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A boost for the art market?

The tax treatment of works of art sold in the UK by resident non-domiciliaries is changing, says Boodle Hatfield's Fiona Graham.

The Government appears to have a love hate relationship with wealthy foreign individuals and their families living in the UK, but retaining their permanent home elsewhere - resident non-domiciliaries (RNDs), or the so called non-doms. The UK enjoys the wealth they bring and inject into the economy, but struggles with how such individuals should be taxed.

On 6 December the UK Government published its response to a consultation on the reform of the taxation of non-doms. This includes changes designed to encourage sales of assets by UK auction houses and are potentially a welcome boost to the UK art industry.

RNDs have the opportunity to be taxed on the more favourable remittance basis, which broadly means that they are only taxed on foreign income and gains which are brought into or used in the UK. However, this favourable tax treatment comes at a price: since April 2008, RNDs who have been resident in the UK for at least seven years must pay a £30,000 a year charge for the privilege of that "remittance basis" and from next April this figure will rise to £50,000 for individuals who have been resident in the UK for 12 years or more.

One of the biggest challenges that face RND owners of works of art relates to those items (or other assets) that were purchased abroad, but out of certain types of foreign income or capital gains. Even if the RND is taxed on the Remittance Basis, since April 2008 if those works of art or assets are brought into the UK a tax charge may arise as it is specifically viewed as a "remittance". Before April 2008 there was a loophole such that if certain types of foreign income, such as investment income, were used to buy items that were then brought into the UK "in specie", there was no tracing through the assets to tax the income they represented; thus works of art could often escape the taxation net.

Even though some art brought into the UK will now be taxed as it passes through border controls, there are some exceptions. For example, the remittance charge does not apply to purchases from funds that arose prior to the individual becoming UK resident. Nor does it catch assets purchased out of foreign income (not including earnings) which were already owned at 11 March 2008 or works of art (and other assets) which were purchased afterwards but were already in the UK on 5 April 2008. Before bringing works of art to the UK for any purpose RNDs should therefore carefully consider how each was purchased and take advice on whether a tax charge will arise.

In addition, when the changes were first introduced art institutions lobbied hard to successfully ensure that works of art brought into the country to be displayed at museums or for repair should be excluded from the remittance basis. Despite that lobbying, unfortunately at present these rules sometimes work in such a way that sales in the UK by UK art houses may be discouraged. This is because a remittance may currently be triggered on the quantum of the income and gains that were used to purchase works of art when they are sold in the UK. Additionally capital gains tax is levied on the owner's increase in value since purchase. This effectively means that a UK tax liability can arise on both the purchase price and the profit. The easiest way to avoid this is by moving the art outside of the UK before selling it, which is obviously bad news for the UK art market.

This is set to change from April 2012 so that a tax charge will only be triggered on the original income or gains used to purchase the asset if the proceeds are still retained in the UK 45 days after the sale proceeds have been received. A remittance charge can also be avoided if the proceeds have been re-invested in a specific type of qualifying investment. This is a significant improvement on the original proposals announced in the summer, whereby a remittance would have been triggered unless the proceeds had been taken out of the UK within a very short 10 day period.

Further and most helpfully, additional changes mean that where works of art and other chattels are sold in the UK, the resultant gain can be subject to the remittance basis (if appropriate) rather than being automatically subject to CGT as is the case at present. This is potentially a very important concession, as without it, even if the income or gains used to purchase the object were not taxable when it was sold in the UK, any profits would have been. Therefore for assets which have significantly increased in value, this change alone may have made sales through UK art houses more attractive.

The net effect of both these changes taken together is that from 6 April 2008 all UK income tax and CGT on the sale of a work of art in the UK can effectively be avoided if the proceeds are then deposited and kept abroad.

Both these changes are designed to encourage sales of assets by UK auction houses and are potentially a welcome boost to the UK art industry.

This article by Fiona Graham, a Partner in the Private Wealth team. 

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