Invested in UK realty? Get ready to pay inheritance tax

In a rude shock to the multitude of well-heeled Indian investors who have invested heavily into UK's residential property, the UK government in a recent decision has now made it mandatory for them and their heirs to pay inheritance tax.

The decision was taken as part of its recent budget which was introduced in Parliament in June this year, wherein the UK government closed a loophole which had earlier foreign property investors to avoid paying inheritance tax by routing their realty investments in UK via an offshore company or by using a dual structure of an offshore trust and offshore company.

The new tax proposal is expected to be finalized by October this year.

As per the proposal to be effective from April 2017, any holding structure will be treated as a look-through and the gamut of UK property in the residential segment will be subject to the country's inheritance law.

With this, heirs of Indian property investors in the UK will also be required to pay inheritance tax regardless of any tax-planning efforts.

According to informed sources, the new tax rules are targeted to counter offshore tax structuring which had thus far enabled foreign investors to avoid paying inheritance tax on their UK residential property holdings.

As per tax experts, the shares held in offshore companies were not eligible for inheritance tax purposes earlier, as the value of the property invested in, was outside the purview of the UK estate inherited by heirs of investors.

The other ploy used to avoid payment of tax involved a dual structure, wherein an offshore trust held shares in an offshore company which owned property in the UK.

Further trustees were appointed in favoured tax havens like the Cayman Isles, British Virgin Islands and Mauritius, to manage the assets controlled by the trust, which included the properties in the UK.

This method was preferred in cases where there was a strong possibility of the Indian resident investor becoming a UK tax-paying resident anytime in the future.

Figures from UK's Land Registry reveal that non-UK based Indian investors invested approx 450-mn in buying an estimated 221 residential properties spread over prime locations across central London, including exclusive, upmarket destinations like Mayfair, St Johns Wood and Belgravia.

As per the prevailing laws, UK properties above the exempted limit of approx GBP 325,000 (INR 3.25 cr) are subjected to an inheritance tax of approx 40 percent.

According to a leading Mayfair-based property consultant, Indian buyers and investors are known to spend between 1-20 mn (roughly INR 10-200 cr) on the purchase of homes in areas like Mayfair.

The top preference is for spacious apartments or penthouses which account for nearly 70 percent of the realty transactions, while the rest prefer to acquire a mansion.

Experts further add that this budget proposal is not expected to have any major impact on the core realty market in London, which is expected to continue to attract international investors to its property trade.

However a small percentage of property owners in London are likely to offload their realty assets since the payment of IHT has now become unavoidable.

Adding to the dismay of Indian investors is the fact that if the heir is a tax resident of India, he or she will not be eligible for a tax credit back home for the inheritance tax paid in the UK by the heir.

According to the India-UK Tax treaty, tax credit is only made available when the income is doubly taxed. Under the Indian IT laws, any property received by way of a will or inheritance is exempt from tax in the country, leaving absolutely no scope for double taxation, thereby ruling out any hope for a tax credit.

Further, the scope of taxes covered under the India-UK tax treaty does not include inheritance taxes, which makes it impossible for the heir to enjoy any tax-credit facility under its purview.

And stacking the odds against such heirs of property in the UK are the new income-tax return forms in India which insist on extensive details on the full extent of their overseas assets and income, making it mandatory for heirs to furnish the full details of any inherited property in the UK in their tax returns.