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HMRC internal manual

Offshore Funds Manual

Definition of an offshore fund: Transparent entities: Application of S103A TCGA 92 to interests in arrangements that create rights in the nature of co-ownership ownership - Section 103A TCGA 1992

Certain contractual arrangements have historically been treated as transparent for both income and capital gains purposes (for example, Luxembourg Fonds Commun de placement (‘FCPs’)). But whilst such funds came within the previous definition of an offshore fund, the offshore funds regime for taxing offshore income gains was not applicable as investors were treated as holding, for capital gains purposes, interests in the underlying assets rather than in the fund itself.

This led to considerable difficulties for investors when they disposed of their interests, or when new investors were admitted to the fund, as capital gains computations could become very complex. This is not the case for interests in offshore unit trusts which were and are subject to section 99 TCGA 1992, so that for the purposes of tax on chargeable gains a unit trust is treated as if the fund was a company, and the rights of the participants in the fund were shares in that company.

Section 103A TCGA 1992 was introduced by Part 2 of Schedule 22 Finance Act 2009 to align the treatment of interests in arrangements that create rights in the nature of co-ownership with that of interests in unit trusts. That is, those arrangements are treated as opaque for capital gains purposes from the operative date (see below), so that Section 103A shifts the taxation of gains arising to UK residents to the time when they dispose of their interest in a fund.

Section 103A does not change the tax treatment of such arrangements for income purposes - they remain fiscally transparent. Therefore, investors are entitled to income as it arises (from whatever source or country) and UK investors are taxable on such income as it arises, regardless of whether income is actually distributed. Income arising retains its character where arrangements are fiscally transparent, so that, for example, if a fund receives trading income or income from property then UK investors would be chargeable to tax as if they had received that income directly.

Section 103A automatically apply with effect from 1 December 2009 for all interests in such funds held by capital gains tax payers, and for corporation tax payers from 1 April 2010. Contractual arrangements that come within the meaning of “mutual fund” at section 356 TIOPA2010 are offshore funds as defined at section 355 TIOPA2010 and the charge to tax under regulation 17 of SI 2009/3001 applies on disposals of interests in such arrangements from the time that rights in the arrangements are treated as opaque for chargeable gains purposes, unless the arrangements are a reporting fund or the exception in regulation 29(1) applies (see OFM07200 and OFM16500).

Acquisition costs for the rights in a relevant fund will be the acquisition costs that applied immediately before the ‘effective date’ (paragraph 18 Schedule 22 Finance Act 2009) - that is, the operative dates referred to above, or the date from which an election for earlier tax years or accounting periods applies (see below).

Transitional arrangements: Elections for earlier tax years and accounting periods

There is a facility to allow investors with existing interests to elect to treat their holdings in a relevant fund as opaque for capital gains purposes for previous years - from the 2003/04 tax year for capital gains tax payers and from accounting periods beginning on or after 1 April 2003 for corporation tax payers. An election for a particular year or accounting period is irrevocable, and will mean that investments in the relevant fund(s) that is (are) the subject of an election will in all subsequent years or accounting periods be treated as opaque for capital gains purposes (paragraph 15 Schedule 22 Finance Act 2009).

Elections are to be made by being included in a relevant self-assessment return or corporation tax return. A return will be a ‘relevant return’ if it is for the tax year, or accounting period, in respect of which the election is being made, or for a subsequent year where it is too late to make a return or an amended return for the first year (or period) in respect of which the election is to apply from (paragraph 16 Schedule 22 Finance Act 2009).

Where an election for opaque treatment is made, the investor is treated as if they had held an interest in a qualifying offshore fund (that is, one that had distributing fund status) for all years covered by the election.