Are you a U.K. citizen?  A simple question that may trigger many additional questions from the estate advisor if the answer is, yes. Why?

Canada and the U.K.  impose income tax obligations on the basis of a taxpayer’s residency.  However, the current U.K. Inheritance Tax (IHT) applies to the much broader concept of domicile.  Therefore, someone may be exempt from U.K. income tax on the basis of residing in another country (i.e. Canada) but their estate may be subject to U.K. IHT even though they’ve not resided in the U.K. for many years.

Currently, the U.K. IHT is levied at a tax rate of 40% where the net estate exceeds the threshold of $325,000 GBP; there are some exemptions available.  If your client dies and is deemed to be a U.K. domicile, the inheritance tax applies to their worldwide assets, regardless of where those assets are located or where the deceased was living at the time of death.  Further, if a Canadian resident client owns U.K. assets (real estate, investment, pension), they need to be made aware of their estate’s potential exposure to U.K. IHT.

Who is a U.K. domicile?

In the context of tax and estate, the concept of domicile is nebulous and largely depends on the national and regional connections an individual has.  For U.K. purposes, domicile of origin is acquired at birth and is usually the jurisdiction in which you were born. For married parents, the father’s domicile is determinative, while the mother’s domicile governs if she is unmarried or widowed at the time of the child’s birth.  One can temporarily suspend their domicile of origin by independently moving to another jurisdiction with the intention of permanently or indefinitely settling in that new jurisdiction thus, abandoning their domicile of origin; this is called domicile of choice.

The U.K. also has the concept of deemed domiciled which plays a key role in determining whether the inheritance tax applies to your estate.  The HM Revenue and Customs (HMRC) – the tax authority in the U.K.-  could apply the deemed domicile rule for inheritance tax purposes if someone was:

• Born in the U.K., had their domicile of origin in the U.K. and was domiciled in the U.K. at any time within the three (3) calendar years before the relevant event (referred as the “three-year rule”), or
• A resident in the U.K. in at least fifteen (15) of the last twenty (20) previous tax years immediately before the relevant tax year.

This means someone who had moved to Canada three (3) years ago will be considered a Canadian tax resident for income tax purposes but may be considered a deemed domiciled of the U.K. for inheritance tax purposes.

Also, if the domicile of choice becomes an issue during the administration of the estate, it can very well revert back to the domicile of origin (U.K.) and if so, the U.K. IHT could be triggered.

Importance of Estate Planning

When an estate has an international component, it is important for the client to make arrangements during their lifetime, to document their estate plan and consider all potential tax implications involved.  When someone has, or had, a U.K. connection, I would suggest it is also relevant to properly document, evidence and establish their intention for abandonment of domicile from the U.K. and to clearly establish Canada as their domicile of choice; essentially, evidencing their intention to permanently settle in Canada with no intention of returning to the U.K..

When a client mentions a potential U.K. connection, you can appreciate the importance of advising them of the potential U.K. IHT implications to their estate.  You may want to suggest they consult with a cross-border tax and estate advisor.

From experience, few clients appreciate the complexity of their cross-border estate and the importance of arranging their affairs accordingly.  Most believe Canadian laws will apply and that is sufficient planning but in reality, any cross-border estate has layers of complexity that requires some expertise.  Also, the executor of such an estate should be made aware of the potential cross-border tax implications so he or she can make informed decisions prior to being appointed.  Having advised and assisted executors with the administration of cross-border estates, I can tell you firsthand that these matters are complex, time consuming and at times frustrating to the executor and the beneficiaries.  An advisor with cross-border expertise will be able to shed light on the issues and communicate to all the process and manage everyone’s expectations.

*** The U.K. 2024 Spring Budget announced measures that will see the IHT “domicile regime” move to a “residence based” regime starting in 2025.  If these announced measures are implemented, it will impact how we approach potential IHT exposure for our clients.  Cross-border advisors need to keep an eye on these newly introduced measures.