Non-resident immovable property gains: Changes to Transparency and Fund Exemption Elections effective 10 April 2020
07 April, 2020
Overview
Prior to 6 April 2019, the UK did not levy tax on capital gains arising to non-UK residents except in relation to certain disposals of residential property or where a trade is being carried on through a permanent establishment in the UK. However, the scope of the UK tax net dramatically increased from 6 April 2019, as non-UK residents are now subject to UK tax on gains on all direct and certain indirect disposals of interests in UK immovable property.
The indirect disposal rules apply where a person makes a disposal of an entity, in which it has at least a 25% interest (or any interest in certain collective investment vehicles ("CIVs")) where that entity derives 75% or more of its gross asset value from UK land.
The 25% ownership test applies where the person holds at the date of disposal, or has held within two years prior to disposal, a 25% or more interest in the property rich company. This holding may be directly, or through a series of other entities, or via connected persons.
Two exemptions were also introduced with effect from 6 April 2019 to help alleviate the unintended tax consequences of certain direct and indirect disposal on certain tax neutral vehicles. Broadly, the effect of these elections was to ensure that the tax treatment of these vehicles would not be adversely affected by the direct and indirect disposal changes. These exemptions are known as the Transparency Election and Fund Exemption Elections.
Certain drafting deficiencies have been identified in the direct and indirect disposal regime, particularly in the definition of CIV, the meaning of UK property rich, what information should be submitted with the Transparency Elections, whether the Fund Exemption operates as intended, and extent of disposals further down the qualifying CIV ownership chain. Consequently, to correct these drafting deficiencies, the UK government has issued Statutory Instrument 2020 No. 315 (the “Statutory Instrument”), effective from 10 April 2020, and which can be found using this link.
The corrections made by the Statutory Instrument have resulted in the extension of the deadlines for the submission of both the Transparency and Fund Exemption Elections, together with revised guidance being issued by HMRC, to enable fund managers to consider these changes.
We have summarised the Transparency Election and Fund Exemption Elections below, together with recent changes announced by the UK government in its Statutory Instrument and HMRC’s Guidance in respect of the election deadlines.
Transparency Election – Extension to 1 October 2020
Offshore CIVs that are formed as trusts or contractual co-ownership arrangements are deemed to be opaque for UK capital gains purposes. Consequently, from 6 April 2019, these vehicles are subject to UK corporation tax on their direct and certain indirect disposals of interests in UK immovable property.
Where, however, such CIVs are UK property rich and also transparent for the purposes of UK tax on income, they will have the ability to make the Transparency Election. The effect of this election is that the CIV will be treated as transparent for the purposes of UK tax on capital gains (i.e. the CIV will not be subject to tax on capital gains, but rather the Investors in the CIV will be subject to tax on the capital gains, where appropriate).
All participants need to consent to the irrevocable election, which has retrospective effect.
The Transparency Election was required to be made within 12 months of 6 April 2019 or the date the first UK property is acquired (if later). Consequently, for existing qualifying CIVs, the time limited to make the election was 5 April 2020.
As a consequence of the Statutory Instrument, the UK government has extended the time limit for making the Transparency Election for existing qualifying CIVs from 6 April 2020 to 1 October 2020.
Exemption Election – Extension to 30 September 2020
An election may be made for a UK property rich qualifying CIV, or a qualifying company which is not itself a qualifying CIV (but is wholly or almost wholly owned by a collective investment scheme partnership or CoACS).
The effect of the election is to exempt that entity, and any other entities in which it has at least a 40% stake, on direct and indirect disposals of UK property.
The exemption regime is only available to UK property rich funds in order to be able to tax gains at the investor level and there are special provisions under which an investor may be taxed if capital profits are remitted to the investor in a non-capital form.
An election was required to be made by the fund manager with retrospective effect of up to 12 months, and it did not require the consent of all the investors. Consequently, to exempt disposals on or after 6 April 2019, the Exemption election had to be made prior to 5 April 2020, unless a longer period could be expressly agreed with HMRC in advance. However, as a consequence of the Statutory Instrument, HMRC have now confirmed that Exemption Elections may be treated as having retrospective effect for a period greater than the 12 months, where the Exemption Election is submitted after 10 April 2020 but before 1 October 2020, i.e. it will be deemed that HMRC’s consent has been already granted for periods greater than 12 months.
In practice, this means that for existing CIVs, the Exemption Election can now be made up until 30 September 2020 and it will still exempt any disposals on or after 6 April 2019.
How we can help
Fund managers should consider which of the two elections they can make and if both can be made, which one is most appropriate to the fund. Fund managers should consider the investors since it is the investors tax position that these elections alter and they will require the unanimous consent from investors in order to make the Transparency Election.
We can help fund managers establish which of their funds qualify for which election and where a fund qualifies for both elections, we can consider the fund’s circumstances to assess which election may be more appropriate. We can also assist fund managers with communications to the investors, particularly with the Transparency Election.
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