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HMRC issues new tax guidance for hedge funds


In brief
  • Revised statement of practice ensures offshore funds remain not liable for UK tax
  • Investment transactions within scope increased
  • New guidance on “Customary Remuneration”
  • Takes immediate effect



Following a wide-ranging consultation, HM Revenue & Customs has updated its guidance on the investment manager exemption (IME).  The IME is an important feature of the UK hedge fund industry as it enables offshore funds with UK based managers to be exempt from UK tax.

The revised statement of practice sets out the conditions that funds have to meet to qualify for the exemption. According to HMRC, the aim of the new guidance is to improve the exemption by introducing greater flexibility and expanding the scope of tax exempt activities.  It also addresses a particular concern of the HMRC that, in some cases, fund management fees were being “diverted offshore” to evade or avoid UK tax.  The HRMC argued this was an abuse of the “customary rate” test which states hedge fund managers must be rewarded at the market rate to qualify for the exemption.

Hedge funds have welcomed the statement of practice.  Previously, some feared that the review would result in offshore funds becoming liable for UK tax, which sparked fears of an exodus of funds from the UK.

Key changes in the IME include:

  • Scope of investment transactions: The scope of investment transactions permitted under IME will now also include carbon emission credits, futures and options in commodities (provided no physical delivery occurs).  Transactions in physical commodities and lands are still excluded.  Hedge funds also permitted to participate in syndicated loans without losing exemption, provided they do not take lead in arranging syndicate.
  • Proportionality: Where a manager enters into a non-exempt transaction, which is “minor” or “made inadvertently” that will not cause the whole fund to lose its tax exempt status provided the profit is charged to UK tax. 
  •  Independent capacity: The manager must act for the fund in an “independent capacity”.  The relationship will be considered independent if the fund is “widely held” or “actively marketed.”
  • Customary remuneration: To qualify for the exemption, hedge fund managers must be rewarded at “not less” than the customary (i.e. market) rate.  The new statement of practice explains how customary remuneration will be assessed, based on the arms-length principle.

The new statement of practice comes into immediate effect. However, for those funds which need to make changes to become compliant, the deadline is 31 December 2009.


To download the new IME statement of practice (14 pages), click here: UK Investment Manager Exemption – 1/01.

For more background, click here: Summary of Responses and HMRC Comments: Investment Manager Exemption.

 

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