Transferring royalties to an offshore company to reduce UK tax
If you're UK resident and domiciled you may be wondering whether there are any opportunities for you to transfer royalties to an offshore company to save UK tax. In this article we look at the UK tax implications of using an offshore royalty holding company.
A transfer to an offshore company would raise a number of issues whilst an individual is UK resident.
The first initial issue would be in terms of capital gains tax. He would need to assign the rights to the royalties to the offshore company by using a 'deed of assignment'.
Copyright is defined as intellectual property which is itself classed as an intangible asset and is therefore usually within the scope of CGT. It's therefore likely to be the case that the assignment of the rights to royalties would be classed as a disposal of copyright.
He would therefore need to value the right to receive the royalties and assuming that the acquisition cost would be nil, this value would effectively represent the capital gain charged at either 10% or 20%, depending on the level of other income and gains (after the offset of the annual CGT exemption). Note that there is a special tax relief that could apply to defer any capital gains on the transfer to a UK company (holdover relief) but this would not apply on the transfer to a non resident company.
There could be advantages to transferring the royalties to an offshore company before the success of the venture is established (thus reducing the market value).
The second issue would be the company residence.
The main benefit in using an offshore company is if it is classed as non UK resident. If it was non UK resident it would be exempt from UK tax on overseas income (ie overseas royalties) and would be just within the scope of UK tax for UK royalties. Note that in this case UK tax would usually be deducted at source unless the company was resident in a treaty country. If the offshore company wasn't non resident, but instead was classed as UK resident it would be taxed just as for any other UK company, and the overseas royalties would be subject to UK tax. It would therefore be essential to the tax efficiency of the offshore company that it was non UK resident.
The offshore company would be classed as UK resident if its management and control was situated in the UK. If the individual was the shareholder and director and was UK resident the only way he could argue that the company was non UK resident would be to appoint an independent overseas board of directors. Nominee directors would not be acceptable to HMRC if they acted purely as nominees. In this case the company would be controlled from the UK and would be UK resident.
Another option in terms of residence would be to use an offshore trust to hold the shares. The offshore trust would need to have overseas trustees and in conjunction with the overseas directors this may make it easier to establish non UK residence for the company.
The use of a trust would however complicate matters and he would need to be excluded from the list of potential beneficiaries and trustees in order for the trust to be established as non UK resident and to prevent anti avoidance rules impacting.
The other issue with the use of an offshore company is the transfer of assets abroad provisions.
The conditions for these to apply are:
If all of these conditions are fulfilled, the income which becomes payable to the offshore company is deemed to be that of the individual who made the transfer for UK tax purposes.
This is a wide provision and therefore any disposal of assets by an individual to a non-resident company or trust is a transfer of assets for these purposes. Therefore the assignment of the royalties to an offshore company (or under a licence agreement) would in principle be caught by this provision.
The main exemption to this would be to argue that the motive exemption applied. Under this he would essentially need to argue that the purpose of the transfer was not to avoid tax, and that it was a bona fide commercial transaction. HMRC and the Commissioners adopt a wide interpretation of avoiding UK tax, and if there's any uncertainty as to his intentions they'll often assume UK tax avoidance was a key factor. In his case he'd therefore need to look at the actual reasons for the transfer and be able to show that they were unconnected with a desire to avoid UK tax. This would be difficult and would need to be fully disclosed in the self assessment return.
Relinquishing control
If the individual could look to relinquish complete control he could avoid these provisions however there would need to be a genuine divorce of both ownership and benefit and enjoyment of the royalties to avoid the transfer of asset provisions.
Another disadvantage of using an offshore company is that, depending on the jurisdiction, it is likely to have far fewer tax treaties than an onshore company which could lead to unrelievable overseas withholding tax. In addition companies which are incorporated outside of the EU are excluded from the benefits of the EU interest and royalties directive.
Using an offshore company therefore raises a number of potential problems if an individual remains UK resident and wanted to benefit from an offshore company.
The main occasion when a UK resident could use an offshore entity to reduce UK tax would be if he was looking to establish an offshore trust solely for the benefit of his children. This would be just an income tax shelter and would also assume that there were no distributions whilst the children were under 18 (as this would be taxed on him personally under the anti avoidance rules). A discretionary offshore trust could be effective in avoiding UK income tax on the royalties although clearly the overseas tax position would need to be considered. Cash would ideally be extracted by the children as non residents in the future free of UK income tax. This structure would also ensure that the royalties were for the benefit of the children even after his death.
The alternative would be to use a UK company. This could potentially allow gift relief for CGT purposes and would ensure that the 45% rate of income tax was saved (instead the UK company would pay tax at 19%).
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Disclaimer
=============================================================i) Please note that the articles/answers contain general guidance only and do not constitute accountancy, tax, investment or other professional advice.
ii) The contents of this article/answer are for information only and are intended to assist readers in identify any tax planning opportunities that may be available to them. The information contained in this answer is not intended to be a substitute for taking proper taxation advice and should not be relied upon in this way. Always consult a qualified accountant or taxation adviser. Your situation will then be looked at individually and specific advice relevant to your circumstances can be given. The Expert does not accept responsibility for any loss arising as a result of reliance on any information contained in this answer.
These Notes (and Disclaimer) do not affect your statutory rights in the United Kingdom.