In a clear sign that United Kingdom tax authorities are keen to crack down on the tax practices of high-rolling hedge funds, GLG Partners Services Ltd., a Cayman Islands entity that distributes hedge funds run by GLG Partners LP, has settled a probe by British tax officials. Busted by the British Tax Police.
Hedge funds, already dodging calls for more oversight, now have a new nemesis: British tax cops.
At issue: whether GLG Partners had attempted to lower its taxes by improperly shifting some of its income and expenses to the Cayman Islands entity. A popular tax haven, the Cayman Islands is referred to in accounting circles as a “tax-neutral jurisdiction” meaning that it levies no personal or corporate income tax.
Terms of the settlement were unclear. GLG declined to comment. HM Revenue and Customs, Britain’s combined tax and customs agency, said only that its investigations into tax practices are “all risk or intelligence led.”
GLG Partners, one of the world’s largest hedge funds, manages more than $16 billion out of offices in London’s Mayfair district.
Assets in U.K. hedge funds — which are lightly regulated investment pools catering to the wealthy — have nearly quadrupled, to $128.9 billion at the end of the second quarter from $33.1 billion in 2000, according to Hedge Fund Research Inc., a Chicago-based firm that compiles data on hedge funds. That is nearly 11 percent of the $1.2 trillion invested in hedge funds world-wide, according to HFR.
The GLG settlement is part of a broader effort by British tax authorities to reclaim as much as GBP 1 billion, or about $2 billion, in lost taxes from hedge funds, accountants say.
The focus by British tax authorities on hedge funds arose because “the hedge-fund industry had exploded, and a lot of structures were put in place which led (officials) to believe that the fund manager wasn’t being fully taxed with respect to its U.K. activities,” said John Neighbour, who left Britain’s tax authority in March.
The broad investigation has been continuing for a couple of years, but had “picked up momentum” recently, said Mr. Neighbour, who now is a partner at KPMG LLP in London.
If a hedge fund has $1 billion in assets sitting offshore and earns 20 percent in a year, “that’s $200 million of gain potentially not being taxed in the U.K. at rates of 30 percent to 40 percent,” says Robert Mirsky, head of Deloitte & Touche LLP’s hedge-fund practice in London. “We are talking big numbers here.”
Though the offshore entity is legally separate from the U.K. hedge fund, tax officials are concerned that many of the companies registered offshore, often in tax havens such as the Cayman Islands, are ultimately controlled by the U.K. hedge fund.
The Cayman Islands is home to more than 8,000 registered hedge funds, a jump of more than 2,000 hedge funds since the start of 2005, according to the Cayman Islands Monetary Authority.
Mr. Mirsky said British tax authorities are concerned about two issues. They are examining whether the fees hedge funds charge, often a 2 percent management fee and a 20 percent performance fee, are appropriately split between a hedge fund’s U.K. manager and the offshore entity, he said. Even though the source of a hedge fund’s income may be offshore, tax authorities are focused on whether the income was truly generated by activities carried out offshore.
More broadly, he said, British tax officials are examining the nature and purpose of a hedge fund’s offshore entity. The questions tax officials are raising are, “Who is controlling the entity, where is it being controlled and is it a sham to have the entity offshore when its operations are onshore?” Mr. Mirsky said.
In the past year, GLG has been busy fighting regulatory fires. In February, Britain’s Financial Services Authority informed GLG that it plans to fine the firm and a star trader GBP 1.5 million in connection with improper trading in the securities of Sumitomo Mitsui Financial Group Inc. GLG isn’t appealing the FSA ruling and the trader, Philippe Jabre, recently withdrew his appeal. Separately, French regulators are examining, as part of a broader investigation, whether two GLG funds profited from nonpublic information about convertible-bond issues.
GLG Partners Services and some of its employees have been under investigation for more than a year, people familiar with the situation said. At GLG Partners, for instance, some marketing executives and portfolio managers received about 20 percent of their salary from the Cayman Islands entity, these people said.
Employees who drew a portion of their salary from GLG Partners Services received letters this summer informing them that the firm has reached a settlement with Britain’s HM Revenue and Customs, according to these people.
The settlement covered the tax years from April 2001 to April 2006, according to the letter, which was reviewed by The Wall Street Journal. The letter also hinted at some of the tax issues at stake.
“It has been agreed with GLG Partners Services Ltd. that as of from April 6 2006 any emoluments you receive in respect to your employment services to that company or any successor vehicle will be subject to full UK (Pay As You Earn) and National Insurance,” taxes, one letter read. UK PAYE tax is much like withholding tax in the U.S. and, as in the U.S., employers are required to collect it. National insurance is a 12.8 percent tax on employers that is similar to U.S. Social Security.
Source: “British Tax Police Look Hard at Hedge Funds”
Photo credit: Jamie McCaffrey via Visual Hunt / CC BY
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