The Scottish Budget, delivered by Shona Robison, has seen the Scottish rate of income tax increase by a further 1% for Scottish taxpayers with an income in excess of £125,140, while also introducing a new 45% income tax band for people earning between £75,000 and £125,140. These changes highlight that there is a marked difference in income tax exposure between Scotland and the rest of the UK.
Given these differences, there are two questions which will come into focus: who is subject to the Scottish rates of income tax and what income does it apply to?
Who is subject to the Scottish rates of income tax?
Separate Scottish rates of income tax have applied since April 2017 to “Scottish taxpayers”. So, who is a “Scottish taxpayer”?
In order to be a Scottish taxpayer, the relevant person must be “resident” in the UK. This is assessed under the UK wide “statutory residence test” which applies generally for UK tax purposes. In turn, if you are not resident in the UK, even if you have exposure to income tax on income with a Scottish “source”, you will pay that at UK rates rather than at Scottish rates.
Assuming you are resident in the UK, you will be a Scottish taxpayer if you meet one of the following two requirements regarding “close connection” and “residency”.
Taxpayers with a “close connection” to Scotland are Scottish taxpayers. This is the basis on which most people will (or won’t) have liability to Scottish income tax and so is worth looking at in a bit of detail.
Where someone has only a single “place of residence” and that is in Scotland, they will be a Scottish taxpayer. Conversely, if their residence is not in Scotland, they won’t be a Scottish taxpayer.
So, the concept of having a place of residence in Scotland is key. At this point it is worth noting that (in itself) the place where someone works does not determine exposure to Scottish income tax. So, someone living in Berwick-upon-Tweed who commutes to work in Edinburgh is not a Scottish taxpayer but someone who lives in Coldstream but works in Wooler is a Scottish taxpayer.
Returning to the concept of “residence”, it is not defined in the legislation but the concept has been a feature of the UK tax system for many years, so there are numerous examples of what it can mean. This has led His Majesty’s Revenue and Customs (HMRC) to say that “an individual’s ‘place of residence’ is a place that a reasonable onlooker, with knowledge of the material facts, would regard as the dwelling in which that person habitually lives: in other words his or her home”.
Essentially, we’re concerned with where someone lives and so if you are “resident” in the UK for tax purposes and live in Scotland you are a Scottish taxpayer (and so have exposure to Scottish income tax).
While that is relatively clear, what about those people who may have more than one place of residence? In this case if you have your “main place of residence” in Scotland, then you will have a “close connection” to Scotland (and so will be a Scottish taxpayer). Deciding where your “main place of residence” is can be a complicated process and again is not subject to a statutory test.
In their guidance HMRC make the point that a “‘main place of residence’ is not necessarily the residence where the individual spends the majority of their time, although it commonly may be. A ‘main place of residence’ is the ‘place of residence’ with which the individual can be said to have the greatest degree of connection”.
So, if someone has two places of residence and one is not in Scotland (e.g. a flat in Glasgow and a house in Carlisle) their main residence is not necessarily the address at which they spend most of their time and so a review of various factors (such as their family and social connections) is required. Sticking with the above example, if the flat in Glasgow was used by an individual through the week to avoid commuting but the “family home” was in Carlisle, even though that person may spend more time in Glasgow, their “main place of residence” may be Carlisle.
Finally, there will be some people who are resident in the UK but who cannot identify a “close connection” to any part of the UK (e.g. because no place of residence or main residence can be identified). In that case a person will be a Scottish taxpayer in a year if they spend more days in Scotland as compared to the rest of the UK.
What does Scottish Income Tax apply to?
While being a Scottish taxpayer will be the main factor in determining liability to Scottish income tax, there are further complications. While generally all Scottish taxpayers are subject to Scottish income tax there are exceptions. For example, trustees are not subject to Scottish income tax on trust income even if they happen to be Scottish taxpayers (although the position of beneficiaries is different).
Of more general application is the fact that not all forms of income are subject to Scottish income tax and, in particular, Scottish taxpayers will continue to pay UK rates of tax on both dividend and savings income. This obviously adds a further layer of complexity to the affairs of some taxpayers but it may also lead to some behavioural changes. For example, Scottish taxpayers who operate on a self-employed basis may look more closely at the option of incorporating their business and drawing renumeration partly as a dividend so as to reduce exposure to the higher Scottish rates.