Chief executives of international life companies issued a warning about a recent change to capital gains tax (CGT) legislation hitting non-UK residents investing in UK property funds at International Adviser’s Fund Links Forum 2019 on 17 October.
Peter Kenny of Old Mutual International, David Kneeshaw of RL360 and Mike Foy of Utmost Wealth Solutions highlighted that the lesser known, and very wordy, regulation is hitting life companies with a hefty tax liability.
The UK Property Rich Collective Investment Vehicles (Amendment of the Taxation of Chargeable Gains Act 1992) Regulations 2019 came into force in April 2019 and established that non-resident investors in UK property-rich funds are liable to capital gains tax.
A fund is determined as ‘property-rich’ if it has at least 75% of its assets invested in property.
Cross-sector cooperation
This is affecting life insurers, especially those based in the Isle of Man, since the industry is a “huge investor in UK property funds”, Kenny said.
The Fund Links Forum proved an ideal setting for the chief executives to raise the issue with the asset managers present.
“Our understanding is that it appears customers don’t really know about this,” Kenny said.
“It appears the UK fund industry doesn’t really know about this, and if they do know about it, they’re staying pretty silent.
“We can understand there might be some self-serving reasons why they would stay quiet about it. But the fact is, this is in force and has been since April.”
Client protection
Kenny is chair of the Manx Insurance Authority (MIA) and the issue has been heavily discussed by the life businesses on the island.
He said that their collective view is they don’t think it would be fair to pass the tax charge on to their customers.
But this would mean deciding whether to keep investing in UK property funds or exit the vehicles altogether.
And it’s not just insurers on the Isle of Man that are exposed to the CGT change, with companies in Dublin, Guernsey and Jersey also classified as non-resident investors.
The Isle of Man life sector has around £765m in these types of funds, Kenny said, but if insurers from all of the jurisdictions were to withdraw from UK property funds this could potentially mean a loss of between £2bn to £3bn ($3.9bn, €3.5bn) for the UK fund industry.
The redemptions could occur as early as Christmas 2019.
“Now, these funds are already in a fairly precarious state, with Brexit and uncertainty; they’re already on monthly reporting to the regulator around liquidity,” Kenny added.
“And we suspect £2bn or £3bn worth of redemptions, in a fairly short order, is probably not going to help that.”
Caught in the net
RL360’s Kneeshaw said that while he understands the regulation change, it has caused some (probably unintended) side effects.
“There was no doubt that there was a large amount of investment in UK property going on by people using offshore vehicles to hide ownership and their tax, right down to individual middle class families buying houses through offshore vehicles,” he said.
“So, you can see why the Treasury wanted to do something. And, in principle, there’s nothing wrong with that motive.
“It does seem bizarre they’ve ended up effectively killing off investment in UK property funds by all perfectly legitimate vehicles. And I have a feeling that they didn’t mean it.
“It seems to have taken on a life beyond its original intention. But they just don’t want to admit it.”
Not willing to pay the price
Utmost’s Foy, however, said there is no way life companies are willing to take on the burden.
“We’ve come to the same conclusion that the administration of it sounded quite simple, in that you just take whatever the customer’s gained in the property fund and then subject it to the tax charge.
“[But] it’s our corporation tax charge that comes through, so it’s a hugely complicated process. This is why we decided we probably can’t fulfil it.
“It would have been helpful to have a bit more collaboration [with the fund sector] on what is essentially a joint problem. I’d guess that the fund industry doesn’t want £2-3bn of redemptions.”
Kenny added that he would like to see more engagement between the two sectors; because together they could more powerfully lobby both HM Revenue & Customs (HMRC) and the UK Treasury.
He said: “I do you think there is an opportunity for us to combine forces, get a common understanding of this issue and try and get some engagement with the UK Treasury.
“Because the consequence of this is, we are almost certainly going to redeem these positions. That’s not great for us. It’s not great for UK property funds and it’s not great for our customers.”
Change on the horizon?
But HMRC has rolled out a consultation to seek views on draft amendment to the legislation.
Kenny said: “In current markets conditions, the impact of any CGT charge on UK property-rich funds is likely to be minimal to none.
“However, the sector needs to consider the impact should these funds see a recovery as these rules will introduce an additional layer of administration cost into businesses and punish unwary customers simply investing in portfolios of retail funds.
“I would urge policy makers to look again at the outcome of these rules. I believe it would be possible to achieve the desired outcome while minimising the potential impact on offshore retail investors by introducing an exemption for portfolio investors.
“For example, Treasury could introduce a de minimis rule, excluding portfolio investors holding less than 10% interest in UK property-rich funds.
“There are precedents for such exclusions. The majority of countries do not levy taxes on gains made by non-residents and for the limited number that do, there is usually relief for portfolio investors.
“For example, US tax law allows an exemption to US tax for foreign investors holding up to 10% interest in US Reits.
“The current policy not only risks introducing additional costs for investors, but also risks impacting the stability and liquidity of UK property funds, which could be faced with billions of pounds worth of redemption requests from non-resident insurance companies holding investments in property rich collective investment funds on behalf of retail clients.”
Unilateral sell-off
Foy added: “The recent consultation, which closes on 25 October 2019, is merely fine-tuning to certain parts of the existing rules that were put in place in the Finance Act 2019 earlier this year.
“It’s fair to say that the introduction of a tax charge on UK Property Rich Collective Investment Vehicles (CIVs) has broadly been missed by the insurance industry, however, we took the opportunity to use the latest consultation to express our concern via various trade bodies, e.g. the MIA and Ailo.
“Certain representations have been made including:
- Exemption for offshore bonds on the same basis as onshore bonds, i.e. a credit for income tax on final disposal to stop the policyholder suffering double taxation;
- Exemptions based on minimum holdings in the CIV, which would align with rules for other vehicles which allow for a de-minimus.
“The key issue faced by providers is not the tax charge itself and more about the calculation and recovery of any tax charge from the policyholder. If the rules are not changed, there could well be a unilateral sell off of such funds by providers looking to avoid this cumbersome and disproportionately costly obligation.”
