Appeal of offshore trusts could wane in the future?

Recent years have been good for offshore funds. Lipper reports Jersey assets up 160 per cent in five years, boosted by popular property funds. Private equity and funds of hedge funds have swelled Guernsey’s industry to $31.4 billion.

The Isle of Man claims $52 billion of funds, thanks to zero corporation tax and no VAT on fund management charges. Future growth may not be so strong

In his Pre-Budget Report, Chancellor Alistair Darling zeroed-in on Crown Dependencies and overseas territories, after the collapse of offshore Icelandic banks exposed weak deposit schemes.

He also mentioned foreign overseas dividends, a reference to companies such as Henderson Global Investors that have moved offshore to avoid UK corporation tax. Darling has ordered an independent review. Whilst he cannot force other governments to slap on VAT, capital gains and income tax, he can erode benefits for UK investors.

A draconian move is likely, thinks Sam Instone of adviser AES International. He believes offshore funds sold in ‘tax-free’ life company wrappers will be hit.

Instone says: "The biggest market is UK residents, normally higher rate tax payers, being sold bonds to roll up gains without tax. They then declare when they are lower rate tax payers, usually in retirement."

The benefits of gross roll-up, as the method is called, could disappear. Instone believes the Chancellor may look to tax offshore fund gains and income at marginal rates, so higher rate payers pay 40 per cent (or 45 per cent for top earners from 2011) on the whole lot.

The incoming US president is no offshore fan either. Barack Obama supports a proposed Tax Haven Abuse Act, clamping down on 34 offshore jurisdictions, including British dependencies. He may beef up the bill to claw back the $100 billion lost in US tax revenue to tax havens each year.

The OECD also reports next year on progress of its Model Double Taxation Agreement – the template used by countries establishing bilateral rules on which tax efficient funds depend.

Guernsey has already altered its corporate tax system to be OECD compliant. Julie Patterson of the Investment Management Association says certain fund structures are under review. She says: “With unit trusts and fonds communs de placement (FCP) you get a lot of issues because of their legal structure and whether they are subject to tax in their own jurisdictions.”

Directly held offshore UCITS are transparent and difficult to use for tax avoidance, she adds. Britain’s offshore centres are putting on a brave face, claiming they are highly transparent already.

As Malcolm Couch, Assessor of Income Tax for the Isle of Man, says: “Tax evasion is a crime. I seek it out here and prosecute as other countries do.”

But Couch admits that certain tax planning schemes ‘drift towards the artificial end’ and that tax changes have already hit non-resident trusts hard. As for the island’s own tax regime, he says: “We do not charge withholding tax. There is no reason to change that.”

Top FSA recognised offshore funds over 3 years

GLG EMERGING MARKETS D EUR	GLG PARTNERS LP	+102.5
BARING CHINA ABSOLUTE RETURN USD	BARINGS	+67.0
INVESCO NIPPON SMALL MID CAP EQUITY	INVESCO (IRELAND)	+66.1
ARMAJARO COMMODITIES USD	ARMAJARO	+54.5
HENDERSON AS PAC ABSRET A VOTING	HENDERSON	+51.4

Source: Trustnet