UK business offshoring: Key tax risks you need to know

In an increasingly globalised economy, it’s tempting for UK businesses to consider relocating abroad to benefit from more favourable regulatory environments or lower tax rates. Although offshoring can sometimes be effective from both a business and tax perspective, it is fraught with risks, costs and long-term complications. It is not an option that should be pursued lightly.

This article explores some of the tax issues and risks businesses can face when considering offshoring their business.

UK tax residency rules to consider when offshoring a UK business

Generally, the UK tax system taxes UK residents on their global income, regardless of where it is made, so where a person or company is resident has a big impact on where and what tax they are subject to.

Under UK law, a company is tax resident if it is:

• Incorporated in the UK, or
• Centrally managed and controlled from the UK.

Even if a new company is set up abroad, HMRC may still treat it as UK tax resident if strategic decisions are made in the UK. This includes:

• Board meetings held in the UK
• Directors making decisions while physically present in the UK, even via email
• UK-based advisors influencing control

Dual residency can also arise, where both the UK and the foreign jurisdiction claim taxing rights. While double tax treaties may help resolve this, they can be difficult to interpret, can require costly or complicated steps to be followed and don’t always fully eliminate the risk of double taxation. Treaty benefits may also be denied if the company’s structure is deemed artificial, adding to the risk of tax driven planning.

If directors or shareholders relocate overseas, they will need to be careful with regards to their personal tax residency. The UKs statutory residency tests for individuals can be complicated and easy to fall foul of. They also place stringent limits on the amount of time the individuals would be able to spend in the UK if they are looking to become UK non-resident.

Exit charges: A major tax risk when offshoring UK business structures

Before a company ceases to be UK tax resident, it faces a significant hurdle: exit charges under TCGA 1992 s185. These charges apply to:

• Stock
• Unrealised gains on assets (e.g. property)
• Loan relationships and financial instruments
• Intangible assets, including trademarks and patents (e.g., intellectual property and goodwill)

HMRC treats the company as having sold all its assets at market value immediately before migration, even if no actual sale occurs. This can result in a significant tax liability, especially for businesses with valuable IP or assets.

While deferral options exist (e.g., the exit charge payment plan), they are limited to specific cases and jurisdictions and require detailed applications and ongoing compliance. Other mitigation options may undermine the wider purpose of offshoring. They tend to work by leaving the assets within the UK tax net through the use of a UK permanent establishment or by migrating them to a company that will stay within the UK.

HMRC notification requirements when offshoring a UK business

Companies must notify HMRC of their intention to migrate and provide:

• A full breakdown of tax liabilities
• A plan for settling those liabilities

Notification is not simply a formality – it is a legal obligation with serious consequences. Failure to notify can result in penalties equal to the company’s relevant outstanding tax liabilities at the date of the migration, and directors may also be subject to penalties.

Permanent establishment (PE): How PE can affect offshoring UK business operations

Moving a business offshore administratively is one thing but serving customers  in the UK while maintaining offshore status may be difficult. If a company is considered to be trading in the UK through a permanent establishment, the profits of that permanent establishment will be subject to UK tax, It will also be taxed in the jurisdiction that the business has moved to. A UK PE of a foreign company can arise from:

• A fixed place of business (office, warehouse, factory) in the UK
• A dependent agent acting on behalf of the company who has (and habitually exercises) authority to do business on behalf of the company (e.g. concluding contracts) in the UK

This means extreme care needs to be taken in relation to UK-based directors and employees, as in certain circumstances the use of a home office may risk creating a PE.

Double tax relief may be available under an applicable tax treaty or the legislation of the jurisdiction that the business has offshored to. However this may not fully eliminate the double tax, and suffering UK tax on the profits of the PE may undermine the whole point of offshoring. The existence of a PE can also trigger VAT registration, employment tax obligations and transfer pricing scrutiny.

Controlled foreign company (CFC) rules: A key consideration when offshoring UK business profits

If UK shareholders control a foreign subsidiary, HMRC may apply CFC rules to tax profits that are deemed to have been artificially diverted from the UK. This includes:

• Passive income (e.g., interest, royalties)
• Profits from IP held abroad but developed in the UK
• Management services charged at inflated rates.

This can add significant complexity to structuring any offshoring arrangements. CFC rules are complex and HMRC can be aggressive in how it enforces them. Even genuine commercial operations can fall foul if documentation and substance are lacking.

Transfer pricing risks when offshoring UK business functions

Relocating functions, assets, or services abroad may trigger transfer pricing obligations. Where a company is subject to the transfer pricing rules, intra-group transactions must be priced at arm’s length, including:

• Royalties for IP
• Management fees
• Charges for intercompany services
• Intercompany loans

HMRC and foreign tax authorities will demand documentation and may challenge pricing. Non-compliance can lead to double taxation, penalties, and reputational damage.

Many smaller companies and groups assume that they can rely on the transfer pricing exemption that exists for small and medium enterprises. However this does not apply in relation to transactions with related parties in jurisdictions that the UK does not have a tax treaty with an appropriate non-discrimination article. This means that the exemption does not apply to transactions with related parties in common offshoring locations such as Jersey, Guernsey and the Isle of Man.

Hybrid mismatch rules

Where UK businesses offshore parts of their operations, consideration needs to be given to whether the hybrid-mismatch rules may apply. These apply where UK companies involved are in cross-border or domestic transactions that result in hybrid mismatches and target arrangements involving hybrid entities, hybrid instruments, reverse hybrids, and permanent establishments.

The types of mismatches covered by the rules are:

• Hybrid financial instruments (e.g., instruments treated as debt in one country and equity in another)
• Hybrid entities (e.g., entities treated as transparent in one jurisdiction and opaque in another)
• Imported mismatches (where a mismatch arises outside the UK but affects UK tax outcomes)
• Reverse hybrids (entities not taxed in the UK but whose income is not taxed elsewhere either).

The rules can act to deny deductions or include additional taxable income to neutralise the mismatch.

Substance requirements for offshoring UK business operations

Many jurisdictions now require economic substance to validate tax residency. This means:

• Real operations must occur locally
• Local staff must be employed
• Decision-making must happen in the jurisdiction.

Setting up a mailbox company or renting a desk in a co-working space won’t suffice. If substance is lacking, the company may be denied treaty benefits and/or face tax penalties.

VAT implications

Relocation can trigger complex and potentially costly VAT consequences:

• UK VAT registration may still be required if the business continues to supply goods or services in the UK
• Cross-border transactions may require VAT registration in the destination country
• Place of supply rules determine whether UK VAT applies to services provided from abroad
• Import/export VAT implications arise if goods are moved between jurisdictions.

Failure to deregister or correctly register for VAT can lead to penalties, interest and compliance issues with both HMRC and foreign tax authorities.

Pay as you earn (PAYE) and national insurance contributions (NICs)

If UK employees or directors continue working for the business post-relocation:

• PAYE obligations remain for UK-based employees, even if the company is non-resident
• Non-resident directors attending UK board meetings, even occasionally, may trigger PAYE and NIC obligations
• NICs may still apply depending on the employee’s location and duration abroad.

HMRC can impose backdated PAYE and NIC liabilities, interest, and penalties. Companies often overlook these obligations, especially for internationally mobile directors.

Capital gains tax (CGT) considerations

If a business is moved offshore but still owns UK assets, CGT can remain an issue. This is because it applies to disposals of UK assets, even by non-resident companies:

• UK land and property are always within the UK CGT net
• Assets used in a UK permanent establishment remain within the UK CGT net

Businesses that have moved offshore, in part or in whole, or that are looking to offshore, may face unexpected CGT liabilities on asset transfers, especially if goodwill is not properly valued or documented.

Stamp duty land tax (SDLT) risks when offshoring UK business property holdings

If the business owns UK property:

• SDLT may apply on restructuring or transferring ownership as part of the relocation
• SDLT is payable even if the transfer is between related entities, unless conditions for specific reliefs are met
• SDLT is payable if a non-resident business acquires UK property. Non-UK resident companies acquiring UK residential property in England and Northern Ireland are subject to an additional 2% SDLT surcharge
• If a residential property costs more than £500,000 (where ATED will be considered), the flat 17% higher threshold rate for corporate bodies may apply unless the company qualifies for applies for relief

SDLT can be substantial, especially for commercial property and is often overlooked in migration planning.

Conclusion

Commercially driven offshoring can be appropriate for certain businesses, but the process is complex and carries significant risk. As noted above, these risks, together with the compliance burden and associated professional costs, must be carefully balanced against any potential commercial advantages.

For owner managed businesses in particular, achieving a meaningful reduction in the effective tax rate through offshoring all or part of the business is typically very challenging. This is because, generally speaking, owner managers are often either unable or unwilling to make the substantive changes that would be required in terms of their operations, management, and decision-making processes.

In addition, any offshore structure must be capable of withstanding scrutiny not only from tax authorities but also during future due diligence exercises. Prospective buyers, investors, and their advisers routinely examine historic tax positions, governance arrangements, and the commercial rationale for offshore entities. Structures that lack genuine substance or appear tax motivated can materially impact valuation, delay a transaction, or even deter buyers altogether. This reinforces the need for any offshore arrangements to be robust, commercially justified, and defensible over time.

If you’re considering offshoring part or all of your business, our specialist tax team can help you understand the risks and assess the right approach.