This chapter from Estate Planning for UK Individuals Residing or Investing Abroad (Bloomsbury Professional) is part of a looseleaf service that provides a detailed consideration of the use of the overseas trusts, the importance of wills, the interaction of inheritance laws and the many pitfalls involved when investing overseas. Adopting a country-by-country approach, it includes information on the countries that have the greatest appeal to UK nationals - Spain, Portugal, Italy, France, Hong Kong, Australia, the Channel Islands, Germany and the Republic of Ireland.
Enormous problems can arise where an individual's estate falls wholly or partly within different legal systems, be they civil law, common law or a mixture of both. Ideally, an individual should try to arrange his affairs so that all his assets come under the same legal system and jurisdiction. This assumes the legislation permits the individual's wishes regarding the distribution of the estate to be acted upon.
In the UK, a properly executed Will ensures in most cases that the assets of the deceased pass as directed, without specific provision for direct descendants as applied in some jurisdictions. It is this major difference which can, if not addressed properly, give rise to expensive legal costs in resolving the interplay between differing laws.
As regards taxation, insufficient planning can result in there being a taxable estate in more than one country and consequently:
(1) tax liabilities in a foreign jurisdiction;
(2) double taxation if not covered by an appropriate double tax agreement;
(3) increased taxes as different localities may tax an event differently;
(4) increased professional fees.
Although taxation is an important consideration in estate planning, of greater importance is the devolution of a person's estate. To a large extent English law allows complete freedom to dispose of assets by Will, whereas a number of other European countries operate some form of forced heirship, that is to say a system whereby a specified portion of the individual's estate must pass to specified family members. In England, however, claims for what can be termed 'reasonable financial provision' can be made by certain individuals under the Inheritance (Provision for Family and Dependants) Act 1975, in respect of the estates of those who die domiciled in England and Wales.
The differences between common law systems and civil law systems can, and often do, lead to misunderstandings, especially in the area of terminology. For example, 'succession' and 'domicile' have different meanings under common law to those under civil law.
It is important, therefore, in an international context to be aware of the law that will govern succession and how this law is to be ascertained. This may depend upon the individual's domicile, nationality or residence, as well as (and most importantly) the situs of the assets within the estate. Furthermore, some countries, such as France, have a law governing succession to movables and a separate law dealing with immovables, whereas in other countries there is a single law covering both types of property.
Where an individual dies domiciled in England and Wales, English law normally applies to movable assets and the law of the country where the asset is situate applies to immovables. However, the normal rules may not apply, eg if the deceased is not an English national or not normally resident in England, and depending on where those assets are situated.
If the individual dies domiciled outside England, English law continues to apply to all immovable property situate in England, while, under English law, movables usually pass in accordance with the law of the country of the deceased's domicile. (These rules, however, may not apply in certain circumstances.)
Another problem area concerns countries, such as France, which operate a matrimonial property regime which can produce some surprising, and perhaps unwanted, complexities. For example, it is quite feasible for an individual's estate to be generally governed by the law of one country whilst property purchased during marriage is governed by the law of another country.
In trying to provide a solution to some of the above-mentioned problems there are Hague Conventions covering Administration of Estates, Matrimonial Property Regimes, Recognition of Trusts and Succession to Deceased Persons' Estates. Unfortunately, few countries have actually ratified these Conventions. However the EU Regulation on Succession was agreed between most Member States in August 2012, and this should simplify matters when it comes into force in 2015 (see further [I.212A]).
Part I of this looseleaf provides a basic guide to inheritance tax (IHT) in the UK, thus giving a base against which to compare the regulations applying in other jurisdictions, which are dealt with in Part II.
B. Legal persons and structures
At the outset it is necessary to define in broad terms the status of various classes of person and the most common legal structures in the UK in order to understand their relevance for tax purposes. Consideration should then be extended to the major points which impact upon ascertaining if there is a charge to tax and, if so, what matters need to be further considered.
Often, and in particular in legislation involving taxation, a distinction is drawn between individuals and persons. Usually, the term 'persons' includes trustees and companies, whereas the term 'individual' would not include either.
In England and Wales individuals of mental capacity have full legal capacity upon attaining the age of majority at 18 years. Under that age, the individual is an infant and subject to certain legal restrictions such as being (generally) unable to make a Will.
Although an infant can enter into a contract, he can in certain circumstances subsequently declare that contract void. Also, it is not normally possible for an infant to give a valid receipt or hold legal title to an interest in land.
It is primarily for these reasons that in a number of situations the interests of infants are held on their behalf by trustees, either under an express trust or under a constructive trust where income and capital entitlements may be held for different persons (see [I.36]).
Under English law a partnership is the relationship which exists between individuals, or companies, ie between persons who carry on a business in common with a view to profit. Unlike Scottish law, a partnership under English law has no distinct legal personality apart from its members.
Ideally the terms of the partnership are drawn up in a deed which would set out the partners' entitlements to profits and losses as well as the capital assets of the partnership. Also covered would be the partners' duties to each other and the duration of the partnership arrangement.
The Partnership Act 1890 provides that a partner is jointly and severally liable with all the other partners for certain debts and obligations of the partnership. It is possible, however, to create a limited partnership which would include limited partners being liable for debts and obligations only to the extent of the capital they have introduced. In all other cases partners are personally liable, which in extreme cases would extend beyond partnership assets to their personal assets.
Limited liability partnerships
The limited liability partnership (LLP) was recognised by the Limited Liability Partnership Act 2000 and this structure is now the subject of much consideration when determining the type of entity to be used for the carrying on of a trade or profession.
An LLP yields most of the advantages of a general partnership while affording the members (as 'partners' in an LLP are called) the advantages of limited liability. A partnership represents a very flexible business vehicle and one which offers a number of taxation advantages to partners/members.
LLPs are in law regarded as 'bodies corporate' and will be subject to aspects of company law. However, for tax they would generally be treated as partnerships and thus will be regarded as transparent for tax purposes, with each member being assessed to tax on their share of the LLP's income or gains.
Care should be taken, however, where a UK LLP is in some way connected with another country. It is, of course, for the tax authorities of other countries to decide how to tax UK LLPs under their own tax codes. Indeed, this can generate some cause for concern, especially in those countries where an LLP is not a recognised entity.
Unlike a partnership, a company has a separate legal identity distinct from its shareholders.
It is not possible for a company to change its place of registration, although it can change the location of its registered office or main place of business.
The domicile of a company may be relevant in the UK in connection with the taxation of settlements established by the company and may also be relevant in other countries. Usually, a company's domicile is that of the country in which it is registered, or in which it is incorporated. As already stated, it is not usually possible to change the domicile of a company, although for some UK taxation purposes it is possible to change the situs of company shares by moving the place at which the company's share register is kept and maintained.
The concept of a company, as understood under English law, tends to be similar in most countries thereby providing an internationally understood vehicle for the contracting of business or the holding of assets.
A trust is a concept known to common law countries, and provides a flexible way of holding property. It has been adopted for a wide variety of purposes including, for instance, pension schemes and unit trusts. Trusts are often encountered as a medium through which family wealth is held. Family trusts can be created for a number of reasons and, in all cases, the settlor will perceive that there is some advantage, which might be either practical, charitable, or tax-orientated, or a combination of these. A trust might be created, eg to ensure that capital is protected whilst the beneficiary is a minor, or to ensure that capital ultimately will devolve upon those whom the settlor wishes to benefit, subject to providing someone else with a prior interest in income.
Where property is settled upon trust, legal title to the property vests in the trustee. The trustee, however, is only a legal owner, and in the absence of authority cannot benefit from the trust. The settled property, and the income arising from it, are held for the benefit of the beneficiaries of the trust, on terms that will be contained in the instrument (assuming there is one) creating the trust. Trusts can be created in many ways, either during lifetime, or on death, and statutory trusts can take effect, eg under the Administration of Estates Act 1925 where an individual dies intestate leaving a widow or widower and minor children.
The UK law relating to trusts is a combination of statute law (including the Trustee Act 1925 and the Trustee Act 2000) and case law. There are statutory limitations upon both the period during which property can be settled upon a (non-charitable) trust, and the period during which income can be accumulated.
As regards the former, the rule is designed to prevent a trust from lasting indefinitely. In general the rule requires the interest of a person, or persons, to vest before the expiry of certain periods of time, such as a specified life in being plus 21 years. In modern trusts, a fixed period of 80 years is generally adopted. As regards accumulation, there are a number of alternative periods during which income can be accumulated (and these are contained in the Law of Property Act 1925, s 164 and the Perpetuities and Accumulations Acts of 1964 and 2009). Those of most common application are:
(1) 21 years from the creation of the trust;
(2) the minority of any person who under the trust would be entitled to the income if of full age;
(3) 21 years from the death of the settlor or testator.
For lifetime trusts created on or after 6 April 2010, the only applicable perpetuity period will be 125 years from the commencement of the trust. Limits on the period for which income may be accumulated will not apply. Where a trust is created by Will, the new rule applies to Wills executed after 5 April 2010 but not to Wills executed earlier.
The terms of the trust will often be tailor-made to satisfy the specific wishes of the settlor or testator, and there is scope for considerable flexibility for the draftsman. However, an express trust can often be classified as falling within one of the following categories:
(1) Interest in possession (or life interest) trust.
Under the terms of a simple interest in possession trust the income will be payable to a person for a period—which might, for instance, be the lifetime of that person, or until he attains a specified age—and, subject to that interest, the capital becomes held for that or some other person absolutely.
(2) Discretionary trust.
In the case of a discretionary trust, the income is distributable, at the discretion of the trustees, to any one or more persons included in the defined class of beneficiaries, and often with power to accumulate the undistributed income (as mentioned above).
(3) Accumulation and maintenance trust.
This is a discretionary settlement which, subject to satisfying specific conditions, was outside the IHT charging regime for discretionary trusts (ie ten-year and exit charges). The conditions to be satisfied were that:
(a) one or more persons will, on or before attaining a specified age not exceeding 25, become entitled to the settled property—or to an interest in possession in it; and
(b) no person presently has an interest in possession in the settled property, and income is to be accumulated so far as not applied for the maintenance, education or benefit of those persons.
The Finance Act 2006 amended the IHT legislation so that new accumulation and maintenance settlements (created after 22 March 2006) do not benefit from special IHT treatment. Moreover, existing settlements ceased to qualify on 6 April 2008 unless their terms were altered before then to give beneficiaries the right to capital absolutely at or before age 25.
Wide overriding powers can be conferred upon trustees, whereby they can vary the terms of the trust. For example, in the case of an interest in possession trust, the trustees may have the power to revoke the 'income beneficiary's' interest, and to appoint that future income is to be payable to another person.
For a trust to be validly created, three things are necessary:
(1) a sufficient intention to create a trust;
(2) certainty of subject matter;
(3) certainty of who should benefit under the trust.
A trust which appears on its face to be an active trust may be void and unenforceable as a sham where, for instance, the settlor exercises dominion and control over the trustee and treats the assets as his own (Rahman v Chase Bank (CI) Trust Co Ltd  JLR 103) or where the trust was not intended to be acted upon, and was entered into with some different or ulterior motive (Midland Bank plc v Wyatt  EGCS 133).
If property in an overseas jurisdiction is to be held upon trust, or if an individual domiciled or habitually resident overseas wishes to create a trust, a question arises of whether the trust will be recognised in that jurisdiction. As already mentioned, a common law system acknowledges concepts such as a trust whereas a civil law system generally does not.
Whether a trust will be recognised in an overseas jurisdiction and, if it is not, what the legal and fiscal consequences may be in that jurisdiction, are principally matters on which advice should be obtained from the relevant jurisdiction. If a trust is not recognised, the overseas jurisdiction might, for instance, make the trustee personally accountable to an individual claiming entitlement under the forced heirship rules of that jurisdiction. Considerable care is therefore required when establishing trust structures which involve more than one jurisdiction.
The Hague Convention on the Law Applicable to Trusts and on their Recognition addresses this problem. The purposes of the Convention are twofold: to determine the law by which a trust is to be governed, and to specify the consequences of recognition of a trust. So far, the Convention applies to Australia, Canada (excepting Ontario and Quebec), China (only in relation to Hong Kong), Guernsey, the Isle of Man, Italy, Jersey, Liechtenstein, Luxembourg, Malta, Monaco, the Netherlands, San Marino, Switzerland and the UK (by the Recognition of Trusts Act 1987). Signatories to the Convention that have yet to ratify it are Cyprus, France and the United States.
As regards the law of a trust, the Convention provides that a trust shall be governed by the law chosen by the settlor, and that choice may be either express or implied. If the law chosen does not provide for trusts, or if no applicable law has been chosen, then the law is that with which the trust is most closely connected, which is determined by reference in particular to:
(1) the place of administration of the trust designated by the settlor;
(2) the location of the assets of the trust;
(3) the place of residence or business of the trustee;
(4) the objects of the trust and the place where they are to be fulfilled.
Any trust created in accordance with the law specified in the Convention is to be recognised by a contracting state. The consequences of recognition imply, inter alia, that the trust property constitutes a separate fund, and that the personal creditors of the trustee shall have no recourse against the trust assets.
The Convention applies to trusts regardless of the date on which they are created, although a contracting state may reserve the right not to apply the Convention to trusts created before the date on which, in relation to that state, the Convention entered into force. Trusts subject to the Convention can be created either inter vivos or on death and, if a contracting state chooses, those trusts declared by judicial decisions.
It is to be hoped that more states will ratify the Convention, thereby avoiding conflicts of law between jurisdictions. However, it is important to appreciate that the Convention applies only to trusts once they have been created. It does not apply to preliminary issues which may affect the validity of Wills, or of other acts by virtue of which assets are transferred to trustees. Nor is the Convention capable of overriding laws of a contracting state which cannot be derogated from by voluntary act, such as succession rights. Thus, in the case of the death of an individual where the law of succession applicable to the deceased's estate is, say, France, any provision in the Will settling property upon trust would be disregarded, in so far as the property settled is required to satisfy the rights of the heirs.
Where an individual is contemplating making a trust, either during lifetime or under the terms of his Will, in respect of land or other property in a country that does not presently recognise trusts, it is necessary to consider whether a trust, or alternatively some other structure, should be used. If it is anticipated that that country will in due course ratify the Convention, it may be appropriate to create a trust. However, a number of civil law countries do have structures that, in a number of respects, are akin to trusts. Although most of these do lack the flexibility of trusts, there can nevertheless be some benefits in using them. In particular, local advice on the tax and legal consequences of such a structure will almost certainly be much more focused and specific than would be the case if the unrecognised concept of a trust is adopted. However, it has to be said that the converse can also apply, and there can be uncertainty, from the UK perspective, in determining what, for instance, a Liechtenstein Anstalt represents, and how UK domestic tax law should be applied to it.
Perhaps the better known civil law trust equivalent is the 'foundation', such as the Dutch Stichting and the Liechtenstein Stiftung. Such a foundation is an institution with a separate legal personality, over which the founder will have little, or no, control; it can bear some similarity to a company, being governed by bye laws and administered by a council. The property transferred to a foundation will be dedicated to a purpose, which may be charitable, or for the public benefit, or for members of a family.
In determining the extent of tax charges in the UK, domicile is a most important concept. Domicile, as described in this section, is a concept specific to UK law.
Although the UK Finance Act 2008 has made significant changes to the way in which non-UK domiciliaries are taxed, there remain significant tax advantages applicable to non-UK domiciliaries. In addition to taxation, the concept of domicile is a fundamental feature of English law which affects many aspects of a person's life including their property rights, their succession issues, their ability to make a Will or a gift, their ability to marry and divorce and their rights in respect of children.
Domicile of origin
An individual's domicile status is of great importance not only for taxation purposes but also for that of succession and matrimonial matters. A large number of countries operate on the basis of habitual residence or nationality (which they may call 'domicile').
In the UK, domicile is a concept of general law. At birth, an individual acquires a domicile of origin which (in the case of a legitimate child) corresponds with the domicile of that individual's father. If there is no existing father, then the child takes the domicile of the mother. It will be apparent, therefore, that the country in which a child is born is not necessarily of great importance in terms of domicile.
Domicile of choice
Under English law, while a child is below the age of 16 years its domicile status can change by way of a domicile of dependency which, in the case of a legitimate child, follows a domicile change of its father if its parents are still married. Otherwise a domicile of dependency can follow the domicile of the child's mother if the mother has custody of the child. This domicile of dependency, or the original domicile of origin of an individual who is over the age of 16, can only change by acquiring a domicile of choice in another country. A domicile of choice is acquired in another country if the individual resides in that country and resides there with the intention of remaining permanently or indefinitely.
It can be the case that the retention of a UK domicile status may be beneficial for succession (ability to control how assets pass under a Will), but less advantageous for tax purposes.
A change of domicile status is not claimed or granted on easy terms. The burden of proving any change of domicile status rests, under general law, with the person who is claiming such a change. For example, where an individual with a domicile of origin in England purports to have acquired a domicile of choice in, say, Spain, it will be up to that individual to prove that a Spanish domicile of choice has been acquired. In addition, it should not be forgotten that where a domicile of choice is abandoned without the clear acquisition of another domicile of choice then the domicile of origin automatically revives. In the above example, therefore, if the individual were to leave Spain permanently to take up temporary residence in, say, Italy, then his English domicile would revive.
In addition, as with the UK which imposes a three-year deemed domicile for IHT purposes on those leaving, a number of other countries impose similar rules whereby emigrants remain within the tax net for a set number of years after leaving.
Under English law, a person can only have one domicile at a time and must always have a domicile. However, it is important to note that other countries have their own concept of domicile which is often more akin to habitual residence. A person may therefore be domiciled in the English sense in one country, but also 'domiciled' somewhere else in accordance with the law of another country.
It is vital to be aware of the special rules that determine an individual's fiscal domicile. For IHT purposes only, an individual is deemed to be domiciled in the UK if either of the following tests is satisfied:
(1) if he was domiciled in the UK as a matter of general law, within the three years immediately preceding the time of the chargeable event; or
(2) if he was resident in the UK in not less than 17 of the 20 years of assessment ending with the year of assessment in which a chargeable event takes place.
Under the second test it will be seen that a long-term UK resident who is not under general law domiciled in the UK can still be treated as domiciled in the UK for IHT purposes.
D. Double tax relief
The impact of different taxes requires consideration in order to ascertain if relief can be obtained for 'similar' taxes borne in different locations.
Where there is a charge to IHT or capital gains tax (CGT), and there is at the same time a charge to tax in a territory outside the UK, relief from double taxation will usually be available, either under the terms of a double tax agreement between the UK and the other territory, or by unilateral relief. It is convenient to consider IHT and CGT separately.
At present the UK is party to double tax agreements with some ten countries. However, where relief can be given both under an agreement and by unilateral relief, the relief given is whichever is the greater.
Unilateral relief is given by way of a credit for the amount of overseas tax imposed in respect of any disposition, and which is attributable to the value of any property, provided that:
(1) the overseas tax is of a character similar to IHT, or is chargeable on or by reference to either death or a gift; and
(2) IHT chargeable on the disposition is also attributable to the value of the same property in respect of which the overseas tax is charged.
Where the property is situated in the overseas territory, the credit is an amount equal to the overseas tax. However, where that tax exceeds the IHT, relief cannot be granted for the excess. If the transfer is partly exempt from IHT (eg a property bequeathed to the deceased's widow and son in equal shares) the whole of the overseas tax is relieved against IHT on the chargeable part.
The above rules deal with the straightforward situation where the property is situated in the overseas territory—and, for this purpose, the situs of property is determined by reference to UK domestic law (which includes the terms of any treaty between the UK and the relevant overseas territory). However, where the property is situated:
(1) neither in the UK, nor in the overseas territory; or
(2) in both the UK and the overseas territory,
the credit is calculated in accordance with the formula described below.
The first of those categories envisages the situation where property is situated in a third territory, and where tax is charged in respect of that property in both the UK and the overseas territory. The second category, in the view of HM Revenue and Customs, covers the situation where there is a conflict of laws, and the property is treated as situate in the UK, under UK domestic law, but situate in the overseas territory under the law of that territory. Where either of these situations arises the credit for overseas tax is calculated in accordance with the following formula:
where A is the amount of UK IHT, B is the overseas tax and C is whichever of A and B is the smaller.
Before granting relief the Revenue usually requires evidence that the overseas tax has been paid by the person liable to pay it, although provisional relief is sometimes granted. In calculating the amount of overseas tax available for credit, the Revenue's practice is to use the sterling rate of exchange at the date of payment of the overseas tax.
The UK presently has agreements with France, India, Italy, the Netherlands, Pakistan, the Republic of Ireland, South Africa, Sweden, Switzerland and the USA. Those for France, India, Italy, Pakistan and Switzerland apply only to IHT on death. New treaties have been negotiated with Denmark, France and Italy, but these have yet to be ratified.
It is not appropriate in this publication to consider the terms of each separate treaty. Conversely, it is dangerous to attempt to generalise, and in any specific case the reader is advised to refer to the terms of the relevant treaty. Having said that, it may be helpful to observe that the general effect of the treaties is to determine the fiscal domicile of an individual, and for the territory in which the individual is domiciled, at the time of death or transfer, to be given exclusive taxing rights subject to the other territory also having taxing rights in respect of certain property (eg immovable property situate in that territory).
Capital gains tax
Relief from double taxation can be obtained either by unilateral relief or, where the UK has a double tax agreement with the relevant territory, by a claim for double tax relief. Alternatively, foreign tax borne by the person making the disposal is allowable as a deduction in computing the gain.
Unilateral relief can be claimed by way of credit against UK CGT, for overseas tax paid under the law of the territory outside the UK, provided that the tax is computed by reference to the same gain; in practice, relief is given notwithstanding that the foreign territory taxes the gain as income.
Where a capital gain is rolled over (eg through roll-over relief) this can result in a loss of unilateral relief, because any CGT subsequently becoming payable (eg on disposal of the asset into which the original gain has been rolled over) will not be computed by reference to the same gain to which the overseas tax relates. However, in those circumstances, the overseas tax paid may be deducted in computing the gain.
Deductions for foreign tax
If unilateral or treaty relief is not claimed, foreign tax which is borne by the person making the disposal is allowable as a deduction in computing the chargeable gain. This will be advantageous if there is a loss for UK CGT purposes, or where the capital gain has been deferred (eg through reinvestment relief).
E. Lifetime gifts
An event which can be beneficial in one jurisdiction may have an adverse effect elsewhere.
As has been noted earlier, it may be possible to avoid the consequences of a country's domestic laws, be they taxation or succession, by the making of timely lifetime gifts. In this context, it is important to ensure that such gifts are not only timely but also valid.
Under English law both an equitable interest and legal interest can be the subject of gifts. A gift of an equitable interest then subsisting must be made in writing.
A gift of an interest in land must be evidenced in writing (unless the gift is of the equitable interest then subsisting which, as stated above, must be made in writing) and where the subject matter is registered land full legal title only passes when the donee is registered as the owner.
It is possible to create and dispose of a leasehold interest for a term of years whilst retaining the freehold reversion. In some other countries where freehold and leasehold interests are not recognised, it may be possible to gift, say, an interest in occupation whilst the underlying interest in the property remains with the original owner.
Where the subject matter of the gift concerns chattels, a gift can either be effected by delivery, with the intention to make a gift, or by deed.
As with registered land, legal title to shares only passes when the donee is registered in the company's register of shareholders. However, a completed gift of shares, or any other asset, would be effected by a declaration of trust signed by the donor stating that he is holding the gifted asset upon trust as trustee for the intended donee.
Countries that operate forced heirship rules invariably include special rules which effectively claw back gifts made during a lifetime. Under English law where a gift is made by virtue of the undue influence of the donee, or any other person, the gift will be voidable. Similarly, the courts may become involved if there is a significant mistake and/or misrepresentation.
Also of importance are the laws which can attack transactions at an undervalue and certain transactions effectively intended to defraud creditors.
The various rules are set out in the Insolvency Act 1986. A transaction at an undervalue covers a gift or transaction for no consideration, a transaction entered into in consideration of marriage and a transaction entered into for consideration significantly less than the market value of the consideration provided by the transferor. These provisions all come into play where the individual who entered into the transaction is then declared bankrupt. In such circumstances the courts may make an order to restore the position to what it would have been if the gift or transaction had not been entered into. All transactions undertaken within the period of five years of the presentation of a bankruptcy petition may be re-opened; any transactions which were entered into between two and five years prior to the presentation of a bankruptcy petition, however, can only be re-opened if the individual was unable to pay his debts at the time of entering into the transaction, or became unable to do so by virtue of making it. In other words, if at the time a gift was made the donor was solvent and remained so after the gift then these provisions of the Insolvency Act 1986 would not apply (except in the case of a transaction within two years before the bankruptcy petition is presented).
There is no time limit, however, where a transaction at an undervalue is entered into for the purpose of putting assets outside the reach of a creditor and, in such circumstances, the courts may make an order to restore the position to what it would have been if the gift or transaction had not been entered into.
Although some other countries may have less stringent rules regarding the protection of creditors these must be seen within the context of international laws governing succession, forced heirship, asset protection trusts etc.
F. Situs of assets
The location of assets plays perhaps the most important role in determining which jurisdiction has the right to tax and the law which governs how assets should pass on death.
Movables and immovables
It is perhaps unfortunate that the law governing the situs of property can vary not only from country to country but also between movable and immovable. For UK IHT purposes there are no special rules for determining the location of property and, therefore, the normal common law rules of the UK will apply. For UK CGT the legislation sets out rules for the location of certain types of property. Although not specifically dealt with in this publication, so far as income tax is concerned the normal common law rules apply for determining the location of assets.
The situs of assets is a subject in itself and, therefore, specialist advice should be sought. However, the general rules in the UK can be summarised as follows.
Company shares and securities fall basically into three categories:
(1) registered shares and securities are situated where they are registered—shares and securities which are transferable upon more than one register are situated where they would normally be dealt with in the ordinary course of business;
(2) government securities are situated at the place of registration;
(3) bearer shares and securities, whether registered or not, are situated where the share certificate is physically located. However, for CGT purposes bearer securities in a UK-registered company are treated as UK situs assets with effect from 16 March 2005.
An interest in land is situated where the land itself is situated.
Chattels are situated wherever they happen to be physically located at the relevant time.
For IHT the normal rules governing the location of debts are:
(1) debts are normally situated where the debtor resides;
(2) bank debts owed by a bank in respect of a bank account are situated at the branch where the debt is primarily repayable—in practice, this is normally where the account is maintained;
(3) specialty debts, being debts due under a deed, are situated where the deeds are kept/found;
(4) judgment debts are situated where the judgment is recorded.
For CGT, there are specific rules covering the location of certain assets (see the Taxation of Chargeable Gains Act 1992, s 275).
Trust interests are usually situated where the interest can be enforced, and so an interest under a trust would be enforceable in the country of which the trustees are resident.
When the estate has yet to be administered, the location of a person's interest in the estate of a deceased person should, by virtue of specific IHT legislation, be considered on an asset-by-asset basis. The Inheritance Tax Act 1984, s 91 contains special rules for IHT purposes under which a person is treated as having a direct interest in the net assets of a testator's residuary estate. Consequently, the situs of each of the underlying assets is the key.
The location of an interest under a trust is dependent upon whether, under the law governing the trust, the beneficiary has a beneficial interest in the trust property or whether under that law he has merely a right of resort to a court in order to compel the trustees to discharge the task imposed upon them. If the beneficiary is given a beneficial interest in the trust property then his interest under the trust is located in the country where the trust property is situated. If the beneficiary is given a right of action against the trustees then his interest under the trust is located where the action may be brought, this usually being the trustees' place of residence.
The goodwill of a business is situated in the country where the premises to which the goodwill is attached are situated (ie where the business is carried on).
Patents and trademarks are situated in the country where they can be effectively transferred under the law governing their creation (ie where it is registered or operative).
Land is obviously situated where it is in fact located and any interest, eg a freehold reversion, in land is situated where the land is situated.
The event of death triggers the impact of the deceased's wishes under his Will or, in the absence of a valid Will, the intestacy rules.
UK domiciled individuals
In general, where the deceased dies domiciled in England and Wales, English law governs movable property wherever situate and immovable property situate in England and Wales. Scottish law governs individuals domiciled in Scotland. The law of Northern Ireland governs individuals domiciled there. Foreign immovable property is governed by the law of the country in which it is in fact situate, unless that law refers matters to the law of the deceased's nationality or habitual residence.
It can be seen, therefore, that foreign immovable property may present a problem if situated in a country which has forced heirship rules, which can override the Will of the deceased. For example, where the deceased owned land situate in Spain, the Spanish succession law may apply to that land. On the other hand, some countries may effectively override their own succession law and apply the English rules as though the land were situated in England.
Normally a Will is typed, although this is not essential, and can be in any language. The Will must be sufficiently signed and this may be by some other person in the testator's presence and at his direction. The signature has to be made or acknowledged by the testator in the presence of two or more witnesses present at the same time. Further aspects of a UK Will are covered in the UK chapter in Part II of this looseleaf.
Where the deceased is domiciled in England and Wales and dies intestate, ie not having made a Will, the disposition of the estate is largely governed by the Administration of Estates Act 1925. Dependent upon whether there is a surviving spouse the estate devolves as outlined below.
(1) Where the deceased leaves no issue who attain the age of 18 or marry under that age and no parent, or brother or sister or issue of a brother or sister who attain the age of 18 or marry under that age, the whole estate passes to the surviving spouse.
(2) If there are such issue, the surviving spouse takes all the personal chattels (furniture, books, cars, household and personal articles etc not used for business purposes); a statutory legacy of £250,000 with interest; and an interest for life (entitlement to income only) in half the remaining available estate. When the surviving spouse dies that half share passes to such issue. The other half passes immediately to such issue on the first death.
(3) If there are no such issue of the deceased but one or more of a parent or brother or sister or issue of a brother or sister who attain the age of 18 or marry under that age, then the statutory legacy is increased to £450,000. The surviving spouse also takes one half of the remaining available estate absolutely whilst the other half goes to the surviving parent or parents in equal shares and if there are none it goes to the brothers and sisters of the deceased or the issue of a brother or sister who obtain the age of 18 or marry under that age.
There are special provisions regarding the matrimonial home. In particular, the surviving spouse is given the right to exchange an absolute interest under the intestacy for the deceased's interest in the home. This right must be exercised within 12 months of the date of grant of Letters of Administration. If the spouses own the property as joint tenants, there would be no need for such a right to be exercised as the property automatically passes to the survivor.
No surviving spouse
In broad terms the estate passes in the following order with no class of beneficiaries participating unless all those participating in a prior class have predeceased or failed to obtain a vested interest:
(1) issue of the deceased (children, grandchildren);
(3) brothers and sisters and the issue of any deceased brother or sister;
(4) half-brothers and half-sisters and the issue of any deceased half-brother or half-sister;
(6) uncles and aunts and the issue of any deceased uncle or aunt;
(7) half-uncles and half-aunts and the issue of any deceased half-uncle or half-aunt;
(8) the Crown.
Non-UK domiciled individuals
If the deceased dies domiciled outside the UK and a grant of administration is obtained in any country to which the Colonial Probates Act 1892 applies, that grant may be resealed with the seal of the High Court and then has the same effect as an English grant. This procedure can greatly simplify probate matters and still applies to Australia, New Zealand, Northwest territories of Canada, South Africa and most former British possessions in the Caribbean and Africa.
There are different rules for Scottish confirmations and Northern Irish grants.
English immovable property will be governed by English law whilst foreign immovable property will be governed either by the law of the country in which the property is situate or the appropriate law of nationality or habitual residence. Movable property will be governed by the law of the deceased's last domicile unless the relevant law refers matters to the law of the deceased's nationality or habitual residence.
A foreign Will may be accepted in the UK in certain prescribed circumstances. The UK is a signatory to the 1961 Hague Convention on the Conflict of Laws and, in accordance with the Wills Act 1963 which implements that Convention, a Will is treated as being valid in form if it is executed in accordance with:
(1) the internal law of the jurisdiction where it was executed; or
(2) the internal law of the jurisdiction where the deceased was domiciled or habitually resident either at the time the Will was executed or at the date of his death; or
(3) the internal law of the testator's nationality at the time the Will was executed or at the date of his death; or
(4) so far as immovables are concerned in accordance with the internal law at the place where the property is situate.
For those who die domiciled outside England and Wales where there is no valid Will a grant of Letters of Administration in respect of English assets may be made on application:
(1) to the person entrusted with the administration of the estate by the court having jurisdiction at the place of the deceased's domicile;
(2) to the person beneficially entitled to the estate by the law of the deceased's domicile, and, if more than one, as the court decides;
(3) as the court decides;
(4) if the whole or substantially the whole of the estate in England and Wales comprises land, in accordance with the law which would have been applicable had the deceased died domiciled in England and Wales.
The law applicable to succession to an individual's estate is, under English law, largely dependent upon two factors:
(1) the domicile status of an individual;
(2) the nature of the property, ie whether it is movable or immovable.
Under English law succession to movable property is governed by the law of the individual's domicile whereas if the deceased owned immovable property the law of the country in which the property is located normally applies to determine succession issues. For instance, if the individual owned immovable property in Australia, Australian laws apply (under English law).
It is important to recognise that the above comments represent the English conflict of law rules. Other countries use different connecting factors to determine the law applicable to a succession. For example, some countries look to the law of an individual's country of habitual residence or nationality in order to determine inheritance issues. The question then arises whether the reference to eg the national law is a reference to the internal law of that country or whether its conflict of law rules are included. This may result in a reference back to the first country or, indeed, a reference to a third country. The whole area of conflict of laws is immensely complicated and each case must be considered on its own facts.
Under English law, where the deceased dies domiciled outside the UK, English immovables are still governed by English law while foreign immovables will be governed by the laws of the country in which the property is situated, eg France. Movable property is (under English law) normally governed by the law of the deceased's last domicile.
Common law systems, eg England and Wales, have separate laws relating to succession and the administration of estates, whereas civil law systems do not distinguish between the two, regarding both as a form of succession.
It is common under civil law systems for the assets and liabilities of the deceased to pass automatically on death to their heirs, with some countries granting the heirs the option to reject their inheritance.
In contrast, under English law the deceased's estate automatically vests in executors (where they are appointed) who collect the assets and settle the debts of the deceased before they finally distribute the balance to beneficiaries, in accordance with the terms of the deceased's Will. An executor may renounce probate.
Where the deceased died intestate, the estate vests in the administrators on the grant of Letters of Administration.
The law of many countries ensures that marriage and parenthood create certain responsibilities in favour of an individual's spouse and children. While this is an alien concept to English persons, there are situations in England whereby a surviving spouse or dependant of an individual may apply to have provision made for them out of his estate. These responsibilities can restrict the way in which an individual can dispose of his estate on death and may affect his ability to make lifetime gifts, eg if subject to a matrimonial property regime.
Mandatory rules of succession governing a deceased individual's estate are fixed by law in many civil law systems. Forced heirship gives certain members of an individual's family fixed minimum shares in the estate. Although the deceased has testamentary power over the whole of his estate, his close family members have a right to fixed shares as set out in the law of the particular country, which would override the will if inconsistent. There may also be a clawback of lifetime gifts if these would have defeated a forced heir's claim.
The Inheritance (Provision for Family and Dependants) Act 1975 provides the basis for the exercise of judicial discretion in respect of those who died domiciled in England. A surviving spouse and others including dependants may apply to the court for a share of the estate but only if the deceased's Will or intestacy has failed to make 'reasonable financial provision' for him or her.
On the death of a person whose estate is subject to a forced heirship regime the general rule is that the deceased's actual estate is notionally increased to include gifts made by him during his lifetime, whether without a time limit or within some period such as five or ten years before death, in order to arrive at the correct level of inheritance for specific members of the family. This can result in the donees of any such lifetime gifts being personally liable to return their gifts or their value; sometimes gifts are valued at the date of the gift, sometimes at the date of death.
Under English law, trust assets over which the settlor has a general power of appointment, enabling him to appoint to himself, are treated by law as part of his net estate.
If a lifetime trust which does not reserve a general power of appointment or revocation is created then the trust assets should be safe from the deceased settlor's forced heir claims unless the trust assets or the trustee are subject to the laws of the state of the forced heir or of a country sympathetic to the claim of the forced heir. It is not possible to be categoric about the provision because everything depends upon the application of private international law principles where there is not much English authority or guidance and where the Hague Convention on the Law Applicable to Trusts and on their Recognition is of little help. Many trust law jurisdictions, eg the Channel Islands, have special rules which expressly seek to uphold trusts subject to their law against claims by disappointed heirs.
If a trust is used, the validity of the transfer and the capacity of the settlor need to be considered.
Advice from the country likely to govern the law of succession of the settlor/deceased is always vital. The home country may provide opportunities to defer forced heirship rights or restrict them in favour of a spouse or may make it possible to exclude foreign immovables from forced heirship claims. It will also be important to know whether clawback claims are limited to a certain period before death and when forced heirship claims become time-barred. Where a lifetime trust is to be used it is important that the settlor has no power to revoke the trust or appoint the trust assets to himself.
European Union Regulation on Succession
On 17 August 2012 the EU Regulation on Succession (Reg (EU) 650/2012) was agreed, which means that a person's country of 'habitual residence' will be used to determine the succession laws applicable to his estate. This will be relevant where individuals are habitually resident or own property in one of the Member States which have signed up to the Regulation.
If preferred, the individual may choose to have the succession laws of a country with which he is 'manifestly more closely connected' applied to his estate, rather than those of the country in which he is habitually resident. To do so, the individual must include appropriate clauses in a Will or codicil stating his preference, for example for the rules of his country of nationality to apply.
The new rules will apply to estates where the deceased dies on or after 17 August 2015. The existing succession laws will continue to apply in the meantime.
All of the EU Member States except the UK, Ireland and Denmark have signed up to the Regulation. This means that, for instance, France will recognise UK law regarding property situated in France, but the UK is under no obligation to recognise French law regarding property situated in the UK. This could cause difficulties for beneficiaries who inherit UK property under forced heirship provisions, as they may be unable to enforce their entitlement to UK property.
The UK does not have a system of community of property, whereby each spouse acquires fixed property rights in respect of assets acquired during marriage.
A large number of European and Scandinavian countries, however, do operate community property systems. These can be divided into three broad categories, namely: full community, community of gains and deferred community, or participation. One factor common to all these systems is that, either during the marriage or on its termination, certain of the spouse's property forms a community in which each has an equal interest. Another factor common to countries where community of property applies is that the spouses are free at the beginning of the marriage (and sometimes later) to agree that the community regime should not apply to their property. The exact details of these systems, even those within the same category, vary enormously, depending mainly on how they deal with such questions as:
(1) Does all the property of both spouses come within the community or do certain categories of property remain outside the community as the separate property of the spouses?
(2) During the marriage does the community property form a distinct fund, or do the spouses retain independent control over their property (community and separate) until the time for division of assets? and
(3) To what extent is a spouse liable for the debts incurred by the other spouse before and during the marriage?
Many European countries have had systems of community for many years. Although the old systems differed, one from another, in many respects they had one feature in common, namely that the husband had exclusive rights of administration. However, these countries have sought to improve the position of married women within the framework of the community system, in particular by extending a married woman's power to administer certain property. For example, in France the husband is the nominal head of the community with powers of management over it, but the wife's consent must be obtained for many transactions, and she is given independent power to administer her separate property. The property falling into the community is limited to that acquired during the marriage other than by gift or inheritance; but each spouses' income and earnings remaining the separate property of that spouse. The overall effect is similar to that of the German regime.
The three categories are discussed further below. They are all legal regimes, and apply where the spouses have not agreed on a different regime, such as a regime of separate property. The spouses may also agree to vary the legal regime in certain respects.
The systems differ as to the property which is shared at the end of the marriage. For example, in Germany the right to participate in the community is a right to share the surplus, ie the increase in the value of the assets of each spouse during the marriage.
The participation is effected at the termination of the marriage by death, divorce or legal separation.
This term is used to describe systems in which the community, consisting of all movables and those immovables which were acquired during the marriage, is administered by the husband during the marriage. Under modern systems the husband's powers to deal with property are sometimes restricted, and the wife may be given power to deal with certain reserve funds.
Community of gains
This type of system is where the community consists of property acquired during the marriage. Property owned before marriage or acquired by gift or inheritance during the marriage remains separate property and outside the community. The husband usually administers the community, but the wife may have power to deal with her own earnings as well as her separate property.
Under the deferred community system each spouse has the right to acquire and dispose of his or her own property during the marriage. At the termination of the marriage spouses share or 'participate' in certain assets. Since the right to share is deferred until the end of the marriage, the term community, which may imply the existence of a common fund, can be somewhat misleading.
Rights of dependants
As stated elsewhere in this publication, there are no rules in England providing members of the family with fixed (automatic) rights to any part of a deceased's estate unless the deceased dies intestate. Certain individuals are, however, given the right to apply to the court if 'reasonable financial provision' is not made for them by the deceased's Will or by the intestacy rules which apply in the absence of a Will, under the Inheritance (Provision for Family and Dependants) Act 1975.
Those who can apply under this Act for reasonable financial provision to be made include the spouse of the deceased, a former spouse who has not remarried, a co-habitant of the deceased (as per the Law Reform (Succession) Act 1995), a child of the deceased, a person who was treated as a child of the deceased's family, and any other person who immediately before the deceased's death was being wholly or partly maintained by the deceased.
There is a limited period of time during which an application can be made (generally within six months of the grant of probate or of Letters of Administration) and such an application can only be made where the deceased died domiciled in England and Wales. A spouse may be awarded the sort of provision he or she would have obtained on divorce. Other applicants may only be granted provision for their 'maintenance' (which may be by way of a lump sum).
I. Protection of assets
The most common errors encountered when dealing with international estates is the belief that all jurisdictions apply the same rules. It will be evident from the previous sections of this chapter that this is far from the truth.
For administrative purposes it will often be sensible and perhaps advantageous for there to be more than one Will if there are assets which are located in more than one jurisdiction. A separate English Will covering English situate assets would be advisable where, for instance, the individual resides in another country and has his main Will there dealing with assets situate in that country. Although it is usually possible to obtain probate in the UK using a certified copy of the foreign Will, the procedure for obtaining such a copy can be cumbersome, time-consuming and perhaps expensive. It would be better to have a separate English Will.
It should always be remembered that where there is to be more than one Will, each Will should specifically state which assets it is covering and special care should be taken to ensure that neither Will inadvertently revokes the other. It is also recommended that the foreign Will be drawn up by a local lawyer and preferably in the language of that country (with an English translation). A common mistake, for instance, is for a Will drafted under English law, purporting to transfer foreign assets situated in, say, Spain, to appoint personal representatives to administer the estate and then pass those assets in accordance with the Will. Under Spanish law, which is civil law, the appointment of personal representatives could be seen as a direct personal gift to the personal representatives and not as a transfer to them as personal representatives.
Care should also be taken when dealing with foreign property to ascertain whether the property will fall within the ambit of forced heirship rules or matrimonial property laws. It is all too easy to assume that a house in the sole name of the husband can be freely disposed of by the husband's Will. Not only may there be forced heirship rules but also, under the matrimonial property regime, the husband may be treated as only owning one half of the property. Where such problems are likely to arise in the future, it may be advantageous to own immovable property through a company not resident in the same country as the property is situate.
Foreign probate and succession problems can sometimes be avoided by converting immovable property, which is usually subject to the laws of the country in which it is situate, into movable property so as to (hopefully) come within the laws of another country, eg that of the deceased's domicile or nationality. This can be achieved by owning immovable property through a company, shares of which constitute movable property. If the company is incorporated and the shares are registered in a country other than the country in which the property is situate, it should be possible to by-pass both foreign succession rules, such as forced heirship, and the laws of the matrimonial property regime.
A word of warning is necessary, however, because it is not unknown for some countries to try and set aside the company ownership if they see its use as a blatant attempt to penalise a forced heir. That said, it is understood that such instances are rare and tend to apply only in extreme cases.
The foundation is a vehicle commonly used in civil law countries, but in most of these countries its use is generally restricted to non-personal functions. A special feature of the Liechtenstein foundation (Stiftung) is that it can be, and often is, used for personal functions.
Foundations are separate legal entities which, unlike trusts, can last in perpetuity. Although similar to a company, they have no share capital or members and like a trust can be used to provide succession to assets amongst different generations. However, one of the drawbacks of using a foundation is that its taxation status, and that of the interests created by it, are by no means clear. For UK taxation purposes, a foundation tends to be treated by the Revenue authorities as a trust.
As has been mentioned earlier (see [I.36]) a trust may be set aside by the courts as a sham. This is especially so where the settlor continues to deal with the trust assets either directly under excessive powers retained in the trust instrument, or through tame trustees who merely rubber stamp the actions of the settlor. It may be possible to avoid this problem by the use of a foundation in that once it has been established and registered it cannot be treated as not existing: it would appear that a foundation cannot be a sham.
When attempting to avoid succession law through the use of a company, account must be taken of other taxes. For example, a UK situate asset may be transferred to, or purchased by, a foreign company. If the UK asset is a house, there could be an annual income tax charge on the individual(s) living in the house. Additionally, if the foreign company is wholly owned by an individual resident in the UK, the Revenue authorities have been known to contend that the company is both controlled and managed in the UK and, therefore, within the UK corporation tax net. Additional charges will apply to such structures from April 2013 if they own UK residential property valued at over £2 million. There will be a higher rate of stamp duty, an annual charge of up to £140,000 and companies owning such properties will be liable to CGT on gains made on disposal, even if the owning company is not UK resident and thus normally outside the scope of UK CGT.
In certain cases it may be possible to avoid some of the pitfalls associated with company ownership by holding assets in a trust, either directly or through a holding company. In particular, the use of a trust may avoid death being the trigger point for either succession or taxation purposes. A UK discretionary trust could own a company located in a tax-advantaged country such as Jersey, which in turn would hold assets located in other jurisdictions.
In trying to by-pass succession laws it is vital that the trust be created during lifetime. Forced heirship laws may apply on death and those countries which apply forced heirship rules tend, in any event, not to recognise trusts.
A trust set up in a suitable jurisdiction during the individual's lifetime will be much more difficult for an heir to challenge.
It is important to ensure that the trust is in the correct form and properly constituted. A trust under which the income and/or capital is payable to the settlor at his discretion and which on death passes in accordance with the settlor's directions may not be a true trust. The equitable ownership of the 'trust' assets is with the settlor and the purported gift after his death could be a testamentary disposition and (if so) probably void for non-compliance with the Wills Act 1963.
Assuming a properly constituted trust, it may be possible to deter a forced heir from making a claim against the trust by the use of a Letter of Wishes. This, coupled with a power conferred on the trustees enabling them to delete a beneficiary, could be used as a forceful weapon if the Letter of Wishes suggests that the beneficiary may be removed in the event of a claim against the trust assets.
With adequate forethought most problems facing individuals with assets in different locations can be overcome. When considering international investments it is of paramount importance to take appropriate advice. Assets held incorrectly or assets of relatively low value can be very costly to administer. Considerable care is also required when choosing 'local' individuals/institutions to look after overseas assets.