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Offshore outlook

HSBC Investments is looking into creating its own funds dealing platform to better enable investor access to offshore funds, something that remains difficult despite the fact that there are very little differences any more between off and onshore fund regimes.

Over the years, offshore funds have had a cloudy reputation, due to the perception of them, and all offshore products in general, as a tax dodge. Keeping money “offshore” has been seen as the remit of high net worth investors looking for tax breaks, so it is not surprising that mainstream investors do not understand, or appreciate, the changes that make this an obsolete concept. Today a Luxembourg Sicav features little difference from a UK Oeic, yet investors remain loyal to their domestic funds market which limits their fund choice.

According to a KPMG report commissioned last year by the IMA, UK domiciled funds will remain, in the short-term, the fund of choice for the mainstream UK market, both for historical reasons of familiarity and because there is often little tax or other differential between UK and comparable offshore funds. However, KPMG highlights that, in the medium-term, the position of UK-based funds is less secure.

Andy Clark, managing director, wholesale, at HSBC Investment, agrees with this prognosis, believing that in the next five to 10 years there will be a seismic shift in what UK investors buy as investors build confidence in offshore funds. Oeics could become obsolete, supplanted by the Lux Sicav structure – just as Oeics generally replaced unit trusts as the favoured fund structure not too long ago, he says. The expense of operating more than one fund range may be a motivating factor in this trend as more and more legislative changes makes it easier to buy offshore funds.

The report reads: “As firms increasingly look to optimise the number of fund ranges, offshore ranges may become the single range of choice.”

This is already in evidence in the UK with a number of boutique fund managers attempting to opt for one range offshore, but then having to bow to market forces and start to launch onshore funds as well.

With the advent of Ucits rules across EU member states, uniformity in fund structures and rules has emerged. Domestically, UK rules have also changed to make offshore portfolios operate similarly to UK vehicles from a tax point of view. The Government drove this forward with the release in last week’s pre-Budget report of a discussion paper on further reforms to the offshore funds regime, addressing issues affecting offshore fund of funds structures and existing tax uncertainty.

Despite strides to create an even playing field, there are still tax issues, though not as serious as they once were and not entirely pro-UK in nature. UK domiciled funds have stamp duty reserve tax to contend with, offshore funds don’t. Julie Patterson, director of authorised funds and taxation at the IMA, notes. “This fund-specific tax puts UK funds at a competitive disadvantage,” she adds.

While SDRT may not cost much to the end user, it is so complex that it is estimated that it costs more to calculate than what is owed. The Government has finally agreed to address this concern and announced last week a consultation on the simplification of this fund tax.

On the other hand, UK investors get a tax credit on dividends paid from a fund, something they don’t get from foreign funds and something foreign investors do not get from here. This tax difference is limited to dividend-paying portfolios, any fund except a bond portfolio but mainly equity income funds. However, this tax difference is also set to be eliminated soon enough.

Earlier this year, the Treasury issued a paper on the handling of taxation of foreign profits and how dividends should be taxed and while the majority of this involves straight company dealings, there is a fund element, one which the Government has been talking through the implications of with the IMA. Whatever the outcome, it is likely that soon there will be an even playing ground on this as well, be it that UK investors lose the credit or that foreign investors gain one.

Elements like this have created a chicken and egg scenario. Demand is not high for offshore funds, so UK platforms have not concentrated on building up this area. Most fund platforms have been working on getting additional wrappers in place, rather than widening the available underlying fund universe. If ease of access was similar, perhaps demand would follow.

Cofunds has enabled offshore funds since the start of the year but the number available is low – under 20, which Richard Eats, communications consultant for Cofunds, attributes more to lack of demand than any technical issues constraining their presence. This is one of the reasons Clark says HSBC Investments has been looking into the matter.

“There are some good fund ranges out there and I think it can be thought arrogant to consider that the UK can have all the best funds. Through Sicavs you can access some of the best talent around the world,” he says.

Clark notes there is a massive choice available beyond the UK with increased innovation leading to some interesting investment concepts unavailable domestically. Discretionary managers don’t seem to have a problem using offshore funds. In fact, many fund of funds use their expertise in this wider market as a selling point.

While Eats agrees offshore funds have appeal, he questions whether there is not already sufficient choice within the UK market. “There are more than 300 funds in the UK all companies sector alone – how many more choices do you want? The UK funds market is already large and varied,” he says.

That said he, like Clark, says that, with the lack of barriers involved in buying offshore these days, more attention could be paid to some of the specialist funds in domiciles like Lux. HSBC Investment’s Brazil fund receives a fair amount of interest Europe-wide, while Fidelity’s offshore India fund has garnered attention over recent months to name just two.

Over one year to October 12 the top two funds onshore and the top two funds offshore but registered for sale in the UK are all China or Hong Kong funds and are from well-known investment houses.

Baring Hong Kong China rose 173.1 per cent followed by Schroder China at 164.4 per cent while Gartmore China Opportunities is up 119.7 per cent and Invesco Perpetual’s Hong Kong & China fund has gained 99.3 per cent, according to Trustnet figures. The first pair is offshore.

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