The Belgian legislator has used the implementation of Ucits III as a chance to modernize the Belgian fund regulations. This modernization has opened new possibilities for Belgian undertakings for collective investment (UCIs), such as the possibility to create UCIs solely for institutional investors, to provide for different classes of units and to use portfolio management techniques such as stock lending and repo transactions. The new regulations have also clarified some uncertain areas, such as remuneration practices. Further changes to the fund regulations are expected after the implementation into Belgian law of Directive 2003/71 on the prospectus to be published when securities are offered to the public or admitted to trading (the Prospectus Directive).

These improvements on the regulatory side are slightly overshadowed by the impact of certain recent tax developments on the asset management sector. The favourable tax treatment of accumulation units has been partially abolished. A new tax has been introduced to catch the accrued income part of the redemption proceeds of accumulation units. Although the tax is limited to accumulation units of Ucits with a specific investment policy, it constitutes a clear break with the tradition under Belgian tax law. Investors also face a higher stamp duty when redeeming and converting accumulation units. From the funds side, the existing annual tax to be paid by UCIs on net subscriptions has increased. The tariffs and the calculation method of regulatory fees have also been changed.

Modernization of fund regulations

The law of July 20 2004 on certain types of collective investment portfolio management and the implementing Royal Decree of March 4 2005 were published on March 9 2005. These new regulations implement the Management and the Product Directive, and the Commission Recommendations 2004/383 on the use of financial derivative instruments and 2004/383 on some contents of the simplified prospectus. They also present new possibilities for Belgian UCIs.

Institutional and private equity UCIs

Under the former regulatory framework, all UCIs had to be offered to the public apart from a few exceptions. Next to the public UCI, the new regulations now provide for two other fund categories: UCIs solely offered to institutional investors and UCIs solely offered to private investors. This last category goes further than the already existing private privak/pricaf privée and provides for a general category of private equity UCIs. Further implementation through royal decree is required before the two new categories can be used.

Introduction of unit classes for Belgian UCIs

Belgian UCIs set up as an investment company will be allowed to create classes of units on the basis of a list of pre-determined requirements, such as cost structure, currency in which the net asset value is expressed, and the countries in which distributed. No distinction can be made on the basis of participation in the result of a sub-fund or fund and it will not be possible to create unit classes within a public UCI reserved for institutional investors. Belgian UCIs set up as a mutual fund will not be allowed to create unit classes, apart from the existing possibility to distinguish between distribution and accumulation.

Securities lending and repo transactions

Belgian UCIs are now – in accordance with Ucits III – permitted to employ financial derivative instruments as part of their general investment policy, and not just to hedge positions. The Belgian legislator has also authorized UCIs to employ techniques used for efficient portfolio management, such as stock lending and repo transactions. Both possibilities have also been granted to Belgian UCIs without a Ucits passport provided they invest in securities and cash.

At the moment, repo transactions are allowed if the transaction is entered into to temporarily obtain or invest cash. It is expected that additional requirements will be introduced for the use of repo transactions by Belgian UCIs.

In relation to securities lending, the possibility must be set out in the prospectus and in the statutes/management rules and the securities lending transactions must comply with the requirements determined by royal decree. Such royal decree was published on March 10 2006.

Remuneration structures

Under the influence of the Iosco report on the same subject, new rules have been laid down in relation to UCI remuneration structures. Uncertainty has existed about the legitimacy of certain remuneration patterns, but soft commissions and fee-sharing arrangements are now regulated by clear disclosure requirements and explicit authorization conditions.

Both remuneration arrangements can only be used if their details are disclosed in the prospectus, the simplified prospectus and the annual report.

Fee-sharing arrangements between an asset manager and a financial intermediary will only be allowed if certain conditions are complied with. First of all, the fee paid by the UCI to the asset manager has to be in line with market practice and not liable to increases because of the fee-sharing arrangement. Secondly, the fee-sharing arrangement needs to be laid down in a written agreement, the existence and modalities of which has been approved by the investment fund.

Soft commissions paid to an asset manager by a financial intermediary are only authorized provided: the financial intermediary has only been chosen in the interest of the UCI; the commission is in kind and benefits the asset management service; the remuneration cannot be directly paid to an individual; the arrangement is laid down in writing and has been communicated for the UCI's approval; and the asset manager has established a policy in relation to accepting soft commissions.

Hedge fund exposure

The possibility to provide retail investors with direct exposure to hedge funds has only changed marginally. Belgian UCIs offering an absolute performance at maturity through the use of specific techniques or derivatives are now allowed to invest under certain conditions in a fund of hedge funds, an index of hedge funds or a basket of hedge funds. The main restriction is that investors must be offered a capital guarantee or capital protection.

These requirements limit the possibility to distribute hedge funds to the public in Belgium considerably. Unit-linked insurance policies seem the only way to provide retail investors with this exposure. The unit-linked insurance policy has however also become more strictly regulated after more stringent rules on life-insurance products were introduced. Also, case law has emerged re-characterizing certain life-insurance policies into mere investment products. The relevant case law is, however, limited to cases in relation to tax and inheritance law issues and does not include re-characterizations of the policy for regulatory purposes.

Changes expected after Prospectus Directive implemented

Belgium has not yet implemented the Prospectus Directive into Belgian law but is expected to do so shortly. Although general offering rules are already in line with the Prospectus Directive on several points, the regulatory funds framework will need to be amended considerably given that closed-ended UCIs are within the scope of the Directive. This will especially be the case in relation to the passport granted to the prospectus issued by a closed-ended UCIs incorporated in another EEA country. Uncertainty exists, however, about how the offering rules under the Prospectus Directive and the offering rules under the funds framework will be aligned.

The Prospectus Directive could introduce a dichotomy between the offering rules for open-ended funds and these for closed-ended funds. First of all, the rules on dissemination of advertising laid down in the Prospectus Regulation authorize certain marketing techniques such as cold calling and non-solicited e-mails, which are not authorized for the marketing of open-ended funds. Secondly, the private placement rules provided for by the Prospectus Directive will not automatically apply for open-ended investment funds. Without any explicit modification to the Belgian rules, open-ended and closed-ended investment funds could become subject to a separate set of private placement rules.

A break from favourable tax treatment of accumulation units

Belgian investors in accumulation units of UCIs traditionally benefited from a favourable tax regime. Capital gains realized when redeeming or selling shares are exempt under Belgian law, so the accrued income obtained through capitalization or accumulation remained exempt from income tax.

A law of December 27 2005, which entered into force on January 1 2006, introduces a break from this favourable treatment. The law introduces a 15% tax on the part of the redemption amount representing the income accrued through accumulation. The tax is, however, limited to accumulation units in Ucits funds investing more than 40% of their assets in debt claims. Furthermore, the tax only applies to individuals resident in Belgium. Belgian legal entities and non-residents are not caught.

Ucits funds investing more than 40% of assets in debt claims

Only individuals investing in UCIs with a specific investment policy and regulatory status are liable to be caught by the tax.

Debt claims are defined by reference to the definition given to this concept in the Savings Tax Directive, that is, fixed income securities and cash (excluding debt securities issued before March 1 2001, which were grandfathered under the Saving Tax Directive).

As to the 40% trigger, uncertainty exists on several levels.

First of all, it is uncertain how and when the 40% should be measured. It is not clear whether the 40% should be measured on an average annual basis or an end-of-year basis. It is also not clear whether the trigger should be calculated at the moment redemption is requested or at any other moment.

Secondly, the law mentions UCIs investing directly or indirectly more than 40% of their assets in fixed income. The formulation directly or indirectly was most probably used to catch funds of funds. However, it could also be argued that the tax applies to UCIs that, through the use of derivatives, create a synthetic asset allocation where the fixed income component exceeds 40%

The tax will only apply in relation to funds that have been granted a Ucits passport by their home state regulator. Funds that do not qualify as Ucits escape the tax, unless they are incorporated outside the EEA.

Accumulation units

Only accumulation units will be caught by the new tax. The characterization as accumulation units will become the characterization by default. Any unit that does not qualify as a distribution unit will be considered an accumulation unit and come within the scope of the new tax.

Characterization as distribution units will depend only on the description of the distribution policy linked to the units or unit class in the statutes/management rules of the UCI. To qualify as distribution units, the statutes/management rules must expressly provide for the payment in the form of dividends of "all net income collected, minus related remunerations, commissions and expenses" that are attributable to fixed income securities and cash held by the fund.

Redemption

The tax will only apply in case of redemption of units, that is, if the fund buys back the units. The tax does not apply in relation to the purchase and sale of units on the secondary market. This carve-out seems to be more the result of oversight than deliberate intention of the legislator. It is doubtful whether it will remain in place.

Accrued income component of the redemption amount

The new tax does not necessarily catch the entire redemption amount. Until January 1 2008, only the part of the redemption amount attributable to fixed income the fund earns during the period the investor was holding its participation will qualify as taxable base for the new tax.

Questions remain as to how to determine what part of the redemption proceeds are attributable to fixed income earned by the fund. It is provided that, if the fund does not provide information as to the exact amount representing the fixed income, the taxable income will be deemed equal to:

• in the period from January 1 2006 to 30 June 2006, the difference between redemption and acquisition price; and
• as of July 1 2006, to a notional income calculated on the basis of a rate of interest to be set by royal decree.

As of January 1 2008, the taxable base will be extended to include the value in the fund's net asset value, which is attributable to capital gains, net of losses, realized on debt claims.

Levy

The tax will in principle be levied by withholding 15% at the moment the redemption proceeds are paid to the investor. Only if the redemption proceeds are paid out through a paying agent established outside Belgium would the tax not need to be withheld. In this case, the investor will be obliged to report the income in their annual tax return, and will be taxed at the rate of 15% plus local surcharges.

Issues of cross-border distribution

Some of the features of the new tax are clearly unfavourable for cross-border distribution of non-Belgian UCIs into Belgium. It is not excluded that these would be considered to be discriminatory against non-Belgian UCIs. The limitation of the tax to funds with a Ucits passport and the formalistic definition of distribution units are the two most striking examples.

Limiting the tax to funds with a Ucits passport makes it much easier for Belgian funds to avoid the new tax than for non-Belgian funds. The distribution in Belgium of a non-Belgian non-Ucits is – although not impossible – much more difficult than the distribution of a Belgian non-Ucits. First of all, such funds need to comply entirely with the investment rules and prohibitions applicable to Belgian non-Ucits. It also adds an additional exhaustive examination of the fund and its documentation to the one undertaken in its home member state.

Another troublesome point is the formalistic definition of distribution units. The sole reliance on express wording in the statutes management rules makes it difficult for units of non-Belgian funds to qualify as distribution units. This would require that funds incorporated outside Belgium re-draft their statutes/management rules in accordance with Belgian law.

Existing taxes and regulatory fees

The successive modifications to the Belgian stamp duty regime seem to have come to an end with the increase provided by the law of Law of December 27 2005. As to the taxes borne by UCIs distributed in Belgium, the annual tax on the net subscriptions was increased further to 0.07 % as of January 1 2005. The regulatory fees system was rather unexpectedly rearranged for non-Belgian UCIs.

Stamp duty increased

Together with the partial removal of the favourable tax treatment of accumulation units, the rate of the stamp duty applied to redemptions and conversions of accumulation units was increased from 0.5% to 1.1%. The duty remains capped at €750 a transaction.

The stamp duty regime has been subject to successive changes over the last two years. The process started with a judgment of July 15 2004 by the European Court of Justice declaring the Belgian stamp duty regime not compatible with European law to the extent it applied to subscription of securities. After this judgment, the Belgian legal framework was brought in line with European law. Stamp duties would only apply in relation to the redemption and conversion of accumulation units (and in the case of secondary market transactions). The existing cap on the stamp duties was abolished most probably to compensate the loss of earnings caused by the abolition of the stamp duties at subscription and conversion. However, the cap was quickly re-introduced by a Law of April 28 2005 but increased for accumulation units to €750 a transaction.

Annual tax borne by UCIs on net subscriptions increased

As was already provided for in the 2003 Programme Law, the annual tax on the net subscriptions collected in Belgium was increased on January 1 2005 to 0.07%. The tax will be further increased to 0.08% as of January 1 2007.

This annual tax, although already introduced in 1994, became an important issue for the fund management industry in 2004, when not only its taxable base was modified but also its scope considerably extended. As of that date non-Belgian UCIs registered for public distribution in Belgium were also subject to the annual tax. These UCIs would be taxed on the net amounts subscribed to through the intervention of a Belgian intermediary. The tax has been criticized for being discriminatory in relation to non-Belgian UCIs.

Regulatory fees

Belgian UCIs and non-Belgian UCIs registered for public distribution in Belgium need to pay an annual regulatory fee to the Belgian regulator, the Banking, Finance and Insurance Commission. The calculation method and tariff of these fees was changed in 2005.

In relation to Belgian UCIs, only small changes have been made for funds of funds and Belgian UCIs in general. The main change concerns the fee system for non-Belgian UCIs. The complicated variable fee system based on the net subscriptions collected in Belgium has been replaced by a fixed fee system. Under this system, the fixed fee per sub-fund is €2,000 for Ucits and €10,000 for non-Ucits. The fixed fee in the first year of registration will be increased by 50% to cover the costs of the regulator in relation to the examination of the registration request.

Tax developments dampen enthusiasm

The welcome modernization of the Belgian regulatory framework has brought fund regulations in line with international standards and practices and has solved existing uncertainties. The developments in taxation of investors and funds have, however, downplayed the importance of these regulatory events. The break away from the traditionally favourable tax treatment of accumulation units has had an important impact.

Author biography

Bert Verdoodt Clifford Chance Brussels Bert Verdoodt is a lawyer at Clifford Chance Brussels, and member of a team of specialist fund and investment management lawyers. He specializes in the EU and Belgian legal and regulatory aspects of investment funds.