The UK has several taxation treaties with other countries that protect people from being taxed twice on income and assets including property. Lodders’ Alana Graham, a Tax Specialist and Barrister in the Private Client practice explains Double Taxation Relief and when and how it applies, in this article first published by The Gazette.
What is Double Taxation Relief for inheritance tax?
When a loved one dies, one of the most important things that need to be done with regards to the deceased’s estate (money, property, and possessions) is the payment of inheritance tax (IHT).
If the deceased owned any overseas property, tax liability (especially IHT) becomes even more complex, not least as there could potentially be two countries taxing the same property.
However, depending on specific requirements being met, double taxation treaties provide a relief that may ease the situation and allow you to avoid or reclaim certain taxes, including IHT.
Double Taxation Relief is listed in the appropriate treaty of each country. For example, the treaty for the USA states that: property of a person domiciled in the UK which becomes comprised in a settlement shall be exempt from tax in the UK to the extent of 50% of the value transferred. (Please note there are other requirements that must be met before this can apply.)
How do double taxation conventions work?
Double taxation conventions allow the country where the deceased was domiciled to tax all the deceased’s property no matter where in the world it is situated. The country where the property is physically situated is only allowed to tax specific types of property, for example, immovable property.
Which countries does the UK have double taxation conventions with?
The UK has double taxation conventions with ten countries around the world:
- Republic of Ireland (SI 1978/1107)
- The Netherlands (SI 1980/706 and SI 1996/730)
- South Africa (SI 1979/576)
- Sweden (SI 1981/840 and SI 1989/986)
- The United States of America (SI 1979/1454)
- Switzerland (SI 1975/426 and SI 1994/3214)
- France (SI 1963/1319)
- India (SI 1956/998)
- Italy (SI 1968/304)
- Pakistan (SI 1957/1522)
The treaties for these countries (identified here with the treaty reference code) state that wherever the deceased was domiciled, then that country is entitled to tax the whole estate. The other country can only tax any property which is situated in their country. Relief will then be available for any property which suffers double taxation.
What is Unilateral Relief?
If there is no double taxation agreement with a country, relief can still be obtained for any property on which tax has already been paid, and this is known as Unilateral Relief.
This fictional scenario explains and illustrates how this Relief works:
Lizzie died on 6 May 2014. Her estate amounts to £500,000 and includes an apartment in Themyscira which is valued at £35,000. Her executor, Sid, has already paid a tax of £1,500 in Themyscira.
- Estate = £500,000
- Less NRB of £325,000
- Total = £175,000
- IHT due @ 40% = £70,000
In order to calculate the portion of IHT attributable to the apartment, the formula used is: value of asset/total value of the estate x IHT
Therefore, for our scenario: 35,000/500,000 x 70,000 = £4,900
Sid paid £1,500 so, under the Unilateral Relief the total amount of credit allowed against UK IHT is limited to the £1,500 that he has already paid. If the Themyscira tax paid had been £10,000, the credit would be limited to £4,900 being the amount of UK IHT paid.
It is important to note that:
- UK law is applied if the location of the asset needs to be determined.
- If the property is situated in an overseas territory, the credit which is obtained is equal to the tax charged by the overseas territory limited to the UK IHT attributed to it.
- If the property is situated in a third country or, if it is situated both in the UK under UK law and in the overseas territory under that territory’s law, the credit is calculated according to this formula: A/(A+B) x C*
*A is the amount of the inheritance tax, B is the overseas tax, and C is whichever of A and B is the smaller; as illustrated by this example:
Poe is domiciled in Krypton but is also treated as domiciled in the UK. She makes a gift of property which is sited in Atlantis:
- Poe’s UK IHT (A) is £3,000
- Kryptonian IHT (B) is £1,000
- C is the lesser of A and B, so is £1,000
Applying the formula, credit against UK IHT is: 3000/4000 x 1000
- Credit is = £750
- Net UK tax is: 3000 – 750 = £2,250
Inheritance Tax Act 1984
Finally, if relief can be obtained under section 159 (Unilateral Relief) and section 158 (Double Taxation Conventions) of the Inheritance Tax Act 1984, then relief is given under whichever section will give the greater relief.
Alana Graham is a Barrister in the Private Client team at Lodders a specialist in wills, trusts, tax planning, and tax issues, including Inheritance tax, Capital Gains Tax, VAT, Stamp Duty Land Tax, and estate planning.
This article was first published in The Gazette, read it here.