Inheritance tax liabilities in Portugal

Our team of advisers in Portugal talk about the inheritance tax (IHT) implications of leaving the UK and point out that British nationals are likely to remain liable to UK IHT even many years after departure.

To understand why UK nationals have a liability to IHT we must understand the concept of domicile.

There are actually four types of domicile, but relevant to most readers will be ‘domicile of origin’. Generally, you acquire your domicile of origin from your father – if he is British, you have a UK domicile and it is this that gives you your liability to IHT.

It is important to understand that domicile is different from tax residency; residency is based on your physical location – you can be a Portuguese tax resident and live in Portugal, never return to the UK but still have a UK domicile by virtue of your origin. The main impact of domicile is that it determines your liability to UK IHT. Simply, if you are UK domiciled, then you are liable to UK IHT. Moreover, IHT is based on your worldwide assets so, whether it be an Australian property or a bank account in the Cayman Islands,
It is all caught within the UK IHT tax ‘net’.

If you are UK domiciled and your worldwide estate is subject to IHT on death, and you are resident in Portugal, you could also have a Portuguese tax liability. Portugal, however, only taxes assets that are located in Portugal, eg property, and that pass to non-direct line ascendants or descendants. The UK/Portugal double tax treaty does not cover IHT and there is no automatic relief applied, so it is worth noting that there is a risk that double taxation might apply.

Can you avoid UK IHT?

Most people find IHT the most distasteful tax of all because, after working hard and having paid income tax, capital gains tax, stamp duty, VAT, etc, throughout their lives, the final ‘nail in the coffin’ is that the UK exchequer will take 40% of your estate on death.

• The simplest way to mitigate UK IHT is to gift assets during your lifetime. You can gift an unlimited amount to beneficiaries and pay no tax if you survive seven years from the date of the gift – this is known as a ‘potentially exempt transfer’. Be careful, however, that you fully surrender the rights and enjoyment of the asset because if not, it will remain in your estate for UK IHT purposes eg gifting property to your children but still living in it for free or at a reduced market rent.
• You can also take advantage of other gifting exemptions, such as your annual allowance of £3,000 or ‘gifting out of normal expenditure’ – if you can demonstrate you have surplus income to your needs, you can regularly gift the excess each year and this will fall immediately outside of your estate.

Whilst gifting is simple, some may not be comfortable relinquishing control just yet, so you could consider investment options such as a Qualifying Non-UK Pension Scheme (QNUPS). However, be careful, as if HMRC believe this is done for tax avoidance purposes, or it cannot be proved that it wasn’t, they can still tax this, so it must be managed carefully’.

You can ‘shed’ your UK domicile of origin by acquiring a new ‘domicile of choice’. You do this by moving to a new country and demonstrating your intention to remain there permanently. However, whilst it is easy to move country and change your tax residency, proving your intention is more challenging. HMRC does not have a prescribed list of ‘dos and don’ts’ but everything you do, say and leave behind can be used as evidence of your intention. Consider the case of Richard Burton, who after decades of living in Switzerland was deemed to have not shed his UK domicile because he had the Welsh flag draped over his coffin and was buried with a book of Dylan Thomas’s poems. HMRC successfully argued that he never truly severed ties with his ‘homeland’, Wales.

HMRC will not provide a certificate or determination of domicile during your lifetime, therefore meticulous recordkeeping is essential. It is the executors of your estate who will be presenting your non-domicile case after your death, as this is when a challenge might arise.