Oct 1, 2014 - their status for the purpose of FATCA, but the provisions also apply to family investment companies. There
Private Client
November October 2014 2013
In this issue Charity The far-reaching accountsimplications are changingof FATCA All – page trustees 2 and company directors are affected by FATCA and we look at the implications of these rules for them – page 1
digital Trusts giving are “simplified” A– consultation page 4 document proposes simplifying inheritance tax for relevant property trusts – page 4
Tax efficient saving mailings for school fees VAT and Christmas We look – page 6 at tax-efficient ways of meeting the costs of school fees – page 5
Private Client
Editor’s comment Welcome to the October 2014 issue of Private Client. In our February issue we wrote about UK trusts being caught up in the US tax compliance net, via the US Foreign Account Tax Compliance Act, otherwise known as FATCA. We now have more information about how this will work in practice, and so our main article here looks FATCA’s wide-reaching implications; at who will be affected and what they should be doing to comply with new rules. New draft rules effective from 7 June 2014 will change the tax treatment of relevant property trusts created, or added to, after that date. In addition, a new settlement nil rate band has been introduced post-7 June. We look at what this means for trusts and trustees. School fees are a perennial issue for parents and our final article in this issue looks at tax efficient ways of saving for your child or grandchild’s education. I hope you find this issue both interesting and informative. Please do not hesitate to contact me or your usual Saffery Champness partner if you would like more information on any of the topics featured here.
James Hender
The far-reaching implications of FATCA Page 1 Tax efficient saving for school fees Page 5
Trusts are “simplified” Page 4
October 2014
The far-reaching implications of
FATCA
The Foreign Account Tax Compliance Act (FATCA) is US legislation that places a significant burden on financial institutions worldwide, including those in the UK. Whilst much of the initial press coverage was on FATCA’s impact on banks and investment funds, the implications are actually more wide-reaching. The FATCA provisions affect professional trustees, family trusts, family offices and corporate nominees. It is trustees in particular who urgently need to consider their status for the purpose of FATCA, but the provisions also apply to family investment companies. There are penalties for not complying with FATCA and so, whilst this is a dry subject, it is imperative that trustees and directors of family investment companies are aware of their new responsibilities. Many trusts and companies will need to make annual returns, even when there is nothing to report. The position is made more complex by the fact that we are dealing with US law. This means that the definitions used in FATCA do not sit comfortably with UK law and there are therefore many grey areas in the rules.
How does FATCA work? The US Internal Revenue Service (IRS) has long been convinced that there are many US persons living in the US and overseas who are not declaring income in offshore bank accounts. The principle objective of FATCA is, therefore, to provide the IRS with information from around the world on its citizens’ taxable income. It hopes that FATCA will discourage US persons from avoiding US tax through the use of offshore accounts. The definition of a ‘US person’ is broad, including not just passport holders but those who hold a Green Card or who were born in the US. Those within the scope of US tax
must complete a US tax return, and pay US tax, on an annual basis irrespective of which country they live in. FATCA works by compelling foreign financial institutions (ie those not in the US) to report on payments which they make to US persons. It is the breadth of the definition of ‘financial institution’ in the US legislation which causes the problem to UK trusts and companies.
FATCA brought into UK law To be effective, the US has had to ensure that FATCA applies in as many jurisdictions as possible across the world. As a result, intergovernmental agreements (IGAs) have been drafted to deal with the administrative costs and local law issues, such as data protection, which arise as a result of providing information under FATCA. The UK was the first country to sign an IGA bringing FATCA into UK law. The UK IGA applies to entities which are UK resident for UK tax purposes, including trusts, UK incorporated companies, and foreign incorporated companies which are managed and controlled in the UK. As a result, whilst FATCA started as US legislation, it will be an offence in the UK not to comply with it. Non-resident trusts are not within the scope of the UK IGA, but similar agreements have been signed by many other jurisdictions, such as Jersey and Guernsey. Hence, trustees of entities outside the UK will still need to establish whether they are within the scope of FATCA elsewhere.
The UK IGA is reciprocal in nature and this means that the IRS must also exchange information with HM Revenue & Customs (HMRC). In addition, any reporting by a UK financial institution is to be made via HMRC and not directly to the IRS.
What is a Foreign Financial Institution? All UK resident trusts and companies will need to consider whether they are subject to FATCA under the UK IGA, irrespective of whether there are any US connections. The first step will be to determine whether the trust or company is deemed to be a ‘Foreign Financial Institution’ (FFI). An entity is regarded as an FFI if there is some form of customer relationship (eg banks, investment funds and investment managers). However, an entity (including a trust) which is primarily engaged in the business of investing (“an investment entity”) is also within the definition. Definitions in FATCA are complex and often difficult to apply. In this case, an investment entity is broadly either: a)
One where more than 50% of its gross income comes from investment activities on behalf of its customers ( typically a bank or corporate trustee); or
b)
For a non-trading entity, one where over 50% of its income comes from investing in financial assets. In this case, the entity (or the entity’s assets) must also be managed by an FFI.
1
Private Client
Practical examples Based on this broad definition of an FFI, any corporate trustee which provides its services on a commercial basis will be carrying on a business and so fall into category a) above and be regarded as an FFI. This is important because it has an impact on a trust which falls within b). Even where there are no corporate trustees, the trust itself is likely to be regarded as an FFI if it holds a portfolio of investments that is being managed by a professional fund manager under a discretionary mandate. Any unapproved pension schemes, such as Funded Unapproved Retirement Benefit Schemes (FURBS) are also likely to be caught if their investments are professionally managed on a discretionary basis. Individual trustees should not be caught if they hold a portfolio of investments under an execution only or advisory mandate, since in such a case the portfolio will not be managed by a financial institution. Likewise, an investment company which does not appoint discretionary investment managers is unlikely to be considered to be an FFI. With a trust, if all of the trustees are individuals and the trust fund is invested entirely in land or a private property holding company, the trust should not be regarded as an FFI. There will be cases, however, where the split of income between financial assets and rental properties fluctuates each year. It will therefore be necessary for the directors or trustees to review the FATCA status on an annual basis. An entity which is also a UK charity is deemed compliant without having to undertake any reporting.
2
What is the impact of being an FFI? FFIs must register with the IRS and obtain a Global Intermediary Identification Number (GIIN). An annual FATCA declaration must be made to report the identity of any US “account holders” and the value of their “accounts”. In the UK, FFIs need to file annual FATCA returns with HMRC. This is the case even if they are nil returns, because there are no US persons involved in either the trust or the company. HMRC has not yet released the template for this return.
Whilst it might be tempting, pretending that FATCA does not apply to UK trusts and companies is not an option. Advice should be sought now and action taken as soon as possible to ensure compliance.
The following reporting options are available to FFIs:
Non-compliance with FATCA yy Registered Entity: Register as an FFI and undertake the annual reporting to HMRC. yy Trustee Documented Trust: In the case of a trust, if one of the trustees is an FFI (eg a corporate trustee), that trustee can undertake all the FATCA compliance for the trust. yy Sponsored Investment Entity: If a financial institution is already engaged in the management of the entity’s assets, a trust or company can delegate its FATCA responsibilities to that institution. yy
Owner Documented Financial Institution: A trust or company delegates its FATCA obligations to a bank or other FFI which holds its money, but only in respect of the money in that account. FATCA reporting in respect of any other accounts still needs to be undertaken.
Not complying with FATCA is not an option. Under the UK IGA, there is mandatory reporting for any entities subject to the agreement. HMRC can levy penalties for noncompliance with FATCA. Further, where an entity has chosen not to participate in FATCA, a 30% withholding payment will be deducted from US source income and capital proceeds. This withholding tax is in addition to any income taxes that are usually withheld at source, but there is currently no mechanism to refund the FATCA tax if it is mistakenly withheld.
What are the FATCA deadlines? Under the UK IGA, all reporting financial institutions must have obtained a GIIN number before 1 January 2015. In order to meet this deadline, it is recommended that any reporting financial institution will need to register with the IRS by 25 October 2014.
October 2014
Withholding tax on payments should have begun to be applied for non-participating FFIs from 1 July 2014, and some trustees and company directors have already received letters from banks and investment companies asking them to certify the status of their entities.
Entities that are not FFIs Any trust or company that does not fall within the definition of an FFI may still be required to make limited disclosure under FATCA, depending on which one of two categories of Non-Financial Foreign Entity (NFFE) it falls into: yy An “active” NFFE is engaged in a nonfinancial business such as property development or farming; and yy A “passive” NFFE is not engaged in a trading business, ie more than 50% of its gross income is considered passive (eg rents or investment income). A passive NFFE will usually be required to identify its owners to the financial institution with which it has a relationship, particularly if owned by US persons.
What should I do? The obligations under FATCA are onerous and extend to entities which are not necessarily within the scope of US tax. Whilst it might be tempting, pretending that FATCA does not apply to UK trusts and companies is not an option. Advice should be sought now and action taken as soon as possible to ensure compliance. FATCA is only the start of the story. There is a growing trend towards global disclosure and over the next few years many more jurisdictions will be exchanging tax information on their residents and nationals.
3
Private Client
Trusts are “simplified” In the name of simplification, HM Revenue & Customs (HMRC) has driven another stake into the inheritance tax (IHT) heart of trust planning. It is well known that when HMRC simplifies something, it tends to make it more complicated and to increase the tax take. During the summer, HMRC published a further consultation document on the simplification of IHT for ‘relevant property’ trusts. These trusts are liable to pay IHT every 10 years on the value of their assets, or on the making of capital distributions to beneficiaries. The calculation of the 10-yearly (or decennial) IHT charge is notoriously complicated and the consultation document proposes some interesting changes. However, HMRC has sneaked in some additional proposals which mean that many people will have to revisit their long term IHT planning on trusts.
Historic nil rate bands Until 6 June 2014, when an individual created, or added to, a relevant property trust, the trustees could benefit from the settlor’s available nil rate band (NRB) without incurring a lifetime IHT charge. The NRB is currently £325,000 and, if a couple contributed, a total of £650,000 could go into trust. Consequently, many couples made it part of their routine IHT planning to settle an amount equal to the NRB on trust every seven years, avoiding any lifetime IHT charge on such transfers. This enabled them to remove significant value from their estates for IHT purposes. Each new trust could benefit from a full NRB which reduced, and in many cases entirely avoided, the decennial and exit charges which would otherwise be payable.
4
Settlement nil rate band From 7 June 2014, this beneficial treatment appears to have come to an end, with the introduction of a new settlement nil rate band (SNRB). Whilst the matter is still under consideration, HMRC intends that the new rules will take affect from the date that they announced the proposed changes, ie 7 June 2014. Assuming that the SNRB is enacted, it will apply to all gifts made by an individual to a relevant property trust in their lifetime. Unlike the existing NRB, it will not be refreshed every seven years. The SNRB will be separate from and unconnected with the individual’s personal NRB. Furthermore, trusts created by a company will no longer be entitled to a NRB. To enable the decennial and exit charges to be made easier for trustees to calculate, the settlor will be required to make an election to determine what percentage of his SNRB is to be allocated to each trust. The trustees will be required to keep a copy of this election and, in the absence of an election, the trustees must self-assess their tax liability on the basis that no SNRB is available. In addition, settlors will be able to vary elections in certain circumstances, executors will be permitted to allocate an individual’s SNRB if it was not fully allocated in lifetime and there is provision for penalties to be imposed if either the settlor or the trustees overstate the available SNRB.
Not only is this simplification going to complicate administration for trustees, it is also an unwelcome change in the rules for those wishing to undertake lifetime IHT planning.
Not only is this proposed simplification going to complicate administration for trustees, it is also an unwelcome change in the rules for those wishing to undertake lifetime IHT planning via the use of successive NRB trusts. Any such trusts will now lead to lifetime IHT charges at 20% on any transfer in excess of the SNRB, which many prospective settlors may consider to be an unacceptable cost. It will now be important to revisit lifetime IHT planning to ensure that the best use is made of other IHT available reliefs, such as Business Property Relief and gifts out of income.
October 2014
Tax efficient saving for
school fees With the new academic year well underway, the September school bills will have brought the funding of school fees back to people’s minds. As the rate of fee increases regularly exceeds the general rise in the cost of living, many are seeking tax-efficient ways of meeting the spiralling costs of private education.
such gifts may also be useful for estate planning purposes.
Savings plan
There is a further IHT exemption for normal expenditure out of income. This exemption is regularly used by grandparents to fund grandchildren’s school fees.
The New Individual Savings Account (NISA) investment limit stands at £15,000 per tax year for cash and other investments. A NISA enables parents to save for school fees using a ‘wrapper’ in which income and gains roll up tax-free. If regular savings are made by both parents from the birth of a child, potentially a substantial sum can build up by the time school age is reached. Children’s trust funds (for those born between 1 September 2002 and 2 January 2011) and junior ISAs can be considered for university fees, as the child is first able to have access to the funds aged 18. Here again income and capital gains roll up tax-free. The maximum which can be put aside each year is £4,000.
tapering of the tax rate for gifts made more than four years before death, but less than seven).
Income source
Where “habitual and regular payments” are made which are not from capital, the payment immediately falls outside the donor’s estate for IHT purposes. It is important to ensure that records are kept to demonstrate that sufficient income has been retained to maintain the individual’s living standards, since otherwise the gifts will be regarded as potentially exempt transfers and be chargeable to IHT should the donor die within seven years of making them (albeit with some
A transfer of an income producing asset from grandparents may also allow some or all of the child’s personal allowance to be utilised, with the income itself being applied in meeting school fees. The capital gains tax implications of such a gift should also be taken into account, since for CGT purposes the asset will be treated as passing at full market value. It is never too early to start saving for your child or grandchild’s education, and regular savings from birth can make a huge difference to the affordability of school and university fees in later years.
For inheritance tax (IHT) purposes, up to £3,000 per year can be given on a fully exempt basis by each parent. If the prior year’s exemption is not utilised, it can be carried forward one year. Used regularly over an extended period of time, this too can enable a substantial capital sum to accrue. Don’t forget that a child enjoys his or her own personal allowance, so is able to receive income of up to £10,000 in 2014/15 without paying tax. However, the transfer of an income producing asset from a parent will not be tax-efficient if the income generated exceeds £100 per tax year. In such cases the income will be taxable on the parent. There is no such restriction if the income is generated from funds donated by a grandparent, and
5
Our offices Bournemouth Midland House, 2 Poole Road, Bournemouth BH2 5QY T: +44 (0)1202 204744
Bristol St Catherine’s Court, Berkeley Place, Clifton, Bristol BS8 1BQ T: +44 (0)117 915 1617
Edinburgh Edinburgh Quay, 133 Fountainbridge, Edinburgh EH3 9BA T: +44 (0)131 221 2777
Subscriptions In the future, if you would prefer to just receive Private Client via email, instead of a printed copy, email us at
[email protected] with ‘Private Client by email’ in the header, being sure to include the name and address that the printed copy is currently delivered to. You can subscribe to any of our newsletters by visiting the subscriptions page in the publications section of our website at www.saffery.com.
Saffery Champness is regulated for a range of investment business activities by the Institute of Chartered Accountants in England and Wales. Saffery Champness is a member of Nexia International, a worldwide network of independent accounting and consulting firms. No responsibility for loss occasioned to any person acting on or refraining from action as a result of the material in this publication can be accepted by Saffery Champness. J5359.
Geneva Avenue Pictet-de-Rochemont 7, 1207 Geneva, Switzerland T: +41 (0)22 319 0970
Guernsey PO Box 141, La Tonnelle House, Les Banques, St Sampson, Guernsey GY1 3HS T: +44 (0)1481 721374
Harrogate Mitre House, North Park Road, Harrogate HG1 5RX T: +44 (0)1423 568012
High Wycombe Fox House, 26 Temple End, High Wycombe HP13 5DR T: +44 (0)1494 464666
Inverness Kintail House, Beechwood Park, Inverness IV2 3BW T: +44 (0)1463 246300
London Lion House, Red Lion Street, London WC1R 4GB T: +44 (0)20 7841 4000
Manchester City Tower, Piccadilly Plaza, Manchester M1 4BT T: +44 (0)161 200 8383
Peterborough Unex House, Bourges Boulevard, Peterborough PE1 1NG T: +44 (0)1733 353300
Zurich Hottingerstrasse 17, 8032 Zurich, Switzerland T: +41 (0)43 343 9328
www.saffery.com
