of residence in the UK, worldwide income and gains will become subject to UK tax regardless of the previous domicile status of the individual. The four-year rule brings forward the decision as to whether people wish to remain in the UK, compared to a current seven-year period where the Remittance Basis can be claimed without having to pay an annual charge to do so.

Taking pro-active advice in the fourth year of UK residency will be key, as careful planning will need to be considered to ensure sufficient tax is paid in the UK. This will maximise the ability to claim foreign tax credits in the US and mitigate potential double tax.

How does this affect a US person currently living in the UK?

Certain individuals may benefit from the transitional rules, discussed here in detail.

In all cases, there are still several questions that need to be answered in respect of how this will work in practice.

Individuals considering the merits of the Temporary Repatriation Facility (TRF) will be disheartened to learn that no double taxation relief will be available where US tax has been suffered on FIG which has been protected from UK tax by a remittance basis claim. Nonetheless, the preferential 12% flat tax rate could be attractive for those needing to ‘unlock’ funds currently held outside the UK. This should be contrasted with a remittance of such funds outside of the TRF, where double taxation relief may be available depending on the original source of income.

US persons will need to carefully consider the impact of rebasing rules, as although UK Capital Gains Tax (CGT) exposure may be reduced, US tax arising on the same gain will be unaffected. A detailed asset review may be needed, in addition to exploring whether pre-6 April 2025 sales may be beneficial.

Pro-active Foreign Tax Credit planning is going to be more important than ever.

What about UK Inheritance Tax?

US persons who had previously expected a 15-year period before UK Inheritance Tax (IHT) would apply to worldwide assets will now have to contend with a 10-year period. The US/UK Estate & Gift tax treaty is unlikely to provide relief for US persons who have been living in the UK for more than 10 years.

The new UK IHT tail, at most a 10-year period, is also unwelcome news for US persons. However, if such a person returned ‘home’ to the US, the US/UK Estate & Gift tax treaty could remove the UK IHT tail much quicker than the intended 10 years.

Would you like to know more?

If you would like to discuss the impact of these changes, please get in touch with your usual Blick Rothenberg contact, or one of the team using the form below.

You can find out more about the non-dom changes on our dedicated page.