City asset managers face bigger tax bill

City asset managers may face a nasty surprise in the form of an unexpectedly large tax bill due to changes relating to carried interest, announced at the Autumn Statement

In essence, the new measures introduce an objective and legislative test to determine whether carried interest should be taxed as capital gains (CGT) or income, which tests an average period in which a fund holds assets.

Returns not subject to CGT will be chargeable for income tax and Class 4 NICs as trading profits.

The changes take effect on 6 April 2016 following a summer consultation last year, but Smith & Williamson’s head of financial services and markets, Colin Aylott, warns that the measure could leave many facing a larger tax bill.

‘Historically, carried interest was generally treated as capital, if structured as such, and charged at the rate of capital gains tax (CGT), regardless of the amount of time the underlying investment spent within the investment scheme.

‘However, recent changes have altered this, with George Osborne stipulating a minimum time period of three years for an investment to remain in a fund.

‘If an individual is paid an amount of carried interest from the fund, the amount is treated as income, instead of capital, and will be subject to the given rate of income tax and NICs.

‘After an average three year investment holding period, the amount liable for income tax will taper down by 25% every three months until it no longer applies and CGT is fully applicable,’ said Aylott.

The Treasury first announced this as an area under focus in the 2015 Summer Budget, saying it would consult on a new legislative test to determine when carried interest should be taxed as income or as chargeable gains.

The intention is that this test should replace the current test, which is based on case law and is centred on the so‐called ʹbadges of tradeʹ.

The case law underlying the test has mainly considered trades connected with areas such as manufacturing and retail, making the test more difficult to apply to a business such as asset management, therefore prompting the government to replace it with a legislative test.

‘There are rules around how and when some significant investments in individual companies are regarded as acquired and disposed of - so, for example, acquisitions of additional shares in the same company may be regarded as acquired at the same time as the original investment for the purposes of determining the period of ownership.

‘This will complicate calculations but will possibly reduce the impact of the tests,’ said Aylott.

The government's policy paper for this is here

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Penny Sukhraj |Content editor, Accountancy - (up to 2016)

Penny Sukhraj, former content editor and writer for Accountancy and Accountancy Live, responsible for commissioning and editing news...

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