Investment banks have reassured wealth managers that the impending changes to offshore fund regulation will not impact the way structured products are taxed.

It was previously feared the 1 December amendment in legislation as to what constitutes an offshore fund – including protected cell company (PCC) structures – could result in structured products previously taxed as capital gains succumbing to income tax treatment.

Citibank, Merrill Lynch and BNP Paribas-owned Harewood Solutions all use Guernsey-based PCCs as a way of offering wealth managers capital gains tax treatment on structured products.

However, in a bid to clarify, simplify and modernise the regime, the government has spelt out exactly what it considers to be income producing assets. In reality, the new regime being introduced does not differ from existing regulation. It essentially aims to prevent UK investors from rolling up income offshore.

Tax issues on hedges

But on the back of this clarification, it immediately became apparent there were tax issues relating to product hedging. Most structured products are hedged with swaps, which might be interest-bearing assets, which meant the structure could be liable to income tax under the new regulation.

To be certain their structured products were not going to be in danger of incurring income tax, all the investment banks have been devising ways around the issue.

Merrill Lynch said as a technical rule, there is a set of synthetic instruments that under tax legislation are definitely not considered to be income producing and are therefore liable to capital gains tax.