Singapore is one of the world’s premier financial centers. One of the key reasons for its success has been its thriving asset and wealth management industry.
Total assets under management (“AUM”) in Singapore grew at 15 percent compound annual growth rate in the past five years and 19 percent in 2017, based on the latest data available from the Monetary Authority of Singapore. We expect Singapore along with Hong Kong to continue to dominate as regional Asia Pacific asset management hubs in 2025, and continue to compete as global financial centers.
We discuss the key proposals made in the Singapore Budget 2019 (the “Budget”) which was delivered on February 18, 2019 and their impact on the asset and wealth management (“AWM”) industry in Singapore.
Why an Incentivized Structure?
To promote fund management activities in Singapore, Singapore offers fund management tax incentives to investment funds to mitigate their Singapore income tax exposure by achieving tax neutrality and tax certainty.
Tax neutrality and tax certainty are key to any investment fund structure. A structure should not expose investors to more burdensome taxation than if they were to invest directly. A structure should also provide certainty of taxation in that it should be possible to determine the tax consequences at every level, from income from investments to the distributions to investors.
Such tax incentive schemes or safe harbor rules for investment funds are also commonly provided in other AWM centers. The U.K., for example, has its investment management exemption regime subject to certain conditions. Closer to home, Hong Kong also has profits tax exemption for offshore funds and is in the midst of enhancing its fund tax exemption regime to also cover onshore funds.
Substance-based Tax Incentives
While Singapore is not a member of the Organization for Economic Co-operation and Development (“OECD”), it is a base erosion and profit shifting (“BEPS”) associate and embraces OECD global initiatives. Consistent with the international tax developments, Singapore has always respected the need to have substance and Singapore’s tax incentive regimes are designed with Singapore substance as the underlying requirement.
The three commonly used tax incentives for funds are:
- The fund scheme under section 13CA of the Income Tax Act (the “Act”) (the “13CA Scheme”);
- The Singapore Resident Fund Scheme under section 13R of the Act (the “13R Scheme”);
- The Enhanced-Tier Fund Scheme under section 13X of the Act (the “13X Scheme”).
Across all three schemes, the investment funds must be managed by fund management companies in Singapore that hold capital markets services licenses under the Securities and Futures Act (Cap. 289) for fund management or that are exempted under that Act from holding such a license. The 13X Scheme has an additional headcount requirement (minimum three investment professionals) for the Singapore based fund management company. The 13R and 13X Schemes also impose minimum business spending conditions (local spending for 13X Scheme).
Further, where the investment fund is set up as a company in Singapore, the 13R and 13X Schemes require the company to be a tax resident in Singapore (i.e. controlled and managed in Singapore) and to use a Singapore-based fund administrator. All these conditions are the building blocks in ensuring that investment funds set up in Singapore would have substance in Singapore if they are seeking to rely on the Singapore tax incentive regime. The one aspect where the Singapore tax incentive schemes seem to distinguish themselves is the insistence of front office investment management professionals in Singapore rather than just back or mid-office employees.
Key Proposals in Budget 2019
Extension of the 13CA, 13R and 13X Schemes
The above schemes were due to expire on March 31, 2019. The Budget proposes an extension of these schemes to December 31, 2024. The withholding tax exemption and GST remission for funds under these schemes will accordingly be extended to December 31, 2024.
Scope of Qualifying Income
The 13CA, 13R and 13X Schemes provide income tax exemption on “specified income” derived from “designated investments.” In line with the international tax developments to ensure parity, the Budget proposes removal of currency and counterparty restrictions in the “designated investments” list and inclusion of Singapore-sourced interest (e.g. interest from Singapore borrowers or bond issuers) as part of “specified income.” Further, the list of designated investments has been expanded to cover additional items such as credit facilities, certain Islamic financial products, etc. in order to keep up with the array of relevant financial products invested by funds.
Refinements to the 13CA and 13R Schemes
The 13CA and 13R Schemes were first introduced to attract the management of moneys of non-Singapore investors. Hence, these schemes impose two shareholding conditions:
- The first test specifies that the fund relying on 13CA and 13R Schemes should not be 100 percent owned by Singapore persons.
- The second test categorizes investors in 13CA and 13R funds as qualifying and non-qualifying investors. Broadly, a non-qualifying investor refers to a non-individual Singapore investor that (along with its associates) invests more than 30 percent/50 percent in the 13CA/13R fund. Non-qualifying investors are subject to penalty (calculated by applying the corporate tax rate of 17 percent on the investor’s share to the 13CA/13R fund’s income per audited accounts) and such a penalty has to be reported in the non-qualifying investor’s own income tax return in Singapore.
The Budget proposes the removal of the first test with effect from year of assessment 2020 (i.e. financial year ending in 2019). With this change, a 13CA/13R fund can be 100 percent owned by Singapore persons. This allows fund managers to broaden their target investor base and allow them to raise more funds from Singapore investors. The second test continues to apply to investors in 13CA/13R fund.
Refinements to the 13X Scheme
The 13X scheme was introduced in 2009. Unlike the 13CA and 13R schemes, the 13X scheme does not impose any shareholding restriction. Further, there is no concept of qualifying and non-qualifying investors and hence no concept of penalty under the 13X Scheme.
This enhanced regime was introduced to provide Singapore-based fund managers with greater flexibility in sourcing mandates. The 13X scheme however (being an enhanced scheme) requires, among others, the applicant fund to have at least S$50 million ($37 million) of fund size at the point of application and the Singapore fund management company to employ at least three investment professionals.
The Budget proposes a few changes to the rules under the 13X scheme which will take effect on or after February 19, 2019. These changes (as discussed below) are primarily made to ensure that the 13X scheme remains relevant taking into account the commercial needs of the fund managers.
- 13X umbrella structures. The 13X scheme was enhanced in 2015 to cover special purpose vehicles ("SPVs") held by a master fund, subject to conditions. In order for the SPVs to be covered under the master fund’s 13X tax incentive, the SPVs must be set up as companies, must be wholly-owned by the master fund and there cannot be more than two tiers of SPVs. The drawback here was the insistence of the SPV to be a company even though the industry was setting up SPVs in other legal forms. Further, the requirement for the master fund to wholly own the SPVs did not accommodate co-investments.
- The Budget proposes removal of the above conditions. As a result, fund managers may use SPVs in any legal form depending on commercial needs and co-investors are allowed to participate at the SPV level. It has been clarified that such co-investments are permitted as long as the co-investors are foreign investors or incentivized (approved under 13CA, 13R and 13X Schemes) funds. In addition, the restriction to cover only two tiers of SPVs under the 13X Scheme will be removed.
- Committed capital concession. The 13X scheme currently only allows private equity, real estate and infrastructure funds to meet the minimum fund size condition based on their committed capital (as opposed to actual funds drawn down). To level the playing field, the Budget proposes debt and credit funds to be able to enjoy the committed capital concession.
- Managed accounts. The 13X scheme currently applies to a fund that is an investment vehicle that does not carry out any business other than investment business. This requirement precludes managed accounts from qualifying for the 13X scheme since the investment account managed by the fund manager may belong to an entity with other active business operations. The Budget proposes that the 13X scheme will be applicable to managed accounts as well.
The industry has welcomed the Budget announcements and should now consider the following next steps:
- Fund managers should study the expanded list of specified income and designated investments to see what additional investment strategies can be managed from Singapore.
- Fund managers managing funds with 100 percent Singapore-based investors (especially if the investors are individuals) should explore the use of 13CA or 13R schemes (which impose lower economic conditions as compared to the 13X scheme) given the proposed refinement of the shareholding condition.
- Private equity, real estate and infrastructure funds which often utilized the 13X umbrella structure can now explore the inclusion of its co-investment vehicles as part of the umbrella structure.
The announcements, along with the expected implementation of Variable Capital Company framework in 2019, will see Singapore retaining its status as a leading financial center of Asia and the world.
Anuj Kagalwala is a Partner and Asset & Wealth Management Tax Leader and Trevina Talina is a Senior Manager, PwC Singapore