Financial services
The financial services sector was looking for concrete progress
on three key consultations: authorised funds, investment trusts and
offshore funds. There were no public announcements on any of these
issues which leaves the sector in continuing limbo. If the silence
means the end result will be better proposals and positive movement
on flagged concerns from past consultations then this could be good
news. However, with changes hoped for in the next Finance Bill, it
is surprising that no official responses were made and the industry
would like a chance to comment on any formal proposals as soon as
possible.
The below is a summary of the main areas covered in today's PBR,
please click the below bookmarks for further information:
Tax Elected
Funds
Investment Trust
Companies
Qualified Investor Scheme:
Replacing The Substantial Holding Rule
Offshore funds
UK Real Estate Investment
Trusts
Property Authorised
Investment Funds
Investment manager
Exemption-"Investment transactions" definitions
Trading vs.
Investment
Taxation of Personal
Dividends
Review of offshore financial
centres
Avoidance using Authorised
Investment Funds
Stock Lending
Arrangements
Individual Savings
Accounts and Multilateral Institutions
Islamic Finance
Stamp Duty Reserve Tax
Tax Elected Funds
The Government issued a consultation paper on 28 July 2008, to
consider an approach where the UK based Authorised Investment Funds
(AIFs) will not pay tax on certain investment income at the fund
level, with the view to delivering a more competitive tax regime
for AIFs. UK AIFs which elect to become a Tax Elected Fund (TEF)
will not pay tax on certain investment income, with the key aim of
leaving the investors in broadly the same tax position as if they
had invested directly in the underlying investments of the
funds.
In view of the current threat from other offshore funds located
notably in Ireland and Luxembourg, we believe the proposed TEF
could be perceived to be more tax efficient for many tax-exempt UK
investors such as pension funds, charities, Individual Savings
Accounts and overseas investors.
The regime will be elective, thereby allowing funds to elect
into the new regime following a positive cost/benefit analysis
which depends largely on their investor profile and overall
investment strategies.
There are a number of key areas for consultation, including, in
particular, the ability of AIFs to access double taxation treaties.
In the 2008 PBR, it was noted that the Government is currently
considering industry responses to the consultation, with a view to
introducing legislation in Finance Bill 2009.
Investment Trust Companies
The report published in October 2007 by The Association of
Investment Companies (AIC) identified tax as a barrier for
Investment Trust Companies (ITCs) investing in bonds and similar
securities. As it currently stands, interest income received by an
ITC would be subject to UK corporation tax at a rate of 28%
(assuming no excess management expenses) compared with other
offshore jurisdictions where the interest income may not be subject
to tax within the company.
In the consultation document issued on 28 July 2008, the
Government announced its intention to adapt the current tax rules
for ITCs to invest tax-efficiently in bonds and other interest
producing assets. Under the proposals, interest income will
continue to be taxed within the ITC and the distribution of income
would be deductible expenditure within the ITC's corporation tax
computation, once it is paid to shareholders. The taxation of
interest income should ensure the ability of ITCs to access double
taxation treaties.
The proposals are a welcome development. However, the new regime
would involve the streaming of income (ie dividend/interest split),
hence it is important to recognise the considerable operational
complexities and costs this would impose on the 'take-up' of the
new regime.
Again, in the 2008 PBR, there were no further comments, other
than confirmation that the Government would continue to consider
industry representations, with the aim of introducing legislation
in the 2009 Finance Bill.
Qualified Investor Scheme: Replacing The Substantial Holding
Rule
Further to HM Treasury's consultation paper of 28 July 2008, the
Government has now announced the changes to the tax rules for
Qualified Investor Schemes (QIS).
As it stands, the take-up of the QIS regime has been slow owing
to the ongoing concern with the current requirement that investors
(except certain categories of investors such as life insurance
companies, pension funds, etc.) cannot own 10% or more of the
fund.
In our view the existing QIS regime plays an important role in
offering opportunities for sophisticated individual and
institutional investors to invest in a wide range of investments.
The replacement of the current QIS tax rule that imposes a
different form of tax charge on substantial investors (those
investors with a 10% or greater holding) with the genuine diversity
of ownership rule, demonstrates the Government's intention to help
level the playing field between UK onshore open-ended funds and
other offshore funds.
It is encouraging that the amendment will have effect on and
after 1 January 2009 and transitional periods will also apply to
existing QIS.
Offshore funds
As part of its consultation on the taxation of offshore funds,
HMRC issued draft regulations in May 2008.
Although these regulations were seen as a positive step forward,
particularly the ability of accumulation funds to obtain reporting
fund status and the abolition of the 5% investment test, there were
a number of concerns within the proposals, in particular in
relation to system requirements, the calculation of reportable
income and the extent of the reporting requirements themselves.
One important area which remains outstanding is the definition
of an offshore fund. Clearly, this is of fundamental importance to
many fund promoters who are seeking to structure funds and require
certainty on their treatment.
In the 2008 PBR, there were no further comments, other than
confirmation that the Government would progress proposals with the
aim of introducing legislation in the 2009 Finance Bill.
UK Real Estate Investment Trusts
Anti-avoidance legislation will be introduced in Finance Bill
2009 to make changes to the current Real Estate Investment Trusts
("REITs") regime. As it currently stands, companies or groups of
companies which elect to opt into the REIT regime are exempt from
tax on income and gains made on property, provided the company or
group meets the conditions where 75% or more of the value of its
assets must consist of property involved in a property rental
business, and 75% or more of its profits must arise from property
rental business (also known as the balance of business tests). A
REIT group is defined on the lines of a capital gains group which
relates to amounts of share capital held.
The anti-avoidance legislation will be introduced to ensure that
the balance of business tests cannot be circumvented by the
artificial creation of new group structures for REIT purposes, and
preventing groups of companies splitting their activities into more
than one group where both groups remain under the same economic
ownership.
It is expected that changes to the legislation will also exclude
all owner occupied property from the tax exempt business.
We welcome the Government's intention that the draft legislation
will be subject to consultation with the industry in the New Year
with the final changes to take effect on accounting periods
beginning on and after 1 April 2009.
Property Authorised Investment Funds
The Government launched the Property Authorised Investment Fund
(PAIF) regime on 6 April 2008 and has today introduced measures to
assist feeder funds to PAIFs by exempting them from stamp duty
reserve tax (SDRT) and simplifying distributions to PAIF feeder
funds. Today's measures apply to specialist funds (feeder funds)
set up to invest solely in an associated PAIF and will have effect
from 1 January 2009.
Currently, under Schedule 19 of the Finance Act 1999, SDRT
applies to both a PAIF and a feeder fund., but this measure
provides an exemption from Schedule 19 for a feeder fund that
satisfies certain conditions in order to prevent a double tax
charge occurring.
In addition, current tax regulations for PAIFs require that
property income and interest distributions are paid gross to other
AIFs. This measure will allow for net payment to unit trusts where
this is requested, simplifying administration for specialist
'feeder funds' through which companies can invest in PAIFs.
Investment manager Exemption-"Investment transactions"
definitions
Finance Act 2008 gave power to issue regulations, setting out
what is included within the definition of 'investment transactions'
for the purposes of the Investment Manager Exemption.
The purpose of the regulations is to allow a streamlined
legislative process to enable transactions to be added as new
investment transactions are developed.
Detailed consultation with industry and other relevant parties
has taken place on this issue. No further comment was made in the
2008 PBR on this matter, although following discussions with the
industry, it is expected that final regulations will be introduced
in early 2009.
Trading vs. Investment
Despite a general presumption that investment funds are not
trading, an inherent risk of trading has always existed for both
open ended and closed ended funds. While authorised funds were
provided with some clarity by Tax Bulletin 60 in 2005, the position
for closed ended funds has been less certain. This uncertainty has
become increasingly important in view of the innovative product
development in the investment industry. The update to Statement of
Practice (SP) 1/01 and the 2007 PBR offered clarity in respect of
the use of derivatives, however uncertainty remained, which may
have been a contributing factor to the number of new funds
established offshore.
The question of trading or investment is also important for
those funds wishing to obtain distributor status (or the proposed
reporting fund status) for UK investors. With the reduction of CGT
rates to 18% for individuals, this again is increasingly
important.
It was hoped that there would be further clarification of the
issue in today's PBR. However the PBR merely announces an intention
to discuss the issue of further legislative certainty in respect of
authorised investment funds only. It does not appear to indicate
that other areas such as closed ended or offshore funds will be
covered by proposed discussions. In our view it is important that
discussions can be extended to cover other areas, given industry
expectation for much greater clarification across the
board.
Taxation of Personal Dividends
Finance Act 2008 introduced a 10% tax credit on dividends
received from non UK resident companies by UK resident and EEA
national individual shareholders with portfolio holdings of less
than 10%. UK dividends are accompanied by a tax credit of 10%,
which satisfies the tax liability of basic rate taxpayers and is
offset against the tax liability of higher rate taxpayers, bringing
their effective tax rate on UK dividends to 25%. This treatment now
applies to overseas dividends and will be extended to shareholdings
of over 10% from 6 April 2009.
However currently shareholders in receipt of dividends from
offshore funds are not entitled to the 10% tax credit. This last
minute denial of the tax credit for offshore funds was introduced
to counter a perceived tax advantage for offshore bond funds over
their UK equivalents, by effectively converting an interest receipt
into a lower taxed dividend.
As it stands, the treatment of dividends from offshore funds is
still different from the equivalent UK funds. It was hoped that
today's PBR would announce a further amendment, allowing
entitlement to the 10% tax credit to shareholders receiving
dividends from offshore equity funds, resulting in only dividends
received from offshore bond funds being denied the tax credit.
However no such announcement was forthcoming, perhaps owing to the
wider consultations on the taxation of Authorised Investment Funds
and offshore funds.
Review of offshore financial centres
The Chancellor today announced a review of the UK's offshore
financial centres in the global economy. The review will cover long
term opportunities and challenges - in particular the areas of
financial supervision and transparency, fiscal arrangements,
financial crisis management and resolution arrangements and
international co-operation. Budget 2009 will include interim
conclusions, with fuller conclusions to be published later in the
year. Clearly this will be of interest for funds or fund operators
in the Isle of Man or the Channel Islands.
Avoidance using Authorised Investment Funds
Anti-avoidance provisions will be introduced to prevent the
Authorised Investment Fund (AIF) corporate streaming provisions
applying to investors where the receipt of AIF dividends is treated
as trading receipts. Effectively, from 1 January 2009, the only
investors remaining within the scope of the current rules are
general insurance companies where the dividend from these funds are
not treated as trading receipts.
Stock Lending Arrangements
Legislation will be introduced to disapply stamp duty and SDRT
in certain circumstances. As of 1 September 2008, there will be a
relief from the SDRT charge which would have arisen in a stock
lending transaction where the non-return of equivalent stock arises
as a result of the insolvency of the borrower. Currently there is
no charge to stamp duty or SDRT on a stock lending transaction
provided that the stock is returned at the end of the arrangements.
However, if the stock is not returned a charge to SDRT arises on
the borrower to reflect the fact that the loan has become an
outright transfer. The new legislation will prevent a charge
arising on the insolvency of the borrower.
There will also be a relief from a charge to stamp duty or SDRT
on the purchase of replacement securities of the same kind by a
lender using the collateral provided by the borrower where the
borrower has become insolvent.
Also, as from 24 November 2008 (with the possibility to also
elect back to 1 September 2008), when a lender has to buy
replacement securities because of the default, the non-return will
no longer be treated as a disposal for capital gains purposes.
Replacement securities should be of the same kind and bought on the
market using the borrowers collateral.
Individual Savings Accounts and Multilateral Institutions
The Individual Savings Accounts (ISA) Regulations 1988 specify
the type of investments that may be made under a savings plan, and
currently securities that are eligible must be issued by the UK or
a European Government, or by a company which has a share
capital.
As a result of an informal consultation document published on 9
October 2008 draft amending regulations will enable bonds issued by
Multilateral Institutions to be qualifying investments for the
stocks and shares ISA.
Islamic Finance
The Government also announced measures to demonstrate a
commitment to promoting the UK as a centre for global Islamic
finance, as well as levelling the playing field between
conventional and alternative financing products, as utilised within
Islamic finance.
Stamp Duty Reserve Tax
Finally, there was a signalling of intent to continue
discussions with the industry on options for the reform of Stamp
Duty Reserve Tax applying to funds in Schedule 19.