Offshore Trusts Vs ‘Non-Dom’ Status

Offshore trusts and ‘non-doms’ are two of the most divisive buzz phrases of recent years. Although vilified by the government and campaigners, both of these tools remain popular amongst the rich and those with complex financial affairs.

But, while both these arrangements have their uses, there is widespread confusion about what they actually mean. They each have a distinct set of purposes, and each will be suited to a different set of circumstances.

What is an offshore trust?

The concept of an offshore trust is a simple one; it is simply a regular trust that is established in an offshore jurisdiction. The nature of the trust is almost always very similar to that which one would expect in the UK. The difference is that offshore trusts are established in jurisdictions in which they will receive more favourable treatment, for example for tax or legal purposes.

When might this be used?

There is a broad range of reasons why people use offshore trusts, ranging from the perfectly reasonable to the potentially illegal. The most common use is tax avoidance. Thousands of people have money paid directly into offshore trusts, rather than into their UK bank accounts, in an effort to reduce their tax liabilities.

Similarly, offshore trusts are often used for asset protection purposes. Individuals who are worried about ‘raids’ on their assets, for example as a result of divorce proceedings, sometimes choose to establish an offshore trust to protect their property from litigation.

Many people often use offshore trusts as a way of making more adventurous investments. Restrictions on investment activities by UK trusts are quite strict, but many offshore jurisdictions allow trustees to invest with more freedom.

What are the risks?

Offshore trusts are constantly at risk of legal challenge. It is estimated that more than £10 billion is lost every year to tax avoidance, and this makes offshore trusts a very real target for HM Revenue and Customs and others.

Many offshore jurisdictions have also bowed to pressure from G8 countries, and are tightening their trust laws. This looks set to cause problems for those with offshore trusts, as many will be forced to move jurisdictions or abandon the trusts altogether.

What is non-domiciled status?

Non-domiciled individuals may live in the UK, but are deemed to have “strong links” with another country – for example because they or their parents were born there. Until recently, these individuals could keep any overseas income or capital gains out of the UK tax system, generally meaning that they paid significantly less tax.

Since April 2008, though, non-domiciled individuals have been required to pay an annual ‘fee’ of £30,000 direct to HMRC, in an effort to recoup some of the income being lost by the Exchequer.

When might this be used?

Non-domiciled status is used almost exclusively for the purposes of tax avoidance. Despite the annual levy now charged on ‘non-doms’, depending on your income it may still be the case the you are better off in this situation.

What are the risks?

There are significant risks associated with non-domiciled status. The largest risks are the twin threats of a legal challenge and a tax investigation.

Non-domiciled individuals must prove that they have sufficient links with the relevant country, and this will be judged by HM Revenue and Customs. The criteria for acceptance are very strict – and are only set to get stricter. As a result, you must be constantly aware of the potential for a challenge to your status, and for the financial implications of any investigation.

Offshore trusts and non-domiciled status both have important uses. But non-dom status tends only to be useful for those with very large overseas incomes. This, combined with the severe restrictions on non-domiciled status, mean that offshore trusts tend to be useful in a wider range of circumstances.