2022 has been labelled as the worst year in global financial markets since the 2008 financial crisis – which is quite a claim given the global pandemic in two previous years. Fuelled by the geopolitical crisis, inflation, interest rate hike and looming recession the UK economy has been destabilised. In terms of UK taxation 2022 will be remembered by the Mini Budget fiasco and subsequent U-turns of the proposed tax changes.
It is clear that 2023 will bring new challenges for the financial markets and asset managers need to be ready. Following from Rishi Sunak’s latest statement on 4 January the priorities for 2023 are to halve inflation, grow the economy, reduce debt…. It would be interesting to see how these targets will be reflected in the next Budget which will be held on 15 March 2023. Whatever happens the hike in UK corporation tax from 19% to 25% will have a significant impact on businesses and force some to review their position.
We outline below the key areas of UK taxation that are likely to impact the asset managers in 2023, many of which may be familiar as they have been ongoing for number of years.
- Salaried member rules – as majority of asset managers in the UK are set up as LLPs, this area is still high on the agenda with tax enquiries dragging over to 2023 with no sight of resolution. The BlueCrest Salaried Member Case at the First Tier Tax Tribunal last summer was the first one to test the salaried member rules and specifically interpretation of the term ‘significant influence’. This case had some positive connotations as the Tribunal concluded that majority of the portfolio managers at BlueCrest had significant influence over the affairs of the LLP and failed condition B, nevertheless it was concluded that condition A was met for all the members. 2023 will be marked as the year when both HMRC and BlueCrest appeal the decision at the Upper Tribunal, which can hopefully bring further clarity on the application of the salaried member rules to the asset managers.
- Mixed membership rules – in October 2022 HMRC has sent nudge letters to some of the asset managers with mixed member partnerships. These letters did not require any particular response but rather urged businesses to check if the mixed membership rules apply to their partnerships and correct any mistakes. It is clear that HMRC is going to continue to put pressure on asset managers with mixed member LLPs, particularly as HMRC has been successful in the only court case testing this legislation back in 2019.
- Ltd vs LLP – careful consideration should be taken when selecting an appropriate legal structure. Even though LLPs are attractive from a tax perspective as partners will be able to extract profits at the lowest effective tax rate, further to the table below, there are a number of other commercial considerations that need to be made. Extraction of profits via dividends from a UK company for a UK resident individual shareholder will be the least attractive option in 2023/24. Nevertheless, there may be still some efficiencies of using UK holding companies or family investment companies.
- Transfer pricing – at the end of last year HMRC published the draft transfer prising records regulation 2023 which is open for consultation until 31 January 2023. The requirement to keep and preserve transfer pricing documentation in a prescribed and standardised format for large multinational businesses operating in the UK, set out in the OECD’s Transfer Pricing Guidelines (Master File and Local File), is due to come in force from April 2023. In practice this should effect only a minority of the asset managers as the requirement is drafted to align with the Country-by-Country Reporting (CbCR) regime that applies to groups with a consolidated group revenue of more than €750m. Regardless of size, best practice is that all asset managers should maintain and document an OECD compliant transfer pricing policy given the potential interaction with the UK’s investment management exemption (IME) and disguised investment management fee legislation.
- Basis period reform – this measure changes the way trading income is allocated to tax years and will effect asset managers with LLPs that do not draw up annual accounts to 31 March or 5 April. 2023/24 tax year is a transitional year before HMRC moves from the current year basis of assessment to a tax year basis from 6 April 2024. For the effected asset managers there are two options: one to retain their existing accounting period and work of provisional/estimated figures for the tax assessments or change the accounting period to align with the tax year. As per current guidelines provisional figures need to be finalised ‘without delay’. This requirement will be relaxed before the start of the transition year. HMRC is continuing to explore methods of providing overlap relief figures to taxpayers that want to change their accounting period to 31 March or 5 April. We understand HMRC may inform businesses of overlap relief figures that HMRC holds, or provide a method for businesses to request these figures from HMRC in the near future.
- Research & development (R&D) relief – the small and medium-sized enterprises (SME) will see their R&D credit reduced from 130% to 86% from 1 April 2023, but the R&D Expenditure Credit will increase from 13% to 20%. The R&D tax reliefs will be further reformed by expanding qualifying expenditure to include data and cloud costs, refocusing support towards innovation in the UK, and targeting abuse and improving compliance. Asset managers with R&D claims or ones considering applying should assess whether their R&D projects satisfy all the requirements and the supporting information for their claims is complete. HMRC is increasing scrutiny of R&D claims due to a high number of fraudulent cases.
- Crypto assets and IME – 2023 may be the year when we see more crypto activity in the UK as at the end of last year HMRC has published legislation that defined ‘designated cryptoassets’ and provided for their inclusion in the list of investment transactions which qualify for the IME (please see our summary here). This legislation is effective from 1 January 2023 but apply to transactions entered into from tax year 2022 to 2023 onwards and accounting periods that include 19 December 2022 onwards. Further announcements are expected from HMRC in respect of the taxation of Decentralised Finance involving the lending and staking of cryptoassets.
- VAT on fund management – as part of the Edinburgh reform HMRC is consulting on VAT treatment of fund management services. The upcoming changes are not intended to result in a significant policy overhaul for the fund management industry. The purpose of this consultation and subsequent amendments to the UK legislation is to improve the legislative basis of the current VAT treatment of fund management which predominantly has been derived from the EU VAT Directive 2006/112/EC. The consultation will close on 3 February 2023.
- Real estate investment trusts (REITs) – another tax related announcement as part of the Edinburgh reform, which intends to improve UK competitiveness for the financial industry, is that from April 2023 a REIT will not be required to own at least three properties when it holds a single commercial property worth at least £20m. Also, the rule which applies to properties disposed of within three years of significant development activity will be amended.
- Economic crime levy (ECL) – for asset managers regulated by the FCA for money laundering purposes the ECL will be collected in 2023/24 by the FCA through the normal invoicing process and the levy will be an additional line on the invoice. There will be a new regulatory return, accessed through the RegData system. Businesses will be asked to submit the return in April 2023. For businesses not regulated by the FCA the ECL will be collected by HMRC. The ECL is a fixed fee (ranging between £10k and £250k) depending on the UK revenue (businesses with UK revenue below £10.2m are exempt).
- Pillar II – following a consultation last year HMRC has confirmed that the UK Pillar II legislation will first apply to accounting periods beginning on or after 31 December 2023. Pillar II will ensure that large multinational enterprises (with consolidated group revenue of at least €750m) operating within the UK pay a global minimum level of tax (15%) with limited exclusions applying to investment funds. Impacted asset managers should consider their reporting and payment obligations under the rules.
- Mandatory disclosure rules (MDR) – will be introduced in the first half of 2023 and will replace similar rules based on DAC6 (Disclosure of cross-border tax arrangements). The MDR require ‘promoters’, service providers and, in some instances, taxpayers, to disclose to HMRC information regarding Common Reporting Standards (CRS) avoidance arrangements and opaque offshore structures which have the effect of obscuring beneficial ownership. In response to 2022 consultation HMRC confirmed that reporting of pre-existing arrangements should only be required from 25 June 2018. The MDR reporting will have to be done online, using an Extensible Markup Language (XML) file format, which is also used for the CRS reporting. HMRC expects that third party software providers may be able to provide a solution to businesses which are unable to build required reporting systems themselves. HMRC guidelines to be published this year are expected to help taxpayers and service providers with meeting their obligations under the MDR.
- Disguised investment management fees (DIMF) rules – HMRC continues to focus on targeted anti-avoidance legislation such as DIMF and with the number of tax enquiries in this area increasing, asset managers should be mindful of any open tax risks that could be subject to HMRC scrutiny. DIMF rules aim to ensure that fees are correctly charged to UK income tax where investment management services have been undertaken in the UK. The legislation applies to both management and performance fees and imposes an income tax charge on the deemed UK trading income of individuals, where untaxed fees are considered to ‘arise’ to the investment managers, irrespective of whether they physically receive the fees. For further detail, please refer to our latest article – DIMF and carried interest – In search of guidance?