My two siblings and I stand to inherit a property in Mumbai, India, on our mother’s death. What are the inheritance tax implications and how might we reduce the tax burden? If we were to sell the property, could we set up a family limited company and pay ourselves a periodic income?
Richard Jameson, private wealth partner at Saffery Champness, says the inheritance tax (IHT) implications for your mother’s estate will depend on her domicile status when she dies.
Your mother will have inherited a “domicile of origin” usually from her father when she was born, but she may have acquired a UK “domicile of choice” if she came to the UK as an adult and is living here permanently or indefinitely. If she is domiciled in the UK when she dies she will be liable for UK IHT on her worldwide estate above her available nil-rate band of up to £325,000 at 40 per cent.
However, if your mother is Indian-domiciled, she will not be liable to pay UK inheritance tax on her non-UK assets. There is currently no inheritance tax to pay in India, although this is under review by the Indian government.
The situation is more complicated if your mother has been resident in the UK for more than 15 out of the past 20 years. In this case she may be domiciled in both the UK and India. This means that rules of both jurisdictions could apply to her estate, and the executors would need to consider the UK-India estate tax treaty. This international treaty overrides the UK’s deemed domiciled rule, so that your mother’s non-UK assets, such as the Mumbai property, may not be caught by IHT on her death.
In terms of reducing any potential IHT exposure your mother could consider gifting the property to you. If she survives seven years from the date of the gift, it would fall outside her estate. If she does not survive seven years, the “failed” gift falls within her estate but is subject to a taper relief. A gift of the property is likely to be a disposal for UK capital gains tax purposes if your mother is resident in the UK. There would also be restrictions on your mother’s future use of the property in order for the gift to be effective for IHT purposes.
You should also check the Indian tax treatment on the gift as the Indian capital gains tax rules are different, and there is also a tax on certain gifts.
If you and your siblings sell the property, you would be subject to UK capital gains tax at 28 per cent on any gain above the value of the property when it was gifted to you. If you use the sales proceeds to invest in a family company, this could be a useful way to manage your future investments. The company would pay corporation tax on its income and capital gains, and you would pay further tax when drawing a salary or dividends. This can mean that the overall effective tax rate is higher than holding some investments personally.
Although family investment companies provide a number of non-tax benefits, HM Revenue & Customs is actively reviewing these structures and care is required when setting them up to ensure there are no adverse tax consequences.
Frederick Bjørn, partner in the private client department at Payne Hicks Beach, says the tax implications and options available require an analysis of your mother’s tax profile and local Indian law and so would need analysis in both jurisdictions.
The IHT position depends on your mother’s tax domicile at the date of her death. If she is UK domiciled (or deemed domiciled — having been resident for 15 of the past 20 tax years) the Mumbai property would ordinarily suffer IHT at 40 per cent. If she is not, then only her UK situated assets would be within the IHT net. However, the position may be different if your mother is domiciled in India, due to the UK/India Estate Tax Treaty, which provides that in prescribed circumstances an India-domiciled person is only liable to IHT on UK-situated assets, regardless of her period of UK residence.
It would be possible for your mother to gift the property to you during her lifetime. If she is non-domiciled, there will be no IHT to consider. If she is domiciled, she would need to survive seven years from the date of the gift for it to be outside of her IHT net, and she could not retain a benefit from the gift (although depending on how the property is used, it may be possible for her to give away only a part share in the property without falling foul of the reservation of benefit rules).
A gift is classified as a disposal and as such your mother would be liable to capital gains tax on any gains unless she can claim the remittance basis — an alternative tax treatment that is available to individuals who are resident but not domiciled in the UK and have foreign income and gains. This would mean she pays UK tax only on the income or gains she brings into the UK.
If the property were sold, you could use the funds to establish a family limited company (FLC). This is a bespoke private company set up to accommodate a particular family’s individual circumstances. It can be funded with share capital and/or by loan and the directors and shareholders can all be family members.
FLCs are liable to corporation tax on their profits at 19 per cent. If profits are retained and reinvested, this effectively allows individuals to invest for the long term at company rates. If profits are distributed, in order to pay a periodic income, they would ordinarily be taxed to income at dividend rates but could potentially be tax free, as a loan repayment.
FLCs are also popular as a generational planning tool because different share classes can be used to pass value to children, without giving them immediate liquidity and while retaining control.
There is a cost to setting up and running a FLC, and there are reporting requirements to consider, but these are generally outweighed by the fact FLCs pay corporation tax and can set management expenses against profits.
The opinions in this column are intended for general information purposes only and should not be used as a substitute for professional advice. The Financial Times Ltd and the authors are not responsible for any direct or indirect result arising from any reliance placed on replies, including any loss, and exclude liability to the full extent.
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