Australian in the UK? How to deal with Inheritance Tax and the importance of domicile status

Category: News & United Kingdom

For Australians living in the UK, or anyone planning to move here in the future, Inheritance Tax (IHT) can be a thorny issue.

As advisers with offices in both countries, it’s a subject we get asked about a lot – not least because there’s no such thing as IHT in Australia so it’s a tax that many of you don’t have first-hand knowledge of.

IHT is certainly something that you need to take seriously. In the UK in the 2020/2021 tax year, £5.4 billion was paid in Inheritance Tax (IHT). Moreover, according to HM Revenue and Customs (HMRC), IHT receipts between April and November 2021 were up 17% on the previous year.

To help you understand (and potentially mitigate) the tax, here are some of the key issues. Read about how IHT works, some simple ways to reduce your liability and, most importantly, look at why the issue of domicile is so important for Australians in the UK.

We’re also devoting our April webinar to IHT. You’ll be able to understand the issues you’ll read about in this article, and you’ll also have an opportunity to ask any questions you may have.

IHT is charged at 40% on the value of your estate above the nil-rate band

In simple terms, your heirs will pay IHT at a rate of 40% on the value of your estate above the applicable nil-rate band (NRB).

In the 2021/22 tax year, the NRB is £325,000. On top of that, each person has a residence nil-rate band (RNRB) which is £175,000 in 2021/22. You can use this RNRB if you plan to leave your main home to a child or grandchild. Both these band rates have been frozen until April 2026.

If you are married, or in a civil partnership, the value of your estate on the death of either you or your spouse or partner will automatically pass to the survivor with no IHT being payable. You can also use each other’s unused allowance in the future.

Note that the spouse exemption is restricted when a UK domiciled spouse transfers assets to a non-domiciled spouse.

For transfers made before 6 April 2013, the spouse exemption was limited to £55,000. For transfers made on or after 6 April 2013 the spouse exemption is limited to the nil-rate band (£325,000 in 2021/22).

So, depending on your circumstances, you may be able to leave an estate valued at between £325,000 and £1 million without any IHT being due.

Whether you’re liable to IHT, and what proportion of your estate will be considered, is dependent on your domicile.

Working out your domicile status

Your IHT liability is dependent on your domicile status in the UK. You should bear in mind that your domicile status isn’t necessarily based on which country you’re resident in.

Initially, you’re assigned to the same domicile as your parents. Known as “domicile of origin”, this stays valid and relevant until you acquire a new domicile.

Then, your domicile is the country where you officially have your permanent home or have a substantial connection. This is your “domicile of choice”.

So, even if you move to the UK from Australia, it’s unlikely that your domicile will immediately change. Your domicile of origin will remain until you have successfully acquired a domicile of choice (as above).

The benefits of being a “non-dom”

There are distinct advantages in being a non-dom in the UK from an IHT perspective.

For example, if you’re UK-domiciled when you die, all your worldwide assets are subject to IHT, regardless of whether the country they are held in charges their own version of IHT.

So IHT is chargeable at 40% on the value of all your assets worldwide above the bands we’ve already referred to.

But if you’re a non-dom, IHT only applies to your UK assets if you are not deemed domiciled in the UK when you die.

One point to note here is that all non-UK assets that have been derived from UK residential property are effectively deemed to be UK assets for the purposes of calculating IHT. That will include the proceeds of the sale of a UK property and any rental income.

How “deemed domicile” works and why it’s important

If you’re a non-UK domiciled individual, and you have been a UK resident in 15 of the 20 preceding tax years you will usually acquire “deemed domicile” status for IHT purposes.

So, at the start of your 16th year in the UK, HMRC will deem you to be UK-domiciled.

As we’ve already established, this is crucially important as it means that the scope of IHT extends from UK assets to all assets on a worldwide basis.

You can lose deemed domiciled status if you leave the UK and there are at least six tax years as a non-UK resident in the 20 tax years prior to the relevant tax year.

You can gift your assets to reduce your IHT liability

You can help reduce the amount of IHT payable when you die by gifting some of your assets while you are still alive.

As a rule of thumb, your beneficiaries will not pay IHT on the value of the gift if you live for seven years after the date of making the gift. Such gifts are known as potentially exempt transfers (PETs).

The full rate of 40% IHT may be payable if you die during the first three years after making the gift, but it then tapers down year-on-year to zero after year seven.

There are also various exemptions that you can make use of. For example, you can gift £3,000 each year and this amount will immediately fall outside the value of your estate. You can also make exempt gifts for weddings and make payments from income towards the living costs of an elderly relative.

Non-domicile status applies to gifts. So, a UK-domiciled person will potentially pay IHT on a gift they make if they die within seven years of making the gift, but if you’re a non-dom you will pay no IHT on such a gift.

Get in touch

At bdhSterling, we have licences in both the UK and Australia for full financial planning, so we can provide bespoke advice regarding IHT and how it could affect you.

Get in touch if you would benefit from advice.