UK 'resident' versus 'domicile': why it matters

The taxman sees a big difference between being 'resident' and 'domiciled' in the UK - and working out which camp you fall into can be very complicated.

"Tax doesn't need to be taxing," say HM Revenue & Customs. But it is. Take something as basic as whether you are liable to pay UK tax. This isn't necessarily determined by where you were born, or where you currently live, but whether you are classified by HMRC as a "UK resident" or a "UK domicile" two very different concepts.

A UK resident is taxed here on their worldwide, not just UK, income and capital gains, and there are a number of tests for residence. First off you are taxed on income and gains arising during the whole fiscal year the current one started on 6 April 2008 and will end on 5 April 2009 if you spend just half (183 days) or more of it in Britain. However, other tests for "ordinary residence" can also trap regular visitors who are careful to spend less than half of any single fiscal year here. For example, anyone who regularly averages three months or more here per fiscal year is potentially liable too.

For inheritance tax (IHT), however, HMRC focuses not on residence but on domicile your permanent legal home. If it's the UK you pay IHT on your worldwide assets on death irrespective of where they, you, or your heirs are located at the time. The rules that determine UK domicile are complex but there are some basic principles. If you were born here or if your father has UK domicile, you usually start out with UK domicile yourself. This can be changed later if, say, you move abroad, but it can take years to fully shake off UK domicile.

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In general, anyone who is resident in Britain but not domiciled here only pays income tax and capital-gains tax on income and gains generated overseas if they remit the income and gains back to Britain. However, under new legislation this changes after seven years of residence. Then a "non dom" can choose either to pay taxes in the same way as those domiciled in the UK, or to pay an annual fee of £30,000 to the Britishgovernment to avoid doing so.