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The income tax anti avoidance rules for a offshore company
As well as being able to show that the control of your offshore company is overseas, you also need to consider whether you’ll be impacted by the avoidance rules. These can apply for both income tax and capital gains tax purposes. In this article we’ll consider the income tax rules.
How do the anti avoidance rules work?
The tax legislation provides for wide-ranging anti-avoidance powers designed to prevent the avoidance of income tax by individuals using offshore companies and trusts.
The conditions for these rules to apply are:
- There must be a transfer of assets by an individual
- As a result of the transfer income becomes payable to a non-resident company or trust.
- The transferor must have power to enjoy the income in some way, or receive/be entitled to receive a capital sum.
- The transferor must be ordinarily resident in the UK in the year of liability.
If all of these conditions are fulfilled, the income which becomes payable to the offshore company is then deemed to be that of the individual who made the transfer, to the extent he has power to enjoy that income.
When you form an offshore company this would usually be classed as a ‘transfer of assets’ by you. The UK tax authorities take a wide view of what constitutes a transfer of assets and it includes for instance:
- where an individual transfers cash to establish a non- resident trust, or
- subscribes for the share capital of an offshore company, or
- where an individual transfers assets such as shares or property to a new or existing non-resident trust or other person or company abroad.
It can also apply where intangible assets are transferred; for example a UK individual may transfer his services to an offshore company.
The view of the Revenue is that a transfer may be made by way of sale or purchase of assets, or by way of gift.
It’s also worthwhile noting that the anti avoidance rules don’t just apply where an individual transfer assets but also where an individual either transfers, or is associated with the transfer of assets.
The above provisions apply to an individual that forms an offshore company and retains the right to benefit from the company’s income or capital. There are other provisions that apply where assets have been transferred abroad and a UK resident other than the settlor obtains a benefit. In this case when any benefits are paid to UK residents the income that has arisen tax free in the offshore company can then be taxed on them.
The type of benefits that could therefore be taxed under these rules would include payments of any kind, for example cash (capital distributions), the use of property (e.g rent free occupation of a house), interest free loans, etc. Where the conditions are satisfied, the individual receiving the benefit is liable to tax on the amount or value of the benefit, (although the charge can be limited by the amount of past or future available ‘relevant income’ of the trust).
There are some obvious ways to avoid being caught by these provisions such as:
- ensuring that you and your spouse are excluded from benefiting from the offshore company
- ensuring that any income only arises in the offshore company after you were non UK ordinarily resident
- having beneficiaries receiving benefits after they had left the UK and were non UK ordinarily resident
Motive exemption
There are however various “let outs” from the income tax avoidance rules, the main one being where the motive exemption applies.
In order for this to apply, broadly speaking you would need to demonstrate either:
- that avoidance of taxation was not the purpose or one of the purposes for which the transfer was effected
- that the transfer and any associated operations were genuine commercial transactions and weren’t designed to avoid tax (note this is UK tax)
This exemption clearly applies to individuals with sound commercial reasons for using an offshore company or where UK tax planning is not the main purpose.
Another exception to these rules is that non UK domiciliaries would only be caught if the income was remitted to the UK where they claim the remittance basis.
Using an offshore company owned by an offshore trust, with the settlor (and his spouse) excluded from benefitting can also be attractive in avoiding these anti avoidance rules. There are therefore still methods to use the company to avoid the income tax anti avoidance rules. We’ve looked at these in more detail on our Offshore Company – Tax Planning page.