Non-resident Capital Gains Tax (NRCGT) changes affecting investment in UK REITs

David Brown

David Brown is a senior partner in the Private Market Funds group at Deloitte in London and co-leads the European Real Estate Funds practice working extensively on UK and pan-European real estate capital flows. Throughout his career David has specialised in advising on the taxation aspects of real estate investment and development transactions and has led teams advising a number of real estate funds, property companies and private investors.

Whilst most attention may be focused on UK political affairs, the world of real estate has been undergoing the greatest overhaul of its tax regulations for over 20 years. These changes are directed to two broad areas: first, from April 6, 2019, bringing capital gains on UK real estate realised by non-UK investors into the UK tax net, where previously they were exempt; second, from April 2020, updating the taxation of rental income in the hands of non-UK corporate investors so that many of the anti-avoidance measures brought in via the BEPS project and EU ATADs will apply.
The brunt of these changes will be borne by direct property investors. There is, however, some impact on investors in the public markets. The most affected will be any non-UK resident funds that hold an investment in one or more UK REITs and require action where such funds dispose of some or all of their holding (or have already disposed or part-disposed of a holding since April 6, 2019).
Broadly, the disposal of shares in UK property rich companies will be treated as an indirect disposal of UK land. The test of ‘property richness’ is set at 75% by value of the assets of a company (or group) on a fair market value basis. Whilst a few UK REITs may have material non-UK portfolios and hence fall outside these provisions, the majority in the listed market are solely focused on UK assets and will be UK property rich.
Disposals of shares in such REITs will, therefore, be taxable. The cause of greatest concern for investors, we believe, is that the new legislation includes UK REITs by default as considered to be Collective Investment Vehicles (CIVs), with the result that there is no de minimis ownership for these rules to apply. In principle, the sale of a single share in a UK REIT will be caught.
The impact of these changes is diminished by the existence of a number of exemptions from the new charge to tax on share sales. There is a wide exemption from NRCGT for overseas pension funds, as well as for charities formed in the EEA and sovereign investors who have agreed on an exemption from tax with HMRC. There is a narrower exemption for life companies. Investors need to satisfy themselves that they benefit from exempt status. As a result, we have found ourselves spending time with many overseas pension schemes, in particular, to confirm they qualify as exempt.
Other investors may qualify for protection from NRCGT under the provisions of a double tax agreement with the UK. Again, investors will need to satisfy themselves that the treaty provisions both provide an exemption on gains from shares in property-rich companies (which are frequently taxed as equivalent to direct property in treaty provisions) and that the investing entity is treated as a treaty beneficiary.
Non-UK funds investing in REIT shares do not enjoy an explicit exemption from tax in the UK tax code. Some, but not all, may benefit from tax treaty provisions.
In particular, common investment funds such as Luxembourg SICAVs are not eligible for UK treaty benefits. This may appear an unlikely outcome as the UK-Luxembourg treaty does provide an exemption from UK CGT for Luxembourg resident investors, including on gains that arise from the disposal of shares in property-rich companies (at present at least). The stumbling block is, however, that such funds are broadly exempt from tax in Luxembourg and hence cannot access treaty benefits. US and Australian tax treaties are likewise lacking in relevant protection for common fund vehicles.
The UK Investment Association has lobbied at length, but HMRC, whilst acknowledging there is an issue, does not currently intend to provide a carve-out from the NRCGT rules or reinstate the 25% de minimis ownership in the event that there is small scale investment in UK REITs by foreign funds.
The result is that such funds are now required to account for and report their disposals of shares in UK REITs whenever such trading takes place.
All funds should be considering their status under relevant tax treaties with the UK. Funds that are taxable should register, if they have not already, as a taxpayer in accordance with UK rules. They should also review their portfolio of UK REITs to ascertain which are property-rich or what further information may be required to make such a determination. Transaction data should be reviewed to identify sales of UK REITs since April 6, 2019, when the new regime commenced.
The reporting requirements are themselves quite onerous, albeit the information should be relatively straightforward. Where non-exempt funds are not already within the charge to corporation tax and make a single disposal, this will result in a one-day accounting period unless there is an expectation that there will be four or more disposals in a year. Funds with larger portfolios are able to aggregate all disposals across an accounting period and make a single return.
EPRA is keen to understand the extent of the impact on its members, either managers of REIT funds or UK REITs themselves.