UK: International Tax - February 2011

Last Updated: 4 July 2011
Article by James Quarmby


I was in Hong Kong in November, attending the STEP Asia conference. As with many of these conferences the subject of asset protection – in its various forms – came up. This is an appropriate topic for Hong Kong as the locals all seem to work like crazy and, understandably, want to protect their hard earned cash. This got me thinking and talking – of which more below.

It wasn't all work though – I did get to check out quite a few local eateries. If you go to a 'Beijing style' restaurant (of which there are many) then you will have a choice of hundreds of different types of dumpling. A Chinese dumpling is not something made of suet and found bobbing around in a stew (something with which our English and Irish readers will be familiar) but instead a ball of something (hopefully) edible wrapped in a noodle. They will put almost anything in a dumpling. My personal favourite is one which is filled with a meat broth - delicious but alarming if you are not expecting it. Imagine, if you will, a tiny balloon filled with a very hot liquid. Now hold that balloon between two chopsticks and bring it to your mouth. The next bit is hilarious (but only for your friends, not you) - bite into a corner of the balloon and watch the liquid as its spurts out and hits you everywhere apart from your now redundant open mouth. Oh how 'we' laughed. If you have nice friends they will warn you to put the whole thing in your mouth and then bite, not nibble at the corner. I need new friends.

Asset protection

So, back to asset protection. In the UK, prior to 2006 UK domiciled people could create life interest trusts in exotic locations renowned for their asset protection laws, like Belize, Cook Islands and Mauritius. However, in 2006 our trust taxation laws were 'reformed' with the illogical result that transfers into life interest trusts were immediately taxable at the lifetime rate of 20%. I say illogical because prior to the change in the law the capital in a life interest trust was treated as part of the life tenant's estate for IHT purposes. So, there was no loss of IHT to the Treasury if an individual was a life tenant. Furthermore, our existing anti-avoidance legislation taxed the income and gains of the trust on the settlor life tenant anyway. It is therefore a mystery why the government made these changes. I suspect it was just spite - Labour didn't (and probably still don't) like people who use trusts.

While UK persons have been largely shut out of asset protection trust planning since 2006, exciting developments have emerged in a number of foreign jurisdictions to help resolve this problem. Perhaps the most intriguing innovation has been the creation of a new category of corporate entity laws offering many of the benefits of an asset protection trust. Properly structured, UK clients may transfer their family wealth into this vehicle to achieve comprehensive asset protection while not incurring IHT tax liability on the transfer. Of course, this equally applies to non-UK clients.

How does this work? Actually, the design is relatively straightforward - innovations in asset protection legislation enable the formation of corporate entities wherein the management rights over assets (i.e. voting rights) are severed from their economic ownership. The voting rights, which have no real value, can be funded into a traditional asset protection trust in a trust-protective jurisdiction. There will be no IHT on creating this trust as the value will be well below the nil rate band of Ł325,000. The economic ownership (i.e. non-voting shares) may be retained by the client. The mechanics of this structure require carefully-crafted documents that take advantage of unique asset protection entity laws developed over the last few years.

Properly applied, the result is formidable.

But this still isn't enough to save our capital rights holder if he goes into bankruptcy, right? Normally right because the trustee in bankruptcy will simply take over the capital share and enforce his right to withdraw capital. But, this is going to be difficult because he will need the consent of the voting shareholders (the offshore trustee), who won't be minded to give it. Also, as the company is in a jurisdiction which doesn't allow a liquidation of the company due to the distress of one of its shareholders, then we have a potent asset protection vehicle.

The new asset protection entity legislation is not unlike that used historically for clients in civil law countries, such as France, Spain, Switzerland even, as well, as afar afield as Argentina. However, unlike the traditional structures designed to reduce wealth or income tax, the new breed of asset protection entity law is specifically designed to shield clients' wealth from unforeseen creditors while (by coincidence) offering transparency for UK tax purposes.

I must stress that this only works if the client is solvent and has no pending claims at the time the structure is set up. In effect, therefore, this is just like taking out insurance. If you are interested in knowing more, then you know where to find me.

This month's household tip

I received a number of complaints last month that my special pensions' edition had no household tip. In fact, far more people emailed me about that than the very important subject matter of the edition. I had to carefully explain (though I don't know why I bother...) that special editions don't have tips, but normal editions do. However, I appreciate that this position is untenable and therefore in future there will always be a tip. The Liberal Democrats could learn a lot from my flexibility over policy.

This month's tip is to use cotton wool dipped in methylated spirit to clean greasy fingerprints and other dirt off photographs without injuring the surface. Far better than putting them in the washing machine I believe.

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