A Question of Residence

Dmitry Zapol explores the implications of a recent case.

Planning Technique

An individual’s income tax and capital gains tax liability in the UK primarily depends on the taxpayer’s residence. Consequently, it has been a common planning technique to leave the UK and become resident elsewhere, after which income and chargeable gains should escape UK tax. In the recent case Lynette Dawn Yates v Revenue & Customs [2012] UKFTT 568 (TC) the First-tier Tribunal examined the arguments that an emigrant taxpayer proposed in support of losing her UK residence.

Ms Yates sought to avoid a UK tax liability by demonstrating that her move to Spain constituted a clean break from the UK. Unfortunately she was unsuccessful in this aim and thus followed in footsteps of Messrs Gaines-Cooper and Grace.

This case differed from those two, as Ms Yates’ residence argument was based not only on the HMRC publication IR20 (replaced by HMRC6) and case law, but also on the residence tie-breaker clause in the UK/Spain double taxation treaty.  The purpose of this treaty is to settle contesting residence claims through a hierarchy of tests that allocate residence to the state with which the taxpayer’s ties are the strongest. By basing their conduct on the wording of the tiebreaker clause, taxpayers can achieve favourable residence determination and Ms Yates’ case usefully demonstrates how the taxpayer’s actions might affect individual residence status. It also helps to appreciate the signifi cance attached to various subjective factors that might infl uence the decision of the tax authorities and the courts.

Facts of the Case

Ms Yates and Mr McKee are husband and wife who in the 1990s lived in their jointly owned house in the UK. Ms Yates suffers from a medical condition and in 2000 she moved to Spain. She started living in a rented fl at until Mr McKee purchased her a house. She spoke Spanish poorly. However, she befriended a Spanish lady and took steps to participate in the local community. She had a Spanish bank account and was an unpaid director and part-time employee of a Spanish property company.

Mr McKee remained in the UK, but he visited Ms Yates regularly. He was planning to sell his business and eventually retire in Spain. At some point, Mr McKee realised that his financial circumstances would never allow him to leave the UK. In 2008 fearing the toll her absence was taking on their marriage, Ms Yates returned to live permanently in the UK.

During her absence, Mr McKee transferred to Ms Yates shares in his company, which she sold for substantial profit, maintaining that at the time of the disposal she was not UK-resident.  However, HMRC assessed Ms Yates to CGT in respect of the disposal gains.  HMRC accepted that at the relevant time she was resident in Spain. However, HMRC asserted that Ms Yates also remained UK resident by maintaining substantial ties with this country, namely:

• overall she spent more time in the UK than in Spain, although Ms Yates’ UK presence included days spent caring for her sick parents;
• she maintained strong links with her;
• family in the UK and visited them even during winter when her health issues made time spent in the UK particularly difficult;
• she regularly used a UK credit card, kept UK and Guernsey bank accounts in her own name and jointly with Mr McKee and received banking correspondence to her UK address;
• she was a registered disabled person and without notifying the Department of Work and Pensions (DWP) of her move, had been receiving disability living allowance into her UK bank account and when applying for a mobility car gave her UK address and the telephone number;
• remained on the UK electoral roll;
• kept her centre of financial and economic interests in the UK by receiving dividends in her UK bank account and depositing the shares’ sale proceeds with the Guernsey bank;
• continued visiting doctors in the UK; and
• her telephone bill demonstrated many phone calls of short duration to UK telephone numbers and showed that she had spent more time on international calls and calls on mobile telephones that on domestic Spanish calls.

The Decision

The tribunal found that Ms Yates did not effect a distinct break with the UK and at all times remained UK resident and ordinarily resident. In reaching its decision, the tribunal first focused on UK’s unilateral residence provisions. Next it considered the tie-breaker clause in the UK/Spain double taxation treaty and found that Ms Yates’s connections with the UK were stronger than with Spain.

The tribunal performed a “multifactorial inquiry” of Ms Yates’s circumstances and examined “the quality of her absence from the UK”. It acknowledged Ms Yates’s frequent visits to the UK and stays at her jointly owned marital house and noted the fact that all her correspondence arrived at the UK address. However, the tribunal accepted Ms Yates’s argument that she only remained on the electoral roll due to oversight. The decisive factor was that in her dealings with the DWP Ms Yates did not declare her non-residence. The tribunal refused to accept Ms Yates’s stronger social affiliation with Spain by mentioning frequent visits to the UK and keeping close relationship with family in the UK, as substantiated by the telephone bills. Her friendship with a Spanish lady was unimportant and also since Ms Yates derived income from the UK, her Spanish employment was insignificant.

In applying the tie-breaker, the tribunal agreed that both Ms Yates’s UK and Spanish houses constituted permanent homes available to her. The rest of the case focused on where Ms Yates had her centre of vital interests, which is a combination of personal and economic relations. The tribunal confirmed that the individual’s personal relations in general prevail over business ties. Mr Yates’ centre of vital interests consisted of her husband residing in the UK and their marital home. Her UK-based parents and siblings were equally important in outweighing in significance and importance any social ties Ms Yates may have formed in Spain. Mr McKee also formed the centre of her economic interests — he supported Ms Yates financially and gave her the shares, which Ms Yates disposed of on his advice. Receiving payments in the UK and Guernsey bank accounts was also important.

Practical Significance

Ms Yates’s situation is the prime example of opportunistic tax planning performed without taking due preparatory measures. The first step in
the right direction would be to achieve a distinct break with the UK. Leaflet HMRC6 and this case demonstrate the difficulties faced by the taxpayers and the highly adhesive nature of UK’s residence. Fortunately the statutory residence test due to be introduced from 6 April 2013 will address this uncertainty. Meanwhile, the emigrant taxpayer cannot do too much to cease her ties with the UK. This case demonstrates that in determining residence, the tax authorities will resort to analysing taxpayers’ credit card and telephone bills.

The Right Moves

A person in Ms Yates’s situation should have:

• sold or rented out accommodation in the UK and removed her belongings from the UK;
• removed herself from the electoral roll and notified doctors and the authorities of her change of residence;
• closed UK bank accounts or at least stopped using them;
• terminated memberships of UK clubs, gyms, churches; cancelled newspaper subscriptions and ceased other social ties with the UK;
• only used Skype and similar means to communicate with relatives in the UK;
• minimised the number of visits and the number of days spent in the UK; and
• demonstrated a distinct change in her lifestyle by performing the reverse of the above actions in the country of destination.

These steps usually adversely affect individual’s life pattern and in many circumstances might not be practical. This is where the tie-breaker clause in the double taxation treaty (if there is one) comes to the rescue, although it is always advisable to still try and satisfy the distinct break conditions to avoid having to contest HMRC’s residence determination in court. Under the treaty the taxpayer is not seeking to lose UK residence but rather to prove that his connection with the different state is stronger than with the UK. This is often a more manageable task, although the treaty will only apply where the person also fulfils the residence conditions abroad.

The first test will be satisfied if the individual has habitable property in the country of arrival and disposes of her UK accommodation by selling it or renting it out. If the latter is impractical, then she should satisfy the “personal” limb of the centre of vital interests test. If the person has a spouse and minor children, they should spend more time with her in the new home outside the UK. She should also take active participation in domestic social life and as much as possible cease her connections with the UK. If it is impossible to move the social life balance outside the UK, the individual should demonstrate that her place of business and the place from which she administers her property is outside the UK. In the rare circumstances where the last test does not provide for a solution, one should spend less time per tax year in the UK than in the new home country.