Post-RDR funds and 'over-zealous' conversions

EdSwippet

I have seen a couple of cases recently where a platform has been 'over-zealous' when converting 'dirty' funds into clean equivalents under RDR. For example, conversion of HSBC retail units into institutional ones where class C would have been expected.

While this gives the holder a small but welcome additional charge reduction, it seems to cause longer term problems. In particular, inability to move this holding across in specie to another platform -- potentially a huge problem if this holding is unsheltered and has large built-in gains.

Has anyone else seen this issue, and have any ideas for resolution?

Can platforms that have done this be somehow encouraged, cajoled or coerced into converting again and into more vanilla holdings? Can conversion to institutional units for an individual retail investor under RDR be deemed a platform or broker error? Other ideas? Thanks.

masonic

The platform should convert the units to the cheapest available class that is RDR-compliant. Inst would certainly fit the bill and I'd be quite annoyed if I ended up in a more expensive class where the cheaper Inst units were available for me to hold.

In specie transfers are going to get a lot more difficult anyway. The likes of HL and others carry exclusive unit classes not available elsewhere. There are even discrepancies between available unit classes held between platforms that do not offer any "special deals". And if not all providers carry the Inst classes of funds, which are pretty mainstream and established, but instead carrying some newfangled pricier alternative, then one has to question whether those platforms are giving their customers a good deal.

The optimal way to solve this problem is for the new provider to submit the new holdings for conversion as the last stage of the in specie transfer. I see no reason why this should not be possible.

bowlhead99

I see what you mean Ed. However, the whole concept of 'retail' vs 'institutional' is a bit moot these days now retail doesn't come with a platform kickback and an advisor kickback.

The difference between retail unbundled and institutional is generally one of published minimum holding size, where the institutional one might be £100k (or maybe £1m). But that doesn't mean that you as an individual need to practically have £100k invested in that one fund. The 'institution' that holds the 'minimum £100k investment' can be your platform of choice, who is providing access to the product for you and a bunch of other customers who collectively give your platform a holding which meets the criteria (or they agree with the manager that the criteria would be waived). There are some funds where people were just buying "Class I" (or whatever the institutional class for that particular fund manager is called) on retail platforms for quite a while as an alternative to the bundled/inclusive retail version, because an unbundled retail version didn't exist.

So, if you hold an institutional class of a particular tracker and you want to move from platform A to platform B, you need to check that platform B can support that class, but you'll find that many of them will be able to, even if they don't generally market it to new customers.

So, I can see where you are coming from but putting yourself in the platform's shoes, if they offer the institutional class and it's the cheapest class to the end user - they would generate a bucket load of complaints if they auto-switched the customers from a fund costing 1.6% into one costing 0.9% and not the one costing 0.75%

It would be, "hey customers, the regulator told us we had to move you out of the 1.6% class into a cheaper one, so we got you this one at 0.9% ; Obviously most of our new customers sign up with this other one at 0.75% but we didn't think you'd want that. We figured you would want to pay a premium for this other product, just in case it made it a little bit easier for you to move your business elsewhere when you realise we're the type of people who don't give you the best deal we can. Please don't complain en masse to Watchdog".

EdSwippet

Thanks for the replies.

What prompted the question was an interaction I had recently with my SIPP platform. They auto-converted a couple of HSBC index trackers from retail to institutional, then a few months later rowed back on this with a statement that these couldn't really be held by retail investors, meaning I could no longer buy further units of them, and would I mind if they converted them again, this time to class C? The difference in charges worked out to around £10 or so a year for me, and to keep the future simple I let them go ahead. It was nice of them to ask.

Mrs S is now encountering a similar problem with an ISA that is in mid-transfer. However, the current platform is not offering any conversion to class C, and the new platform will not accept institutional. Because this is an ISA all is not lost -- for a couple of (unwanted, but not disastrous) trading fees and a slight time out of the market it can be readily fixed. But this did leave me wondering what the situation would be in an unsheltered account, where sale and repurchase of a different share class might raise the ugly spectre of CGT.

In general I guess what we're looking at here is customers potentially becoming captive to platforms. Already, outside of shelters, you have to take some care to pick unit trusts that you are happy to live with really loooong term, to avoid unnecessary CGT leakage from your portfolio. It seems this now extends to platforms, with HL and their "superclean-and-only-we-have-them" units as the poster child.

Being stuck on a platform will not be comfortable if you want to -- or have to -- move for any reason. Sudden and large increase in charges, for example. Admittedly not a significant problem for sheltered accounts, but one more icky wrinkle to add to the list of pitfalls for fully taxable investors.

masonic

It's one more reason to lean towards investing in investment trusts and ETFs where possible.

Perhaps someone could alert HMRC to the fact that now we have all these different unit classes and in some cases multiple options are available on the same platform, this reopens the door to 'bed & breakfasting'. Sale of one class, followed by repurchase of another should probably not be considered a disposal for CGT purposes. In fact, would it count as a disposal? I didn't think one could utilise their CGT allowance by, for example, selling Inc units and then buying the same value in Acc units of the same fund?

bowlhead99

EdSwippet wrote: »

In general I guess what we're looking at here is customers potentially becoming captive to platforms. Already, outside of shelters, you have to take some care to pick unit trusts that you are happy to live with really loooong term, to avoid unnecessary CGT leakage from your portfolio. It seems this now extends to platforms, with HL and their "superclean-and-only-we-have-them" units as the poster child.

True, but the more savvy investors realise that the HL 'superclean' funds are really just their effort to make their extreme platform fees less painful by offering the manager a likely larger amount of customers by promoting the fund in exchange for access to the discounted class (and is often only semi-exclusive rather than actually exclusive).

If you're paying a 0.45% platform fee at HL for access to a management fee that's cheaper by 0.10-0.15% on a couple of your funds, and full management fees on the rest, you're likely to be able to get decent savings on most of the portfolio by simply hopping to a shop that has a 0.3% platform fee, and you'll completely undercut the 'exclusive' fund pricing by using somewhere that has a 0.25% fee or better.

So, the solution to not getting stuck with a difficult-to-transfer 'cheap' class at HL, is not to use them in the first place But yes you're right it can give you an annoying potential tax consequence on top of the headline problem that it's difficult or impossible to transfer in specie to the place where your looking to move.

masonic wrote: »

Perhaps someone could alert HMRC to the fact that now we have all these different unit classes and in some cases multiple options are available on the same platform, this reopens the door to 'bed & breakfasting'. Sale of one class, followed by repurchase of another should probably not be considered a disposal for CGT purposes. In fact, would it count as a disposal? I didn't think one could utilise their CGT allowance by, for example, selling Inc units and then buying the same value in Acc units of the same fund?

Bed and breakfasting has always generally been available for funds by selling a unit and rebuying as a different class - whether that's Inc to Acc or A to C - and HMRC are well aware that multiple (substantially similar) classes exist for many funds.

You're right that it makes logical sense that changing your class while owning basically the same assets with a different management charge, perhaps doesn't feel like a 'disposal', because you still pretty much hold what you used to hold, but the same argument can be made for selling HSBC FTSE100 and buying Blackrock FTSE100, which is clearly something that triggers a tax event.

In the case where a company reorganises its share capital and you get given new shares to replace your old ones without any money changing hands (e.g. your 10p shares convert into 10x 1p shares), you're treated as still having unbroken ownership and the tax cost of what you hold is still the cost of what you used to hold. In a corporate reorganisation, tax law imposes what's been described as two statutory fictions: the 'no disposal' fiction and the 'single continuous asset' fiction, which have as their goal the tax following commercial reality that there hasn't been a fundamental change of ownership. But the rules for that are strict and wouldn't apply to someone who actively sold or redeemed one class and bought into a new issue of the other.

The logic of these 'conversions' or 'reorganisations' in companies not counting as deemed disposal events now formally carries over to the world of funds, including unit trusts. Where (e.g.) a fund manager decides his old Class Rs are going to become Class Cs, driven by the RDR rules, he can issue one to replace the other without putting the investors in a tax mess.

Ordinarily that application of the s127 rules from the capital gains tax act would only be possible if it were a real reorganisation applying to all the holders of that class, and wouldn't help an individual investor wishing to switch - but new law was written in 2013 which clarifies that you can get the same treatment even if you instigate it yourself, as long as you switch by exchanging units (rather than by redeeming and re-subscribing, or selling and buying)

Where—
(a)a participant in a collective investment scheme exchanges units in the scheme for other units in the scheme (“new units”) of substantially the same value, and

(b)the property subject to the scheme and the rights of participants to share in the capital and income in relation to that property are the same immediately before and immediately after the event (ignoring any changes as a result of a variation in management charges).

So basically it counts as a reorganisation (and thereby no gain or loss) if you get the manager of the fund to 'switch' you by exchanging your units of class 1 for class 2 instead. The same rules apply if for example you owned units in Fund A and Fund A was absorbed into Fund B so you're left as an owner of Fund B instead.

But the key thing is that there can't be money changing hands (e.g. your fund platform buys you some class 2 shares with the proceeds of redeeming from class 1, that's NOT a reorganisation). The old shares have to be exchanged for new ones with the substantially similar properties (i.e. where the only difference is a different management charge, or some other administrative difference such as income to accumulation switch). So with the help of the fund manager you can fall within the reorganisation rules and not be deemed to dispose of your old assets when you move from dirty to clean.

So, how does that help someone who DOES want to be deemed to dispose of their assets and bed-and-breakfast a gain by dumping their dirty units and buying clean, or selling some Acc and buying some Inc?

Well simply, as mentioned above, if you exchange one share for another you can 'fall within the reorganisation rules and not be deemed to dispose of your old assets when you move from dirty to clean'. But if you don't do it as an exchange, and simply subscribe and redeem (which can be on the same day) and receive and pay cash per your broker/platform statement, you won't be able to fall within the reorganisation rules and you will have been deemed to have disposed of your old assets. If the new assets are not the same class of the same company or fund, they can't be matched under the same day or 30-day anti-bed & breakfasting rules, and you're free and clear.

HMRC's CGT manual clarifies that inc and acc units or shares are treated as different classes, just like different management fee classes or currency classes etc. As such, you're free to 'dodge' the anti bed and breakfasting rules by using any of them, just like selling your preference shares and buying ordinary shares or selling your voting shares and buying non-voting ones in a regular company. It does also reference the fact that if you do a 'switch' (which is distinct from a sale and rebuy or redemption and subscription) you may be covered by the s127 reorganisation rules.

https://www.gov.uk/hmrc-internal-manuals/capital-gains-manual/cg57709

Many unit trusts offer accumulation units and income units. These should be treated as different classes of unit. Any switch from one class to another within the same unit trust should be treated as a share reorganisation, see CG51700+.

https://www.gov.uk/hmrc-internal-manuals/capital-gains-manual/cg57755

OEICs can issue shares of a number of different classes. These include income shares, net or gross accumulation shares and currency shares, see CTM48325. Where an investor switches between classes of share in the same OEIC, TCGA92/S127 can apply. See CG51700+ for further details.

(Authorised unit trusts may issue units of different classes, analogous to an OEIC’s classes of share. Where this is the case, TCGA92/S127 can likewise apply where an investor switches between classes of unit in the same authorised unit trust.)

HTH!