Perspective - November 2018
by Guy Rainbird
A warm welcome to the first edition of 'Perspective', our new publication aimed at keeping you up to date and informed about headline policy developments.
As well as reporting on regulatory developments from the UK and Europe, we will be sharing our thoughts on issues affecting both the investment sector and the wider financial services industry.
In our first edition, we look at our preferred Brexit outcome for investment companies – particularly those not being sold into the EU.
And what of life after Brexit? While Brexit is dominating the Conservative agenda, Labour has been planning ahead with its economic proposals. We outline some of its key policies.
Finally, we pick through the recent Budget to highlight some of the issues relevant to the sector.
Thank you for reading. I hope you enjoy our Perspective!
A little perspective, like a little humour, goes a long way.
Not all funds lead to Europe
After Brexit, providers of UK financial products should only have to apply EU rules if they chose to sell into the EU.
The AIC’s ‘opt-in’ position is not new. However, it is worth restating as we enter the final stages of the Brexit withdrawal negotiations which will set the scene (if agreed) for negotiating our future relationship with Europe.
The UK funds sector represents a substantial portion of the UK’s financial market. Assets under management for overseas clients totals £3.1 trillion; a significant proportion of which are non-EU clients. This highly regulated sector supports the City’s role as a global financial leader. Ensuring UK oversight of these activities should be a priority.
The UK is also supported by a large and growing investment company sector. But the barrage of regulation that followed the financial crash, however well intentioned, has not properly recognised the unique characteristics of our members. Brexit offers an opportunity for the UK to set new standards for this important sector and to accommodate the needs of investment companies.
With little investor demand in the EU, it is inappropriate for a largely UK-centric sector to operate permanently under EU funds regulation, unless it chooses to market to EU investors.
Against this backdrop, the AIC is calling for a tailored UK regime.
This would involve setting separate rules that would impose EU obligations only where providers take a commercial decision to sell to EU customers. Firms would then ‘opt-in’ to comply with EU regulations when selling in EU markets.
The framework offers real benefits:
- a competitive UK marketplace: As a rule-maker, not a rule-taker the UK will have the ability to reduce compliance costs and barriers to entry, making the UK a more competitive marketplace
- customised consumer protection: The on-going KIDs debacle underscores the need for rules that meet the needs of UK consumers and recognises the characteristics of UK products. A tailored regime will allow policymakers to respond quickly to issues of concern and develop high standards of consumer protection
- regulatory clarity: a patchwork of complex EU regulations, like the AIFMD, PRIIPS and MIFID II, written largely with UCITS funds in mind but which affect the investment company sector, have at times brought confusion. The UK could develop better targeted, proportionate investment fund regulation.
For practical reasons, under the AIC's preferred regime, the immediate post-Brexit UK rulebook may look very much like existing EU legislation. As the UK becomes accustomed to its new flexibility, it could assert its regulatory freedom to consult on and make rule changes.
This may include ‘tidying-up’ regulatory overlaps. A good place to start may be with the Alternative Investment Fund Manager Directive (AIFMD) which for investment companies replicates many of the requirements of existing company law and market rules; making it potentially superfluous to requirements.
Another priority would be addressing the problems with PRIIPs Key Information Documents.
The UK has the opportunity to build on its reputation as a respected, global financial centre. The extent to which this is achievable may soon become apparent.
Labour’s economic plans have the potential to reshape what the public see as mainstream economic policy and would have far reaching implications for the investment environment.
Labour's nationalisation plans have grabbed the headlines. While critics reject the ideas as ‘old labour’ and a return to the past, Labour’s plans to ‘take back’ key public services: water, energy and Royal Mail, appear to have garnered support from a significant proportion of the public. A frustrated travelling public are particularly supportive of re-nationalising train franchises: a YouGov poll taken shortly after Labour announced its manifesto found that 60% were in favour of re-nationalising the railways.
Other plans have more direct implications for investment companies.
Labour’s tax plans include expanding the existing UK stamp duty on shares into a broader financial transaction tax. This could affect non-UK companies which currently do not have stamp duty levied on purchases of their shares. It would also affect the costs of companies trading portfolios in affected instruments.
Labour claims the tax could raise more than £5 billion a year, £26 billion over the course of a five year parliament. Critics suggest the impact will be to shift much of the relevant activities outside the UK tax net.
"Building an economy for the many also means bringing ownership and control of the utilities and key services into the hands of people who use and work in them. Rail, water, energy, Royal Mail: we’re taking them back."
John McDonnell, Shadow Chancellor
Interest has also been piqued by Labour’s policy that would require large companies to reserve at least one third of the seats (a minimum of two) on their boards for workers. Both public and private companies, with more than 250 staff, would be legally bound to give employees “a real say” in how companies are run.
Some may suggest Labour is re-treading old ground. These proposals are not new or unique. Labour’s plans for a financial transaction tax reflect ideas advanced in the 1970s by James Tobin. More recently, Ed Miliband espoused a return to nationalisation of the railways; while Theresa May promised, in 2016, to shake up corporate governance by having employees represented on company boards.
Labour is also focusing on strategic investment and spending.
Under Labour, new public bodies – The Strategic Investment Board (SIB), the National Investment Bank (NIB) and the National Transformation Fund (NTF) – would be created to finance infrastructure projects, research and innovation and funding to small businesses. The Bank of England (BoE) would be required to ensure that the commercial banks provided adequate funding to ‘productive sectors of the economy’.
A regional dimension is introduced under the plans by the location of these entities. The SIB, the NTF and the NIB would be in Birmingham. The BoE Monetary Policy and Financial Policy Committees would also be relocated to Birmingham and the NTF would have regional offices. The Financial Policy Committee would also have representation from each region.
The proposals represent a distinct shift from the approach of ‘new Labour’. They also offer a very different approach to the way the state works with the City.
They may also not be the end of Labour's ambitions. John McDonnell, Shadow Chancellor, is reportedly reviewing options to introduce a four-day working week. Another eye-catching, if confirmed, initiative to grab attention and challenge received wisdom of established economic policy.
But we should all take note: these plans could be shaping the environment in which investment companies are operating in the years to come.
The Chancellor’s Autumn Budget raised the prospect of an end to ‘austerity’ and included headline grabbing announcements such as funds for the NHS and mental health, changes to income tax allowances and money to repair potholes.
Savings and investments were not a prominent feature of the Statement. But some important developments were announced.
The Government reiterated its commitment to its Patient Capital 10-year action plan launched in 2016, with new measures to promote growth and investment in smaller unquoted UK business. This included a pensions investment package to make it easier for UK defined contribution (DC) pensions schemes to invest in growing businesses through pooled investment in patient capital. This change accompanies recent extensions to the Enterprise Investment Scheme and the Venture Capital Trusts schemes designed to encourage more risky investment and entrepreneurship.
These developments present an opportunity to promote the suitability of investment companies to this type of direct investment in the real economy. Investment companies are excellent vehicles for patient capital because their structure does not require them to offer redemption, removing the need to hold cash which potentially reduces investment returns.
On PFI, there were claims of the Conservatives stealing Labour’s thunder with its announcement that it would no longer use PFI (and PFI mark 2) PF2 contracts to fund the building of schools, hospitals and other infrastructure. The announcement came in the wake of the Carillion debacle and an NAO report critical of PFI. This was perhaps not such a big announcement. The move away from PFI funding reflects an established trend in government procurement. PF2 has only been used six times since 2012 when it was introduced. However, the Chancellor was clear that all existing contracts will be honoured.
- The personal allowance threshold, the rate at which people start paying income tax at 20%, to rise from £11,850 to £12,500 in April - a year earlier than planned
- 2018 growth forecast downgraded to 1.3% from 1.5% in March, due to impact of bad Spring weather
- Growth forecast for 2019 raised from 1.3% to 1.6% and annual forecasts raised to 1.4%, 1.4%, 1.5% and 1.6% in 2020, 2021, 2022 and 2023 respectively.
- New 2% digital services tax on UK revenues of big technology companies, from April 2020
- Private Finance Initiative (PFI) contracts to be abolished in future. A new centre of excellence will manage existing deals "in the taxpayer's interest"
- Annual investment allowance to be increased from £200,000 to £1m for two years
- Pension annual allowance remains at £40,000
- No change to pension tax relief
Speculation that the Lifetime ISA may be scrapped, were simply that – speculation. In fact, very little mention was made of ISAs. The ISA allowance remains unchanged although children’s savings were given a boost with an increase to £4,368 in line with inflation as the Chancellor encouraged parents to save for the next generation's future. That was pretty much it for savings and investments.
However, the pensions industry will no doubt be pleased that the Chancellor resisted the urge to change pension tax relief or the annual allowance. Retirees also received a boost with the increase in the lifetime allowance for pensions which also increases in line with inflation.
The accompanying Finance Bill, published on 7 November, set out a new tax regime for gains from property disposals. The new legislation which takes effect from April 2019, creates a level playing field for UK and non-UK residents in relation to taxation. The AIC had been concerned that non-UK investment companies would have been disadvantaged and had been engaged with the Government on this issue. We are pleased to confirm that changes have been introduced in the Finance Bill to address this problem. This means our non-UK members will not be disadvantaged compared to their UK counterparts.
All in all this was a relatively quiet budget; but perhaps inevitable as the UK prepares for big Brexit related changes in the coming months.