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We are frequently asked to advise on putting in place legal structures to hold the assets and investments of wealthy families. A key question is what is the most appropriate structure to use? The answer, as is often the case, is it depends on a number of factors and it may be that two structures are needed.

A variety of UK structures are typically considered, including an open-ended investment company (OEIC), an authorised unit trust (AUT) or, particularly if less liquid assets are involved, a family investment company (FIC). The acronyms used can perhaps give an impression of greater complexity than is the case in practice.

In this briefing we summarise the key aspects of the commonly considered structures and highlight some of the important differences. However, this is only a summary of the main features which cannot cover all nuances or aspects for a particular family and is not legal advice. We strongly recommend that anyone considering setting up such a structure takes specific legal advice.

What are OEICs and AUTs?

An OEIC is a corporate entity and regulated investment fund which is authorised and regulated by the UK Financial Conduct Authority (FCA). An OEIC is constituted under the Open-Ended Investment Companies Regulations 2001. An OEIC is a body corporate with separate legal personality and is the legal and beneficial owner of the assets of the OEIC.

An AUT is similar to an OEIC, in that it is a regulated investment fund, authorised and regulated by the FCA. An AUT is a type of unit trust constituted by a trust deed established pursuant to the Financial Services and Markets Act 2000 (FSMA). The AUT does not have separate legal personality and acts through the trustee or its delegates. The trustee of the AUT holds the legal title to the AUT assets for the benefit of its beneficiaries who are the investors.

Individuals in the family are shareholders in the OEIC/unitholders in the AUT, are entitled to receive distributions, or have distributions reinvested (depending on the share/unit class they hold) and the return of capital when they redeem their shares/units.

OEICs and AUTs are open ended funds. This means that they have variable capital and no fixed number of shares or units in issue. New shares/units in the fund are created in accordance with investor demand and any shareholder/unitholder has the right to sell their shares/units back to the fund at a price determined by reference to the net asset value of the fund’s underlying portfolio.

FCA authorised funds (including OEICs and AUTs), must be open to investment by others. An OEIC/AUT can however be set up for a particular group of investors such as a family, and in that case it is not actively marketed outside of that group of investors.

As an FCA-regulated fund the OEIC/AUT must comply with applicable FCA rules and is subject to regulatory approval, oversight and scrutiny which brings with it certain benefits but also cost.

An OEIC or AUT in which retail investors can invest will normally be set up as either a UK UCITS or a non-UCITS retail scheme (NURS) fund. Although there are other types of authorised fund which retail investors can invest in, these typically require a “genuine diversity of ownership” condition to be met, meaning they are not generally suitable for family held vehicles.

In practice, there is very little practical difference between the AUT and the OEIC apart from terminology. There is one potential tax benefit in respect of in specie transfers into an AUT, as mentioned further below (see here). For the purposes of the remainder of this briefing we refer to OEICs (rather than both OEICs and AUTs) unless there is a specific difference for the AUT.

What is a FIC?

A FIC (and for these purposes we consider only a UK structure) is simply a private company, established under the Companies Act 2006, which is set up for a family to hold their investments. The FIC will be registered at Companies House. The process of incorporation of a FIC is the same as for any private company and it is relatively quick and straightforward process.

Typically, a FIC is established as a private limited company, which ensures limited liability to shareholders. An unlimited company can also be used for the FIC which means that accounts do not have to be filed at Companies House and hence provides greater privacy regarding the assets of the investors. Where the anticipated investments to be held by the FIC involve risk, a limited company is normally recommended.

Individuals in the family are shareholders in the FIC and, subject to the rights given to shareholders in the constitutional documents of the FIC, are entitled to receive income by way of dividends and / or return of capital on disposal of their shares.

What investment and borrowing powers apply?

The OEIC must comply with strict FCA rules on investment and borrowing (with slightly more flexible rules applying to the NURS than the UK UCITS).

  • The FCA rules are designed to protect consumers by requiring that the OEIC can only hold certain types of assets, typically liquid investments such as listed equities and bonds, cash and interests in other regulated collective investment vehicles.

  • Exposure to alternative assets, such as real property, commodities and alternative funds can be obtained but only to a limited extent and then mainly indirectly via exchange traded funds and other regulated collective investment vehicles. More esoteric assets are not permitted.

  • In addition, the FCA rules aim to ensure a diversification of risk, and include limits on how much of the portfolio of the OIEC can be invested in particular assets.

  • An OIEC is able to borrow up to 10 per cent in value of the OEIC's net asset value (if the OEIC is a UK UCITS this must be on a temporary basis only).

A FIC, in comparison to an OEIC, is a much more flexible from an investment and borrowing perspective.

  • A FIC can invest in anything within the investment appetite of the directors and family shareholders. The FIC can hold all of the types of assets which an OEIC can hold but also a much wider range of assets including direct holdings of private funds, real property, art, commodities, crypto, as well as other more esoteric assets.

  • For families with large holdings of unlisted shares, an OEIC cannot be used, but a FIC can.

  • A FIC can also borrow to the extent considered appropriate by the directors/shareholders of the FIC.

Neither the OEIC nor the FIC is appropriate for holding investments which are to be used by family investors, such as a residential holiday home. This is because for the OEIC it is unlikely to be an eligible investment and for the FIC any use by the family investors of the asset is likely to result in unfavourable tax consequences.

Can investment managers be appointed?

For both the OEIC and FIC investment managers can and typically are appointed to manage the assets of the structure. Such appointment will be recorded in an investment management agreement.

Considerable due diligence and oversight of such investment managers by the ACD is required in respect of the OEIC (see below click here).

What is the tax treatment of the vehicle?

An OEIC benefits from the favourable tax regime applicable to FCA authorised funds. This means:

  • no tax on capital gains within the OEIC provided those gains are from investment (rather than profit from trading transactions);

  • in respect of income, OEICs are, in principle, liable to corporation tax on any taxable income they receive at the basic rate of income tax (currently 20 per cent), however:

    (a) no tax is payable on UK and non-UK dividends received by an OEIC (provided certain anti-avoidance rules do not apply). In respect of other income, in practice once expenses are deducted, there tends to be little taxable income remaining;

    (b) if the OEIC has more than 60 per cent of its investments in debt instruments, it will be classed as a "bond fund" for tax purposes and taxed differently. Broadly, bond funds are still liable to tax on income, but are entitled to a deduction on whatever income they distribute to their investors (which in practice significantly reduces or extinguishes any liability to tax on income).

  • dealings in shares in OEICs are not subject to stamp duty or stamp duty reserve tax (SDRT);

  • due to a special exemption for authorised funds, there is no value added tax (VAT) on investment manager fees charged to an OEIC.

A FIC is subject to the UK tax regime for UK companies. This means:

  • a UK resident FIC is subject to corporation tax on chargeable gains it makes on investments at the current rate of 19 per cent but increasing sharply to 25 per cent from 1 April 2023 (where profits exceed £250,000). This is subject to any standard deductions which may be available to reduce the gain chargeable to tax (such as the acquisition cost of the investments and related expenditure);

  • no tax is payable on UK and non-UK dividends received by a FIC (provided certain anti-avoidance rules do not apply). However, FICs are liable to corporation tax on other income (including from trading activities) at the standard corporation tax rate;

  • dealings in shares in FICs are typically subject to stamp duty or SDRT at 0.5 per cent;

  • VAT applies to investment manager fees charged to a FIC - there is no VAT exemption. This is likely to be an irrecoverable cost for the FIC.

How are investors taxed?

In respect of income, if the OEIC is not a bond fund (as explained above), investors will receive income from it by way of dividend distributions. In contrast, investors in a bond fund will receive interest distributions.

  • Dividend distributions are taxed in the same way as UK company dividends, UK resident individual investors are currently subject to tax on dividends from an OEIC at 8.75 per cent (for basic rate taxpayers), 33.7 per cent (for higher rate taxpayers) or 39.35 per cent (for additional rate taxpayers). No form of withholding tax is imposed in the UK on any dividend distributions paid by an OEIC.

  • Interest distributions are treated like yearly interest for tax purposes. This means that they are subject to income tax for individual investors (currently at 20 per cent for basic rate taxpayers, 40 per cent for higher rate taxpayers or 45 per cent for additional rate taxpayers).

In respect of a FIC, as it is a UK company, investors will receive income from a FIC by dividend distributions. UK resident individual investors are currently subject to tax on dividends at 8.75 per cent (for basic rate taxpayers), 33.75 per cent (for higher rate taxpayers) or 39.35 per cent (for additional rate taxpayers).

Individual investors will be subject to capital gains tax on any gain they make on a disposal of their shares in an OEIC or a FIC, and (subject to anti-avoidance rules) on a winding up of the OEIC or FIC and return of proceeds.

What about sources of funding?

An OEIC cannot be funded by way of loan due to the restrictions on its borrowing powers. It can be funded by way of cash or in specie subscription (if the assets provided by the investor are eligible assets for the OEIC under the FCA rules). In specie subscriptions to the OEIC will be a taxable event triggering a capital gains tax charge where there are unrealised gains.

There is a minor potential tax advantage of using an AUT rather than an OEIC where there is to be an in specie transfer of assets from an initial investor (or investors) to the AUT. This is because on the in specie transfer there is no change of the beneficial ownership of the assets transferred and hence no SDRT should arise. This is not the case for an OEIC, where the OEIC becomes the new owner of the assets which are contributed. Subsequent in specie transfers will normally attract SDRT whether to an OEIC or AUT.

A FIC can be funded by way of cash subscription for shares or loan. Using a loan has some advantages:

  • some families prefer to fund their FIC via a loan to retain control of the initial capital sum used for investment by the FIC;

  • a loan also prevents a potential capital gains tax charge if the assets which would otherwise be transferred to the FIC include an investment portfolio or shares with considerable unrealised gains;

  • the loan route for a FIC can be tax efficient, funds may be extracted via partial repayment of the loan capital plus the interest charged on the loan (rather than by dividend). Tax would then be charged to the recipient investor on the interest element only.

Who runs the structure?

For both an OEIC and an AUT, authorised financial services firms must be appointed to hold key roles. These include an:

  • authorised corporate director (ACD) for the OEIC (manager for the AUT) responsible for the operating the OEIC/AUT; and

  • a depositary (trustee for the AUT) responsible for oversight and custody of the assets.

The OEIC has the advantage of independent authorised firms running and overseeing the operation of the structure, although this comes with the cost of those firms carrying out these roles.

A FIC is a private company, and must have at least one director (and can have more), who is legally responsible for running the company. A director, if a natural person, must be 16 or over and must not have been disqualified for being a director previously. A FIC will act through a combination of decisions made by the board of directors and resolutions of its shareholders. The shareholders will need to agree who can appoint board members and who else will be allowed to sit on the board.

What rights and control do family investors have?

Individual family members investing in the OEIC are shareholders and as such have voting rights attaching to their shares in the OEIC, in accordance with the constitutional documents of the OEIC and the FCA rules. The FCA rules set out certain change events which require notification to shareholders or in some cases shareholder approval. The OEIC does however not allow founder shareholder rights to be embedded in shares (for example shares which bestow particular control rights over key matters).

Often a sponsorship agreement is put in place between the ACD and the family investors in the OEIC setting out certain matters agreed between the family and the ACD, for example, where the ACD needs to get consent from the family. Although the sponsorship agreement is a private document and hence out of the public domain, it cannot cut across the ACD’s regulatory position as the entity which is responsible for running the OEIC. As such family investors do have to accept the ceding of control of the running of the OEIC to the ACD.

For the FIC, the specific rules for decision-making processes and powers will be governed by the relevant provisions of the Companies Act 2006, the constitutional documents (articles of association) of the FIC, and any shareholders agreement (which is a private document), including the requirements for resolutions both at board and shareholder level, voting rights and meetings and quorum.

For both the OEIC and FIC, ultimately shareholders can decide (subject to any terms of the sponsorship agreement or shareholders agreement, as applicable) to wind up the structure and give instructions to the officeholders eg ACD and directors accordingly.

Can family shareholders have different rights?

Authorised funds such as an OEIC can have different share classes, however the FCA rules provide that the shareholder rights of one class cannot provide an advantage that results in prejudice to other shareholders. The FCA rules specifically allow differences such as income or accumulation, or different fee levels. The FCA rules do not however permit greater voting powers, for example.

The FIC structure can be easily tailored to allow for different shareholder rights whether through the constitutional documents or through a shareholders agreement to provide for specific controls and rights. For instance, where appropriate, it is possible to create different classes of share for different family members (or groups of family members) so that individuals can be afforded different rights, for example, in respect of voting, receipt of income and return of capital, which would regulate the level of control over the FIC (and degree of benefit derived) by specific individuals. It is also common, particularly where broader family interests are represented in the FIC, for the shareholders to impose restrictions on the board by the inclusion of reserved matters which require shareholder consent to material matters, such as investments, acquisitions or borrowing.

Provisions can also be included to cater for the appointment and removal of members of the board, so that the board could be selected according to which family members would be most able to deal with the day-to-day running of the FIC.

What about public registers?

The Financial Services Register, which is publicly available, will list the name of the OEIC, its type (eg NURS or UK UCITS) and the officeholders, which will be regulated entities (see above click here). Currently details of shareholders will not be publicly available. However, a register of shareholders of the OEIC must be maintained by the entity which has responsibility for maintaining the register (typically the ACD) and any shareholder of the OEIC has the right to view the OEIC register of shareholdings.

If the FIC is a private limited company, details of all directors, shareholders and persons with significant control (more than a 25 per cent interest, has the right to appoint or remove the majority of directors, or otherwise exercises significant control), will be publicly available via records held at Companies House.

What does the future hold?

HMRC did take an interest in FICs, however they recently disbanded their FIC unit indicating that any concerns they might have had have been allayed.

HM Treasury is currently undertaking a review of the UK authorised funds regime with the aim of making the UK a more attractive location to set up and manage investment funds with the possibility for authorised funds electing to be wholly tax-exempt under consideration.

If you require further information about anything covered in this briefing, please contact Grania Baird, Charlotte Black, or your usual contact at the firm on +44 (0)20 3375 7000.

This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.

© Farrer & Co LLP, May 2022

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