Offshore Funds Manual

Transcription

1 Offshore Funds Manual Introduction to the Offshore Funds Manual This manual explains how UK resident investors in offshore funds are treated for tax purposes. It sets out the background to the offshore funds tax regime that applied to UK investors in offshore funds from 1984 onwards, and provides detailed guidance explaining how UK investors are treated under the replacement regime introduced by Finance Act 2008 and the Offshore Funds (Tax) Regulations 2009 (S.I.2009/3001). The manual also provides guidance relevant to the treatment of investments held by offshore funds in other offshore funds, for the purposes of the Regulations. Contents Introduction OFM00500 OFM01000 OFM01500 Background to the treatment of UK investors in offshore funds Overview of the 1984 regime for offshore funds Overview of the 2009 regime for offshore funds Definition of an offshore fund Contents OFM02000 OFM02200 OFM02500 OFM03000 OFM03500 OFM04000 OFM04500 OFM05000 Overview Meaning of offshore fund Meaning of mutual fund Exceptions to the meaning of mutual fund Transparent entities Umbrella funds and protected cell companies Classes of interest Particular arrangements The 2009 offshore funds regime OFM06000 Introduction Investors in non-reporting funds OFM07000 Introduction OFM08000 Distributions: the charge to tax OFM08500 Disposals of interests OFM09000 The charge to tax on disposals of interests OFM10000 Exceptions to the charge to tax OFM10500 Computation of offshore income gains OFM11000 Deduction of offshore income gains in computing capital gains OFM11500 Conversion of a non-reporting fund to a reporting fund Reporting funds OFM12000 Introduction OFM12500 Applications for reporting fund status OFM13000 Duties of reporting funds OFM13500 Preparation of accounts OFM14000 Computation of reportable income 1

2 OFM14500 OFM15000 OFM15500 OFM16000 OFM16500 OFM17000 Computation of reportable income: transactions not treated as trading Reports to participants Tax treatment of participants in offshore funds Provision of information to HMRC Breaches of reporting fund conditions Leaving the reporting fund regime Transitional rules OFM17500 Transitional rules 2

3 OFM00500 Introduction: background to the treatment of UK investors in offshore funds A tax regime for UK investors in offshore funds was first introduced in Broadly, its purpose was to counter arrangements that, before its introduction, enabled investors within the charge to UK tax ( UK investors ) to accumulate income in an offshore fund free of tax and, when the investment was realised, to be subject only to tax on capital gains rather than having to pay tax on income. In contrast, a combination of regulatory and tax rules meant that UK investors had to pay tax annually on income from UK funds. The relevant legislation was in Chapter 5 of Part 17 ICTA 1988 (repealed by Schedule 2 of the Offshore Funds (Tax) Regulations 2009 (S.I. 2009/3001)). The rules relating to the treatment of UK investors in offshore funds were amended on several occasions in the years since 1984, and replaced by a modern regime introduced by legislation contained within Finance Act 2008 (by provisions inserted into Finance Act 2009), supplemented by regulations contained within the Offshore Funds (Tax) Regulations The legislation covering the 1984 regime in Income and Corporation Taxes Act ( ICTA ) 1988 is repealed at the time the new legislation takes effect. The new regime has effect for the purposes of income tax for the tax year and subsequent tax years, and for distributions made on or after 1st December 2009, and for the purposes of capital gains tax in relation to disposals made on or after 1 December 2009; for the purposes of corporation tax on income, for accounting periods ending on or after 1st December 2009, and for the purposes of corporation tax on chargeable gains in relation to disposals made on or after 1 December This is subject to certain transitional arrangements see OFM17500 onwards. The purpose of both the original and the replacement offshore funds tax regimes remains the same, and they work by charging gains on realisations of interests in offshore fund investments to tax as income rather than as capital gains, unless certain conditions are met. Further details regarding the operation of the previous regime can be found at OFM The remainder of this manual is concerned with the replacement 2009 regime, and references made to offshore funds are made in that context. 3

4 OFM01000 Introduction: overview of the 1984 regime for offshore funds The previous regime, introduced in 1984, was based on the definition of an offshore fund in Chapter 5 of Part 17 ICTA Where a UK investor held a material interest in an offshore fund, as defined in that Chapter, then any sums realised on disposals of such an interest were charged to tax as income, unless certain conditions were met. Broadly, the conditions were that the fund had distributed at least 85% of the higher of its income or UK equivalent profits ( UKEP ) to its investors. The fund had to apply for and obtain approved status from HMRC, in arrears, for each period of account in order for its investors to be able to be taxed on realisations under the more favourable capital gains rules. Fund managers, or persons acting on their behalf, who require more detailed information regarding the operation of the 1984 regime should refer to the Offshore Funds Guide which is available on the HMRC website (at ), or contact the Collective Investment Schemes Centre at HMRC Collective Investment Schemes Centre (CISC) 1st Floor South Concept House 5 Young Street Sheffield S1 4LB Liz Foster: Tel Sandra Whyman: Tel Graham Naylor: Tel Investors who require more detailed information regarding how distributions and gains on realisations are taxed under the 1984 regime should refer to the guidance in the Savings & Investment Manual ( SAIM ) available on the HMRC website at 4

5 Introduction OFM01500 Contents OFM01550 OFM01600 OFM01700 OFM01800 OFM01900 Overview of the 2009 offshore funds regime Introduction Overview of the regime for funds Overview of the treatment of investors Commencement Overview of transitional arrangements 5

6 OFM01550 Introduction: overview of the 2009 offshore funds regime: general The previous tax regime for UK investors in offshore funds, introduced in 1984, was established on the basis that if an offshore fund did not distribute at least 85% of its income then, on disposal of interests in the fund, UK investors would be charged to tax on income rather than on capital gains. This was to prevent the possibility of rolling up income in an offshore fund with any subsequent disposal being subject only to tax on capital gains, rather than being charged to tax as income. The purpose of the legislation was to align the tax treatment of interests held by UK investors in offshore funds with that of interests in investments in UK funds, from which income is chargeable to tax as income on an arising basis. The 2009 regime has a similar purpose but moves away from the requirement that income is distributed in order for UK investors to enjoy the more favourable capital gains treatment on disposals of interests. Instead, that treatment will apply if an offshore fund s income is reported to UK investors in such a way that UK investors are charged to tax on their share of the reported income of the fund, regardless of whether that income is distributed to them or accumulated in the fund. Funds will either be reporting funds or non-reporting funds. The previous tax definition of an offshore fund was based upon the regulatory definition of collective investment schemes as set out in the Financial Services and Markets Act 2000 (FSMA), with modifications for tax purposes. The legislation giving the definition and the detailed rules of the 1984 regime was contained within ICTA The definition applying to the 2009 regime is contained within section 40A FA 2008, inserted by FA It detaches the tax definition of an offshore fund from the regulatory definition and instead bases the tax definition on characteristics. The detailed operational rules relating to the treatment of UK investors are contained within regulations (the Offshore Funds (Tax) Regulations 2009). The key features of the new regime for offshore funds rules include: a new tax definition of an offshore fund (section 40A Finance Act 2008); a facility for an advance application to be a reporting fund; a requirement (for reporting funds) to report fund income to UK investors rather than the requirement to distribute income; the consideration of only one layer of funds for reporting funds; there are no longer either percentage investment restrictions nor a limit to the number of layers of funds into which a reporting fund can invest; revised rules to deal with breaches of conditions, in particular to deal with occasions of minor or inadvertent breaches; and treating investments in non-reporting funds in the same way as under the 1984 regime for investments in non-distributing funds. So whilst the 2009 regime for offshore funds treats investors within the charge to UK tax in a similar manner to the 1984 regime it aims to provide greater certainty to funds and to their investors as well as more flexibility to deal with breaches of the rules. This manual provides guidance on the definition of an offshore fund (see OFM02000 onwards), and the detailed rules relating to the operation of the regime contained within the Regulations (see OFM06000 onwards). 6

7 OFM01600 Introduction: overview of the 2009 offshore funds regime: overview of the regime for funds Reporting funds An offshore entity that meets the definition of an offshore fund (under section 40A(2) Finance Act 2008 see OFM02000 onwards) can, on meeting certain conditions, apply to be a reporting fund. The relevance of reporting fund status for UK investors is that gains realised on disposals of investments in reporting funds will in most circumstances be subject to tax on chargeable gains (see the detailed guidance on reporting funds at OFM12000 onwards for exceptions), whereas gains realised on disposals of investments in non-reporting funds will be subject to less favourable treatment as they will be charged to tax on income. Reporting funds must prepare accounts in accordance with an acceptable accounting policy, and provide reports of their reportable income, which is the accounts figure for the total return of the fund adjusted in accordance with certain rules set out in the Offshore Funds (Tax) Regulations They must provide reports to both HMRC, to include a computation showing their reportable income, and to participants (investors) that show their proportionate share of that income. In addition, reporting funds must make certain information available to HMRC when requested to do so. Funds may apply for reporting fund status in advance or in arrears, subject to certain time limits see OFM12700 for details. A fund, once granted reporting fund status, may rely on that status going forward subject to continued compliance with the reporting funds rules, which include making reports as described above for each period of account. A fund may exit the reporting funds regime on giving notice and there are rules that permit HMRC to exclude a fund from the regime for serious breaches or a number of minor breaches, subject to an appeals process. Full details can be found at OFM17000 onwards. See OFM01700 for an overview of the treatment of UK investors in reporting funds. There is a list of funds that come within the definition of an offshore fund and have successfully applied for reporting fund status on HMRC s website. The list is updated on a monthly basis and can be found at Non-reporting funds A non-reporting fund is any offshore entity that falls within the definition of an offshore fund but has not obtained reporting fund status (or has left or been excluded from the reporting fund regime) that is to say, an offshore fund to which Part 3 of the Offshore Fund (Tax) Regulations 2009, which deals with reporting funds, does not apply. Non-reporting funds are under no obligations to provide information to HMRC but it is likely that such a fund will be obliged by local law or by its constitution to provide information to investors in respect of income arising to the fund. Although it is expected that they would provide details of distributions as a matter of routine to UK investors, it is the responsibility of investors to otherwise obtain and record such information. 7

8 See OFM01700 for an overview of the treatment of UK investors in non-reporting funds. 8

9 OFM01700 Introduction: overview of the 2009 offshore funds regime: treatment of UK investors Investors in reporting funds UK investors in a reporting fund will be provided with a report (by one of several permitted methods) for each period of account showing sums actually distributed per unit of interest held, as well as any excess forming the balance of its reportable income per unit of interest held in the fund at the end of the reporting period (see the guidance at OFM15000 onwards for further details). UK investors must make a return of their income to include both the actual distributions received, as well as the reported income (i.e. their proportionate share of the fund s reportable income in excess of the sums distributed). They will be liable to income or corporation tax as appropriate on the total of those sums. In most cases, providing the fund in question has been a reporting fund for the entire period that an investor has held their interest, then, on any subsequent disposal of that interest, the investor will be subject to tax on any capital gain (or loss) arising. There are some exceptions see, for example, OFM01900 for an overview of transitional arrangements where a reporting fund was a non-qualifying fund under the previous offshore funds regime. There is a list of funds that come within the definition of an offshore fund and have successfully applied for reporting fund status on HMRC s website. The list is updated on a monthly basis and can be found at Investors in non-reporting funds UK investors in non-reporting funds remain chargeable to income or corporation tax on any distributions the fund actually makes to them. Alternatively, if the fund is transparent for income purposes then the investor will be chargeable to tax on income arising on the underlying investments. There are also rules relating to transparent funds with interests in reporting funds, to ensure that investors in the top layer fund are chargeable to tax on their proportionate share of the underlying fund s reportable income see OFM08000 for further details. On disposal of an interest in a non-reporting fund, UK investors will be subject to tax on any gains arising as if those gains were income that is, on the offshore income gain ( OIG ). There are detailed rules relating to the calculation of OIGs and to their effect on capital gains computations see OFM10500 and OFM11000 onwards for details. 9

10 OFM01800 Introduction: overview of the 2009 offshore funds regime: commencement The 2009 regime has effect for the purposes of income tax for the tax year and subsequent tax years, and for distributions made on or after 1st December 2009; and for the purposes of corporation tax on income, for accounting periods ending on or after 1st December 2009, There are some transitional rules for offshore funds relating to periods of account straddling 1 December 2009 and immediately thereafter see OFM UK investors in existing funds will be subject to the legislation contained within Chapter 5 of Part 17 ICTA 1988 (for guidance see the Savings & Investment Manual ( SAIM - on the HMRC website at ) until the 2009 rules within FA 2008 and the Offshore Funds (Tax) Regulations 2009 take effect (see OFM00500). Once a fund that existed prior to the operative date of the 2009 regime becomes a reporting (or non-reporting) fund, then the new rules will apply as explained in the overview at OFM01700 and in the detailed guidance set out later in this manual. Again, there are transitional rules that may apply see OFM

11 OFM01900 Introduction: overview of the 2009 offshore funds regime: transitional arrangements - overview Offshore funds Offshore funds may apply for reporting fund status only for periods of account commencing on or after 1 December A fund can apply for distributing fund status under the rules of the previous regime for offshore funds, for any period of account that straddles the 1 December date (the overlap period paragraph 3 Schedule 1 of the regulations). Note that this is not an alternative to an application for reporting fund ( RF ) status a fund will not be able to apply for RF status for a period of account commencing before 1 December 2009, so if it does not apply to be a distributing fund then it will simply be a non-distributing fund (or a non-qualifying fund in the language of section 760 ICTA). In other words, the transitional provisions within paragraph 3 of Schedule 1 simply provide a mechanism to apply for distributing fund status for the overlap period, as it is not possible to apply for reporting fund status. If a fund is successful in obtaining distributing status for the overlap period, it can obtain distributing status for the succeeding period as well, if desired (para (3) of Schedule 1). However, no application for distributing fund status can be made for periods of account ending after 31 May see OFM After the overlap period (or the succeeding period where relevant) neither the fund nor any investor on its behalf can make further requests for distributing fund status the fund s only options from that time will be to be a reporting or a non-reporting fund. See OFM17600 for full details. UK investors UK investors who held a material interest in a qualifying fund (i.e. one that has held distributing fund status for all previous periods of account) and who continue to hold an interest in the fund if it becomes a reporting fund immediately following its last period as a qualifying fund will not be subject to a charge to tax on an offshore income gain ( OIG ) on disposal of their interest. This is likely to be a common situation, but there are other possibilities and the transitional rules set out what happens when an investor held a material interest in a qualifying (i.e. distributing) fund that is also within the new definition of an offshore fund but that does not become a reporting fund (para (4) of Schedule 1); an investor held an interest in a fund that did not come within the previous definition of an offshore fund but does subsequently come within the new definition of an offshore fund applying for interests obtained on or after 1 December 2009 (para (7) of Schedule 1). 11

12 The rules applying in each of these cases are set out at OFM17500 onwards. In addition, an investor may have held a non-material interest in a non-qualifying (i.e. non-distributing) fund that is also subsequently within the new definition of an offshore fund applying for interests acquired on or after 1 December This is not strictly a transitional issue as it may have relevance for many years to come. Accordingly, the matter is dealt with by regulation 30 of the Offshore Funds (Tax) Regulations 2009: rights in certain existing holdings (as at 1 December 2009, i.e. grandfathering provisions) see OFM10220 for full details. There are other matters that may arise on an ongoing basis and that are therefore also addressed in the main body of the regulations Regulation 43: special rules for certain existing holdings (identification rules on disposal where investor has some rights in an offshore fund that are grandfathered and some that are not) see OFM10800; Regulation 48: conversion of non-reporting fund to reporting fund (deemed disposal election by investors) see OFM11500; Regulation 100: deemed disposals of interests (election by investors where a reporting fund becomes a non-reporting fund) see OFM

13 Definition of an offshore fund Contents OFM02000 OFM02200 OFM02500 OFM03000 OFM03500 OFM04000 OFM04500 OFM05000 Overview Meaning of offshore fund Meaning of mutual fund Exceptions to the meaning of mutual fund Transparent entities Umbrella funds and protected cell companies Classes of interest Particular arrangements 13

14 Definition of an offshore fund OFM02000 Overview Contents OFM02050 OFM02100 OFM02110 OFM02150 Introduction Arrangements within the definition of an offshore fund Arrangements not within the definition of an offshore fund Transitional arrangements 14

15 OFM02050 Introduction Characteristics based definition The definition of an offshore fund is based on characteristics. The relevant legislation is at FA2008/Ss40A 40G. Section 40A makes it clear that an offshore fund, whatever its legal form, must be a mutual fund. That term is defined at section 40B. Sections 40C and 40D state that in the case of umbrella arrangements and arrangements with more than one class of interest respectively it is the sub-fund or class of interest that is to be considered rather than the main arrangements, so that for example umbrella arrangements could consist of sub-funds some of which come within the definition of an offshore fund and some that do not (this might typically be the case where one or more of the exclusions from the definition apply to a particular sub-fund(s) see below). Meaning of mutual fund In considering whether any particular arrangements are a mutual fund it is necessary to consider all agreements and understandings which might form part of the basis for any contract or entity, that is, arrangements has a wide meaning and is not limited to, for example, the legal documents establishing a fund. In another sense however arrangements has a narrow meaning in that it is used here to describe the documents undertakings and agreements constituting a particular entity and not the wider economic arrangements that may be constituted by a group of entities. It follows, therefore, that in a fund of funds situation, including those headed by fully transparent entities such as limited partnerships, it is necessary to consider each set of arrangements independently of the others in the structure so, for example, a limited partnership cannot be viewed as being part of any other arrangements and thus forming part of an offshore fund. However, if the terms on which investment in the underlying entities are communicated to investors or potential investors in documentation or marketing material relating to a top level entity (for example, a partnership agreement that makes it clear that underlying companies will be wound up by a certain date) then, in a case where the top level entity is in a position to control any underlying entity, those terms are relevant to determining whether the underlying entity itself is an offshore fund. The characteristics based approach also means that all UK investors in the same offshore fund face the same set of tax rules (subject to certain preserved treatment for investments held before 1 December 2009 (see OFM17500 onwards)). This is subject to the situation where rights of investors change during the holding of their investment (see OFM09100). Exceptions to the meaning of mutual fund The intention of the offshore fund rules generally is to prevent the roll-up of income in pooled investment arrangements, with a subsequent realisation at (or nearly at) net asset value, (or by reference to an indexed value) in capital form. Section 40E therefore provides exceptions to the meaning of mutual fund for certain closed-ended funds where income roll-up would not be possible, as well as for those closed ended funds with unlimited life so that the investor does not have an expectation of redemption at net asset value (or sale at net asset value). 15

16 If the arrangements are not a mutual fund then they cannot be an offshore fund, and so the operational rules will not apply (the operational rules relating to the treatment of UK resident investors in offshore funds are contained within the Offshore Funds (Tax) Regulations 2009 (S.I.2009/3001) - those rules apply when a UK resident holds an interest in an offshore fund as defined at Sections 40A to 40G Finance Act 2008 ( FA 2008 ), inserted by FA 2009). The exceptions in Section 40E only apply to closed-ended arrangements; that is arrangements where an investor does not have a right to redeem their interest on a basis calculated entirely or nearly entirely by reference to the net asset value of their proportionate share of the scheme property. In particular, the exceptions apply in circumstances where it is only possible for an investor to realise their investment on that basis in the event of a winding up and the arrangements do not have a limited life, or where the arrangements do have a limited life but other conditions apply so that income cannot be rolled up (see OFM03000 onwards for details). Requests for advice HMRC is not able to provide an up-front clearance service confirming whether or not a particular set of arrangements comes within the definition of an offshore fund in every case. It will often be clear that a particular set of arrangements either does or does not come within the definition, but HMRC recognise that will not always be the case. If, after having considered the guidance in this manual in relation to all of the facts, there is material uncertainty as to whether particular arrangements are within the definition then HMRC will provide an opinion unless it is considered that the request does not come within published guidelines. Although this is not a formal clearance service, enquirers should consider the guidance concerning clearance requests available on the HMRC website at including the circumstances in which HMRC will and will not provide an opinion. Queries should be sent at least 28 days in advance if the matter is material to whether or not to proceed with marketing to UK investors, and should be addressed to HMRC Collective Investment Schemes Centre (CISC) 1st Floor South Concept House 5 Young Street Sheffield S1 4LB (Please see OFM01000 for a list of contacts at CISC if you need to speak to someone prior to writing to HMRC.) 16

17 OFM02100 Arrangements within the definition of an offshore fund As the operational rules are intended to apply to interests held in certain types of arrangements that have particular characteristics, and those arrangements may be based anywhere in the world, it is not possible to provide a list of all entity types that come within the definition of an offshore fund. The paragraphs below provide a broad overview of the types of arrangements that HMRC consider would come within the definition and should not be considered to be exhaustive: - Open-ended investment companies ( OEICs ) Arrangements that take corporate form and that permit investors to redeem their interests on request or at intervals, entirely or nearly entirely by reference to the net asset value ( NAV ) of their proportionate share of the scheme property or an index. An example of such a fund would be Belgian SICAVs. Open-ended contractual arrangements Arrangements that take contractual form and that permit investors to redeem their interests on request or at intervals, entirely or nearly entirely by reference to the net asset value ( NAV ) of their proportionate share of the scheme property or an index. An example of such a fund would be a Luxembourg Fonds Commun de Placement ( FCPs ) but note that limited partnerships are specifically excluded from this category by FA2008/S40A(3). These sorts of arrangements are usually transparent for income purposes there is further guidance on income transparent arrangements, including details of when an offshore income gain will not arise for UK investors, at OFM03500 onwards. Foreign unit trusts Arrangements that take trust form where the trustees of the property are not resident in the UK and that permit investors to redeem their interests on request or at intervals, entirely or nearly entirely by reference to the net asset value ( NAV ) of their proportionate share of the scheme property or an index. An example of such a fund would be a Jersey property unit trust ( JPUT ). Some foreign unit trusts are transparent for income purposes there is further guidance on income transparent arrangements, including details of when an offshore income gain will not arise for UK investors, at OFM03500 onwards. Arrangements with limited life Arrangements that take corporate form (irrespective of whether they have fixed share capital) or contractual form that come within the definition of a mutual fund at FA2008/S40B and that have a fixed or determinable life at the end of which investors would be able to redeem their interest in the arrangements entirely or nearly entirely by reference to the NAV of their proportionate share of the scheme property or an index, unless any of the exceptions at FA2008/S40E apply. An example of such a fund would be a Cayman registered company with a limited life that, although it did not permit redemptions on request, could be reasonably expected to provide redemption by reference to NAV (etc.) at the end of its life. 17

18 Further guidance Further guidance on particular entity types (such as limited life companies) is provided in this manual at see OFM05000 onwards. The legislation at FA2008/Ss40A - 40G must still be considered where there is any doubt as to whether a particular set of arrangements come within the definition. See OFM02110 for the types of arrangements that, in general, HMRC consider would not come within the definition. 18

19 OFM02110 Arrangements not within the definition of an offshore fund As the operational rules are intended to apply to interests held in certain types of arrangements that have particular characteristics, and those arrangements may be based anywhere in the world, it is not possible to provide a list of all entity types that do not come within the definition of an offshore fund. The paragraphs below provide a broad overview of the types of arrangements that do not come within the definition: - Partnerships Partnerships are specifically excluded from the meaning of an offshore fund at FA2008/S40A(2)(c) by FA2008/S40A(3). Limited liability partnerships Limited liability partnerships ( LLPs ) incorporated under the Limited Liability Partnerships Act 2000 but that are tax resident outside the UK are excluded from the definition even if they are treated as not being a body corporate (FA2008/S40A(6)). This exclusion does not apply to LLPs formed under the law of any other territory if such an LLP is a body corporate (and opaque for capital gains purposes) and a mutual fund then it will come within the definition of an offshore fund at FA2008/S40A(2)(a). Arrangements that are not mutual funds Any corporate or contractual entity not coming within the definition of a mutual fund at FA2008/S40B will not be an offshore fund. This would include, for example, foreign equivalents of UK investment trusts or UK Real Estate Investment Trusts ( UK-REITs ) as those types of arrangements do not offer investors a facility to redeem their interests on request or at intervals, entirely or nearly entirely by reference to the net asset value ( NAV ) of their proportionate share of the scheme property or an index, and nor are they limited life. Closed-ended arrangements within the exceptions at FA2008/S40E Arrangements with fixed share capital or similar, that otherwise would come within the definition of a mutual fund, may still be excluded from the definition of a mutual fund (and therefore an offshore fund) if they come within any of the exceptions at FA2008/S40E. Examples would include arrangements taking corporate form without being limited life or that have limited life but either do not generate income or all income is paid or credited to investors so that it would be chargeable to tax as income. See OFM03000 onwards for further guidance. Further guidance Further guidance on particular entity types (such as limited life companies) is provided in this manual at OFM05000 onwards. The legislation at FA2008/ss40A-40G must still be considered where there is any doubt as to whether a particular set of arrangements comes within the definition. See OFM02100 for the types of arrangements that, in general, HMRC consider would come within the definition. 19

20 OFM02150 Transitional arrangements Regulation 30 Holdings acquired before 1 December 2009 in arrangements that fall within the new definition of an offshore fund but which, on the date that the investor acquired them, were not an offshore fund within the previous meaning at Chapter 5 of Part 17 Income and Corporation Taxes Act ( ICTA ) 1988, or were within the definition but did not constitute a material interest (s759 ICTA 1988 before 1/12/2009) are subject to preserved treatment, that is they are not treated as relevant holdings in an offshore fund. The same treatment may apply to holdings acquired after 1 December 2009 but only where they were acquired under a written, legally binding agreement entered into by the investor prior to 30 April 2009 and the terms of the agreement are not varied on or after that date. If such an agreement was conditional, then all of the conditions must have been satisfied before 30 April 2009 in order for this provision to apply. See OFM17500 onwards for full details of the transitional provisions contained within the offshore funds regulations. 20

21 Definition of an offshore fund OFM02200 Meaning of offshore fund Contents OFM02250 OFM02300 OFM02350 OFM02400 Introduction Corporate entities Property held on trust Other arrangements that create rights in the nature of co-ownership 21

22 OFM Meaning of offshore fund: introduction Section 40A Finance Act The definition of an offshore fund is limited to mutual funds which take one of three forms and which are resident in, or based in, a territory outside the United Kingdom. The meaning of the term mutual fund is given by section 40B FA 2008, and is explained in more detail at OFM02500 onwards. Those pages discuss each type of mutual fund in more detail, but broadly the definition is applied to a company, trust or any other vehicle or arrangement that meets the following characteristics it is not UK tax resident; it exists to enable participants to take part in the benefits arising from acquisition, holding, managing, or disposing of assets of any description; the participants do not have day-to-day control of the management of the property whether or not they have the right to be consulted or give directions; and a reasonable investor would expect to be able to realise any investment based entirely or almost entirely by reference to the net asset value of the assets under management or, alternatively, by reference to an index of any description. The three forms of mutual funds that fall within the definition of an offshore fund are a mutual fund constituted by a body corporate resident outside the United Kingdom (section 40A(2)(a) - see OFM02300) a mutual fund under which property is held on trust for the participants by trustees resident outside the United Kingdom (section 40A(2)(b) - see OFM02350); and a mutual fund constituted by other arrangements that create rights in the nature of co-ownership where the arrangements take effect by virtue of the law of a territory outside the United Kingdom (section 40A(2)(c) - see OFM02400). Foreign partnerships within the scope of section 40A(2)(c) are specifically excluded from the meaning of an offshore fund given by section 40A(3) FA See OFM02100 for examples of the types of arrangements that are within the definition of an offshore fund, and OFM02110 for examples of the types of arrangements that are not within the definition of an offshore fund. 22

23 OFM02300 Meaning of offshore fund: corporate entities Section 40A(2)(a) Finance Act 2008 All mutual funds constituted as incorporated bodies resident outside the United Kingdom fall within the definition of an offshore fund, except for a non-resident limited liability partnership (LLP) incorporated under UK law (The Limited Liability Partnerships Act 2000), which is excluded by section 40A(6) FA This exclusion does not apply to LLPs formed under the law of any other territory if such an LLP is a body corporate (and opaque for capital gains purposes) and a mutual fund then it will come within the definition of an offshore fund at FA2008/S40A(2)(a). Open-ended investment companies and other companies with similar characteristics would fall within section 40A(2)(a). It is expected that relatively few fixed share capital companies will fall within the new definition. So, for example, an investment in a trading or investment company or group with fixed share capital and that was not limited life (even if local law provides for continuation votes) would not come within the definition. But under the characteristics based approach, entities that have fixed share capital and that are structured in such a way that they share characteristics of open-ended share capital arrangements will be within the definition. So, fixed share capital companies that are predicated on the basis that investors will get a net asset value return or a return which is very close to net asset value may fall within the new definition. That will also be the case where there are no redemption rights but the arrangements have a limited life and a reasonable investor could expect to get a net asset value return on winding up (unless one of the exceptions in FA2008/S40E applies). See OFM05200 onwards for further guidance on fixed share capital companies, and OFM02500 onwards for guidance regarding the meaning of the term mutual fund. 23

24 OFM02350 Meaning of offshore fund: property held on trust Section 40A(2)(b) Finance Act 2008 Most mutual funds where the property of the fund is held on trust for the investors by trustees who are resident outside of the United Kingdom will fall within the definition of offshore fund. It will usually be the case that offshore trust arrangements will not come within the definition of a mutual fund, but those that do come within the meaning of a mutual fund at FA2008/S40B will be offshore funds, unless exceptionally the trust is closed-ended that is, it cannot issue or redeem units on request and it falls within any of the exceptions within FA2008/S40E. See OFM02500 onwards for guidance regarding the meaning of the term mutual fund. 24

25 OFM02400 Meaning of offshore fund: other arrangements that create rights in the nature of co-ownership Section 40A(2)(c) Finance Act 2008 All mutual funds constituted by other arrangements (i.e. those not constituted by bodies corporate or where property is held on trust) creating rights in the nature of coownership, which take effect by virtue of the law of a territory outside the UK, are brought within the definition of an offshore fund. This is subject to the important exception that mutual funds constituted by two or more persons carrying on a trade or business in partnership and that would otherwise come within the meaning of an offshore fund under FA2008/S40A(2)(c) are specifically excluded from doing so by FA2008/S40A(3). Co-ownership is not restricted to the meaning of that term in the law of any part of the United Kingdom, so would take its meaning from the law of the territory in which the arrangements take effect. Types of mutual funds that come within the definition of an offshore fund at FA2008/S40A(2)(c) would include, for example, contractual arrangements such as Luxembourg Fonds Commun de Placement ( FCPs ), but see OFM03500 onwards for further information concerning these and other types of contractual arrangements that are transparent for income purposes. See OFM02500 for guidance regarding the meaning of the term mutual fund. 25

26 Definition of an offshore fund OFM02500 Meaning of mutual fund Contents OFM02600 OFM02700 Introduction Conditions 26

27 OFM02600 Meaning of mutual fund: introduction Section 40B Finance Act 2008 The meaning of the term mutual fund is drawn widely and encompasses any arrangements with respect to property of any description, including money - in other words, it does not matter what the underlying investments are. Whether arrangements amount to a mutual fund depends on three conditions (Conditions A to C), all of which must apply to the participants of the arrangements being considered. The conditions bring within the meaning of mutual fund those arrangements that, broadly, have the characteristics of pooled investments. Participants are those persons who take part in the arrangements that is, the investors - and it makes no difference whether they directly own the underlying property of the arrangements or not. So, for example, there is no difference between a participant who has a share in a mutual fund constituted by a company (in which case under most forms of company law the participant would not have an ownership interest in the underlying property) and on the other hand, an interest in a trust or other contractual arrangement which may well give the participant a direct ownership right (FA2008/S40A(5)). If arrangements relate to a number of separate pools of assets then each asset pool is considered separately. Similarly if an asset pool has different classes of interest then each class of interest is considered separately. For more details see FA2008/Ss 40C and 40D, which relate to umbrella arrangements and arrangements comprising more than one class of interest (see OFM04000 and OFM04500). There are exceptions to the definition of a mutual fund given by FA2008/S40E (see OFM03000 onwards). Conditions A to C are considered in more detail in the following pages. 27

28 Definition of an offshore fund Meaning of mutual fund OFM02700 Contents OFM OFM OFM OFM OFM OFM Conditions Condition A Condition B Condition C Condition C : Meaning of 'reasonable investor' Condition C : Realisation of investment by reference to NAV or an index Condition C : Realisation of investment by reference to NAV or an index: Disposals of underlying fund assets 28

29 OFM02705 Meaning of mutual fund: conditions: condition A Section 40B(2) Finance Act 2008 Condition A requires it to be the purpose or effect of the arrangements to enable the participants to participate in the acquisition, holding, management or disposal of the property, or to receive profits or income from those transactions or sums paid out of such profits or income. The condition is deliberately drawn widely so that it applies to a broad range of arrangements that are designed to facilitate pooled investment. Property in this context therefore applies to all asset classes, including securities, equities, and real property and also includes contracts and derivatives. Some arrangements that come within the meaning of an offshore fund will nevertheless not give rise to an offshore income gain when an investor disposes of an interest in the arrangements if tax is chargeable under other provisions of the Taxes Acts. This would include, for example, sums charged to tax under the loan relationships rules. Chapter 3 of The Offshore Funds (Tax) Regulations 2009 (S.I. 2009/3001) contains regulations setting out exceptions from the charge to an offshore income gain (see OFM10000 onwards). 29

30 OFM02710 Meaning of mutual fund: conditions: condition B Section 40B(3) Finance Act 2008 Condition B is that the participants do not have day-to-day control of the management of the property. In this context, participants means persons acting in the capacity of investors in a particular scheme and control would therefore mean having control by way of rights as an investor. So, if the scheme manager held units or shares in the fund managed then that would not prevent condition B from being satisfied. In the case of a fund with an advisory committee, which would typically comprise either a few key investors or independent investment experts, again nothing prevents Condition B from being satisfied (particularly so in this case as it would not be expected that the role of the investment manager would be usurped by such a committee). Merely having a right to be consulted or to give directions does not result in a participant having day-to-day control. So, for example, the right to a vote at annual general meetings would not be considered to amount to day-to-day control. In order for the arrangements to satisfy condition B, not all of the individual participants must have day-to-day control, regardless of the extent of their interest in the fund. So, even if only one participant does not have day-to-day control the arrangements would satisfy condition B. 30

31 OFM02715 Meaning of mutual fund: conditions: condition C Section 40B(5) Finance Act 2008 Condition C requires that a reasonable investor would, as participant in the arrangements, expect to be able to realise all or part of an investment in the arrangements on a basis calculated entirely or almost entirely by reference to either the net asset value (NAV) of the scheme property, or an index of any description. To expect, in this context, does not necessarily mean that an enforceable right exists, but it does mean that an investor could reasonably expect to rely on realisation as described. Realisation of an investment has a wide meaning, and so may be by redemption, sale to a third party, or by distribution of assets on the termination of a fund for example. So, if a fund has a limited life, it would not matter that an investor may not be able to sell his or her shares or units on the open market for a sum representing NAV or close to NAV as there would be an expectation that the investment could be realised at or close to NAV when the fund terminated. See OFM02720 for guidance on the meaning of a reasonable investor, and OFM02725 regarding realising an investment on a basis calculated entirely, or almost entirely, by reference to NAV or an index of any description. The exceptions to the meaning of the term mutual fund relate directly to Condition C, and so Condition C must be read in conjunction with section 40E FA 2008 (which provides the exceptions) for the purposes of determining whether or not arrangements come within the meaning of a mutual fund, and hence an offshore fund see OFM03100 onwards. 31

32 OFM02720 Meaning of mutual fund: conditions: condition 'C': meaning of 'reasonable investor' Section 40B(6) Finance Act 2008 A reasonable investor is not defined in the legislation. It is assumed that such an investor (whether an individual, corporate investor, or otherwise) would have read the documentation and taken account of all additional material and communications of any nature whatsoever provided by the fund prior to investing. Where the scheme documentation is not written in a language that the investor can understand then it is assumed that the investor will have obtained a translation of the prospectus and any other relevant scheme documents or material. 32

33 OFM02725 Meaning of mutual fund: conditions: condition 'C': realisation of investment by reference to NAV or an index Section 40B(5) Finance Act 2008 There is no definition within the legislation of almost entirely as any sort of percentage limit of variation from NAV could be susceptible to arrangements seeking to avoid the intention of the offshore funds rules. It depends on what the arrangements are intended to provide. For example, buy-back arrangements normally take effect when there is a large discount to NAV, but may also be used in very exceptional circumstances to buy back at a very small discount or at NAV which, on its own, may not mean that the arrangements constitute a mutual fund. OFM05250 provides further guidance on share buy-backs and share issuance. Open-ended and closed-ended arrangements Condition C, when read in conjunction with section 40E(1), provides a clear distinction between a mutual fund and a company organised in the way that, for example, an investment trust company in the UK is organised. Such a company is a closed-ended company, in the sense that it does not allow investors to redeem their shares on request, nor does it issue new shares on request (but see OFM05300 onwards where such closed-ended companies have a limited life). This contrasts with an open-ended investment company which is designed to enable investors to realise NAV and does so through its ability to issue or redeem shares. A reasonable investor in what may generally be regarded as a closed-ended company that meets Conditions A or B would normally only expect to be able to realise NAV on the liquidation of the company. So section 40E(1)(a) excludes from section 40B ( meaning of mutual fund etc ) any case where a reasonable investor would only be able to realise the investment in the arrangements in the event of a winding-up, dissolution or termination of the arrangements, and where certain other conditions (condition X or Y ) apply (section 40E(1)(b) - see OFM03100 onwards). Realisation of investment on a basis calculated at or close to NAV It is not necessary that the investor obtains NAV directly from the fund. Where a reasonable investor could expect to receive NAV on selling their interest on a secondary market the fund will be an offshore fund if all other conditions are satisfied. For example, Exchange Traded Funds (ETFs) are usually operated in such a way that the quoted prices are at NAV or very close to NAV because market makers are able to create or redeem units (and in that sense such funds are open-ended), and so ETFs would be expected to qualify as mutual funds. On the other hand, arrangements where a fund offered to buy back shares to keep a discount on the share price within a reasonable limit would not make the fund a mutual fund unless it was clear to a reasonable investor at the time that they invested (or on alteration of the terms of an investment) that there were such arrangements and that they were intended to ensure that such purchases were at NAV or almost or very close to NAV. Shares trading close to NAV The mere fact that shares in a closed-ended arrangement sometimes trade at or close to NAV does not mean that Condition C is satisfied unless that is as a result of 33