Offshore

A Renaissance For The Offshore Trust?

Tim Gregory, Saffery Champness, Partner, 28 April 2005

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At the end of the Eighties, an offshore trust was a must have tax planning vehicle. By the end of the Nineties, they were no longer consider...

At the end of the Eighties, an offshore trust was a must have tax planning vehicle. By the end of the Nineties, they were no longer considered smart. However, five years on, the use of offshore trusts is being considered more widely again.

Born out of the high taxation regime of the 1970s, and given a fair wind by a favourable tax regime in the 1980s, the offshore trust became a must have tax planning tool for the wealthy (and not so wealthy) UK resident and domiciled tax payer. So widespread and popular had their use become that the taxation of offshore trust became a political issue and a threat to the UK Exchequer.

Successive changes to the UK tax regime in 1992 and finally in 1998 effectively put an end to the growth in the creation or exportation of trusts offshore. The UK Inland Revenue imposed a capital gains tax charge on trustees retiring in favour of non-resident trustees and on UK resident and domiciled settlors on gains subsequently realised by the offshore trust.

Furthermore, the period for which a beneficiary needed to go abroad to take untaxed capital gains tax-free was extended generally from 1 to 5 years and a supplementary charge regime introduced which could increase the top rate of capital gains tax for a UK resident beneficiary receiving capital from 40 per cent to 64 per cent.

While a lot of people recognised the long-term tax and non fiscal benefits of leaving family trusts offshore, a lot of trusts were wound up or repatriated to the UK following the 1990 tax changes. In part, this was driven by the considerable increases in the cost of running offshore trusts as offshore jurisdictions were forced to comply with stricter anti-money laundering and terrorism regulations.

The reduction in effective capital gains tax rates for business assets latterly has also meant that tax payers with unexpected large windfall capital gains have tended to pay the 10 per cent tax rather than enter into complex tax saving and deferral arrangements which in the past have involved offshore trusts.

So what has changed over the last five years to warrant reconsideration of offshore trusts? We believe it is a culmination of a number of factors which are noted below:

• The immediate taxation of capital gains only applies where the settlor is UK resident and still alive. It is much more common now that trusts have deceased settlors.
• The offshore trust still enjoys the favourable Eighties tax regime as far as income is concerned. An offshore trust can still offer a penalty-free way of deferring income tax on foreign source income for a trust created where the settlor and spouse have been excluded from benefit.
• The rise in the UK top rate of tax for discretionary and accumulation and maintenance trusts to 40 per cent from 6 April 2004.
• The inability of other UK-based structures to defer tax charges on hedge fund portfolios. This is helped by the fact that the UK anti-avoidance legislation taxes such gains to income rather than capital gains tax.
• More trust beneficiaries are spending extended periods overseas; leaving trust assets tied up in a relatively high UK tax regime is therefore of little benefit.
• The reduction in the top rate of income tax from 40 per cent to 32.5 per cent for foreign dividend income.

We have seen that trustees are again looking to offshore trusts to provide a much more favourable tax regime through which to invest the trust assets, particularly where the potential upfront tax charge incurred on the exportation of a trust is no longer an issue. The aim of course is to provide enhanced investment returns through the long-term deferral and saving of tax.

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