Management Fee Rebate Payments Made to Fund Investors Not Annual Payments

March 15, 2018

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The First-tier Tribunal (FTT) has determined that amounts paid by Hargreaves Lansdown (HL) (an investment platform service provider) to its customers, representing rebates received from investment fund managers, were not annual payments in Hargreaves Lansdown Asset Management Limited v. HMRC [2018] UKFTT 127. HL was not, therefore, required to withhold basic rate tax on making the payments.

During the period under consideration, HL often negotiated significant discounts to the annual management charges (AMC) levied by investment fund managers. Such discounts were typically structured as rebates (to avoid the investment provider having to, for example, issue a different class of share depending on the level of discount agreed). HL passed that rebate on to its customers through what it described as a “Loyalty Bonus”, which it advertised as effectively reducing HL’s service fee.

HM Revenue and Customs (HMRC) issued a brief in 2013 regarding the taxation of payments of “trail commission” (i.e., rebates of AMC received from investment fund managers) stating that, in its view, where such payments are passed on to investors, they are taxable in investors’ hands as 'annual payments', with the consequence that the payer is under an obligation to withhold an amount on account of income tax at the basic rate. HL disputed that the payment of the Loyalty Bonus was subject to this withholding obligation. The FTT agreed with HL on the basis that, although three of the four characteristics of an annual payment were present (namely, the Loyalty Bonuses constituted income, were paid under a legal obligation and were capable of recurrence), the payment of the bonus was not “pure income profit” for the investors—the investor had to pay the AMC in order to receive the bonus, and HL’s marketing material made it clear that the Loyalty Bonus was not a “profit” for investors, but a reduction of their net costs.

HMRC argued that the AMC is an amount paid by the fund to the fund manager and therefore is not actually a cost borne by the investors (on the basis that an investor does not actually put more money in to cover the AMC, but the costs are taken out of the investor’s investment)—so the amount referred to as a “rebate” is not, in fact, a rebate, but a commission payment to the platform provider for promoting that fund to investors. The judge found that this analysis “seeks to recharacterize and unpick the various payment flows taking place on a fund investment in order to isolate the Loyalty Bonus and treat it as pure profit.”

Where fund managers seek to offer investors discounts on management fees and, for disclosure/commercial reasons, prefer to structure the discount as a fee rebate to be paid by the fund manager (although the investor effectively pays the management fee to the fund), the FTT’s judgment suggests that, if the fee rebate is very clearly documented as a reduction in the management fees, it may be possible to conclude that the rebate is not pure income profit in the investors’ hands and therefore that the manager does not need to withhold basic rate tax on such payments. However, the FTT judgment is very focused on the particular facts of the case and neatly sidesteps giving a view on HMRC’s general position set out in its 2013 brief. It remains to be seen whether HMRC will amend its view set out in the 2013 brief or will appeal the decision. However, given HMRC’s approach to these payments historically, and the potential amounts at stake, it seems very likely that HMRC will seek to appeal the FTT decision.

Contact Information

If you have any questions regarding this alert, please contact:

Stuart Sinclair
stuart.sinclair@akingump.com
+44 20.7661.5390
London
Serena Lee
serena.lee@akingump.com
+44 20.7012.9650
London

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