Common Ways of Accessing UK Property Investment

Transcription

1 Common Ways of Accessing UK Property Investment About this document This document is designed to provide high level detail on most of the common ways of accessing UK real estate as an investment asset. It does not aim to provide conclusive proof of the best structure to use as that will ultimately depend on a number of factors: such as target investor profile, what the investment strategy is, whether gearing will be employed, and so on. In order to illustrate the differences between the structures, we examine the following: What the structure is Why Hearthstone elected for the Property Authorised Investment Fund (PAIF) structure Hearthstone spent time considering all of the available fund structures before deciding on the PAIF regime for the TM Hearthstone UK Residential Property Fund. The overriding factors considered were that the fund would be: Invested in a portfolio of UK situated residential properties, which would be let to private tenants. The tax treatment (internally, and in the hands of the investor) When the structure would typically be used The pros and cons Distributed primarily by UK regulated advisers to retail clients: so needed to be FSA authorised, daily priced, daily traded, and employ no gearing. Able to be purchased within SIPP, ISA and Offshore Bonds, and provide maximum tax efficiency within those wrappers. Which common tax wrappers (SIPP, ISA, etc) the structure could be purchased within In the final column, we outline some key points that an adviser should be aware of when considering one of these investment structures for a client. Many of the structures listed are categorised as Unregulated Collective Investment Schemes (UCIS), and therefore unsuited to Retail Clients. You will notice the PAIF structure falls on the final page of this document. Our rationale here is that when considering the factors set out above, having reviewed the various structures available for property investment, it is clear why PAIF is the ideal structure for this particular fund.

2 Direct Purchase One investor or a small number of investors buying a property outside of any fund structure. Income tax on Rental CGT on disposal Experienced Property investors with sufficient capital to commit for the medium to long term in a potentially illiquid asset Full control over asset selection and management High degree of capital commitment Liquidity Impact of void periods on income stream Commercial Property OK within SIPP/SSAS No direct residential in SIPP/SSAS/ISA Doesn t add to AUM Probably not advised on, so unable to charge fee unless arranging mortgage finance Cost of acquiring and managing the asset Risk that joint investors could be treated as a partnership, so joint and several liability.

3 UK Limited Partnership Legal partnership structure requiring at least one unlimited liability General Partner who controls investment strategy, plus Limited Partners who hand day to day control to the GP. No more than 20 LPs unless it is a Collective Investment Scheme (CIS). Transparent from the investor perspective, so taxed as if they owned the underlying assets directly. Income tax on Rental CGT on disposal Small to medium number of unrelated / unconnected HNW or sophisticated investors who do not want to be involved in the day to day management of the assets or the investment strategy. Tax Transparency Limited Partners don t have to worry about day to management of the assets Lower costs than a fully regulated fund May offer only restricted secondary trading opportunities as LP may have to sell their interest to another investor if there is not in-built redemption policy. Sale of Limited Partnership interest will attract SDLT of 4% of Gross Asset Value No Offshore Bond (although LP may also offer OEIC feeder to facilitate this). No SIPP/SSAS (although often an exempt UT feeder will be available for these investors) Unregulated Collective Investment Scheme, so HNW / Sophisticated investors under PCIS Order, or COBS 4.12 Exemptions. PI risk Rigorous Due Diligence is essential. If a CIS, then operator of scheme / manager of investments must be FSA authorised. Not for Retail clients CIS will be Unregulated as defined by the FSA (i.e. a UCIS ).

4 JPUT / GPUT Jersey / Guernsey Property Unit Trust. Often called a Baker Trust which is an Interest In Possession trust where the trust income passes directly to the beneficiaries (unit holders). May be Open or Closed ended, Listed or unlisted. Can be set up as a Collective Investment Fund, an Expert Investor trust, or Very Private trust depending on the number of investors. No internal taxation. No SDLT on unit disposals Tax Transparent in the hands of the investor Investor pays income tax on income, and CGT on disposal As an alternative to an English Limited Partnership, and where the operators do not want to be bound by rules around capital adequacy, distribution of income, gearing, etc. No 4% SDLT on disposal of units (unlike the English Limited Partnership Unit Holders receive income Gross If listed on CISX, then SIPP/SSAS/Offshore Bond can buy units directly without having to use a feeder fund Governed by local Trust Law which is not as stringent as the local Financial Services rules, so potential investor risks Income must be paid out to unit holders to qualify as a Baker Trust, so not ideal for those who do not require the income Unlikely to be accepted if not listed. If listed on CISX, then may be eligible for SSAS, SIPP or Offshore Bond. Will be a UCIS from the UK FSA perspective, so adviser must follow PCIS rules and/or COBS The main attraction of these schemes was originally due to the fact that the transfer of the property into the arrangement used to avoid 4% Stamp Duty Land Tax, but this was abolished in the 2007 Budget

5 Offshore OEIC (non-ucits type schemes) Open Ended Investment Company, usually set up in a low tax jurisdiction (Channel Islands, Dublin, etc). Little or no internal taxation, depending on jurisdiction. Rental income from UK property to the OEIC usually taxed at 20%. Reporting Regime determines treatment of UK investor: Reporting status means UK investor subject to income tax at marginal rate on reported distributions (even if rolled up within the fund), then disposals of shares subject to CGT. Non Reporting status means UK investors subject to income tax on disposal of shares. New fund start-ups not launching with seed capital. Fund can start from scratch, build up cash and acquire assets as funds are available. Also good for strategy that involves gearing as rules will typically allow borrowing up to, say, 70% of GAV. May be much cheaper to set up and run than a UK authorised OEIC. May not have to meet the Prudential Spread of Risk requirements as for UK authorised retail OEIC (eg Guernsey Financial Services Commission class B shares). Regulation may be less rigorous compared with UK Unlikely to be priced daily / daily traded: often will only be monthly / 2 monthly / quarterly, etc. Allowable investment for SIPP, SSAS, Offshore Bond, but will depend on wrapper provider s own due diligence. May also be allowable in ISA if the fund is listed on a stock exchange recognised by HMRC. Likely to be UCIS if not subject to UK equivalent regulation and not passported into the UK as a collective investment scheme recognised by the FSA. May be outside EEA, so will also have MiFID implications if transmitting orders to purchase directly to the Offshore Fund manager. Check liquidity management process.

6 English Unit Trust Unitised Pooled investment scheme. Can be Authorised by the FSA or unauthorised. 20% internal corporation tax on rental income. Authorised UT exempt from internal CGT. Unauthorised UT suffers 20% corporation tax on internal realised gains. Income distributions subject to Income tax. Disposal of units subject to CGT Authorised funds used to establish funds that are to be promoted to Retail Clients. Unauthorised UTs typically used to feed other structures such as Limited Partnerships (for use by SSAS/SIPP). Overcomes MiFID issues if used as a feeder fund as based within the EEA. Authorised funds will qualify for UK Financial Services Compensation Scheme Unauthorised funds are UCIS, so only suited to HNW / Sophisticated investors Authorised UT: OK for SIPP, SSAS, Offshore Bond. OK for ISA if satisfy rules in section 7 of HMRC ISA Guidance Notes. Unauthorised UT: OK for SIPP, SSAS. Unauthorised UT not permitted for Offshore Bond as will breach HMRC Portfolio Bond rules. UCIS issues if unauthorised: COBS 4.12 and PCIS order rules.

7 UK OEIC Open Ended Investment Company legal fund structure in UK capable of being FSA authorised. Internal corporation tax at 20%. Income tax on distributions and CGT on disposal of shares. A wide range of investment strategies, although must use the NURS structure for retail bricks and mortar property funds, or could follow the Qualifying Investor Scheme (QIS) structure if targeted at HNW / sophisticated investors (QIS can gear up to 100% of NAV) Can potentially qualify for tax favourable PAIF status. Open ended, so liquidity measures are built in to the scheme. Retail schemes provide investor protection under FSCS. In-built liquidity could mean less real property exposure as manager needs to hold adequate cash / near cash to meet redemptions. More expensive to set up and run than an overseas unregulated scheme. SIPP, SSAS, Offshore Bond and ISA eligible. OK for ISA if satisfy rules in section 7 of HMRC ISA Guidance Notes (e.g. Redemption frequency at least fortnightly, and satisfy 5% test ). Retail schemes OK for all clients subject to attitude to risk. Although Qualifying Investor Schemes are FSA authorised, they are not suited to HNW clients.

8 UK QIS FSA authorised Qualifying Investor Scheme aimed at sophisticated and HNW investors. Can take OEIC or UT legal structure. As for OEIC or UT More adventurous investment strategies, property development, etc aimed at HNW and sophisticated investors. Less restrictive investment limits than for retail schemes, and ability to gear up to 100% of NAV. Not suited to Retail Clients High minimum investment limits. Will be either a UT or OEIC so can theoretically be invested in SSAS, SIPP, Offshore Bond or ISA, but will depend on the wrapper provider and HMRC ISA Guidance Notes. Qualifying HNW or Sophisticated investors only under PCIS order / COBS 4.12 exemptions.

9 Structured Product / Index Derivative Hybrid type of investment product that typically combines the purchase of a derivative in an index (eg Halifax House Price Index), plus another asset that returns an element of capital at the end of the specified term irrespective of the return on the index. Depends on whether structured as a Deposit (Income tax), or Medium Term Note (CGT) if return not known at outset. Defined return plans and income paying plans typically subject to Income tax. Investors who require some element of capital protection, yet still want to gain exposure to an asset class. Cost of buying the index can be achieved for a relatively small premium. Could buy 2x, 3x the index to enhance returns in a rising market. Able to build in capital protection through purchase of zero coupon bonds, etc. Buying the index will only provide capital growth exposure, and no rental returns. SIPP and SSAS eligible. Medium Term Notes not suitable for Offshore Bond, but Deposits are OK. ISA generally OK for terms of 5 years or more (if listed on Recognised exchange, and > 5 years to maturity at date purchased). Counterparty risk should be a key part of due diligence. Low rated bond providing the Capital Protection element will pose a higher risk for the investor even though this means more could be exposed to the growth element through purchasing more of the index.

10 Pension / Life company fund What it is Taxation Ideal for Advantages Disadvantages Wrapper allowable Adviser points Life or Pension provider in-house pooled investment fund available through their own pension or life wrappers. Providers may also operate mirror funds that invest in individual OEIC or UTs from other fund houses. Pension funds exempt from internal taxation. Onshore Life funds suffer tax internally which is deemed to be equivalent of basic rate income tax. Traditional Life / Pension providers in-house property portfolios of office, retail, industrial commercial properties. Usually seen as low cost from the investor s point of view (e.g. Nil initial charge and 1% AMC). Generally large, well-diversified commercial property funds with long history. Can usually only be accessed by using the provider s life or pension wrapper. Typically limited to commercial property. Charges not always transparent: eg swinging mid-price where price may move up to 6% from bid to offer depending on net investment outflow or inflow. SSAS, SIPP, Offshore and Onshore Bonds from the actual provider only. Provider may offer a Trustee Investment Plan that enables purchase through another company s pension wrapper. Not available unwrapped or through ISA. No specific issues, but check history and application of right to defer withdrawals.

11 REIT Real Estate Investment Trust. A closed ended investment in a property business that qualifies for certain tax breaks under the REIT legislation. Essentially an IT but with corporation tax exemption on its property investment income. Internally, exempt from corporation tax on property investment business so long as certain qualifying conditions are met. Investor is taxed on underlying assets as if held directly. See PAIF v REIT for more detailed information. Large Property investment companies that derive most of their returns from property rental. No internal Corporation tax on the underlying property investment business, so more of the return is passed to investors. No initial charge / Bid-Offer spread, so could be perceived as cheaper to buy (although investor will have to pay the usual dealing charges). Closed ended and has to be listed on an investment exchange, so value of the shares are affected by market sentiment/ supply and demand meaning that value of the shares may not actually be representative of the underlying net asset value. Returns derived from outside of the exempt property investment business are subject to corporation tax internally (24% 2012/13, 23% 2013/14, 22% 2014/15). SSAS, SIPP, Offshore Bond and ISA eligible. Check permissions allows to arrange deals in REITS. The REIT is not covered by Financial Services Compensation Scheme, although the Advice from the IFA is.

12 Investment Trust Closed ended pooled investment. Essentially the same structure as a REIT, but without the tax breaks. Internal corporation tax on income and gains at 24% for 2012/13, 23% 2013/14, 22% 2014/15. Investor: Income tax on distributions and CGT on disposals of shares. Property investment that is focussed more on development rather than rental, and those that do not qualify for tax preferential REIT status. No need to provide internal liquidity as shares are listed on a recognised exchange. Hence more capital can potentially be committed to the investment strategy. As for REIT, the shares may trade at a premium or discount to the underlying NAV due to market sentiment. Lack of REIT status means all internal income and gains are subject to corporation tax, thus reducing returns to investors SSAS, SIPP, and ISA eligible. Offshore bond eligible if the IT is approved under CTA88/S842. As for REIT.

13 EPUT Exempt Property Unit Trust onshore unit trust that restricts ownership of units to tax exempt investors. Suffers income tax at fund level, but this can be reclaimed by the exempt investors. No liability to CGT or Corporation Tax. Tax exempt investors (pension Schemes, Charities). Often used as a feeder fund for a Limited Partnership arrangement. Also used where two or more unconnected pension schemes want to pool investment to buy property. Returns can be obtained free of tax. Overcomes problems where members of, say, SIPP or SSAS with different providers want to pool investment into one property. Manager has to be FSA regulated, so provides an element of peace of mind. Units can only be held by tax exempt investors. Set up costs may be prohibitive for small scale purchase. OK for SSAS, SIPP, other pension scheme, Charity. Not permitted for Offshore bond as EPUT is unauthorised UT, and would breach personal portfolio bond rules. Although manager must be FSA regulated, the EPUT will not be authorised so is a UCIS from the FSA perspective. PCIS order / COBS 4.12 applies.

14 Property Company Shares Shares in a UK company House Building Firm, Serviced Office Provider, etc. Corporation tax on the underlying operation. Investors liable to income tax on distributions and CGT on disposal of shares. Equity Investors seeking exposure to a specific business sector. Highly liquid where the shares are traded on a recognised exchange. Affected by market sentiment, so share price performance can be at variance with the performance of the underlying bricks and mortar assets. SSAS, SIPP and ISA eligible (subject to listing requirements for SIPP and ISA) Not permitted for Offshore Bond under HMRC Personal Portfolio Bond rules. Check permissions. No FSCS on the share, but advice will be subject to FSCS.

15 Trust Legal agreement requiring Trustees to administer the settled assets for the benefit of the beneficiaries to the Trust. Depends on the type of Trust (Bare, Discretionary, etc). Property left in a will where the surviving partner is allowed to live for the rest of their life, then the property is passed to the children, etc. Or where the beneficiaries of a will are minors. Available off the peg from numerous life companies and product providers, or solicitor can draw up a bespoke trust tailored to the needs of the client. Trustees bound by Trustee Act 2000 to ensure the trust assets are Suitable, Appropriate and Diversified when considering the beneficiaries needs. Costs of Maintenance and Upkeep of the property should be borne by the trust which could be problematic if there is no rental income (eg surviving spouse living there). None Potentially a complex area of advice which is beyond the scope of this guide.

16 PAIF Property Authorised Investment Fund: a UK Open Ended Investment Company, authorised by the FSA that has more favourable internal tax treatment that other authorised investment funds. Could be a Retail or Qualifying Investor Scheme. See PAIF v REIT download on our website for more detailed explanation and direct comparison between the two structures. Exempt from internal corporation tax on income and gains arising from the underlying Property Investment Business. Any income outside of the PIB that is subject to Corporation Tax only suffers the special OEIC rate of 20%. Tax transparent from an investors. Property investment strategy that is more focussed on property rental than development. Liquidity is built into the structure, so value of the shares are determined by the underlying value of the assets. Share price not affected by market sentiment (supply and demand). Less restrictive that REIT in terms of size of property investment business and distribution of yield. Need for internal liquidity management could potentially mean that less capital is actually invested in the underlying property investment business. Eligible for SSAS, SIPP, Offshore Bond and ISA (note: ISA eligibility will depend on the fund meeting conditions in HMRC Guidance Notes). No issues if aimed at retail investors under the NURS regime follow usual advice process. Could be a Qualifying Investor Scheme aimed at HNW / Sophisticated clients (will have a high minimum investment level). This information is intended for professional clients and investment professionals only and should not be relied upon by retail investors. While all reasonable care has been taken in the compilation of this publication, Hearthstone Investments PLC will not be under any legal liability in respect of any misstatement, error or omission contained therein or for the reliance any person may place thereon. This report is published for general information only and while the report may be helpful in anticipating trends in the property market, no warranty is given as to its accuracy, and no liability for negligence is accepted in relation to figures, forecasts, analyses or conclusions in it. Under no circumstances must any of the content of this report be relied upon for investment purposes. September 2012