IFM02235 - Authorised investment funds (AIFs): structure, arrangement and tax status of funds: manager's “box”

The amount available for distribution by an authorised investment fund is increased by amounts paid to share in income on the creation of units and is reduced where any units are cancelled. In parallel with the creation and cancellation of units, the manager may operate a “box”. That is, the manager will repurchase units from unit holders, hold them for a period, and then sell them on to new unit holders. The bid price paid by the manager will include income accrued up to the date of sale. Further income will accrue while the repurchased units are held by the manager up to the date when such units are acquired by new unit holders. When the manager sells the repurchased units to new unit holders, the offer price will reflect income accrued up to that date of sale by the manager. The new unit holders have paid a price that reflects income accrued up to the date of their purchase and as Group II unit holders are entitled to a capital return by way of equalisation as part of their first distribution (see IFM02230).

Where a manager operates a box and sells repurchased units to new unit holders, no units have been created or cancelled. The new unit holders have not paid any amounts to share in the income on the creation of units but are nevertheless entitled to a capital return by way of equalisation as part of their first distribution. In effect the fund has an amount to distribute which exceeds the income payable to all unit holders. On the other hand the fund is required to pay out equalisation to the new unit holders but no units were created. The extra amount will equal the equalisation to be paid to new unit holders. The manager is then treated as having topped up the equalisation amount payable to unit holders and as having received that same amount as income notwithstanding that the manager no longer holds the units.

Example

An AIF has two unit holders A and B each owning one unit.

The capital value of the AIF is £1000 and income accrues at 8% per annum throughout the distribution period, which is six months.

After three months A decides to sell a unit and the price paid by the manager is £510. (This is made up of £500 representing the underlying capital value and £10 reflecting the accrued income - £1000 x 8% x 3/12 x 1/2 = £10.) A receives this as a capital sum.

The manager holds the unit in the box for one and a half months, a further £5 income accruing to the AIF.

The unit is then sold to C who pays £515 made up of £500 capital value and £15 accrued income, (£10 for the first 3 months and £5 for the next month and a half). The manager purchased the unit from A for £510 and sold it to C for £515. While C acquired the unit for £515, that unit was not created by the AIF and no equalisation amount was received by the AIF on that purchase.

At the end of the distribution period the amount available for distribution is £40 of income (£1000 x 8% x 6/12) no amount in the form of equalisation. C is entitled to returned equalisation of £15 and in practice the manager is treated as topping up the equalisation by £15 in exchange for receiving income of £15.

B and C each receive £20. B receives £20 income having held a unit throughout the distribution period. C receives £5 of s income (reflecting the one and a half months which C held a unit) and £15 in the form of returned equalisation. Note that in practice calculations would be done on a daily and not a monthly basis.

Tax treatment of manager

Where a manager repurchases units from unit holders into their box and then sells the repurchased units to new unit holders, all payments and receipts of the manager will be part of its trade. However if units are held by the manager as investment units rather than dealing units (they are not held in the course of the manager’s trade) then the treatment will be different - see IFM03320 for details.