April 2011
Viewpoint The struggle for supremacy in Asian asset management
This paper explores the battle for ascendancy in Asian asset management — not between companies, but between countries. It assesses the high-level features of current and anticipated tax environments in Singapore, Hong Kong and Australia and draws out some contrasts and parallels. While acknowledging that tax is only one factor among many, it aims to show how seriously governments in the region take the challenge of remaining competitive.
Asia is emerging as the fastest-growing and most hotly contested region in global asset management
Governments in the Asia Pacific region are keen to maximize their exposure to the industry
Rapid economic growth, an emerging middle class, huge savings reserves and increasing interest from investors in other parts of the world are expected to drive rapid long-term growth in Asian asset management. In recent years, this argument has proved irresistible to international asset management groups, especially those facing slower growth in their home markets. Many firms based in the developed markets have decided that they simply cannot afford to ignore the Asia Pacific asset management market.
Just as asset management firms are competing for a slice of the growing asset management market in Asia, governments across the region are competing to attract asset management activity to their shores. The rapid growth of the alternative investment management industry is making the tax environment for hedge fund and private equity fund management an area of particular focus.
In practice, the reality of competing in Asia often proves to be tougher than this simple view implies. Foreign firms entering markets in the Asia Pacific region sometimes struggle to access local distribution networks. Regulation at times favors established domestic players over new entrants, and overseas managers have sometimes failed to appreciate the importance of local attitudes and customer preferences. Incumbent national and regional players have also shown themselves more than ready for a fight, and some are themselves looking to expand their distribution reach in the developed markets of Europe and North America.
The speed with which capital flows can change direction, and the industry’s history of clustering around regional hubs, means that the potential prize in terms of economic activity is considerable. At the same time, preliminary moves to develop mutual regulatory recognition across the region could change the current picture, although it remains to be seen whether this would clarify or blur differences between national tax regimes. With this in mind, this paper takes a high-level look at the tax environment in three very different asset management centers in Asia: Singapore, Hong Kong and Australia. We review each in turn, summarizing the key changes currently taking place and their potential effect on the future asset management environment in the Asia Pacific region.
Viewpoint The struggle for supremacy in Asian asset management
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Singapore has successfully used offshore fund exemptions to attract asset managers to its shores Singapore may not have the asset management history of Australia, Japan or Hong Kong but it has emerged as a leading Asian investment center in recent years. Assets under management (AuM) have grown exponentially over the past decade and were valued at SGD1.2t (USD0.9t) at the end of 2009.1 The industry benefits from an affluent local population, but the key to Singapore’s success has been its role as an Asia Pacific investment hub. According to the Monetary Authority of Singapore, more than 80% of AuM at the end of 2009 were sourced overseas, with 61% of the total invested in Asia Pacific. Even if it is not the biggest asset management center in the region, Singapore is increasingly seen as setting the pace. How has this remarkable success been achieved? Clearly there are a number of factors at work, including Singapore’s top-quality public infrastructure, strong legal system and high standards of professional support. Even so, there is no question that Singapore’s attractive tax regime has played a crucial role. At its heart is the offshore fund exemption. Broadly speaking, offshore status is available to any fund that is not resident in Singapore and is not fully beneficially owned by Singapore investors. Offshore status is open to a range of structures, including trusts, companies, mutual funds and limited partnerships, and permits a wide variety of traditional and alternative investment strategies.
Singapore boasts a number of other attractive tax features Beyond the offshore fund exemption, two other notable tax incentives have encouraged the development of Singapore’s asset management industry. One is a special low 10% tax rate on fund managers’ qualifying fee income that, together with the tax-free status of company dividends, makes Singapore a highly attractive place for asset managers to locate themselves. The other is the Singapore resident fund scheme, introduced in 2006. Although it carries some additional conditions intended to ensure such funds have economic substance in Singapore, this allows Singaporedomiciled funds to claim similar exemptions to those enjoyed by qualifying offshore funds. Singapore-domiciled funds also have the advantage of being eligible for the benefits under Singapore’s extensive tax treaty network. All in all, Singapore’s tax regime has clearly been instrumental in the rapid growth of asset management activity in the territory in recent years. Singapore has also been particularly effective in developing a harmonized approach to the regulation and taxation of investment funds and asset managers. We have no doubt that the Singapore authorities will continue to listen to the industry’s concerns and to fine-tune their tax incentives. Anti-avoidance rules in other jurisdictions which are major investment destinations, such as India, are only likely to stimulate further demand for Singapore-domiciled funds.
Offshore funds that are exempt from Singapore tax are subject to some reporting requirements, with a particular focus on the rule that no Singapore investor (other than an individual) together with its associates should own more than the prescribed investment threshold of any qualifying fund. Where an investor breaches this rule it may be liable for a financial penalty on its share of income — the fund and its other investors are not adversely impacted. The fund may, however, be able to apply for another incentive status that eliminates this rule. Another feature of Singapore’s offshore fund exemption is that it permits ownership of private companies. This is in contrast to the corresponding rules in Hong Kong and goes a long way to explaining the recent growth in private equity and real estate funds in Singapore.
1 2009 Singapore Asset Management Industry Survey, Monetary Authority of Singapore, July 2010.
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Viewpoint The struggle for supremacy in Asian asset management
Hong Kong has used tax incentives to strengthen its position as a leading offshore fund center Hong Kong is a well-established Asian asset management center, with AuM of HKD8.5t (USD1.1t) at the end of 2009.2 Hong Kong benefits from a larger domestic market than Singapore, with 36% of AuM sourced from local investors. In the medium to long term, the Mandatory Provident Fund should help to underpin this domestic demand for asset management services. Hong Kong has also long been a regional leader in terms of international business, and enjoys a high concentration of asset management expertise. For international investors today, one of Hong Kong’s leading attractions is its status as a gateway for capital entering and leaving the rest of China. The 20092010 Annual Report of the Hong Kong Securities and Futures Commission (SFC) notes that asset management and fund administration business connected with mainland China increased by 70% during 2009. In general terms, Hong Kong’s tax environment is an attractive one for asset management. Only domestically sourced income is liable for tax, and there are wide-ranging exemptions for individuals’ investment income and for individual and corporate capital gains. In general, authorized or bona fide widely held funds enjoy tax exemption in Hong Kong. In addition, 2006 saw the introduction of new rules exempting funds managed and controlled outside Hong Kong from tax. To qualify for the offshore exemption, funds must be non-resident, must only carry out certain specified transactions and need to avoid any other profit-generating activity in Hong Kong, except where this is incidental to the specified permitted transactions. The test of non-residency depends on where the fund’s “central management and control” takes place. This typically means the location where board meetings are held, and is not a barrier to Hong Kong-based managers making decisions about the fund’s investments. The definition of specified transactions is also very broad and includes investments in equities, debt, warrants, futures, options, foreign currencies and derivatives.
The introduction of the offshore fund exemption was an explicit attempt to attract asset management activity to Hong Kong, particularly in light of Singapore’s growing success and a perception that uncertainty about the tax status of offshore funds managed in Hong Kong was a barrier to regional competitiveness. For this reason, the exemption incorporated 10 years of retroactivity, eliminating any outstanding questions over historic tax liabilities. The offshore fund regime includes anti-avoidance measures. As in Singapore, Hong Kong investors holding more than 30% of an offshore fund will be liable for tax on their share of the fund’s income, even if the fund itself remains exempt from Hong Kong tax.
Hong Kong continues to monitor its competitive position. Industry bodies are hoping for further changes Moving forward to the present, we believe that the Hong Kong authorities continue to monitor the progress of Singapore and other regional centers, and that they are committed to remaining competitive from a tax standpoint. For example, Hong Kong continues to develop its tax treaty network, which now includes 19 tax treaties with negotiations under way to conclude around another 10. With this in mind, industry leaders in Hong Kong are lobbying for an extension to the definition of specified transactions permitted under the offshore fund exemption. These currently exclude securities issued by private companies, making Hong Kong less attractive to private equity fund managers than Singapore. Another area where Hong Kong appears to be at a disadvantage is the rate of tax applicable to fund management fee income. As already discussed, this enjoys a reduced 10% tax rate in Singapore. In contrast, asset managers in Hong Kong are liable for corporation tax at the standard rate of 16.5%. Maintaining the attractiveness of Hong Kong as a location for asset management activity is a stated priority of the territory’s government. Of course, tax is only one part of Hong Kong’s appeal, and it remains to be seen what steps Hong Kong’s Financial Services and Treasury Bureau may take to boost competitiveness in the years ahead.
2 2009-2010 Annual Report, Hong Kong Securities and Futures Commission, June 2010.
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Australia’s asset managers see local tax treatments as a potential barrier to expansion
A program to boost the efficiency and competitiveness of Australia’s investment industry is under way
Asset management in Australia has a long pedigree. The domestic industry is large in relation to Australia’s population and economic output, reflecting the country’s compulsory superannuation scheme. As of early 2010, AuM stood at AUD1.7t (USD1.6t),3 and the prospect of growing superannuation contributions means that this figure is likely to increase rapidly. According to the Australian Treasury, the total scale of the industry could increase by several orders of magnitude over the coming 25 years.4 Australia is also an innovative market for asset management, having pioneered infrastructure funds and become a leading hedge fund base in Asia, as well as the world’s second largest Real Estate Investment Trust (REIT) market.
In response to this perceived weakness, current and previous Federal Governments have set out a program of changes designed to improve the efficiency and competitiveness of the Australian investment market. Two changes to the tax treatment of MITs have already been enacted. One was intended to clear up a persistent source of uncertainty by allowing funds to elect capital gains tax treatment, avoiding the threat of revenue treatment for the disposal of certain types of client assets. The other change has been to cut withholding tax on payments from Australian MITs to non-resident investors from the previous 30% to a more regionally competitive 7.5% rate, as long as the non-resident is based in a jurisdiction that is considered responsive to information requests. This is clearly an improvement, but it does not match Singapore or Hong Kong, where funds do not withhold tax on payments to foreign residents.
In addition to its strong domestic investment industry, Australia has seen increasing inward investment in recent years, attracted by its resilient economic growth and expanding resources sector. At the same time, domestic investors are in growing need of overseas diversification and Australian asset managers are becoming keener to leverage their expertise across the Asia Pacific region. However, the Australian tax treatment of investment funds has remained a throwback to an era of family trusts and has increasingly been seen as a barrier to Australia’s development as an Asian asset management hub. Most Australian investment vehicles are structured as unit trusts, which can be exempted from tax if they demonstrate that all unit holders are “presently entitled” to their shares of the trust’s income. This means that 100% of all income (for example, interest, dividends and capital gains) must be distributed to unit holders — not an easy task. Concessional rates or an exemption from Australia tax can also apply to non-residents investing in trusts that qualify as Managed Investment Trusts (MITs). To receive authorization as MITs, funds need to satisfy “widely held” tests that trusts should have at least 25 members for wholesale funds and 50 members for retail funds, and that the 10 largest investors should own less than 75%.
Looking forward, a raft of further changes to the Australian tax and regulatory environment is planned, each of which could potentially have an impact on the country’s competitiveness as an Asian asset management center. Of these, three in particular relate to the taxation of investment funds. The first is a set of additional changes to the tax treatment of MITs. Details are yet to be finalized, but the main aims are to simplify the attribution of taxable income to unit holders, to introduce a de minimis rule to the requirement for a trust to distribute 100% of its income on an annual basis, to reduce the potential for double taxation and to make other improvements to certainty and efficiency. The second proposed change is the introduction of an Investment Manager Regime that would exempt non-resident funds managed by an Australian asset manager from tax on non-Australian income. The third anticipated change is that non-resident funds will not be liable for previous profits made from trading Australian securities. Other possible developments include some form of tax exemption for sovereign wealth funds; a review of the competitiveness of Australian collective investment vehicles; and plans to introduce a level playing field regarding the tax treatment of Islamic finance products.
3 Data Alert, Austrade, March 2010. 4 Super System Review: Final Report, Commonwealth of Australia, July 2010.
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Viewpoint The struggle for supremacy in Asian asset management
Although long overdue, it is probably true to say that the planned reforms are more about catching up with Australia’s regional rivals than about opening up a lead in the competitiveness stakes. There are some doubts over the current Government’s ability to implement the planned measures in full, despite bipartisan support for reform. The Australian Tax Office’s recent high-profile skirmishes with the private equity industry also risk sending out mixed messages. Nonetheless, if all the planned and proposed changes to Australia’s tax system are introduced, the country will have taken a huge step toward expanding its role as an asset management hub in the Asia Pacific region. A clearer and more competitive tax regime, combined with the growth dynamics of superannuation and Australia’s established expertise and supporting infrastructure, could have very beneficial long-term effects.
Conclusion: tax is crucial in attracting asset management business, but it is only part of the equation This paper sets out to compare the current and anticipated tax environments in three major Asian centers for asset management activity. In a short document, this can only ever be an overview exercise, but we feel that a comparison of the tax regimes in Singapore, Hong Kong and Australia reveals some interesting observations.
broader picture. Australia and Hong Kong enjoy particularly deep pools of skilled staff. Singapore and Hong Kong have their own geographic and cultural advantages. Australia benefits from its large and growing domestic asset base. It is also worth remembering that possible future cooperation could subtly alter the tax dynamics of the region.
In terms of the simplicity of its approach and the extent of its tax incentives, Singapore is probably the most attractive of the three jurisdictions, a conclusion supported by the rapid growth in AuM it has achieved over the past decade. Hong Kong’s tax environment is broadly comparable, although marginally less competitive in some aspects, particularly in its appeal to private equity fund managers. Looking forward, we expect to see further incremental changes in both territories’ tax regimes. Meanwhile, Australia is starting from a very different place and is in the middle of a complicated process of reform that may yet be affected by domestic politics. The Australian asset management industry is, however, determined to see the proposed reforms delivered.
Lastly, we should not overlook the potential emergence of other asset management hubs within the region. There is a huge domestic asset management industry in South Korea; growing Islamic-specialized activity in Malaysia and Indonesia; and an emerging renminbi fund industry in China. Nor can a revival in Japan’s fortunes be ruled out.
Even though we have not attempted to make meaningful comparisons of other factors that could determine each territory’s competitiveness, we stress that tax can only ever be part of a
In conclusion, we want to stress that despite the speed of international capital flows, encouraging the development of asset management activity in a particular location is very much a longterm project. Tax is a very important factor, but tax incentives need to be aligned with other crucial elements if they are to be effective. Success will not come overnight, but will depend on clear and consistent policies that attract business over a period of many years. Governments across the Asia Pacific region clearly believe that this is a prize worth fighting for.
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If you would like further information, please contact:
Ernst & Young
Authors
Assurance | Tax | Transactions | Advisory
Rowan Macdonald
Asia Pacific Tax Leader Direct: +61 2 9248 4019 Email: rowan.macdonald@au.ey.com
Antoinette Elias
Tax Leader, Australia Direct: +61 2 8295 6251 Email: antoinette.elias@au.ey.com
Florence Chan
Tax Leader, Greater China Direct: +852 2849 9228 Email: florence.chan@hk.ey.com
Chong Lee Siang
Tax Leader, Singapore Direct: +65 6309 8202 Email: lee.siang.chong@sg.ey.com
Contributors Kathy Kun
National Tax Center, Hong Kong Direct: +852 2846 9653 Email: kathy.kun@hk.ey.com
Desmond Teo
Financial Services Tax/International Tax, Singapore Direct: +65 6309 6111 Email: desmond.teo@sg.ey.com
Global Asset Management Center Leigh Pennington
Global Implementation Director Global Asset Management Center Direct: +27 (0) 31 576 8266 Email: lpennington@uk.ey.com
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