UK-US tax treaty capital gains

Tax treaties have a direct impact on any investment made outside of the US or UK. So whether one is planning on investing overseas or making capital gains, it’s necessary to have a good understanding of the implications.

The US and the UK have both signed tax treaties with each other. That means that a taxpayer who invests a sum of money into a different jurisdiction will not be taxed in the same way they would be if the money were invested in their home country.

What is capital gain?

A capital gain is a profit earned through the sale of an investment or asset. This kind of profit is made when an asset’s selling price is higher than its original acquisition price. Quite simply, it’s the difference between the asset’s selling price (higher) and the cost price (lower).

The point to be noted is that the UK taxes capital gains, including selling a primary or only home, life Insurance policies, corporate bonds, motor cars, donations of assets, British government bonds, and so on.

Three factors must be taken into consideration: the rate of tax on capital gains, the residency of the investor and the treaty provisions that apply.

These three elements are crucial in determining how tax liability will be affected when earning capital gains.

1.    Capital gain taxation rates

In the US, it is possible for the tax on a capital gain to be either zero or 20%. This is calculated based on a number of criteria, including whether the investor is a resident of the country, the type of investment they have made and the value of that investment.

The UK has two different rates of capital gain taxation, depending on whether the investor is a UK resident or a non-resident. The tax rate can range from 20% to 45%.

Rates will also vary based on the kind of asset being sold; the tax rate is 28% for carried interest and the sale of secondary properties (such as rental or investment homes), whereas it is 20% for all other assets.

2.    Residency status

Non-UK residents will normally pay the full UK tax rate of 40% for all of their capital gains. For UK residents, however, the tax rate will depend on the amount of time they have been resident in the UK.

The UK Government has devised a tax residence period of 183 days. Owners need to tell HMRC when they sell property or land, even if the gain is below the tax-free allowance or they make a loss. Non-residents do not pay tax on other capital gains.

The key thing to consider is that the rules around residency change over time.

3.     Applicable treaty provisions

When making investments outside of the United States, investors should think about how the tax treaty between the United States and the United Kingdom could affect their decisions. When one earns a profit on an investment, they will determine the jurisdiction and method of taxation that applies.

Worldwide capital gains made by a US citizen who is a resident or ordinarily resident and domiciled in the United Kingdom are subject to taxation as per UK Taxation laws. Only capital gains made in the UK will be subject to taxation for a non-resident who is not domiciled there.

As long as the annual contribution does not exceed £20,000 and the person is a UK resident, any profits made from selling the assets will be exempt from UK capital gains tax.

As per Article 24(6)(c) of the UK/USA Double Taxation Convention, for the purposes of computing United States tax on the profits, income, or chargeable gains, the United States will allow a credit against the capital gains tax paid to the United Kingdom. Any credit provided in this way will not affect the amount of US tax that may be credited from UK tax.

Possible higher tax rates because of capital gains

It’s important to note that the tax rate on regular income varies with one’s wealth level. Gains on investments held for less than a year may be subject to a higher tax rate than salary or wages. This is due to the possibility that a portion of one’s total income may enter a tax bracket that has a higher marginal tax rate.

Capital gains tax is a complex area, and there are many factors to consider before making any investment decisions. However, by understanding the basics of how it works, investors can be better prepared to make informed choices that will minimise tax liability.

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