Wish you were here

Recent plans in the UK to raise top personal tax rates to 51 percent are just the latest hit to the country’s private fund industry, as more managers flee to less burdensome tax havens such as Guernsey, Jersey and Switzerland.

The new top rate will apply to individuals in the UK earning more than £150,000 ($247,000; €171,000) a year, with pension payments also to be heavily taxed as well. Dozens of hedge funds have already moved to Switzerland since the new tax was announced, with more planning their own exodus, according to a report in the Wall Street Journal. The Swiss cantons of Zurich and Zug – with tax rates of 14 percent – are looking to capitalise with stepped up marketing campaigns designed to lure business from the UK.

Meanwhile London-based Terra Firma Capital Partners founder Guy Hands in March decamped to Guernsey and its 20 percent tax on income and zero percent tax on capital gains, vowing not to return to the UK for the foreseeable future. Under British law, citizens can become non-residents for tax purposes but keep their passports as long as they do not spend more than 90 days a year in the country.

The British government has sought to stem the exodus, including proposals to simplify tax rules for multinationals and exempt dividends received by UK groups from tax. But despite such efforts, the 51 percent tax rate, combined with previous tax reforms and potentially harmful regulations working their way through the EU Parliament, has served to make the UK a less attractive base from which to manage an alternative investment fund.

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Even before the new personal tax was announced, private equity mangers were warning about the impact on the country’s competitiveness by government reforms such as the abolishing of “taper relief” on carried interest, which had allowed private equity executives to pay a 10 percent tax on capital gains. Instead the government introduced a flat rate of capital gains tax of 18 percent, which while still a far cry from the previous 40 percent standard rate of capital gains tax, was not well received by those who had become very comfortable paying 10 percent.

The government also demanded that foreigners who have been residing in the country for more than seven years pay a £30,000 (€32,000, $62,000) annual charge or else pay UK tax on their worldwide earnings. This has dealt a blow to the country’s image as a haven for foreigners who benefitted from paying no UK tax on their earnings or capital gains outside the country.

“This was obviously very unpopular, and I think the concern in the private equity industry was that this was going to frighten managers away from the UK and they were going to set up shop elsewhere,” said Elizabeth Conway, a partner at London-based law firm Linklaters.

More important than the actual effects of such policies though has been the amount of uncertainty they have created among managers in the country.

“Previously we would see people coming to the UK from overseas, often from the States, and the big selling point for the UK was stability and certainty,” said Anthony Stewart, a partner at Clifford Chance. “There’s been a lot of tax change and this is disruptive. We certainly find clients asking about the new rules before they decide to set up in the UK.”

Stewart said one client called the government’s tax increases the “straw on the camel’s back” when it came to deciding to leave, especially as he felt that he could run his business anywhere and there was nothing else keeping him in the UK. In fact, he says, many private equity professionals would similarly have an easier time relocating as they are nowadays more international in outlook and speak several languages.

Competitive disadvantage

But while the British government has come under fire for its recent tax reforms, it is actively fighting back against proposed EU regulations that if passed in their current form could put firms in the UK at a disadvantage. The “Directive on Alternative Investment Fund Managers” would create a comprehensive regulatory framework for hedge and private equity fund managers in the European Union, applying disclosure rules to leveraged fund managers with more than €100 million in assets, and more than €500 million in assets for unleveraged funds with a lock-in period of more than five years.

Among the biggest concerns are the potential consequences for US-based alternatives managers who raise and manage assets in the EU. Specifically, foreigners trying to market in Europe will have to demonstrate to the relevant authorities that they are subject to the equivalent regulation in their home jurisdiction. Absent stricter rules in the US such as leverage caps, it is unclear whether US managers would be able to do clear this proposed hurdle. But while the regulations could impose barriers for foreign fund managers, those who are able to overcome these hurdles may find themselves with a competitive advantage over their EU-based counterparts. For instance, foreign funds that are allowed to market in the EU will be in a much better position that their EU-domiciled competitors who will be having to deal with more intrusive regulations, including disclosure obligations requiring the publishing of a development plan for a company they have purchased and the external and internal communication policy. They must also publish their policies for preventing conflicts between the fund and a company that has been acquired.

Ironically, while such measures in the EU directive are intended to keep money-raising opportunities in Europe for Europeans, they may in fact lead to an exodus of managers from EU members.

“Fund managers are already looking very seriously at Switzerland to set up there to avoid these rules,” said Adam Levin, a partner at law firm Dechert. He adds that non-EU members for the time being are also likely better off looking at Switzerland or Jersey as a European base.

This is in part why the city of London has come out against the added regulatory burdens, as it is home to 80 percent of Europe’s estimated $400 billion in hedge fund assets, as well as more than 65 hedge funds. But if the current trend continues, there will be fewer firms for the UK to fight for this time next year.