Asset price volatility, ultra-low interest rates and the general turbulence being inflicted by Covid-19 on financial markets is going to take its toll on both alpha generation and wealth preservation. It is vital that private banks and wealth managers do everything they can to safeguard performance in their investment portfolios. One way they could do this is through enhanced tax optimisation.

Choppy waters lie ahead
The first three months of 2020 have been synonymous with equity market volatility. For instance, Q1 saw the FTSE All Share Index tumble 26.6%; the S&P 500 down 20% and the Dow Jones dropping 23.2%. A number of publicly traded companies have suspended dividend payments whereas the survival of others now hangs in the balance. With yields on fixed income also falling precariously to unprecedented lows, investment opportunities are seemingly far and few between. Although equity markets have staged a rally, this could change in the event of various Covid-19 related headwinds.

With revenues so uncertain, it is essential that private banks and wealth managers identify efficiencies to maximise performance. They are doing this in several ways. Many private banks and wealth managers are negotiating fee discounts with their asset managers, an undertaking which could become easier if performance deteriorates. However, some forward-thinking private banks and wealth managers are now evaluating how they can obtain tax optimisation from their portfolios.

Supporting clients’ tax requirements
The implementation of the global standard on Automatic Exchange of Information (AEOI), an OECD-led (Organisation for Economic Cooperation and Development) initiative designed to clamp down on tax evasion through enhanced financial account information sharing between the tax authorities of different countries, has prompted investors to take the issue of tax optimisation more seriously, a point made by Christophe Lapaire, senior project manager at the Swiss Stock Exchange. “Investors are seeking out tax optimisation but not all banks and wealth managers are capable of doing this. If clients cannot get tax optimisation from their existing providers, they will look elsewhere,” he says.

Others concur that private banks and wealth managers have a largely mixed track record on providing tax relief services to their end investor clients. “Some market players have really good solutions in place in terms of software and processes but other providers do not. A number of providers simply use antiquated technology and are reliant on manual processing. This can make life incredibly difficult when trying to deliver tax relief services,” acknowledges Roman Von der Hoh, global head of tax services at Avaloq, a Swiss financial technology company.

Nonetheless, many of the providers that offer investment management services to clients do take this role very seriously. “As a wealth manager, we pride ourselves on robust client communications and service. As part of this service, we ensure that our clients benefit from foreign withholding tax relief at source where available, and help clients with the reclaim of foreign withholding taxes as much as possible, where source relief is not available. Not many wealth managers, however, have the infrastructure to offer this service because tax, especially with a foreign element, can be a very complex process. For us though, tax efficiency is part of the client service,” comments Philipp Mitterbauer, head of tax at Ruffer LLP, a UK-based wealth manager.

The importance of tax optimisation
So why is tax optimisation so integral? While it is true that many countries – including the UK – provide capital gains exemptions for foreign investors trading in the local market, other jurisdictions are not so generous, and this can have a detrimental impact on after-tax performance. Lapaire says Switzerland imposes a 35% withholding tax on dividends being paid out to resident and non-resident investors. While Lapaire says that many countries have negotiated double tax treaties to insulate investors from paying tax twice on any dividend payments received overseas, getting the money back is not always straightforward because the process is rather complex and fiscal authorities can be slow when processing payments.

The situation is made worse by the fact that many countries often have different or even contradictory taxation rules and requirements making it difficult to homogenise the process. In some markets, continues Mitterbauer, the procedures for initiating tax reclaims are lacking in detail. It is also not uncommon for tax laws to be changed arbitrarily. This can make investing across different markets very challenging from a tax perspective. As many investors do not have the right tax expertise or infrastructure to regularly monitor for tax changes across numerous countries, they may incur higher tax charges in certain markets, which they should otherwise have avoided or mitigated.

Such inefficiencies can shave bps off portfolio performance. Consequently, Mitterbauer adds that an effective operational tax function is essential if investors are to be shielded from excessive tax leakage at investment level and double taxation. He adds tax efficiency is conducive to the investment manager as it allows for new funds to be managed and subsequently re-invested. As investors etch out returns amid the downturn, tax efficiency will be an excellent USP for private banks and wealth managers to have at their disposal, helping them to attract more business.

Case study: Why tax optimisation is so important

The largest reclaim transaction in 2019 for one of our SIX clients amounted to CHF 137’000. The SIX charge for this tax reclaim amounted to CHF 470.- (all inclusive)! A highly valuable return on investment.

Robust data is pivotal
By having detailed and granular tax data attributes related to financial products available, consumers will be able to make investment decisions that are highly tax-efficient, says Juerg Stalder, Senior Product Manager at SIX Financial Information. Despite the positive intentions of the EU’s Markets in Financial Instruments Directive II (MIFID II) Investment Protection and Target Market rules, Stalder says some private banks and wealth managers have been deterred from providing clients with certain products fearing it could fall afoul of the regulation’s product governance and transparency criteria. This, Stalder argues, has meant that some investors are now unable to invest in certain tax efficient products because of concerns about their suitability.

Stalder says clients will primarily use data to assess if the products they are investing in are compliant with their own tax laws. Increasingly, however, this data is now being used by private banks and wealth managers to ensure tax optimisation on a portfolio level for clients. This can be done by combing through financial products and analysing whether or not investments with similar risk-return profiles are more or less tax efficient. “By delivering data to financial institutions in the wealth advisory space, this allows them to offer enhanced services and tax efficiencies to their own end clients,” says Stalder.

This entire data sharing process is fully automated and streamlined. One of the deficiencies at a number of wealth managers and private banks is that they frequently leverage tax manuals when providing tax advice to clients. Stalder says these manuals – while useful  for client advisor for knowledge and experience purposes – often do not go into in depth detail about the tax status of or cost associated with specific investment products. “The manuals contain guidelines for certain assets, but in terms of the data it does not focus on individual instruments. Our purpose is to gather as much information as possible about financial instruments and quantify the tax and costs, and provide additional data points,” comments Stalder.

The need to procure tax efficiencies has also been cemented by the MiFID II rules. Under MiFID II, there is an obligation on fund managers to disclose all of their costs and charges to investors. Although the rules did not specifically mention tax by name, investors are becoming increasingly sensitive to manager costs, and tax optimisation is something they are now pushing for in greater numbers, a trend that is likely to grow as the recessionary impact of Covid-19 becomes more visible.

Getting reporting right
While tax efficiency on investments can net meaningful bps savings, tax reporting to local and foreign fiscal authorities, and maintaining robust data checks – if done manually – can result in significant operational costs. Mitterbauer says the volume of tax reporting to fiscal authorities has increased exponentially, off the back of rules such as the US Foreign Account Tax Compliance Act (FATCA) and the OECD’s Common Reporting Standard (CRS). “Today’s tax reporting obligations for wealth managers are far more complex and comprehensive than they were ten years ago,” he says. It is therefore critical that providers have the software and data processing capabilities to examine and report tax information in a way that is as efficient as possible. 

How the Swiss Stock Exchange can help
The Swiss Stock Exchange provides a number of solutions around tax, including Relief at Source, Quick Refund and Tax Reclaim services. Its new Advanced Tax Services (ATS – Tax Reclaim Service) is an innovative solution aimed at banks and wealth managers. Most significantly, the service is readily available to organisations irrespective of whether their assets are held in custody at the CSD (SIX SIS Ltd.) or not, a level of flexibility which is genuinely unique to the ATS-Tax Reclaim product.

But how does ATS-Tax Reclaim support users? At the most basic level, ATS-Tax Reclaim enables private banks and wealth managers to offer a reclaim service at reasonable costs thereby helping them deliver value to their clients. The solution provided by the Swiss Stock Exchange is a straightforward end-to-end tax reclaim service, which has been developed over the last three years in close collaboration with its clients, namely domestic and international private banks and wealth managers.

The ATS-Tax Reclaim solution offers a huge number of advantages to private banks and wealth managers globally. In addition to allowing banks to provide a new service to end-clients, it will allow them to increase their book of business and entrench existing commercial relationships. That this service is being delivered by the Swiss Stock Exchange – a financial market infrastructure – as opposed to a competitor or consultant is also a very enticing proposition. 

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