Offshore trusts: Have reports of their demise been greatly exaggerated?

A new landscape

Meaningful changes to the taxation of non-UK domiciliaries (so-called “non-doms”) were introduced in the UK as from 6 April 2025.  A large number of individuals are affected, including those who have settled or who plan to settle offshore trusts.    

The changes are discussed in detail here. The changes include the abolition of the so-called “trust protections”, from 6 April 2025.  Major changes have also been made to the rules on what counts as “excluded property” for IHT purposes.  The crux of the changes is the almost complete removal of the concept of “domicile” from the UK tax code. This means that the question of whether the settlor of a trust is a “non-dom” or not is now largely irrelevant.  These reforms have caused many existing offshore trusts settled by UK resident non-UK domiciliaries to become less tax-efficient. In a nutshell, since 6 April 2025, the position has been as follows:

• A UK resident but non-UK domiciled settlor of an offshore trust is no longer protected from income tax by reference to foreign income received by the trust, where the trust is settlor-interested. In broad effect, the trust is transparent for income tax purposes. Generally, the receipt of foreign income by the trust results in income tax for the settlor – the exception being where the settlor is within the first four tax years of UK residence and qualifies for the UK’s new special tax regime for “qualifying new residents” (QNRs).
• A UK resident but non-UK domiciled settlor of an offshore trust is no longer protected from CGT by reference to chargeable gains realised by the trust, where the trust is settlor-interested. In broad effect, the trust is transparent for CGT purposes. Generally, the realisation of gains by the trust will result in CGT for the settlor – the exception being, again, where the settlor is within the first four tax years of UK residence, albeit that relief under the QNR regime only applies where the gains are in respect of non-UK assets.
• Non-UK assets of a trust with a living settlor are now exposed to IHT at any time when the settlor is a “long term resident” (LTR). Where the settlor is living, his or her domicile when assets became comprised in the trust is no longer relevant. Broadly, an LTR is someone who has been UK resident for 10 or more of the preceding 20 tax years. A person’s status as an LTR will also continue for a period of between 3 and 10 years after they cease to be UK resident, depending on how long they lived in the UK. Where trust assets are within the ambit of IHT, there is generally scope for tax charges under the “relevant property regime” (which impose an IHT charge at up to 6% on ten yearly anniversaries and on distributions of capital out of the trust) and under the “gift with reservation of benefit” (GWR) rules (which impose a 40% IHT charge on the death of the settlor, unless the settlor is irrevocably excluded).
• The IHT position in relation to trusts with deceased settlors depends on the date of the settlor’s death. Where the settlor has died since 6 April 2025, the trust’s IHT exposure depends on whether the settlor was an LTR in the tax year of his/her death, but where the settlor’s death occurred before the reforms, the trust’s IHT exposure is determined by the former domiciled-based rules.
• The new rules do not provide for any “grandfathering” of the existing IHT rules in relation to pre-6 April 2025 trusts.  However, in a small concession, where the trust was settled  before the Labour Budget on 30 October 2024 with non-UK assets (apart from assets which are connected with UK residential property), and where certain further conditions are met, a special relief applies which eliminates scope for IHT on the death of the settlor under the GWR rules, even if the settlor is an LTR at the time of death.  

Despite the removal of the “trust protections” and the loss of the ability to create a trust which has indefinite “excluded property” status regardless of the settlor’s status, offshore trusts continue to have a role to play in a number of scenarios.

Scenarios in which offshore trusts may still be useful

The scenarios in which offshore trusts are likely to continue to be attractive post April 2025 include the following:

Non-UK resident settlors of trusts for UK resident beneficiaries

Offshore trusts settled by non-UK resident settlors for UK resident beneficiaries are unaffected by the loss of the “trust protections”, and indeed are unaffected by the changes to the “excluded property” rules, provided that the settlor remains non-UK resident. Consequently, such trusts continue to be treated in the same way for income tax, CGT and IHT purposes as under the pre-6 April 2025 rules.

That said, before creating an offshore trust non-UK resident would-be settlors would be well-advised to consider the alternatives for providing for UK resident family members. For example, it may be more tax efficient to retain personal ownership of the assets and make gifts to UK resident family members who would hold the assets directly, given the scope for tax on distributions or benefits received by UK resident family members from offshore trusts.  However, in some circumstances, there may still be strong arguments in favour of the assets being in trust (for example asset protection or succession planning) which may override the disadvantage of UK resident family members being exposed to tax under the “matching” regimes.  Furthermore, the “matching” regimes have been modified for distributions to QNR beneficiaries post April 2025.  For gains purposes, a capital payment from a trust is disregarded so that it cannot be matched with (UK or non-UK) gains of a trust in the QNR window.  By contrast, for income purposes, a benefit to a QNR beneficiary is only tax-free insofar as it is matched with non-UK income during the QNR window (which leaves scope for the benefit to be taxed by reference to both UK source income of the trust or income received before or after the QNR window, to the extent that the benefit is not fully matched in that period)  

Where a UK resident settlor and their spouse can be excluded, and chargeable gains minimised or avoided  

If a UK resident settlor and their spouse are willing to be irrevocably excluded from benefit from a non-UK resident trust, income of the trust (and any underlying non-resident companies) won’t be taxable on the settlor.  In these circumstances, a non-UK resident trust will continue to secure income tax deferral for UK resident settlors going forwards, despite the loss of the “trust protections”.  (This is subject to some technicalities regarding the “settlements code” and the “transfer of assets abroad” legislation, the details of which are beyond the scope of this note).

However, eliminating or reducing exposure to tax on chargeable gains of a trust or underlying company is more difficult, as this requires the exclusion of a much wider class of persons, including the settlor’s children, grandchildren and their spouses.  In practice, that is rarely feasible. If that isn’t possible, consideration should be given to whether there is scope to alter the trust’s investment strategy to minimise the scope for the settlor to be taxed on gains. For example, it may be possible to switch to an income-focussed investment strategy or, in some cases, to avoid realising chargeable gains entirely - e.g., by investing exclusively in non-reporting funds generating “offshore income gains” (OIGs).  OIGs are taxed as income, and are outside the rule under which chargeable gains of an offshore trust structure can be attributed to the settlor.

Where a settlor is liable to tax on income or chargeable gains of a trust or tax on income of an underlying company, there is a statutory entitlement to recover the tax payable from the trustees.  In principle, this may help to ease the burden on settlors, although where the settlor has been excluded, there can be a question whether the statutory right of recovery is enforceable.

Where transparency is actually desirable

There are circumstances in which it may be beneficial for income and gains of a trust to be attributed to its UK resident settlor, so that the trust is effectively “transparent” for income tax and CGT purposes.  This may be the case where the income and gains of a trust are taxable in more than one jurisdiction and, under the terms of an applicable double tax treaty, the tax liability needs to fall on the same person in each jurisdiction for treaty relief to be (fully) available.  For example, if the settlor is a US person and the trust is a “grantor trust” for US purposes (i.e., it is treated as tax transparent for US purposes), the settlor will be taxable on the income and gains of the trust for US tax purposes. However, if the trust is UK resident, the burden of UK taxation with respect to its income and gains will fall on the trust, not the settlor. This “mismatch” may result in tax inefficiency, which could be avoided post April 2025 by use of a non-UK resident trust (see briefing note here).

No UK tax avoidance motive

Where a settlor has created an offshore trust for reasons which have nothing to do with UK tax (e.g., at a time when they were non-UK resident, for foreign tax or succession planning reasons), certain “motive defences” may apply to protect a UK resident settlor from tax with respect to underlying company income and gains, even if the settlor can benefit from the trust and notwithstanding the loss of the trust protections. However, the motive defences only prevent the attribution of income and gains under certain parts of the UK tax code. They do not prevent income and gains at trust level from being attributed to and taxed on the settlor. Nevertheless, the motive defences may still prove to be invaluable in cases where, for example, assets are held at underlying company level and there is no intention to distribute assets out of the company / trust while the settlor remains UK resident, or where the settlor is able to extract funds from the underlying company by other means (such as by way of loan repayment).

These are just some of the scenarios in which offshore trusts may continue to make sense under the current UK tax regime.