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It is rare to see family offices as taxable entities. Their primary funding source is usually that of the family directly, or indirectly by the returns on investments made. Family offices are in place primarily to serve a family, and it is unusual to see them make a profit. However, even if they are not subject to tax themselves, tax is a relevant issue for every family office, even in a tax-free region such as the GCC.
The 2016 Deloitte Indirect Tax Client Survey shows that while 83 per cent of respondents were concerned by the introduction of value-added tax (VAT), only 31 per cent had undertaken contingency planning. The financial implications are likely to be the most keenly felt for any business, not only the cost of updating their business operations to be VAT compliant, but also the ongoing costs where VAT may be wholly or partially irrecoverable, which is of particular relevance to family offices.
Some family offices will be sufficiently commercial to enable them to register for VAT and reclaim some or all of their VAT. But given the complexities and range of family office structures, the authorities are likely to closely examine VAT reclaims from such entities.
These entities should be taking steps now to put in place robust processes and procedures as well as training programmes to ensure full compliance and understanding of the rules.
Those family offices that cannot register for VAT, however, such as a standalone family office, which is a separate legal entity providing concierge services for the family, or an embedded family office (ie, one that has grown organically from the family business, but still shares office space, staff and supplies with the business) will not be able to reclaim VAT on inputs.
Embedded family offices are at much higher risk and should already be putting in place revised processes and procedures to avoid over-claiming VAT. Where the embedded family office is part of a VAT-registered business and the two share office space, or stationery supplies, among others, a pro-rated deduction in the VAT reclaims must be made by the VAT registered business. This is because, even if the trading business can recover VAT charged on the rent or on suppliers invoices, the proportion attributable to the family office cannot be reclaimed.
Potential effect of VAT on family businesses
The implications of getting VAT payments and reclaims wrong range from reputational to financial penalties. The topic of VAT should be firmly on the board agenda by now, and the family office is in a good position to ensure this message reaches all family members.
The family and the business will both be impacted by VAT the family as a result of having to pay VAT-inclusive costs of their own personal expenditure, and the business by a fall in demand due to prices increasing to cover VAT, or by costs rising as the business absorbs the price hike. In the Deloitte survey, 56 per cent of respondents felt the introduction of VAT would have a negative impact on their business, with a majority predicting they would see a direct impact of VAT on their profit margins.
The Common Reporting Standard (CRS) means banks, brokerage companies, trust companies, custodians and other financial institutions will be required to provide information about the account and account holders to the central authorities, ready for potential exchange with jurisdictions of the account holders residence.
The family office is likely to be on the frontline of the impact of CRS on family members; the family office is often the main liaison point between the family and the financial institutions that serve them. Tasks such as completing forms, opening accounts and managing logistics often fall to the team in the family office. This means they can also play an important role in ensuring tax residence information held by the institution is correct and up to date.
Family offices must also understand how they themselves are classified for CRS purposes ie, if they are a financial institution or an active or passive non-financial entity, which may have to undertake reporting of their own, or must report the correct information about their beneficial owners to the various banks.
There are 50 countries scheduled to exchange information under the CRS in late 2017. Bahrain, Kuwait, Lebanon, Qatar, Saudi Arabia and the UAE are in the late adopters group and have committed to exchange information in 2018. This means they are beginning to collect and review information on file this year.
It is imperative to carry out a review of the familys tax affairs on a global basis, to ensure that all discrepancies and errors have been identified and regularised before the option of voluntary disclosure is removed and information is exchanged. The Organisation for Economic Co-operation & Development reported in March 2017 that close to $89bn has been received in unplanned tax revenue as a result of initiatives in several countries designed to encourage disclosure in the lead-up to the first round of information exchanges.
The family office involved in travel and visa planning can add value by keeping a careful watch on the number of days an individual spends in each jurisdiction, prompting them to seek tax advice when the number of days is of concern. This is important not only from their own personal tax point of view, but also from the family business perspective.
Many jurisdictions define the residence of a company to be where the management and control resides; if one or more of the directors of the company becomes (inadvertently resident or otherwise) in a taxable jurisdiction, the profits of the company could be drawn into the tax net of that country.
The residence definition in the CRS is much simpler than the residence rules applied in most tax laws. For this reason, a financial institution may assume an individual to be resident somewhere where they are not tax resident. This could lead to unnecessary enquiries from tax jurisdictions in which the individual has no ties or tax exposure. The family office should be on standby to deal with such enquiries, and having professional advice to hand will be invaluable.
It is clear that all family offices as well as their associated families will be impacted by the changing global fiscal landscape in which they operate. Few businesses or families have no links with other jurisdictions, and so they need to be aware of the varied tax rules that affect them and their businesses.
Fiona McClafferty is a UK chartered tax adviser and has been working in private client tax for high-net-worth individuals and ultra high-net-worth individuals for more than 16 years