Pivotal moment: wealth structuring

The long, nervy interval following the Great Crash of 2008. A strange time for private client advisers. There is much afoot, and clients look to their advisers to make sense of trying times, to finesse around new challenges. What does the world look like today for our clients?

Cliff edge

Governments almost everywhere are broke. Across Europe, the political structures of the continent teeter as increasingly unpopular and illegitimate governments wrestle with the problem of how to balance their books and then get elected ever again.

In the US, a divisive and acrimonious presidential campaign only serves to ramp up the tension as the ‘fiscal cliff edge’ created at the conclusion of the borrowing ceiling stand-off of 2011 grinds closer.

That will usher in both tax rises and spending cuts projected to smash the US economy back into recession. As government finances creak, it is clear that, for most countries, a hefty dose of lower spending and more taxes is going to be needed to stay afloat.

Cuts in spending are easy to sell if they hurt ‘scroungers’ or ‘fat cats’. Tax rises are easy as long as they hurt ‘the rich’. In the UK, the deputy prime minister has just redefined ‘rich’ to include someone earning £60,000 per year gross. So someone who can hopefully get a mortgage on a two-bedroom flat in outer London if they have some savings.

Most private client advisers will know plenty of ‘the rich’, even using a more conventional definition. Some of us even know a few ‘fat cats’. For those on the receiving end of the political rhetoric, these are alarming times.

In the UK, the rise in the top rate of income tax to 50 per cent turned up the heat, and the super-rich were said to be fleeing London, taking their wealth-creating talent and spending power with them to Switzerland. But, coming the other way were the rich of Athens, Dublin and Rome, joining the refugees of the Arab Spring in the scramble for Knightsbridge, along with more than a few who found Switzerland both over-crowded and tedious.

Hot house

The British response to the flow of hot money into swish houses is interesting. Britain craves mobile capital and, over the years, has shown more than a bit of ankle to get a good share of it. But now that capital is expected not merely to come, but to contribute a good deal more to ?the exchequer.

Proposals to tax high-value residential property in ‘envelopes’ (trusts and companies resident offshore, essentially), initially struck out at stamp duty avoidance, but have developed into an attempt to corral the globally mobile wealthy into paying UK inheritance tax – a largely optional tax which is spectacularly unpopular even among British people far too impecunious ever to be troubled by it.

Those who hold out will be hit ?with a shoddily constructed asset-value tax which is both market-distorting ?and heavily regressive at the very top ?of the market.

It is not yet clear what impact these changes will have, but so far it seems to be muted. Singapore, after all, barely dented its own high-end property boom by jacking up the stamp duty paid by foreigners to 15 per cent. A lot of capital is chasing both safety and growth in increasingly uncertain circumstances.

Meanwhile, the UK was busily removing the obstacles to non-domiciled residents bringing otherwise taxable offshore funds into the UK for investment in UK business. It has also reduced its eye-watering 50 per cent top rate of income tax (a political booby-trap left by the previous Labour government for their successors), while keeping tax on capital gains at surprisingly low ?levels, but with no relief for inflationary gains and steadily reducing corporation tax rates.

The UK seems to be wavering between taxing its wealthy and trying to encourage more in with ‘open for business’ signals.

Other countries have been even less assured in their responses. Confusion has reigned for months over French proposals to capture offshore trusts within the wealth tax net and force disclosure of their assets. At the end of September, the rules appear to have settled down to require disclosure of assets and payment of ‘special levies’ by those who have been benefitting from offshore trusts.

Ireland tried to deal with its own budgetary collapse in part with an annual levy on wealthy Irish citizens domiciled in Ireland regardless of residence, which allows offsetting of Irish taxes actually paid but not foreign taxes.

Press reports last year suggested that just ten people paid a total of less than €1.5m in the first year – suggesting either great Irish poverty, eye-watering evasion, or a lot of Irish millionaires already paying Irish income taxes.

The Irish government responded by extending the levy to non-citizens, but did not bother to hazard a guess at how many extra dozens of people would be affected as a result. In general, Ireland has tried to load up on indirect taxes – VAT accounts for more than half the additional revenue projected – while keeping income tax and corporation tax rates low.

Meanwhile, international efforts to stem the movement of undeclared money have persisted. Last winter, the Swiss banking industry was badly shaken by US Federal Prosecutors’ indictment ?of Bank Wegelin in the US and the seizure of millions from its US correspondent bank on the grounds that the entire bank was a ‘fugitive from justice’ and had been conspiring with Americans in flagrant tax evasion.

Wegelin had stepped into the shoes of UBS after it was rattled by the previous US clampdowns, and it remains unclear whether the world has now changed, or whether yet further Swiss banks are still braving that market. Loosely co-ordinated UK and German efforts to hammer the Swiss will shortly lead to citizens of those countries being given the ultimatum that they must certify tax compliance to their bankers, accept percentage-based levies on their Swiss accounts in lieu, or come clean and enter into (increasingly less generous) partial amnesty deals.

Some undeclared money clearly remains on the move, though who knows what holes it is trickling into now.

Money back

Hostile rhetoric from politicians. Higher taxes in many places. Confused and confusing signals from tax codes. Differing demands in different jurisdictions for those with complex affairs. Steady encroachment of disclosure rules on those who value the privacy or secrecy of the offshore world.

But there are reasons to be cheerful. The Bank of England’s quantitative easing (QE) programme has conjured into existence money worth 20 per cent of UK GDP. The Bank believes that this new money has boosted the value of stocks and bonds by 26 per cent, or about US$970bn.

Forty per cent of those gains went to the richest five per cent of British households. Though not so explicitly studied, the picture is likely the same in the US, where QE injections are running at staggering levels. Donald Trump is reported to have admitted that: “People like me will benefit from this.”

The reason for this concentration of gains among the wealthy is twofold: the first effect of QE is to support the prices of financial assets, whose ownership is highly concentrated. NASDAQ is up around 20 per cent this year, the Dow Jones more than ten per cent. Good news for those with a healthy portfolio.

The second effect is to lower further the cost of borrowing. For most people, this second effect is offset by banks’ collective realisation since Bear Stearns fell over that loans sometimes go bad – increased collateral requirements and risk premiums wipe out the theoretical saving for most people.

But if you have really serious collateral, available rates are astonishingly low. The combination of rapidly recovering stock prices and rock-bottom borrowing costs is a recipe for wealth-creation for those with plenty already.

Of course, the greatest monetary stimulus in world history was delivered in the People’s Republic of China. Government-mandated lending blasted billions of dollars of new money into the world economy, pumping up China’s economy to pre-crash growth levels and ensuring that commodity prices remained sky-high for the moment.

This has kept a good head of ?steam up in Asia, south America and parts of Africa as commodity-producers saw their prices effectively supported ?by Chinese QE. Of course, the same effect was presumably evident from developed world QE programmes, but the G-force produced by the British economy accelerating to 0.5 per cent growth for a quarter did not press the world too hard.

China’s new growth plan demands a slowdown and taxes aimed at calming the real estate boom in particular may mute this effect in the coming years.

So the picture is mixed. More regulation, taxes and political threats, but overall a climate of considerable economic opportunity. Money being made. But the nerves will persist.

For years, we said the world was changing fast, and no one minded because it seemed to be getting better. In the last half-decade, the world has changed fast, but it would take a brave man to declare that it was getting better.

One client invested his huge returns from shorting US sub-prime in buying up a massive tract of outback. “Does it have water?”, we asked. “Three bore-holes,” he replied, “and I’m building ?a nuclear bunker”.

Jon Rollason is an associate at Burges Salmon LLP www.burges-salmon.com