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Financial Institutions E-briefing: Asset Management Update: Taxation of rebates of trail commission on investment products - update

  • United Kingdom
  • Investment funds and asset management
  • Financial institutions - Briefings and articles

05-04-2013

In our previous briefing we reported on HMRC’s recent briefing on the tax treatment of payments of trail commission rebated to investors in collective investment schemes.

Some questions and practical examples

In this briefing, we look at some practical examples of how intermediaries may be affected by HMRC’s newly-published views based on different models of rebating commission. These examples are based on our current understanding of how the rules apply but advice should be sought on a case-by-case basis where necessary.

In the examples, we have assumed that the relevant investor to whom trail commission is rebated is an individual investor. Where investors are not individuals, different conclusions will generally apply. The IMA has recently produced a useful circular (circular 088-13) analysing how payments to other types of investor, such as UK pension funds, corporates and charities, are affected and IMA members will be able to access this through the IMA’s website.

Where we have referred to trail commission the same analysis will apply to any discounts or rebates on the fund manager’s ordinary annual management charge which are paid to a platform or other intermediary if all or part of the amount paid is rebated to the investor.

We have also assumed that any rebate of trail commission is made in respect of unwrapped investment products. Where rebates of commission are made to an ISA holder within the ISA, these will not be taxable and there will be no requirement for the payer to deduct basic rate income tax from the payment. This is because annual payments arising in an ISA account are exempt from tax.

Where an annual commission rebate is paid in respect of investments held in a SIPP, and is reinvested in the SIPP without leaving the control of the SIPP’s trustee or administrator, HMRC has confirmed that these will neither count as withdrawals from the SIPP nor count as new contributions by the investor. However, HMRC states in its briefing that if payments are made to the SIPP member, these will be taxable. In these circumstances, the SIPP trustee or administrator would therefore need to deduct basic rate income tax from the payments and the SIPP member would be liable to account for any further tax through his or her tax return if he or she is a higher or additional rate tax payer. It would also be necessary to consider carefully whether any rebates paid to a SIPP member amount to an unauthorised payment from a personal pension.

Who is the intermediary?

In this briefing, references to “intermediaries” in the context of assessing any liability to deduct basic rate income tax at source from trail commission rebates apply to any person who has agreed to pay to the investor any part of trail commission or annual management charge rebates or discounts which it receives, or has agreed to apply this for the investor’s benefit. This will, therefore, typically be applicable to fund platforms or advisers. It could also include fund managers where the fund manager itself rebates part of its annual management charge direct to an investor although this is not commonplace.

The intermediary which will be relevant for these purposes is the intermediary which has agreed with the investor to rebate all or part of the trail commission which it receives. In cases where an investment adviser has agreed to pay rebates of trail commission to an investor but the actual payment is made by a fund platform on which the investments are held as agent for the investment adviser, the obligation to deduct tax at source will fall on the investment adviser because the payment is made on the adviser’s behalf by the fund platform. Fund platforms and advisers may, however, seek to agree that – from a practical perspective – the fund platform calculates and deducts basic rate income tax and provides the investor with the relevant tax voucher if the platform is best placed to do this on behalf of the adviser.

Some practical examples

What is the position if the intermediary retains all of the trail commission and does not pay any of this to the investor or use it for the investor’s benefit?

If an intermediary is entitled to receive trail commission but does not pay any of this to the investor (or use it for the investor’s benefit – for example, by using the rebate to buy additional units for the investor or to pay advisory or platform fees for which the investor is liable), then there will be no “annual payment” to the investor. On this basis, there will be no obligation for the intermediary to deduct tax at source. As the investor will not be receiving any rebate of trail commission in cash or in kind, there will be no liability for the investor to account to HMRC for any higher or additional tax.

What is the position if the investment is in a “clean” share class and the intermediary does not receive any trail commission to pay to the investor or use for the investor’s benefit?

Again, in this case there will be no “annual payment” to the investor. On this basis, there will be no obligation for the intermediary to deduct tax at source. As the investor will not be receiving any rebate of trail commission in cash or in kind, there will be no liability for the investor to account to HMRC for any higher or additional tax.

What is the position if the intermediary rebates in cash to the investor all or part of the trail commission which it receives?

If the intermediary rebates in cash to the investor all or part of the trail commission which it receives, the payment will be taxable. Consequently the intermediary must deduct basic rate income tax from the payment. Investors who are higher rate or additional rate tax payers will also need to account for any higher or additional rate tax on the payment when completing their self-assessment tax returns.

What is the position if the intermediary has agreed that it will rebate to the investor all or part of the trail commission which it receives as a unit rebate (ie it has agreed to use this to purchase additional units in the fund for the investor)?

Although, in this case, the investor will not receive a cash payment, the additional units which are purchased for the investor will be treated for income tax purposes in the same way as a cash payment.

As a result the intermediary must account to HMRC for basic rate tax on the “grossed up” value of the benefit (ie the amount that, after deduction of basic rate tax, leaves the net value of the additional units which are purchased). In practice, a lower amount will be available to buy the additional units after tax is deducted at source and the intermediary will need to account for the amount deducted to HMRC.

If the investor is a higher rate or additional rate tax payer, he or she will also need to account for any higher or additional rate tax on the payment when completing his or her self-assessment tax return. There may also be capital gains tax consequences on the eventual disposal of the units.

What is the position if the intermediary has agreed that it will rebate to the investor all or part of the trail commission which it receives but will use this to pay for platform fees or advisory fees?

Again, although the investor will not receive a cash payment, the amount which is used to pay platform or advisory fees will be treated in the same way as a cash payment.

The result is that the intermediary must account to HMRC for basic rate tax on the “grossed up” value of the benefit (ie the amount that, after deduction of basic rate tax, leaves the net value of the amount used to pay the platform or advisory fees). In practice, the tax should be deducted at source from the amount which is used to pay platform or advisory fees (therefore leaving a lower amount available to pay those fees) and the intermediary will need to account to HMRC for the amount deducted.

If the investor is a higher rate or additional rate tax payer, he or she will need to account for any higher or additional rate tax on the payment when completing his or her self-assessment tax return.

What is the position if the intermediary has not agreed that it will rebate to the investor any part of the trail commission which it receives but will instead reduce its platform or advisory fees by an amount equal to all or part of the trail commission which it receives?

Where there is no agreement that all or part of any trail commission is rebated to the investor or used for the investor’s benefit (for example by paying platform or advisory fees), there will be no “annual payment” to the investor.

Even though (prior to HMRC’s briefing confirming that rebates of trail commission are taxable) this would have achieved the same commercial result as using rebates to investors to pay for platform or advisory fees, if a platform or adviser has agreed to reduce its fees to reflect amounts of trail commission which it receives, the investor has never become entitled to it and so there will technically be no payment to the investor.

Intermediaries will need to check the drafting of their terms and conditions carefully, on a case-by-case basis, to ensure that the drafting is appropriate in order that the reduction in platform or advisory fees will not be treated as annual payments which would be subject to HMRC’s newly published views.

Provided that it is clear from the drafting of the terms and conditions that there is no annual payment to the investor, there will be no obligation for the intermediary to deduct tax at source. As the investor will not be receiving any rebate of trail commission in cash or in kind, there will be no liability for the investor to account to HMRC for any higher or additional tax.

Some practical issues for platforms and other intermediaries to consider

The application of changes resulting from HMRC’s briefing take effect from 6 April 2013. In view of the almost immediate application of these changes, intermediaries have little time to consider the steps they should be taking.

We believe that intermediaries should at least be:

  • Identifying whether they make any payments to investors which are subject to the rules
  • Considering whether any imminent payments of rebates can be delayed to allow time to assess the impact of HMRC’s briefing. HMRC has also said that, where payments of rebates which are due very shortly after the start of the new tax year cannot be delayed for contractual reasons and it is not practically possible to deduct basic rate tax, those payments could be made on a gross basis with the tax due recovered from a subsequent payment
  • Building processes and procedures to make the necessary calculations and deductions where payments which they make are subject to the rules. HMRC will accept a manual approximation of tax due until the end of 2013, by which time it expects intermediaries to have developed the relevant systems to do this accurately
  • Issuing tax vouchers to clients in respect of any deduction at source of basic rate tax
  • Considering changes to standard terms and conditions to avoid the impact of the rules (for example, by discounting fee rates instead of paying a rebate)
  • Sending any updated documents to existing clients
  • Notifying existing investors as to the new requirements and the impact it may have on them, including the investors’ potential liability to account to HMRC for any higher or additional rate tax.

Practical issues for fund managers

It is not commonplace for fund managers to rebate part of the annual management charge which they receive direct to investors so, in most cases, HMRC’s briefing will not have any direct impact on fund managers. However, given the complications for platforms and other intermediaries, there may be increased demand for new “super clean” share classes in investment funds with differing levels of annual management charge to reflect the scale and purchasing power of large platforms and other intermediaries. This might mean that fund managers will need to create additional share classes on which no rebates or discounts are given, which may increase transparency of charging by fund managers. This could also have implications on the ability of investors to re-register their fund holdings on a different fund platform if the new platform does not have access to the same share classes.

As we mentioned in our previous briefing on this subject, HMRC consider that they have no discretion in this matter but are duty-bound to collect the tax unless the relevant minister decides otherwise. TISA is actively trying to have the position changed and we would urge anyone affected to support TISA’s initiative.

Eversheds will publish further briefings on this subject if and when new information or clarification is made available.

For more information contact

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