VAT on Management Services and the Alternative Investment Manager

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VAT is becoming an issue of increasing significance to the alternative investment manager.

Various market factors combined with recent changes to UK VAT legislation are contributing to a requirement to be more aware of VAT issues. The alternative manager typically raises funds under management from institutional and other “sophisticated” investors investing in collective investment vehicles (“the Funds”) and the Funds are not normally registered with the Financial Services Authority to be promoted to the public in the UK. The credit crisis has, however, caused a flow of capital away from the alternative manager and inevitably many are looking at alternative sources. This includes looking more closely at the retail sector and structuring individually packaged discretionary accounts to deal with investor’s concerns about restricted redemptions from the collective Funds. Market forces are also encouraging Funds to set up under well established regulatory regimes and the introduction of so-called Tax Elected Funds may make investment in UK funds more attractive. Some alternative managers have also been seen to shift their emphasis away from the alternative market and focus more on traditional long only investments which are more likely to fall within the conditions of the UCITS directive.

VAT consequence of managing offshore Funds

A typical alternative investment manager will provide its management services to one or more overseas Funds. It is most likely that the Fund will be established outside of the EU in jurisdictions such as the Cayman Islands.

Until recently, investment management services provided to non-EU funds were normally “outside of the scope of UK VAT with recovery”. This means that the manager has not been required to charge the fund VAT on its services and has been repaid any VAT which it has incurred in providing its investment management services.

However, from 1 October 2008 certain changes were made to the UK VAT legislation in response to the ECJ judgment in JP Morgan Fleming Claverhouse Trust plc (“the Claverhouse case” C-363/05). The Claverhouse case was successful in challenging the UK's policy with respect to management services provided to UK Funds and the consequent changes may also impact managers of offshore Funds.

From 1 October 2008, management services provided to overseas collective investment schemes which are recognised in the UK by the Financial Services Authority have been “exempt”. This does not cause VAT to be charged to the Fund, but its does restrict the manager from recovering VAT it incurs in providing its management services.

The new rules are designed to create a level VAT playing field between management services provided to UK established authorised funds and overseas funds which are authorised by the FSA to be promoted to the UK general public.

Recognised overseas schemes fall into three categories:

  • Collective investment schemes established elsewhere in the EEA (or Gibralter), which are authorised as UCITS-compliant in their own Member State and where notification has been given to the FSA of the intention to market the units to UK retail investors.
  • Collective investment schemes established in Guernsey, Jersey, the Isle of Man or Bermuda, which have similar regulation to UK Collective investment schemes and have been recognised by the FSA so that their units can be marketed to UK retail investors.
  • Collective investment schemes established elsewhere, which have similar regulation to UK Collective investment schemes and have been given an individual recognition order by the FSA so that their units can be marketed to UK retail investors.

However, the legislation and its interaction with the Financial Services and Markets Act 2000 is not entirely straight forward and there are various exclusions that may be relevant.

Circumstances where VAT will apply to management services

Investment management fees are subject to VAT if they are provided to UK based clients unless the clients fall within the category of “special investment funds” (see below).

UK VAT will also be chargeable if investment management services are provided to EU based clients who are not considered to be “in business” for VAT purposes. Therefore, consideration of the VAT status of any EU based client will be needed and the requisite evidential documentation gathered to protect the manager from VAT exposure.

Other circumstances where input VAT will not be recovered

Investment management services charged to “special investment funds” are exempt. This means that there is no need to include VAT on management fees charged to the Fund, but VAT incurred by the manager in providing these services is not recoverable.

The framework for this exemption is provided by EU directive which the UK tax authorities are obliged to incorporate into UK law. Under the revised rules, from 1 October 2008 the following are regarded as being “special investment funds” under the relevant UK provisions:

  • UK-established Authorised Unit Trusts.
  • UK established Authorised Open-ended Investment Companies.
  • Closed-ended collective investment undertakings. These are investment vehicles with all of their ordinary shares or equivalent units admitted to trading on a regulated market situated or operating in the UK. Their sole object must be to invest capital wholly or mainly in securities. They include Investment Trusts and Venture Capital Trusts but are unlikely, for example, to include Real Estate Investment Trusts.
  • Recognised overseas schemes (see above).

There has been considerable controversy over the scope of the UK legislation. The previous legislation did not cover Investment Trusts but the Claverhouse case established the principle that Investment Trusts were “special investment vehicles” under the EU directive and should have been included. Managers who correctly followed the UK legislation had charged VAT on their management services to Investment Trusts and recovered their associated VAT costs. Following the Claverhouse case this was proved to be erroneous and the managers have been required to rectify this position, sometimes at a considerable administrative cost.

A similar situation may arise in respect of pension funds as the National Association of Pension Funds is supporting a challenge to the UK tax authority’s view that UK occupational pension funds are not “special investment funds”.

To the extent that any of these exemptions apply, VAT incurred by the manager in providing the exempt services is not recoverable and careful consideration will be necessary to both satisfy the manager’s obligations and to minimise the extent of a potentially significant additional cost.

2 July 2009

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About Throgmorton: Throgmorton is one of the leading companies specialising in the provision of financial and administrative outsourcing in the UK SME financial services sector.

The information in this notice is intended for general guidance only. Throgmorton does not accept any responsibility for losses incurred to any person acting or refraining to act as a result of the information in this notice. Advice should be taken in the context of specific circumstances.

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