DFMs at risk if cost pressures remain

The issue came to a head in July 2012 when a European Court of Justice (ECJ) ruling forced Deutsche Bank to pay VAT on its transaction fees, prompting UK tax officials to launch a consultation into whether UK DFMs should also be liable.

HMRC published its draft consultation on October 31 last year, prompting a backlash from the DFM community. The trade body for wealth managers – the Association of Private Client Investment Managers and Stockbrokers (Apcims) – published an opposition to the proposal, arguing that as clients pay a management fee and separate transaction charges, the latter should be exempt. It also argued that if transactions were taxed, the same should apply to advisory-managed services.

Martin Bamford, managing director and chartered financial planner at Informed Choice, says there still appears to be a mismatch between the objectives of HMRC and the practicalities of offering financial advice.

“The VAT issue is clearer today than it has been, but some uncertainties remain and the messages from HMRC do not seem to match up with the reality of providing financial advice,” he says.

A key concern within the DFM and adviser community has been whether the results of the consultation will translate into the forced repayment of back-dated tax, adds Mr Bamford. “Most advisers fear interpreting the rules incorrectly and being forced to pay VAT on historical revenue. Until HMRC applies their rules in real life test cases, it is difficult to see how advisers can trade confidently around the VAT issue,” he says.

Ed Murphy, indirect tax expert at KPMG, says the implementation of the RDR on January 1 has shone a light on the difficulty of applying complex VAT rules to the advisory sector. A key challenge is the range of advice scenarios, making VAT difficult to implement fairly across the board. “HMRC have worked with the industry to agree how VAT rules should apply and in recent months significant progress has been made. In spite of HMRC’s helpful guidance, it can still be challenging for financial advisers and DFMs to determine where the rules require VAT to be charged,” he explains.

For DFMs, the crucial concern appears to be how the rule changes will affect their competitiveness against financial advisers in the future.

“DFMs should be as exempt from VAT as any other fund managers,” argues Philip Milton, managing director of Philip J Milton & Company. “The possibility of VAT on transaction charges is another ugly worry – something which also should not apply and does not apply elsewhere.”

Ben Willis, investment manager at Whitechurch Securities, agrees that the lack of certainty over the ongoing VAT issue is a concern, in particular with regard to price competitiveness. “DFM management charges are subject to VAT as it is deemed a service, and at the present rate of 20 per cent this can add a significant premium to charges. In the DFM world, with so many competitors in the market, costs have become the battleground and so to win business margins are being squeezed,” he says.

He is concerned advisers will be deterred from pointing clients in the direction of DFMs if their services become less price competitive.

“From an adviser perspective, if they advise a client on a retail investment product then this could be more attractive as it is not subject to VAT. Some DFM charges are subject to VAT so this could deter advisers and clients from going down the DFM route due to expense, even if the DFM route was a suitable solution for the client,” he says.

Gavin Jones, chartered financial planner at the Old Mill Group, also suggests the lack of clarity over this issue in recent years has been damaging for the industry as a whole. “If there are further changes to VAT it is essential that they are implemented swiftly and conclusively. The uncertainty over VAT in the past few years hasn’t helped anyone and the last thing anyone wants in the coming months is more uncertainty,” he adds.

The FSA is set to publish final guidance on the issue in April.

Katie Holliday is a freelance journalist

VAT: What it means for advisers

Parmenion’s head of compliance and partner Jeanette Cook, explains the current position when it comes to VAT and adviser business models.

Where VAT exemption applies:

Adviser fees are exempt from VAT where the Adviser undertakes to arrange a transaction in an exempt financial product. This is fundamental. It is the Adviser’s participation in the procurement of a VAT exempt product that enables VAT exemption.

Where VAT must be charged:

Advisory services are not, and have never been, VAT exempt. Anyone offering pure advice to a client will charge VAT. In this respect the abolition of commission has not changed the VAT treatment.

Where advice on an exempt product does not lead to acquisition:

If advice is given in relation to exempted products – regardless of whether the client takes up the product – VAT is not chargeable on the advice given. This is because the advice given was expected to lead to a transaction in an exempt product.

VAT fightback - industry reaction

Jeanette Cook, head of compliance and partner at Parmenion:

“VAT is often a complex issue and the answer to when to charge VAT is not always clear. VAT exemption applies where the adviser undertakes to arrange a transaction in an exempt financial product. This is fundamental. It is the adviser’s participation in the procurement of a VAT exempt product that enables VAT exemption.

“Exemption does not apply to advisers offering pure advice to a client, this remains the same as it has always been and is similar to advice offered by accountants or lawyers. In this respect the abolition of commission has not changed the VAT treatment.

“For the VAT exemption to apply the adviser must play their part in an advice process through which transactions occur in exempt products. Therefore, the litmus test advisers should apply is to look at the proposed outcome of their advice; if this relates to exempt products – then VAT exemption will apply.”

Andy Thompson, director of operations at Apcims:

“In the UK, DFMs do separate and invoice for these services separately. In addition, whereas the Deutsche Bank fee is a percentage charge based on the assets under management (AUM), transaction fees in UK DFM services are calculated based on the value/number of transactions executed.

“This makes it clear that the client is paying the fee for the execution of transactions, as opposed to the fee simply representing an additional AUM portfolio fee.

“Given this, we consider it would be artificial for HMRC to regard services with separately advertised, calculated and invoiced fees (as per standard UK practice) as a single taxable supply for VAT purposes.”