The opposition Labour Party wants to end the UK's centuries-old "non-dom" regime, prompting wealth advisors to fear serious damage to the country and in particular, London's financial services industry.

(This item has been updated for new industry reaction.)

Wealth managers in the UK tempted to dismiss the 7 May general election with a bored expression will have been jolted by the announcement by the opposition Labour Party that it wants to scrap the long-standing “non-dom” status that has been associated to some extent with London’s prowess as a hub for wealthy individuals.

Shadow chancellor, or shadow finance minister, Ed Balls, has pledged that a future Labour government, if elected, will abolish the situation where non-domiciled UK residents pay a fixed annual levy to enjoy the right to not pay tax on worldwide tax and capital gains if these moneys stay out of the country. The "non-domicile" regime effectively removes overseas income and capital gains from the scope of UK tax, but UK sources are taxed as normal. For the first seven years a non-dom lives in the UK, they can freely enjoy the regime. Thereafter, they must pay a flat fee of £30,000 ($44,816) or pay tax on their overseas income and capital gains; after 12 years, the fee increases to £60,000 and after 17 years £90,000.

However, while the annual levy on non-doms and other measures to tighten the 200-year-old “non-dom” regime – that finds few imitators in other countries – have been enacted to answer claims that the system gives wealthy people an unfair status, the Labour proposal to get rid of the entire non-dom system has come as a shock to wealth industry professionals.

“As a keen supporter of social justice, it saddens me immensely to hear that Labour has today announced proposals which will have a cataclysmic effect on the British economy.  There is no room for argument that non-doms benefit Britain - countless studies and successive arguments appear to have concluded the same.  It is better to have them here and contributing to the economy than moving back to Paris, New York or Moscow and contributing nothing,” Sophie Dworetzsky, partner at Withers, the international law firm, said in a statement.

The practice has been defended because non-dom status encourages wealthy people to live in the UK who might not otherwise do so, bringing in revenue to the UK. Ending such a system might be seen as working contrary to other measures the UK has in place to encourage wealthy people to work in the country, such as the UK’s investor visa and entrepreneur visa systems.

“A ‘non-dom’ paying the flat fee of £60,000 would comfortably put them in the top proportion in terms of tax contribution. They may simply choose to become non-tax resident in the UK, and with the UK’s Statutory Residence Test (to determine the tax residency of individuals) it could be possible for a ‘non-dom’ to still spend up to 120 days in the UK without becoming tax resident. If this were to happen, the Treasury would lose out on any tax revenue and the wider economic contribution altogether,” Nimesh Shah, partner at Blick Rothenberg, the accountants, said.
 
“The next government must assess in detail the economic impact of any further changes to the ‘non-domicile’ regime, otherwise they could be unknowingly faced with a severe dent to the UK’s economy,” he said.

A study published in 2013 by University College London showed that immigrants to the UK since 2000 have made a "substantial” contribution to public finances.  The study went on to note immigrants from the EEA contributed 34 per cent more to the fiscal system than they took out, with a net fiscal contribution of £22.1 billion. Immigrants from non-EEA countries made a net fiscal contribution of £2.9 billion, representing 2 per cent more than they took out.
 
“In addition to actual tax contribution, the economic and social benefits ‘non-doms’ bring to the UK must not be overlooked. These benefits can include expertise and intellectual property in certain sectors, such as banking and finance, medicine, information technology and sciences. ‘Non-doms’ also bring entrepreneurial drive and choose to base their businesses in the UK, which lead to generating tax receipts from VAT and corporate tax, and income tax and National Insurance by employing individuals.  Like any other UK taxpayer, ‘non-doms’ naturally buy goods and services in the UK thereby contributing to VAT receipts as well as supporting the UK economy,” he said.

"The right thing for the UK is to put all taxpayers on the remittance basis if they elect to pay the charges that accompany this, so that there is no difference between those who are formally domiciled or non-domiciled. I am convinced that this could lead to a simpler  and fairer tax system, and that the UK would generate more in taxing revenues than they do today. All the former UK domiciliaries living in Monaco, Geneva and elsewhere would return home to live and invest, and the economy would flourish. How much tax on foreign source income does the UK actually collect from domiciliaries, and is it worth the complexity and enforcement effort given foreign tax credits and other ways the UK gives way on actually collecting taxes on foreign source income?" Philip Marcovici, a lawyer and expert on cross-border tax and financial issues, said.

"But just the debate about non-doms and the possibility of yet more changes to the regime, and possibly its elimination, sets a permanent chill over the UK as a hub for global wealth owners. This is genuinely not in the UK’s interests, but to blame are at least in part the Swiss for their abuses as evidenced by the HSBC and other situations we have seen of late which have forced this to become a political issue in the UK," he added.

According to James Hender, head of private wealth at Saffery Champness, Labour’s proposal is not a total surprise because various political parties have sought to take more money from non-doms in recent years, suggesting the system is doomed.

“I have already been taking calls from clients who are concerned about this proposal and want to plan ahead. There will be a stark choice for some if the Labour Party wins the election: adapt or leave,” he was quoted by the Daily Telegraph as saying.

“The non-dom regime is an anomaly compared to other countries which tax their residents on their worldwide income and capital gains. However, the regime has undoubtedly contributed to the UK’s large financial sector and it has made our country attractive as a destination for international investors and financiers,” Hender continued.

“This change could be the last straw for certain people who are being hit with higher taxes from different directions, including the proposal for a mansion tax on their properties. There are other jurisdictions, such as Hong Kong, which offers both a lower tax rate and also only taxes locally sourced income, which will welcome them. The proposal to have an exemption for temporary residents is welcome in the circumstances, but the details are thin,” he added.

Meanwhile, Simon Walker, director of business lobby group the Institute of Directors, said the move was clever politically but poor on economic grounds.

“It is very unclear what additional revenue would be raised, but the UK’s international reputation would be put at risk. This country has benefited enormously from attracting some of the most successful businesses and entrepreneurs in the world, with the previous Labour government recognising the benefits of an internationally competitive tax system,” he was quoted as saying. 

“While there may be little public sympathy for those who stand to be affected by reforms to non-dom status, the truth is that these things matter. There is a serious risk that large numbers of the international financial community, who have headquartered themselves in London at least in part because of our tax regime, will now exit the country. Politicians at the height of an election campaign may consider this a price worth paying, but we do not,” Walker added.

“Labour’s pledges on non-doms represent a significant political risk with potentially serious financial consequences for the Treasury. The great majority of those with non-dom status are legitimately foreign-born individuals with global interests but who want temporarily to make their home in – and invest in – the UK. This has benefited our country hugely as people from all over the world have come here to work, buy property, spend money with our business and - yes - pay their taxes. It’s easy to overlook that non-doms do in fact pay UK taxes - including income tax, capital gains tax, VAT, and stamp duty land tax – and many of them also pay a levy of between £30,000 and £90,000 per year for the benefit of staying in the UK,” Piers Master, partner at Charles Russell Speechlys, said.

“If these changes are introduced, then it is certain that the very significant revenues generated by the non-dom levy will be lost.  The gamble is that the people who currently pay the levy will choose to stay in the UK and pay more tax; there is no guarantee that they will do so,” he said.

“Over time, it’s likely that one of the key competitive advantages of London as a centre for global investment will be undermined by such a move, and it could have serious knock-on impacts for the UK as a whole. The globally mobile have seen London as a safe and welcoming place to base themselves for a long time, but this, taken together with proposals to impose a mansion tax, is a signal that the climate could be turning less favourable. It is easy for high net worths to leave – as they did here in the 1970s and have been doing in France under President Hollande. Push them too far, and there will be another exodus. This is not just about current non-doms, but those who might in the future have considered setting up businesses in London, but who now find places such as Dubai or Singapore more attractive,” he continued.

“There’s a case for reforming non-dom status, to reduce its more obviously generous provisions, but it continues to serve a useful function for UK plc. We could lower the amount of time – currently 17 years for inheritance tax – before which a ‘deemed domicile’ rule is imposed, and apply that ‘deemed domicile’ rule for all tax purposes. This would still allow non-doms to set up businesses in the UK and contribute to the economy, but bring forward their decision about whether they want to settle permanently in the UK and pay UK tax on their worldwide assets. But clear-headed and measured consultation is essential,” Master added.

Paul Noble, of international law firm, Pinsent Masons, says that, despite the image portrayed, non-doms make a very significant contribution to the UK Exchequer. This group paid £6.18billion in income tax in 2012-13 and £223million in the remittance based charge (non-dom levy) in 2012-13. Non-doms also pay significant amounts in CGT and transactional taxes such as VAT. Whilst the increase in the non-dom levy brought in £35m extra in 12-13 the number of people claiming non-dom status in the UK fell from 139,000 in 07-08 to 110,700 in 12-13 as the government introduced and increased a specific levy on non-doms, he said.

“Non-doms are often portrayed as a group who exploit loopholes to pay little or no tax. In fact they make a significant contribution to the Exchequer," he said.

“They have huge spending power, invest in UK businesses and the capital they deploy creates thousands of jobs in the UK. There are plenty of other countries competing to welcome these non-doms to their shores," he said.

(Editor’s note: In some ways it is surprising that a system such as the UK’s non-dom regime, lasting for around two centuries, has existed as long as it has. While there are considerable benefits to encouraging wealthy individuals to live in the country, the apparent anomaly of their being able to keep a lot of their worldwide capital gains and income out of the country, subject to paying an annual levy, is politically sensitive and hard to defend on strict egalitarian grounds. The damage that ending the system will cause is unlikely to trouble the kind of people who favour this policy, any more than they will be troubled by a “Mansion Tax” or other measures aimed at “the rich”. The sad fact is that far too few politicians have made the case for encouraging and celebrating wealth creation and have instead found it easy to go along with a general attack on wealth or “unfairness”. If the non-dom system does go, the property market in London will suffer at the top end, and we may see some wealth management firms redeploy staff from London to capture any associated exodus. The assault on non-doms is also, to some extent, an example of globalisation in retreat.)