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Clause 18

Section 17(3): specific powers

Mr. Richard Spring (West Suffolk) (Con): I beg to move amendment No. 2, page 17, line 9, at end insert—

'(i)   in relation to unit trust schemes and open-ended investment companies mainly invested in interests or rights in or over land, determine the rate of corporation tax for the year 2005 and subsequent financial years to be nil, or the rate at which income tax
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at the lower rate is charged for year of assessment which begins on 6th April in the financial year concerned.

(j)   include provision for unit trust schemes and open-ended investment companies to have different classes of units or shares, and to allow different distributions to be made in respect of such different classes subject always to any rules preventing discrimination between unit holders or shareholders made under section 64(2)(e).'.

The Temporary Chairman: With this it will be convenient to discuss amendment No. 3, page 17, line 21, at end insert—

'(f)   make special provision for any interest or rights in or over land held by a unit trust scheme or open-ended investment company and may make special provision for withholding tax on distributions from an authorised investment fund, mainly invested in interests or rights over land, and may determine specific circumstances when such tax must be withheld.'.

Mr. Spring: The clause allows for changes to the system of taxing collective investment funds to be undertaken by regulation rather than by an Act. This morning, we had a written ministerial statement saying that the description of those regulations was being placed in the Library. If I said, "Better late than never", it would be an understated verbal act of kindness. It sounds again like a Government, and particularly a Treasury, who have two enduring characteristics—first, obsessive micro-management, and secondly, a lack of attention to detail or simple functional incompetence. All this was in the original Finance Bill and the Treasury has had plenty of time to come up with the details, but it has failed to do so in good time.

Most of the changes in clause 18 are non-controversial, but we need to get to grips with Government thinking on some underlying issues. It may be constructive and informative if I pose Ministers a series of questions, on which I shall expand, to give them the opportunity to respond appropriately. First, can the Government give us a firm timetable as to when the regulations under clause 18 will be introduced, given the massive sum of UK funds under management that will be subject to those rules?

5.45 pm

Secondly, can the Government indicate the likely benefit of the proposed changes under the clause? Can they provide a cost-benefit analysis in the light of the uncertainty and the expensive system changes that fund management houses will have to make as a consequence of the changes? Lastly, for equity, open-ended investment company and unit trusts, will the Government indicate the moneys lost by UK pension funds due to the removal of the tax credit on distributions in 1997 and to what extent they blame the reduction in savings in ISA-style vehicles on that tax raid?

On Second Reading last week, the two Liberal Democrat spokesmen went into the rather wild woods of vintage wine and property windfall taxes and clearly indicated that they wanted to examine clause 18 more
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fully. My hon. Friends and I and, I dare say, Members on the Treasury Bench are somewhat amazed that the Liberal Democrats felt unable, in view of what they said last week, to table any amendments to clause 18. The contrast between us and them says it all.

Rob Marris : Conversely, some of us are somewhat amazed at the number of questions that the hon. Gentleman has just asked that appear to bear no relationship whatever to the amendment. Perhaps he could sketch for the Committee the connection between the general questions he raised about clause 18, which are of course Second Reading or Third Reading matters, and the specific amendment that he is moving.

Mr. Spring: If the hon. Gentleman will be patient, I shall address the amendments specifically.

Mr. David Heath (Somerton and Frome) (LD): Perhaps the hon. Gentleman assumes that there will be no stand part debate and that my hon. Friend the Member for Eastleigh (Chris Huhne) will not be able to make exactly the points that the hon. Gentleman accuses us of not making.

Mr. Spring: I very much regret that the Liberal Democrats failed to put down any amendments, and that is that.

There is concern that without our amendment No. 2 the taxation of OEICs and unit trusts would not be parallel. OEIC tax law currently allows separate sub-funds of OEICs to be taxed as though they were separate OEICs. Given that without the amendment the taxation of OEICs and unit trusts would not be parallel, the provision amends the law to enable all authorised unit funds to have separate sub-funds, to be taxed as stand-alone funds, thus fulfilling the original intention when OEICs were introduced.

The UK fund management industry manages about £276 billion, with substantial investments by life insurance companies and pension funds. Many accounts are held in retail funds. When considering the amendments we must be mindful of the sustainability and competitiveness of the industry. The regulations that will be made under clause 18 are likely to cause the fund management industry to make changes in its systems that could be expensive and time-consuming and may outweigh the possible benefits. Simply put, the tax treatment of funds under fund management is crucial in the UK and our financial services industry must have clarity and fair treatment.

I should like to bring to the attention of the Committee the view of the Association of Investment Trust Companies on tax treatment, given that clause 18 seeks to rationalise it. I shall send more details to the Minister, if I may. In the view of the association, the Finance Bill would enhance the ability of authorised unit trusts and OEICs to invest tax efficiently in bonds. There seems to be an anomaly, however. Investment trust companies invest in shares and securities to provide a capital return for their shareholders. They allow investors to gain cost-effective access to a diversified portfolio of shares and securities and expert fund management. There seems to be a problem of equivalence in the tax treatment of AUTs, OEICs, and
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ITCs. I would be grateful if the Minister could respond to that point. If we change the taxation treatment of income received by investment trusts by reducing the taxation rate from 30 to 20 per cent., there is a need to consider whether we should alter the tax treatment of dividends paid by the investment trust and received by corporate members.

Mr. Heath: On a point of order, Sir Nicholas. The hon. Gentleman does not appear to be referring to the amendments that stand in his name; he is giving a stand part speech. That makes it very difficult for Members who may wish to catch your eye later to make their points without necessarily repeating points that have already been made.

The Temporary Chairman: I am satisfied that the hon. Member for West Suffolk (Mr. Spring) is talking in a general way to the amendments that have been selected. If the hon. Member for Somerton and Frome (Mr.   Heath) wishes to participate, I will be only too delighted if he catches my eye.

Mr. Spring: Thank you, Sir Nicholas.

If the Government are going to reform the taxation of all collective investment vehicles, what is the point of these regulations that will cause the fund management industry much work to alter its systems?

No tax law has yet been established for a tax regime for collective investment vehicles in property, which is at the heart of the amendments. We understand that the Government have it in mind to establish such a regime by 2006, but the exact timing is still up in the air. There is uncertainty, so we need a clear timetable for action to establish real estate investment trusts.

Clause 18 enables undertakings for elective investments in transferable securities to make distributions gross of withholding tax. That might, therefore, encourage overseas investments. This is of obvious concern to the industry and is at the heart of the amendment. It should be noted that despite several announcements by the Government saying that they will introduce tax legislation to give effect to real estate investment trusts, such legislation is not being introduced in this Bill. This is due to problems involving the current method of taxation of overseas landlords where rents payable to them are subject to a 22 per cent. withholding tax except when the landlord has the prior agreement of the Inland Revenue. The concern is that an REIT will effectively escape such tax when paying a distribution to the overseas landlord. However—this is the point—many other countries have REITs and tax regimes specifically for them.

Amendment No. 3 highlights the problems and would enable legislation to be introduced following suitable consultation. I can only repeat that there is genuine concern that the problem is causing the property fund industry to locate elsewhere than in the United Kingdom. There are now £3 billion worth of listed property trusts in Guernsey that might otherwise be in the United Kingdom. The United States has these; Japan launched them in 2001; France in 2003; Germany is considering the introduction of such a vehicle; and it would be preferable if we could introduce a regime before then.

Companies are effectively developing equivalent structures elsewhere. I understand that a major insurer established such a vehicle in Guernsey, complaining that
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it would have liked to have the option of establishing it as a UK vehicle. The longer it takes the UK to establish such a vehicle, the lower the tax take will be as more and more vehicles go offshore. A report that appeared in The Times on 10 June talked about REITs and the potential leakage later if the problem is not dealt with. It said:

Essentially, the amendment invites the Government to be more specific than they have been thus far. It therefore proposes allowing REITs to be introduced. It highlights the problem and would enable legislation to be introduced following consultation.

Amendment No. 2 would enable one of the suggested solutions to be that the tax is charged at nil in the REIT with greater tax then due to arise on the investor in the REIT if it is so chargeable to tax. Most investment vehicles have to distribute the majority of their income each year and those distributions are taxable if the recipient is a UK resident. However, under tax treaties, overseas investors may avoid the tax charge altogether. I understand the problems involved in the current method of taxation of overseas landlords where rents payable to them are subject to a 22 per cent. withholding tax, except when there has been prior agreement with the Inland Revenue. However, there remains the concern that an REIT will effectively escape such a tax when paying a distribution to the overseas landlord. The genuine concern is that this issue, which is yet to be resolved, is causing the property fund industry to locate elsewhere than in the United Kingdom.

The head of indirect property investment and strategy at Merrill Lynch Investment Managers warned that if the Government did not get the tax model right, the flow of domestic UK property investment offshore would also accelerate. That point has also been made by the British Property Federation, which said that Britain could not afford to wait on the introduction of REITs. Since France has adopted the US model, it has seen the market capitalisation of 10 established quoted property companies double within 18 months. If we do not act quickly—we need reassurance from the Government on this—we will not be the international REIT centre that we should be. For 20 years, the UK commercial property market has lobbied for the introduction of REITs. The industry does not share the view that there would be tax leakage. Most overseas investors are not paying tax to the UK Government anyway and many invest through offshore structures. Money has been, and regrettably is, flowing to offshore commercial property trusts.

The US is undoubtedly the home of the REIT. Last year, it achieved an extraordinary 30.4 per cent. total return for investors and 22.5 per cent. over five years. The attraction has been the high dividend yield, which in the US is more than 5 per cent. compared with less than 2 per cent. for equities. I say that because in an era of low yields from investments pretty much all the way round the world, it is difficult for those who want investment income to achieve a return. Through the amendment, I ask the Minister to consider what has happened in the US since the establishment of its Act in 1960. Companies that operate as REITs pay no tax on corporate income and, in order to get that tax break, REITs must pay out at least 90 per cent. of every dollar
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in income to shareholders in the form of a dividend and companies can pass on the tax savings from the dividend deduction to shareholders, making REITs an attractive investment.

In the Government's discussions on this and other tax regimes, we will need to look at this issue very carefully. As I have said, REITs operate in many other countries such as Australia, Hong Kong, Singapore and France. In France, for example, foreign investors, who are always difficult to deal with for any tax authority, do not pay tax on REIT incomes if from abroad. If a 22 per cent. tax rate were introduced, the foreign investor issue would be neutralised except for those who have a particular arrangement with the Revenue, but UK pension funds, which pay no tax, would suffer. We must examine the issue particularly in the light of the competition that we face elsewhere. That is why we have tabled the amendments.

I return to the central point of my argument. We have exceptional expertise in this country in all spheres of investment and we do not want that expertise to be deployed against our economic interests. We really need to move on, and I hope that the Minister will be able to provide some comfort on the issues that I have raised.

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