An introduction to UK investment funds

Transcription

1 An introduction to UK investment funds January

2 Contents Page 1. Introduction to Investment Funds 1 2. UK Collective Investment Schemes 1 3. Unit Trusts 3 4. Authorised Unit Trust Schemes 4 5. ICVCs 8 6. Recognised Schemes Unregulated Collective Investment Schemes Why the UK can be an attractive domicile for funds 14 FFW s Investment Funds and Products Group 16 Appendices Appendix 1 17 Sections of the Financial Services and Markets Act Appendix 2 20 Types of UK Collective Investment Schemes 20 Appendix 3 22 Comparison of UK Authorised Funds

3 Terms used in this document the Act Financial Services and Markets Act 2000, which came into force on N2, midnight on 30 November authorised unit trust a unit trust which is authorised by the FSA under section 243 of the Act. CIS Sourcebook the specialist sourcebook in the FSA s Handbook setting out the consolidated regulations for authorised unit trusts and ICVCs. COB Sourcebook the FSA s Conduct of Business Sourcebook. collective investment scheme for UK purposes, defined in Sections of the Act (and see page 2 of this booklet), subject to the exceptions set out in The Financial Services and Markets Act 2000 (Collective Investments Schemes) Order financial promotion a new financial promotion regime under the Act which covers both investment advertisements and cold calls. FSA the Financial Services Authority, a body originally established under the Financial Services Act 1986, which formerly had discretion to recognise SROs and is now the new single regulator under the Act. ICVC a UK authorised oeic. Instrument of Incorporation the instrument of incorporation constituting an ICVC. oeic open-ended investment company. Prospectus (or, for a unit trust, option of the term Scheme Particulars) a document, setting out details of the fund, which must be offered to any prospective purchaser of shares/units before they are sold to him see Part 3 of the CIS Sourcebook. recognised scheme a collective investment scheme recognised under Section 264 (UCITS), Section 270 (established in designated territories) or Section 272 (other) of the Act. Treasury Regulations the Open-Ended Investment Companies (Investment Companies with Variable Capital) Regulations UCITS funds funds set up in an EU member state which are eligible under the UCITS Directive (the EU Directive for undertakings for collective investment in transferable securities) for passporting into other EU member states. (Note: amendments to UCITS Directive made on 21 January 2002 which were published, and so came into force, on 13 February 2002)

4 1. Introduction to Investment Funds The aim of an investment fund is : to facilitate the pooling of investments, under common investment management. This may be achieved in various ways, there being different constitutive structures available with different advantages and disadvantages for example relating to regulation of the vehicle or its tax status. The objective is very simple. The investment fund should achieve the pooling of investments in such a way as to ensure that the investor s position is as near as possible to that which he would be in were he to invest directly in the fund s underlying investments. Investor Fund Investment This booklet is designed to introduce you to the various types of UK collective investment scheme, identifying the main features of unit trusts and open-ended investment companies, in particular the UK authorised versions of these. 2. UK Collective Investment Schemes For UK purposes, the key definition to note is that of a collective investment scheme contained in section 235 of the UK Financial Services and Markets Act It is extremely wide, and includes unit trusts, open-ended investment companies and limited partnerships. It can also include some groups of individuals investing in, for example, racehorses or stamps! There are three elements identified in sub-sections (1), (2) (3) and (4) of section 235 of the Act (a copy of which is set out in Appendix 1): 1

5 collective participation in property or profits; by persons who do not have day to day control over the management of the property in question (though can be consulted or give directions); pooling of contributions and/or management of property as a whole by (or on behalf of) the operator. Note: The underlying property of the scheme need not be a regulated investment under the Act. The only companies which are caught are openended investment companies as defined in the section. Even if it is within the definition of a collective investment scheme, one of the exemptions in the Financial Services and Markets Act 2000 (Collective Investment Schemes) Order 2001 may apply. For example one of the following: group arrangement; commercial purposes related to a business other than an investment business; franchise arrangements; insurance contract; or occupational pension scheme. Authorised unit trusts or open-ended investment companies authorised by the FSA are currently the only such UK vehicles which may be promoted to the public in the UK. (N.B. An investment trust can also be sold to the public but it is a listed company and sold as such, not a collective investment scheme.) We explain below: in paragraph 3 about unit trusts, and in paragraph 4 how UK authorised unit trusts work; and in paragraph 5 about UK open-ended investment companies, called ICVCs. 2

6 3. Unit Trusts A unit trust scheme is defined in the UK Financial Services and Markets Act as a collective investment scheme under which the property in question is held on trust for the participants. Basically a unit trust is a trust constituted by a trust deed made between a manager and a trustee, a unit representing an undivided share in the property of the trust. The price of units is traditionally calculated regularly by reference to the value of the trust property on a dual pricing basis, the issue price of units (calculated on an offer basis) being the price the investor pays to buy units and the redemption price (calculated on a bid basis) being the price the investor receives when he sells units. A unit trust may also work on a single pricing basis if this is preferred and the necessary terms are included in its documentation. The Manager may take an initial charge. The Manager also takes a periodic charge out of the trust property (usually monthly). Other expenses, such as Trustee s fees and expenses, are payable out of the trust property. Although these fees and expenses are borne by the investors, the expert investment management and the removal of the administration from the investor is intended to more than balance the picture, to provide an attractive option to direct investment in the underlying investments of the trust by the investor personally. Authorised unit trusts have two advantages over unauthorised unit trusts: units may be sold to the public (see later re promotion of unauthorised unit trusts); and capital gains made by the trust are free from tax. Their disadvantage is that the investment and other rules which apply to them are quite restrictive, being set out in the CIS Sourcebook referred to below. Unauthorised unit trusts investment powers, and the terms for their operation generally, are determined by the Manager and the Trustee and set out in the Trust Deed. The Financial Services and Markets Act 2000 replaced the Financial Services Act 1986, with effect from 1 December The definition of a collective investment scheme is replaced in similar terms, although the details of the oeic definition are changed. The regulations governing UK authorised funds are consolidated in the FSA s new Collective Investment Schemes Sourcebook. The relevant SRO Rules are replaced by the provisions of the FSA s Handbook, in particular the COB Sourcebook. A chart setting out the various types of UK collective investment schemes which are 3

7 currently available is set out in Appendix 2. This booklet sets out the position under the new legislation mentioning some of the developments which come with the introduction of the Act and the new single regulator. 4. Authorised Unit Trust Schemes UK authorised unit trusts are heavily regulated vehicles, designed for the retail market. Not only are there prescribed investment restrictions but also standard management and operational parameters. To set out some of the basic structural aspects: Constitution Authorised unit trusts are now constituted by a short trust deed (which incorporates the CIS Sourcebook by reference to them) and must have Scheme Particulars or a Prospectus - (see Glossary for explanation), which are offered to prospective unit holders prior to the purchase of units and copies of which are always available to existing unit holders and others. The trust deed is, for an authorised trust, short (about 9 pages) as most of the necessary provisions are dealt with by the regulations made under the FSM Act. The trust deed may only contain certain matters as set out in section 2 of the CIS Sourcebook. Prior to the introduction of the Financial Services Act 1986, the trust deeds were substantially longer about 70 pages as continues to be the case for unauthorised unit trusts. Unit trusts are authorised by the Financial Services Authority ( FSA ). The regulations governing authorised unit trusts are set out in one single set of regulations, the CIS Sourcebook. Note: The CIS Sourcebook consolidates the regulations for authorised unit trusts and ICVCs. Functions of the Manager and the Trustee The Manager has executive responsibility for the scheme he manages the investments, calculates the prices of units and sells and repurchases units. The Trustee has the duty of oversight and supervision and safeguards the title to the investments and the interests of unit holders in them. Both the Manager and the Trustee have fiduciary duties under general trust law. 4

8 Certain delegation of functions is possible. The Manager often delegates investment advice to an investment adviser (who will also be an authorised person). The Trustee often delegates to third party custodians depending on the Trustee, as they have different group structures. Often the Trustee delegates registration back to the Manager. However there are restrictions (see Section 7 of the CIS Sourcebook). Authorisation of Manager and Trustee: compliance issues The Manager and the Trustee are persons conducting regulated activities and so must be authorised persons - indeed they are required to be authorised persons under Section 242 of the Act - and consequently they must comply with the relevant Handbook rules. With regard to the organisation of management companies, there is often a complicated group structure. Section 83 of the Financial Services Act 1986 stated that the manager of a unit trust cannot carry on any activity except acting as a manager of a unit trust or ACD of an ICVC or conduct activities for the purposes of or in connection with such activities. This point is repeated under the new regime in the CIS Sourcebook of the FSA Handbook but only for unit trust managers insofar as is required to comply with the UCITS Directive. Consequently a management group which offers a wide range of products (not simply authorised funds) usually has several authorised companies. However, the position will change once FSA s Consultative Paper 163 proposals for implementation of the UCITS Management Directive are implemented later in The new CIS Sourcebook restrictions will introduce replacement restrictions on UCITS for management companies generally (both for unit trust managers and ACDs), for management of collective investment schemes and relevant investment activities. One long established principle is that packaged products of a company (i.e. unit trusts and life products) may only be sold by that company and its associated companies and it may not sell the packaged products of another group this is known as polarisation. The FSA is, however, progressing its plans for abolishing polarisation. There will still be a special regime for investment funds and insurance based life products marketing but there is likely to be a set of new conduct of business rules allowing advisers to provide advice on a range of products, with full disclosure of the range and other matters to the customer. We often give advice to clients concerning their group structure and how various products may be sold, for example, concerning appointed 5

9 representatives. Some obvious COB Sourcebook compliance points which we often have to consider in relation to unit trusts are: - financial promotion regulations; - client money regulations; and - checking that various documents such as contract notes and key features documents (soon to be key facts documents) are compliant. Types of Authorised Unit Trust Scheme The majority of UK authorised funds invest principally in listed transferable securities. There is also a well established bond fund sector. Quite a few funds of funds have been established. As the name implies these are funds which invest in other funds, to be precise other authorised unit trust schemes or open-ended investment companies or recognised schemes (which are basically other collective investment schemes which are subject to regulation comparable to that imposed on authorised unit trusts by the Act). Also you may have come across money market funds i.e. cash unit trusts, which have been established by several management groups so that they can offer a cash alternative and so do not lose the investor s funds to a bank or building society when unit holders perhaps wish to get out of equity based investments temporarily. It is possible to establish futures and options funds, geared futures and options funds and property unit trusts as authorised unit trusts. Consequently more jargon was introduced as they are generally referred to as FOFs, GFOFs and APUTs respectively. Property unit trusts (which have a liquidity problem and therefore are perhaps unsuitable for an open-ended unit trust vehicle) and also high risk geared futures and options funds (although apparently the high/low risk distinction is not entirely obvious to the experts) are subject to special marketing restrictions and must give stronger risk warnings. For UCITS schemes, use of derivatives has been limited to efficient portfolio management techniques i.e. there can be no use of derivatives for speculation. With the new UCITS regime, however, greater use of derivatives will be possible, including for investment purposes. The technical categories of funds have changed with the implementation of the 6

10 amendments to the UCITS Directive. The new regime effectively envisages mixed funds. The new UCITS scheme category encompasses what were classified as securities funds, warrant funds, futures and options funds, money market funds, funds of funds and umbrella funds comprising such funds. There are transitional provisions for all UCITS schemes to convert to the new UCITS scheme category (and the option for other types of funds which have been established as non-ucits schemes but which fit within the new wider UCITS scheme category). Management and administration Whichever type of authorised unit trust is set up, there is a standard basis for the operation and management of the trust set out in the FSA Regulations, which cover: - types of units - only income and accumulation units are available; - unit valuation and pricing, currently there is a prescribed method of dual pricing, with the option of the same method of single pricing as is required for open-ended investment companies ; - dealings in units - generally the manager must be available to issue and redeem units, subject to limited powers to suspend dealings for a short period of time; - charges and expenses which may be taken from the trust there are limited fee structures which are permitted, and those which are permitted can only be increased on a certain basis set out in the regulations; - maintenance of the register of unitholders - by the Trustee; - income allocations all income must be distributed or accumulated to units at least annually; - reports and accounts - annual and half yearly reports, setting out the required information, must be sent to unitholders; - requirements for changes to the trust s constitution, including the procedures for a unitholder meeting where necessary, and the procedure on termination of a trust. 7

11 This level of standardisation in the regulation of authorised unit trusts was introduced, and has been maintained, in the interests of consumer protection. It is achieved at the expense of flexibility, which has to date inhibited various potential new product areas. 5. ICVCs Essentially a UK open-ended investment company or oeic in FSA terminology, an ICVC, is a unit trust in a corporate form. Oeics are established under a separate corporate code with detailed regulations made by the Financial Services Authority, which are based on those which apply to unit trusts. The taxation of unit trusts and oeics is designed to be the same. Issues to consider in deciding whether to manage unit trusts or ICVCs include: the merits of a trust based or a corporate vehicle Some dispute whether the legal structure of an investment fund matters to investors, but there are perceived advantages of a corporate vehicle, for example, for the European markets where investors are less familiar with trust based vehicles. the flexibility offered by ICVCs Although unit trusts have now caught up with the introduction of a single pricing option, there are various features of oeics which offer more flexibility than unit trusts, notably multi-share classes. Economies of scale could be available to a fund manager. The option of oeics which are capable of being UCITS funds has been available in the UK since January 1997.In order that oeics could be introduced quickly, they were, rather curiously, introduced by statutory instrument made under the European Communities Act 1972, rather than by a new Act of Parliament. As that Act only permits legislation for the purposes of EU harmonisation, the disadvantage of this approach is that it only enables the establishment of UCITS funds as oeics. From 1997 to November 2001, UK oeics could therefore only be established as securities funds warrant funds or umbrella funds made up of sub-funds which are securities or warrant funds. 8

12 Proposals for oeics 2 to extend the scope of oeics to enable money market funds and funds of funds to be established were published but implementation was only achieved in November 2002 as part of the wider extension of the oeics regime. The restrictions on the range of oeics was initially a major obstacle to conversion programmes, as fund management groups usually want to convert their entire range of funds at one time. Full range of oeics now available With the implementation of the Financial Services and Markets Act 2000 in November 2001, the range of UK authorised oeics was extended to be similar to that for unit trusts and they are now termed ICVCs. ICVCs now include not only money market funds and funds of funds but also property funds futures and options funds geared futures and options funds, and umbrella funds of non UCITS funds and of umbrellas which include non UCITS sub-funds. It is now feasible for a fund manager to convert its entire fund range - or for a new fund manager to start with a choice of setting up either a range of oeics or unit trusts. (The exception to this will be feeder funds. The option of feeder funds as oeics is not included but, as they can only be used for pension purposes, there are few of these.) UCITS mixed fund category The February 2002 amendments to the UCITS Directive for UCITS funds were implemented in the UK as from 1 November The new UCITS scheme category encompasses the categories of securities funds, warrant funds, futures and options funds, money market funds, funds of funds and umbrella funds comprising such funds. This new regime therefore effectively envisages mixed funds. It also facilitates tracker funds and permits increased use of derivatives. 9

13 The November 2002 amendments also introduced limited issue fund and guaranteed and protected fund provisions for UK authorised funds. To highlight some of the special features of ICVCs for you: separate corporate code ICVCs are not ordinary UK companies. They are subject to a separate corporate code set out in the Treasury s Regulations. The fundamental point is that the Companies Act restrictions on maintenance of share capital do not apply, so an oeic can increase or reduce its share capital value at net asset value on demand. Under the new regime the FSA is to maintain the register of oeics. Applications for authorisation of an ICVC is made to the FSA (see section 16 of the CIS Sourcebook). instrument of incorporation Instead of memorandum and articles, an ICVC is governed by its instrument of incorporation, which is usually based on the AUTIF (Association of Unit Trust and Investment Funds) model instrument. A revised AUTIF model has been made available which is post N2 compliant. In each case however, provisions need to be drafted for the particular ICVC - for its share classes and rights attaching to shares, its investment objectives and restrictions, and its calculation of net asset value. Changes from the model are highlighted for the Financial Services Authority when an application is submitted. The other main document is the ICVC s prospectus. It sets out full details of the scheme. Like the scheme particulars for a unit trust, an oeic s prospectus must be made available to an investor before he invests. the balance of power of the parties involved The considerable debate on the balance of power between the parties involved in managing an ICVC resulted in the following list of parties: - the authorised corporate director or ACD : The ACD will be a company within the fund manager s group. Usually it will be the existing unit trust management company which has extended its permitted business to include acting as the ACD of an ICVC, although it can be any UK or non-uk incorporated entity which 10

14 has appropriate UK authorisation; - with the option of independent directors too; - an investment adviser can be appointed; - a depositary must be appointed: The depositary has an equivalent role to that of a trustee of a unit trust (of custodianship of assets and a supervisory role over the ACD), although it is not responsible for maintaining the register. Usually an established unit trust trustee which has extended its permitted business to include acting as depositary of an oeic is chosen, although it can be any suitably UK authorised person established in the EU with a place of business in the UK. Note, the depositary must act in the interests of investors and so, under a statutory provision, a trustee-like duty is imposed on it. In other respects, an ICVC has intentionally been created as a corporate vehicle which very much follows the established regulation and practice for an authorised unit trust. A comparison of UK authorised funds as set out in Appendix Recognised Schemes For completeness, please note that there are three sections of the Financial Services and Markets Act under which schemes may become recognised schemes and, being subject to comparable regulation to authorised unit trust schemes, may be marketed freely (within the relevant financial promotion rules). In order for a scheme to become recognised, an application must be made to the FSA under the relevant section. UCITS funds A Section 264 of the Act provides the mechanism for a UCITS scheme established in other EU member states to obtain recognised scheme status in order to passport the scheme into the UK. The EC Council Directive of 20th December 1985 on the co-ordination of laws, regulations and administrative procedures relating to undertakings for collective investment in transferable securities (understandably abbreviated to 11

15 UCITS ) sets out the basic product structure which has to be available in each member state and which has been established in the UK as authorised funds which are authorised securities funds or warrant funds. Now the UCITS scheme wider category will be available for the wider investment powers available for UCITS funds under the UCITS Products Directive amendments which were recently implemented in the UK. In order to sell an eligible authorised fund in other member states, the scheme must obtain a UCITS certificate from the FSA and comply with the local marketing rules of the member state in which the scheme is to be promoted. Other EU member states should be making available the new wider investment powers for their UCITS funds by There is a continuing concern that some other EU member states have given UCITS status to some schemes which may not be established as UCITS in the UK. Arguably the FSA have been less flexible than other EU countries regulators. The FSA s expressed intention is, however, to provide the maximum flexibility under the Directive as recently amended, both for the products and prospectively for the limited UCITS passport for UCITS management firms. designated territory s.87 schemes A section 270 Act scheme is one established in compliance with particular rules in a designated territory. There are several designated territories, the Isle of Man, Jersey, Guernsey and Bermuda, which have established a regime similar for UK authorised funds. (Please note that Hong Kong is not a designated territory). It should be noted that not all schemes established in these designated territories will be capable of being recognised schemes as they often have two or more classes of funds which are subject to various degrees of regulation, only the top one of which will be capable of becoming a UK recognised scheme. For example, in Guernsey there are type A and type B funds, Type A funds only being able to apply for recognition under Section 270 of the Act. A greater number of investment trusts or closed-ended schemes have been established in Guernsey which do not fall within the collective investment scheme rules although the Financial Services Commission in Guernsey do apply vetting and disclosure requirements to them. These are principally used for specialised funds such as property funds, venture capital funds and even a wine fund. 12

16 individually recognised schemes Section 272 Act schemes are the any other schemes category and the FSA have not recognised, and are unlikely to recognise, many schemes under this section. 7. Unregulated Collective Investment Schemes A collective investment scheme which is not an authorised unit trust scheme, an ICVC or a recognised scheme is an unregulated collective investment scheme which cannot be promoted to the general public in the UK. Unregulated schemes may only be advertised to the certain categories of persons not the general public. Possibilities for marketing unregulated collective investment schemes are extended, by the Collective Investment Schemes Exemptions Order, for example to include certain sophisticated investors. In addition, the FSA has made exemptions in FSA COB 3.11 and Annex 5 which cover marketing of unregulated schemes to existing investors in the particular scheme or a substantially similar scheme; existing customers for which an authorised person think the scheme is suitable; and promotions to market counterparties and intermediate customers. UK unauthorised unit trusts continue in this category as before. Unauthorised trusts are constituted by a lengthy trust deed entered into by a manager and a trustee. Authorisation is not obtained and therefore the authorised fund tax advantage is not secured but, as most of these unauthorised funds are restricted to holders who are themselves exempt from capital gains tax principally exempt pension funds and therefore the holders are themselves free from tax - there would be no advantage of such funds being authorised. The funds obtain confirmation from the Inland Revenue that they are exempt from capital gains tax on the basis that unit holders in the funds are exempt. Exempt pension funds are promoted under the regulations referred to above to occupational pension schemes and charities, usually as intermediate customers. The Financial Services and Markets Act 2000 enables unauthorised oeics to be set up - named in the Treasury s June 1998 document as puncs. Semi-regulated vehicles could be a useful development for some new markets. However, no Treasury proposals have yet been published in this connection. 13

17 8. Why the UK can be an attractive domicile for funds This booklet concentrates on UK funds. However: increasingly UK funds and the UK market cannot be viewed in isolation The major reason for introducing oeics was the perceived attraction of corporate single priced funds for European investors. Most fund managers therefore design a new UK ICVC with an eye on non-uk markets, and taking into account the product options which are available in alternative fund domiciles. the hope is that the availability of a wide range of ICVCs will encourage international fund managers to establish UK funds One aim must be to encourage international fund managers, for example from the US, to establish their funds in the UK in order to target the European markets or perhaps wider. the planned review of the CIS Sourcebook in 2003, with the promise of a wider product range could improve the UK s competitive position Limited issue funds and guaranteed and protected funds have been facilitated since November 2002 by amendments to the CIS Sourcebook. Introduction of new institutional funds and perhaps other non-ucits categories of UK authorised fund may be available in the foreseeable future. Whilst many comment that the UK has already lost out to Luxembourg and Dublin, some of their perceived advantages are illusory when you look at the detail - and the UK does have some positive advantages. It is true that, for non-ucits funds, although the UK has an edge on tax efficiency, Luxembourg and Dublin have a lighter regulatory regime. There are few fixed rules in Luxembourg and Dublin for such funds, whereas, in the UK, the full framework of regulation applies to non-ucits authorised funds as for UCITS authorised funds. Further, Luxembourg and Dublin can and often do give derogations from these few fixed rules if there is justification for it the FSA now has power to give waivers from rules for funds but we have yet to see how this power will be exercised. Generally Luxembourg and Dublin have demonstrated a greater willingness to open up new authorised fund sectors as the market demands. This can be particularly useful for funds to be marketed outside the EU. 14

18 For UCITS funds, there is little in regulatory terms to distinguish the various jurisdictions. However, on tax, the UK funds are more efficient because a UK oeic can use the UK s double tax treaty network to minimise overseas withholding taxes on dividends and interest. One consequence of the SDRT regime which was introduced in February 2000 should be that concerns on tax efficiency at the level of the investment fund on transfers of units or shares are removed for all but UK invested funds as the new regime will not apply. If there were a prospect of greater flexibility in the UK and hopefully a wider variety of funds, particularly for the institutional market, there would be a great potential for the UK to be the preferred domicile for new funds business. The FSA s current CIS policy work should hopefully lead to steps in this direction in The relative competitive position of UK funds may also depend on the outcome of the Revenue s current consultation on the regime for offshore funds. Looking forward, it is increasingly the case that investment funds are often only a part of a product structure. There are: additional product layers being interposed between the investor and the investment portfolio, such as is the case with unit-linked insurance products and pension schemes; various components making up some products, for example a bank deposit or insurance guarantee alongside investment fund holdings. often different layers or components in different jurisdictions - products are increasingly international. It is vital to look at - and so far as possible try and simplify! - the whole picture at the outset. If there were a prospect of greater flexibility in the UK and hopefully a wider variety of funds, particularly for the institutional market, there would be a great potential for the UK to be the preferred domicile for new funds business. 15

19 FFW s Investment Funds and Products Group Our Investment Funds and Products Group advises fund managers, insurance companies and banks on a wide range of retail and institutional investment funds, insurance and pension products. With a team of lawyers who understand the various traditionally distinct areas of law and regulation involved - and how they fit together - we have the blend of skills to assist clients who are seeking to keep at the forefront of new developments in the increasingly complex and global financial services market. We have wide experience of advising fund managers and insurance companies, both in the UK and internationally, of the feasibility of setting up UK unit trusts and oeics and how they could fit within a product range, from the legal, regulatory and tax viewpoints. If you would like any further information on the FFW Investment Funds and Products Group, or would like to discuss any particular question or proposal relating to openended investment companies or unit trusts, please contact Kirstene Baillie or Nicholas Noble at: Field Fisher Waterhouse 35 Vine Street London EC3N 2AA Tel: +44(0) Fax: +44(0) kmb@ffwlaw.com Website: CDE: 823 Ref: KMB This publication is not a substitute for detailed advice on specific proposals and should not be taken as providing legal advice on any of the matters discussed. January

20 Appendix 1 Sections of the Financial Services and Markets Act (1) In this Part "collective investment scheme" means any arrangements with respect to property of any description, including money, the purpose or effect of which is to enable persons taking part in the arrangements (whether by becoming owners of the property or any part of it or otherwise) to participate in or receive profits or income arising from the acquisition, holding, management or disposal of the property or sums paid out of such profits or income. (2) The arrangements must be such that the persons who are to participate ("participants") do not have day-to-day control over the management of the property, whether or not they have the right to be consulted or to give directions. (3) The arrangements must also have either or both of the following characteristics: (a) (b) the contributions of the participants and the profits or income out of which payments are to be made to them are pooled; the property is managed as a whole by or on behalf of the operator of the scheme. (4) If arrangements provide for such pooling as is mentioned in subsection (3)(a) in relation to separate parts of the property, the arrangements are not to be regarded as constituting a single collective investment scheme unless the participants are entitled to exchange rights in one part for rights in another. (5) The Treasury may by order provide that arrangements do not amount to a collective investment scheme: (a) (b) in specified circumstances; or if the arrangements fall within a specified category of arrangement. 236 (11) In this Part "an open-ended investment company" means a collective investment scheme which satisfies both the property condition and the investment condition. (2) The property condition is that the property belongs beneficially to, and is managed by or on behalf of, a body corporate ("BC") having as its purpose the investment of its funds with the aim of (a) (b) spreading investment risk; and giving its members the benefit of the results of the management of those funds by or on behalf of that body. (3) The investment condition is that, in relation to BC, a reasonable investor would, if he were to participate in the scheme 17

21 (a) (b) expect that he would be able to realise, within a period appearing to him to be reasonable, his investment in the scheme (represented, at any given time, by the value of the shares in, or securities of, BC held by him as a participant in the scheme; and be satisfied that his investment would be realised on a basis calculated wholly or mainly by reference to the value of property in respect of which the scheme makes arrangements. (4) In determining whether the investment condition is satisfied, no account is to be taken of any actual or potential redemption or repurchase of shares or securities under (a) Chapter VII of Part V of the Company Act 1985; (b) Chapter VII of Part VI of the Companies (Northern Ireland) Order 1986; (c) (d) corresponding provisions in force in another EEA State; or provisions in force in a country or territory other than an EEA state which the Treasury have, by order, designated as corresponding provisions. (5) The Treasury may by order amend the definition of "an open-ended investment company" for the purposes of this Part. 237 (1) In this Part "unit trust scheme" means a collective investment scheme under which the property is held on trust for the participants. (2) In this Part "trustee", in relation to a unit trust scheme, means the person holding the property in question on trust for the participants; "depositary" in relation to (a) (b) a collective investment scheme which is constituted by a body incorporated by virtue of regulations under section 262, or any other collective investment scheme which is not a unit trust scheme, means any person to whom the property subject to the scheme is entrusted for safekeeping; "the operator", in relation to a unit trust scheme with a separate trustee, means the manager and in relation to an open-ended investment company, means that company; "units" means the rights or interests (however described) of the participants in a collective investment scheme. (3) In this Part: "an authorised unit trust scheme" means a unit trust scheme which is authorised for the purposes of 18

22 this Act by an authorisation order in force under section 243; "an authorised open-ended investment company" means a body incorporated by virtue of regulations under section 262 in respect of which an authorisation order is in force under any provision made in such regulations by virtue of subsection (2)(1) of that section; "a recognised scheme" means a scheme recognised under section 264, 270 or

23 Appendix 2 Types of UK authorised funds 20

24 UK authorised investment funds ICVC unit trust new section 5 UCITS mixed fund category 1 (replacing securities funds, warrant funds, money market funds, futures and options funds and funds of funds) and umbrellas comprising new UCITS subfunds transferable securities funds (equity, bond and warrant funds) existing UCITS funds 1,2 (subject to transitional provisions) umbrella funds comprising UCITS sub-funds money 3 market funds funds 3 of funds non-ucits funds 1 futures 3 and options funds geared futures and options funds property funds umbrella funds including non- UCITS sub-funds feeder funds (for pension purposes only) 1. Option of limited issue funds 2. Transitional provisions to convert to new UCITS scheme mixed fund category 3. Option of converting to new section 5 UCITS scheme mixed fund category 21

25 Appendix 3 Comparison of UK Authorised Funds Although the FSA s regulations for ICVCs and unit trusts are remarkably similar indeed they are now to a great extent consolidated and appear in the same document: ICVCs are perceived as the more modern investment vehicle With the full range of ICVCs comparable to those permitted as authorised unit trusts (except for feeder funds), not just UCITS qualifying oeics, now available, ICVCs may be considered the more attractive option. most fund managers are opting to set up umbrella ICVCs with numerous sub-funds and, for each sub-fund, multiple share classes Although used for a few unit trust personal pensions, umbrella unit trusts have not proved popular and the FSA s Unit Trust Regulations only allow two defined types of units. The ICVC umbrella structure has attractions for the fund manager because it has one fund to administer and it is easy to add new sub-funds and share classes. The table on the following pages aims to identify the current features of ICVCs and unit trusts, so you can compare their relative merits: ICVCs Unit Trusts Parties Corporate structure (separate corporate code) Authorised Corporate Director ( ACD ) and a Depositary must be appointed. Unit Trust Manager and Trustee enter into the Trust Deed may have independent directors. investment adviser may be appointed investment adviser may be appointed 22

26 Depositary Trustee Investor has rights as a shareholder a beneficial interest under a trust. Documents Instrument of Incorporation Trust Deed Contracts: - ACD - Depositary - [Investment Management] [Investment Management Agreement between Manager and Investment Manager] - Administration/Registrar] [Administration Agreement] [Registrar Agreement] Regulations Treasury: The Open-ended Investment Companies (Companies with Variable Capital) Regulations FSA: the CIS Sourcebook. FSA: the CIS Sourcebook. Regulators Scheme: FSA Collective Investment Schemes Group ACD: FSA Depositary: FSA Scheme: FSA Collective Investment Schemes Group Manager: FSA Trustee: FSA. Share classes multishare classes possible income or accumulation units 23

27 Pricing mandatory single pricing (with swinging single price mechanism or mid market single price with possible dilution levy on redemption) single or dual pricing - existing schemes have the option of adopting single pricing on the same basis as for ICVCs on six weeks notice. Types of Funds UCITS schemes (Part 5) and non-ucits Part 5A schemes currently securities funds, warrant funds, money market funds, funds of funds, umbrella funds, futures and option funds, geared futures and options funds and property funds (but not feeder funds). * UCITS schemes (Part 5) and non-ucits Part 5A schemes currently securities funds, warrant funds, money market funds, funds of funds, umbrella funds, futures and option funds, geared futures and options funds, property funds and feeder funds for relevant pension schemes. * Investment powers As for comparable category of unit trust and as set out in Part 5 and 5A of the FSA s CIS Sourcebook. Part 5 sets out the restrictions for new UCITS scheme category funds and for other schemes as set out in Part 5A of the FSA s CIS Sourcebook. Income must allocate income (although not strictly on interim dates). must allocate income Charging structure limited charging structure - preliminary charge: ACD s remuneration; redemption charge; (no performance fee); expenses payable as allowed under the instrument of incorporation (could include set up charges). very limited charging structure - initial, periodic and exit fees for the Manager; Trustees fees and expenses; and a few other expenses as specified in the FSA unit trust Regulations. Tax taxed as for unit trusts CGT exemption (so effective * Proposals for revisions to non-ucits fund range awaited from the FSA in 2003 as part of their FSA CIS Sourcebook review. Note transitional provisions for conversion of securities schemes to new UCITS scheme category. 24

28 deferral of CGT liability). Position on taxation of income complicated, although should flow through reasonably efficiently. Special SDRT regime for redemptions of units. Listing can be listed but unlikely in practice? can be listed but not done in practice. AGMs required N/A Required marketing literature Prospectus Prospectus (can also be called scheme particulars) Key Features Key Features In considering each feature, you will notice various areas where ICVCs offer more flexibility. The question for you to consider is whether you want to take advantage of that flexibility. You should also consider whether the FSA s policy decision to fully align AUTs with ICVCs, which is expected within the current CIS Sourcebook review, will affect your decision. 25