Expert: HMRC guide on VAT treatment of services could trigger rethink of wealth portfolio manager business models

HM Revenue & Customs (HMRC) has published new guidance in which it has explained that, in light of a ruling by the EU's highest court, portfolio management services remain taxable. However, HMRC has said that it is possible for portfolio managers to structure the way they provide and charge for services in such a way as to prevent the incremental tax liability arising.

HMRC's new guidance, which will take effect from 1 December, was issued to account for a ruling by the Court of Justice of the European Union (CJEU) last year. The CJEU ruled that two elements to the discretionary portfolio management services that Deutsche Bank charged individual investors for separately were so closely linked they should be considered as being a single service. The implication of this finding was that the entire fee for both elements of the Deutsche Bank services was subject to VAT.

Deutsche Bank provided services that analysed and monitored investors' assets and, in line with an agreed strategy, bought and sold financial securities for those investments on the individuals' behalf. The portfolio manager received payment for these services through a single annual portfolio management fee from investors which included a separately identified charge for the buying and selling of securities.

Currently charges levied for the buying and selling of securities in this way are treated as exempt from VAT in the UK, but HMRC said that the CJEU's ruling meant it was necessary to change this policy with respect to certain portfolio management mandates. However, it said that portfolio management service providers may be able to structure the way they provide and charge for their services in a way that prevents the incremental VAT liability from arising.

"As a result of the judgment, it is clear that fees charged by portfolio managers on an annual or other periodic basis for the purchase and sale of securities can no longer be treated as exempt from VAT, regardless of whether or not a separate charge is made," HMRC said in its guidance. "However, the [CJEU] in [the] Deutsche Bank [case] only considered the VAT position of periodic fees charged on a flat fee basis where there was no direct link to the transactions being executed."

"Where, therefore, fees are charged strictly on a transaction by transaction basis (that is, per purchase or sale of investments) exemption will continue to apply. This is conditional upon the portfolio management services being contracted for on that basis and the transaction charges being separately identified in any VAT invoice. This VAT treatment will apply irrespective of whether the portfolio is managed on a full discretionary or on an advisory basis," it said.

Indirect tax expert Darren Mellor-Clark of Pinsent Masons, the law firm behind Out-Law.com, said the new guidance could force wealth portfolio managers into changing their contracts, business models and the way their IT systems work in order to qualify for the "safe harbour" from VAT liability.

"Businesses will need to consider whether their offerings fall within the safe or whether offerings should be altered to ensure that they can," Mellor-Clark said. "If the offerings do not fall within the safe harbour, then operational and systems issues may arise. Especially in identifying commission and transaction fees arising on a taxable basis versus those which will continue to be exempt."

"In considering VAT treatment post 1 December, businesses will need to examine contracts, charging structures and business models to ensure all achieve a consistent result for VAT," he added.

HMRC also tried to clarify the VAT distinction between RDR compliant "on going" services and portfolio management services of the type in the Deutsche Bank case.

Mellor-Clark said "HMRC appears to regard portfolio management as an on-going, or continuous, commitment to monitor and manage an individual client's portfolio." "In contrast, HMRC has expressed the view that on-going services, for RDR purposes, occur on a periodic rather than continuous basis, usually after arranging the sale of a Retail Investment Product – discretionary portfolio management is not a Retail Investment Product – and are usually concerned with monitoring the continued suitability of the client's products or portfolio. Consequently, it appears HMRC intends that this guidance should not apply to 'on-going' services of the type envisaged under RDR."

HMRC said that portfolio management services are distinct from other financial advisory services. This is because it involves "an ongoing commitment to monitor and manage an individual client's investment portfolio to formulate investment decisions or recommendations".

Portfolio management services are also different from services provided by investment fund managers, it added. Fund managers manage "pooled investments within a fund structure" and an exemption from VAT on those services depends on "the nature of the fund being managed", it said.