The Government has finalised the rules on taxation of bonuses paid to asset managers in an attempt to crack down on tax dodging.
This year’s Budget has confirmed asset managers will pay capital gains tax on their long-term performance rewards rather than paying income tax.
The new rules will predominantly affect private equity fund managers that are paid by carried interest and who hold investments in their funds for a period of over 40 months.
A Treasury spokesman told Fund Strategy that only a 3 to 10 per cent of private equity managers who are paid by carried interest will be subject to the rules.
The Budget 2016 document says: “Following the draft legislation issued at Autumn Statement 2015, the government has finalised the rules that determine when asset managers can pay capital gains tax rather than income tax on their performance related returns.
“These new rules ensure that carried interest will be taxed as a capital gain only when the fund undertakes long term investment activity with investment horizons longer than three years”.
A previous consultation paper on the matter, which was responded to in December, said the average investment holding period to be affected by the rules would be set at 36 months, but further consultations from the Treasury brought the timeframe to 40 months, the Treasury spokesman said.
Funds with an average holding period of less than 40 months and which don’t hold a carried interest structure will not be affected.
The December summary of responses to the government consultation document, which was originally published during the 2015 Summer Budget and reaffirmed in the latest Autumn Statement, already set out proposals to determine when performance-linked rewards to fund managers are taxed as income and when they are taxed as capital gains.
In its original document the government laid out two options.
The first proposed a list of specific activities and asset classes that can give rise to capital gains tax treatment. The second option focused on the length of time for which the underlying investments of the funds are held. The system worked on a graduated system whereby the proportion of any performance linked-return eligible for capital gains tax would increase incrementally from 0 per cent to 100 per cent.
At the time the government determined option 2 is preferential.
During the consultation, almost half of respondents expressed a preference for the second option. However, the majority of respondents were not happy with either option, with some believing the changes were unfairly targeting fund managers and would be difficult to calculate.
A hedge funds expert, who did not wish to be named, confirmed CGT does not apply to the majority of hedge funds managers and “an overwhelming majority of hedge fund strategies are not eligible for carried interest”, he says.
The British Private Equity & Venture Capital Association, which recently said the government should “rectify some” of the proposals on the new rules, says it will only respond to today’s government decision after next week’s Finance Bill.