Mixed bag for Canadian non doms as U.K. scraps special tax status

Wealthy Canadians in the U.K. will need to consider how their potential tax exposure will change as the newly elected Labour government begins the process of eliminating the country’s controversial non-domicile tax status.

The “non-dom” tax rules allow U.K. residents who do not regard the country as their permanent home to elect to be taxed only on the income and gains brought into the country, also known as on a remittance basis.

Non doms are also exempt from the U.K.’s 40% inheritance tax, which would otherwise apply to an individual’s global assets over a £325,000 threshold.

According to a study from the London School of Economics, Canadians have traditionally been among the most prolific users of non-dom status. The research found Canadians accounted for 2.6% of all those who elected to be taxed on the remittance basis in 2018, placing them among the top 10 nationalities that year.

Prime Minister Keir Starmer pledged during his campaign to overhaul the non-dom regime.

New arrivals to the U.K. are expected to face a Foreign Income and Gains (FIG) regime beginning in April 2025 that will exempt them from tax on their foreign income and gains — whether remitted to the U.K. or not — for their first four years in the country. After that period, people who remain resident will be taxed on their worldwide assets, just like those currently domiciled in the U.K.

The government is currently consulting on additional inheritance tax proposals that would see the worldwide assets of foreigners exposed after 10 years of U.K. residence. A first round of stakeholder feedback revealed strong opposition in particular to a 10-year “tail” that would leave long-term U.K. residents exposed to inheritance tax for a decade after giving up residency.   

Whatever the final legislation looks like, Scott Tindle, the Canada-born founder of Tindle Wealth Management in London, said it will mark the end of an era. And a long one at that: the non-dom tax status was introduced in the 1790s by prime minister William Pitt the Younger to reduce the burden on those with foreign assets at a time when the nation was adapting to the concept of income taxes.

Even after a series of 21st century reforms chipped away at non-dom benefits — notably the introduction of a 15-year cap on the remittance basis and a £30,000 charge to use the remittance basis beyond a seventh year — Tindle said the regime remains a generous system for foreigners accepting high-paying executive roles, as well as members of the super-rich.

“It attracted individuals who were clearly wealthy, but not necessarily billionaires,” he said.

With the changes, “If one is moving abroad purely for the benefit of having your worldwide income not taxed, you’re no longer going to be moving to Britain,” Tindle said.

Still, Kristopher McEvoy, a Canadian chartered professional accountant who works with clients from his base in Fonthill, Ont., said the new FIG regime will appeal to many Canadians interested in experimenting with life in the U.K.

“Even with the modified version, it presents a huge opportunity to develop some residential and social ties, try a job opportunity for a few years and not have your worldwide income taken into the U.K. tax net,” said McEvoy, a partner with Leap ACT. “I would say it makes a special amount of sense for people who think they may not be there for more than four years.”

When it comes to clients’ Canadian tax obligations, McEvoy explained that the U.K.’s updated regime will make little difference, since domicile plays no role in the determination of residency for Canadian tax purposes.

While the Canada-U.K. tax treaty does allude to the concept of domicile in the context of determining an individual’s tax residency, it’s only as a minor consideration for those with significant residential ties and assets in both countries.

“It would be more of a tiebreaker, not a primary or even secondary factor,” McEvoy said.

In most cases, he explained, Canadians claiming non-dom status in the U.K. would be treated as non-residents for tax purposes back home (in Canada), which means they are taxed only on their Canadian-source income at withholding tax rates that vary depending on the type of income. The tax treaty between the two countries also allows individuals to claim foreign tax credits for these amounts to apply against their U.K. taxes.

Under either the existing non-dom system or the proposed FIG regime, McEvoy explained that foreign-source income from a third country could potentially remain free from taxation in either country.

“For example, if a Canadian citizen leaves Canada, starts a business based in a low-tax or no-tax jurisdiction, then moves to the U.K., they would not be subject to any Canadian taxation,” he said.  “They could then choose in the U.K. whether they wanted to use the non-dom regime for the available period to not repatriate the funds to the U.K., and accordingly not pay tax on the income.”

During the transition, McEvoy said U.K. non doms with Canadian-source income will want to take extra care over the timing of their remittances, in order to make full use of any foreign tax credits available in the U.K.

“If they were later to end up in a situation where they owe U.K. taxes from bringing those funds into the U.K., they could have lost their right to claim the foreign tax credit,” he said. “Professional judgment and good advice is key when making a decision on this.”

Patrick Harney, a partner with the London office of Mishcon de Reya LLP, has spent much of the past two decades helping U.K. non doms with international tax planning.  

“Even though I’m someone that’s happily made a living out of advising clients on the remittance basis of taxation, I’m not … sorry to see it go,” he said. “It’s surprising that it didn’t go a long time ago.”

Harney said the simplicity of the new four-year FIG regime is likely to appeal to new and recently arrived Canadians, who may even be better placed than under the old rules, when they were unable to remit foreign income and gains without penalty.

The situation is more complicated for clients who were expecting to stay longer in the U.K. without triggering additional tax exposure, he added.

“Some non-dom clients are happy to suck up the extra income tax and capital gains tax, especially if they have kids in school and don’t want to leave. But it’s the inheritance tax that is upsetting some people,” Harney said.

The 10-year tail is “pretty awful,” not to mention “hard to enforce,” he added, noting that Canada and the U.K. do not have an inheritance tax treaty in place.

The fate of the non-dom status was sealed before the general election in July, since both the ruling Conservative Party and the opposition Labour Party had committed to scrapping it.

However, the precise details of the new regime are unclear thanks to Labour’s emphatic victory, since the new government was swept to power on an election platform that pledged to close the tax loopholes it had identified in the Conservatives’ previously announced plan for a non-dom replacement.

Many of the Labour Party’s objections related to interim measures proposed to deal with non doms already in the country when the new rules take effect. That included a proposed 50% discount on the foreign income that becomes subject to U.K. tax in the 2025/26 tax year, as well as relief that would allow these non doms to calculate capital gains on foreign assets using 2019 values, rather than the original acquisition cost.

Labour also opposed grandfathering protections allowing certain offshore trusts set up by non doms to remain exempt from inheritance tax if they later became domiciled in the U.K.

However, the new government has expressed more openness to the concept of a “temporary repatriation facility” that is designed to encourage non doms to remit historical income and gains to the U.K. before the end of the 2026/27 tax year at a reduced rate of 12%, instead of the typical rates of 45% applicable to income and 20% for capital gains.

Jonathan Rothwell, tax planning solicitor with London law firm Charles Russell Speechlys, said the two-year window could be extended by the new Labour government. In the meantime, he said existing non doms may want to adjust how they realize foreign income and gains based on when they moved to the U.K.

People with less than four years in the country may wish to defer realizing foreign gains until after April 2025, Rothwell said, when the new rules would allow them to realize income and gains and remit them to the U.K. free of tax, assuming they qualify for the FIG regime.

Conversely, non doms with more than four years of U.K. residence may want to accelerate the realization of foreign income and gains to benefit from the last days of the remittance basis of taxation. “Then potentially deferring remittances until after April [20]25, when they can benefit from the temporary repatriation facility,” Rothwell added.

Robert Reymond, also a partner with Charles Russell Speechlys, has spent the past two decades in London advising families on international wealth structuring. The reaction of his clients to the non-dom changes has been mixed, he said, noting that tax treatment has dropped down the priority lists of even his wealthiest clients when choosing a country of residence. 

“They do look more closely now than they did previously at lifestyle and places where they want to spend time and live, and in some cases bring up their kids, depending on what stage of life they are at,” Reymond said.

For more tax-focused clients, Switzerland and Italy are emerging as two of the most attractive alternatives to the U.K. Italy’s scheme allows new tax residents to shelter their foreign income and gains from local tax for up to 15 years in exchange for an annual payment of €100,000 (€200,000 for those who sign up in future).

One place wealthy U.K. non doms are unlikely to seriously consider as an alternative destination is Canada, said Reymond, who laments the loss of the immigration trust regime.

The trusts, which could previously be used to provide newcomers with a five-year tax holiday from income and capital gains earned on their non-Canadian assets, were abolished as part of the 2014 budget and never replaced.  

“I have to describe to them that the highest tax rate depending on the province is 54.8%, and now the capital gains [inclusion] rate has just increased as well,” Reymond said.

The FIG replacement proposals have yet to be introduced in the U.K. Parliament.