Written by Ciara Davies

The government’s Spring 2020 Budget contained an announcement that a review of the UK funds regime would be carried out. The government started with a consultation on the tax treatment of asset-holding companies in alternative fund structures. It responded to this consultation in December 2020 and subsequently launched another consultation. The government will also be conducting a review of the VAT treatment of fund management fees.

HM Treasury has now published a call for input on its review of the UK funds regime, setting out the scope and objectives of the review. The overarching objective of the review is to identify what will make the UK a more attractive location to establish, manage and administer funds. Stakeholders are invited to provide their views on which reforms should be taken forward and prioritised. 

The deadline for comments is 20 April 2021.

HM Treasury’s main areas of focus are:

1. The UK’s approach to funds taxation

The government believes that tax implications should not discourage investment through funds. The UK funds regime seeks to ensure tax neutrality and the government wants to ensure that the taxation of UK funds remains competitive. The call for input offers an opportunity to reflect on and assess the efficacy of previous reforms, for example, the introduction of the tax transparent co-ownership authorised contractual scheme.

The call for input also acknowledges that there is scope for change and suggests a number of improvements that could be made to the UK’s fund tax rules. Areas of continued interest to HM Treasury, from a tax perspective, include:

  • the tax neutrality principle, which does not always hold for funds that are investing in a mix of equity and debt instruments (‘balanced funds’);
  • a perception that there are unnecessary barriers and complexity within the existing Real Estate Investment Trust (REITs) rules;
  • cases where the UK approach to VAT on fund management services can create incentives for the domicile of funds outside of the UK; and
  • tax treaty benefits historically enjoyed by UK-domiciled funds, which will be of continued importance.

The call for input discusses potential reforms to (i) multi-asset / balanced authorised funds, (ii) tax-exempt funds, (iii) Real Estate Investment Trusts, (iv) indirect tax, (v) Treaty issues, (vi) asset holding companies and (vii) limited partnership funds. Interestingly, in relation to tax-exempt funds, the Treasury states that it is open to considering making authorised funds exempt from tax altogether (in line with some other jurisdictions) or to introduce an unauthorised tax-exempt structure for investment in alternative assets.

2. The UK’s approach to funds regulation

The call for input also considers elements of regulation relating to existing fund structures and the broader funds environment that could be enhanced. HM Treasury identifies the following areas for potential reform in particular:

  • UK Authorisation: The government would like to understand the driving factors behind why firms creating fund products choose authorised or unauthorised structures and, in particular, why some firms creating fund products aimed at professional investors consider authorised fund structures to be most appropriate.
  • Speed to market: The government asks whether the FCA’s current authorisation regime allows for speed to market and whether there should be greater certainty about authorisation timescales.
  • Qualified Investor Scheme (QIS): the government would like to understand how the QIS could be made more attractive.
  • Operational efficiency: Whether a proposal by the UK Funds Working Group for an optional “Direct2Fund” investor dealing model would improve operational efficiency. The alternative model would give investors the option to transact directly with funds and remove the authorised fund manager as a counterparty to the investor deal.

3. Other opportunities for reform

The call for input also asks for views on issues that cut across the tax and regulatory elements of the UK funds regime. 

This includes discussion on enhancing existing fund structures (principally in relation to Investment Trust Companies and changes to the rules around distribution of capital) as well as the creation of new fund structures, such as the long-term asset fund and new unauthorised fund vehicles.  There is also discussion on defining possible of areas of opportunity for the industry, for example, spreading the benefits of fund administration across the UK.

The call for input does exclude certain areas from its scope. In particular, discussions around sustainable finance (which is being taken forward separately) and changes to ‘onshored’ legislation following Brexit are out of scope.