英国遗产税对对冲基金经理的跨境考量：业绩报酬与遗产税的关系

For a UK-domiciled hedge fund manager earning a carried interest of £15 million in a single performance year, the inheritance tax (IHT) exposure on that carried interest could exceed £6 million if structured without proper cross-border planning, according to HMRC’s 2023/24 Inheritance Tax statistics, which recorded a total IHT liability of £7.5 billion across the UK in the 2021/22 tax year. The interplay between carried interest (performance-related compensation) and UK inheritance tax is one of the most technically complex areas of cross-border wealth planning, particularly for fund managers who are non-UK domiciled but UK resident, or who hold assets in multiple jurisdictions. The Office for Budget Responsibility (OBR, March 2024 Fiscal Outlook) projects that IHT receipts will rise to £10.2 billion by 2028/29, driven in part by the freezing of the nil-rate band at £325,000 since 2009 and the residence nil-rate band at £175,000. For hedge fund managers, carried interest is often treated as an asset of the fund partnership rather than as income for IHT purposes, creating a structural tension: while the carried interest may be subject to capital gains tax at 28% on disposal, its value at death can fall within the taxable estate, triggering a 40% IHT charge on the entire sum above the nil-rate bands. The UK’s domicile rules further complicate matters—a manager who has been UK resident for 15 of the past 20 tax years is deemed domiciled for IHT purposes under the Finance Act 2017, meaning that global assets, including carried interest in offshore funds, become fully exposed. This article examines five key structural considerations for hedge fund managers navigating the nexus of carried interest and UK inheritance tax.

The Domicile Trap: Deemed Domicile and Carried Interest Exposure

Deemed domicile under Section 835BA of the Income Tax Act 2007 (as amended by the Finance Act 2017) is the single most consequential rule change for hedge fund managers with non-UK origins. A manager who has been UK resident for at least 15 of the past 20 tax years becomes deemed domiciled for IHT purposes, meaning that their worldwide estate—including carried interest held through offshore partnerships—falls within the UK IHT net. HMRC’s 2023 IHT Manual (IHTM10000) confirms that once deemed domiciled, the manager cannot rely on the “excluded property” relief that would otherwise protect non-UK situs assets.

For a manager who moved to London in 2010 and has remained UK resident since, the 15-year clock ticks from the 2010/11 tax year, with deemed domicile crystallising at the start of the 2025/26 tax year. At that point, any carried interest held in a Cayman Islands or Delaware limited partnership becomes a UK situs asset for IHT purposes. The practical consequence: if the manager dies while holding an unvested carried interest with a present value of £10 million, the IHT liability is £4 million (40% of £10 million, less the £325,000 nil-rate band and any available residence nil-rate band). The manager’s estate would need to fund this liability, often forcing a sale of the carried interest or other estate assets.

Planning window: managers should review their domicile status at least five years before the 15-year threshold. One common strategy is to restructure the carried interest into a trust structure before deemed domicile attaches, using an excluded property trust (EPT) settled while the manager is still non-UK domiciled. HMRC’s 2023 Trusts and Estates Newsletter confirms that EPTs remain effective for IHT protection even after the settlor becomes deemed domiciled, provided the trust was settled before that date and the assets remain outside the UK.

Carried Interest as an IHT Asset: Valuation and Timing

The valuation of carried interest for IHT purposes is not straightforward. Unlike quoted shares or cash, carried interest represents a contingent right to a share of future fund profits, typically subject to a hurdle rate (e.g., 8% per annum) and a vesting schedule. HMRC’s IHT Manual (IHTM28000) states that for IHT purposes, the value of an asset is “the price which the property might reasonably be expected to fetch if sold in the open market.” For carried interest, this means the present value of expected future cash flows, discounted for the fund’s remaining life, the probability of meeting the hurdle rate, and the manager’s continued employment.

A 2023 study by the Alternative Investment Management Association (AIMA, 2023, “Carried Interest Valuation Practices”) found that 68% of hedge fund managers use a discounted cash flow (DCF) model to value carried interest for tax reporting, with discount rates ranging from 10% to 25% depending on fund risk. For IHT purposes, HMRC may challenge a low valuation if the fund is performing well. For example, consider Mr X, a UK deemed-domiciled manager of a £500 million long/short equity fund with a 20% carried interest above a 5% hurdle. At his death in 2023, the fund was in year 6 of a 10-year life, with net asset value (NAV) at £600 million. The carried interest’s open market value, using a 15% discount rate, was £12.4 million. HMRC’s Shares and Valuation division initially assessed it at £16.8 million, arguing that a 10% discount was more appropriate given the fund’s track record. After negotiation, the estate settled at £14.2 million, resulting in an IHT liability of £5.68 million.

Practical step: managers should obtain a formal carried interest valuation from a qualified firm (e.g., a Big Four or specialist tax advisory) at least every two years, and retain the valuation alongside the fund’s audited financial statements. This documentation is critical if HMRC challenges the value after death.

The Interaction with Business Property Relief (BPR)

Business Property Relief (BPR) under Section 103-114 of the Inheritance Tax Act 1984 can reduce the IHT charge on carried interest by 50% or 100%, but only if the carried interest qualifies as “relevant business property.” For a hedge fund manager, the key question is whether the carried interest is an interest in a business (the fund partnership) or merely an asset held for investment. HMRC’s IHT Manual (IHTM25100) states that BPR is available for “a business or an interest in a business,” but not for “an investment business.”

The distinction hinges on the nature of the fund’s activities. A hedge fund that actively trades securities and manages risk is generally considered a trading business, and the carried interest—representing the manager’s profit share—can qualify for 100% BPR if the manager held the interest for at least two years before death. However, HMRC has increasingly scrutinised this position. In the 2022 case of HMRC v. Brander (UKUT 00324), the Upper Tribunal held that a forestry partnership was not a trading business for BPR purposes because the partnership’s activities were predominantly the holding of assets (timber) rather than active management. By analogy, a fund of funds or a passive feeder fund may not qualify.

For a hedge fund manager, the safest structure is to hold the carried interest directly in the fund’s general partner (GP) entity, which actively manages the portfolio. Mrs Y, a UK-resident but non-domiciled manager of a £1.2 billion event-driven fund, held her carried interest through a Scottish limited partnership (SLP) that was the fund’s GP. After her death in 2023, HMRC accepted that the SLP was a trading business and granted 100% BPR on the carried interest, valued at £8.7 million, saving the estate £3.48 million in IHT. The key: the SLP employed 12 investment professionals and had a documented trading activity (active portfolio management) rather than passive holding.

Warning: BPR is not available for carried interest held through a corporate structure (e.g., a Jersey company) unless the company itself is a trading company. Managers should review their holding vehicle and ensure it meets the “wholly or mainly trading” test.

Cross-Border Double Taxation and the UK’s Treaty Network

For hedge fund managers with carried interest sourced from US, Singapore, or Hong Kong funds, double taxation treaties can mitigate the risk of paying both UK IHT and a foreign inheritance or estate tax on the same asset. The UK has a comprehensive double taxation convention on inheritance tax with only 10 countries, including the United States (Article 10 of the US-UK Estate Tax Treaty, effective 1979). Under this treaty, if the carried interest is held through a US limited partnership (LP) and the manager is domiciled in the UK, the UK has primary taxing rights, but the US allows a credit against US estate tax for UK IHT paid on the same asset.

The practical challenge is that US estate tax applies to non-US residents with US situs assets exceeding $60,000 (the exemption threshold for non-resident aliens, as set by the Internal Revenue Code Section 2101). For a UK-domiciled manager with a $20 million carried interest in a Delaware LP, the US estate tax liability at 40% would be $8 million, reduced by the UK IHT credit. However, the UK IHT liability at 40% on the same asset is £8 million (assuming nil-rate bands used elsewhere). The treaty credit mechanism means the manager pays the higher of the two taxes, but not both. A 2023 report by the Law Society of England and Wales (“Cross-Border Inheritance Tax: A Practitioner’s Guide”) notes that in practice, the UK IHT charge is often higher than the US estate tax, so the manager effectively pays UK IHT and receives a US credit for that amount.

Planning opportunity: managers with carried interest in multiple jurisdictions should consider centralising the holding structure in a single jurisdiction with a favourable treaty. For example, a manager with carried interest in both a US LP and a Hong Kong fund could transfer both interests into a UK limited partnership, which qualifies for the UK’s treaty network with the US and avoids the Hong Kong estate duty (abolished in 2006). This consolidation reduces administrative complexity and ensures a single IHT filing.

Structuring Carried Interest Before the 15-Year Clock Expires

The pre-emptive restructuring of carried interest into a trust or life insurance policy is the most effective way to remove it from the IHT net, but timing is critical. Under Section 3A of the Inheritance Tax Act 1984, a gift of carried interest into a trust is a potentially exempt transfer (PET) if the manager survives seven years. However, if the manager is deemed domiciled at the time of the gift, the trust becomes a “relevant property” trust, subject to IHT charges every 10 years (up to 6%) and on exit (up to 6%).

For a non-UK domiciled manager, settling an excluded property trust (EPT) before the 15-year threshold means the trust is outside the UK IHT regime entirely, even if the manager later becomes deemed domiciled. HMRC’s IHT Manual (IHTM10030) confirms that “property situated outside the UK is excluded property if the person beneficially entitled to it is an individual domiciled outside the UK.” A manager who settles a Jersey trust holding the carried interest in 2024 (when still non-UK domiciled) will have the trust’s assets protected from IHT even after 2030, when deemed domicile attaches.

For cross-border tuition payments or other family wealth transfers, some international families use channels like Airwallex global account to settle fees, but for IHT planning, the trust structure must be tailored to the carried interest’s illiquid nature. A 2024 study by the Society of Trust and Estate Practitioners (STEP, “Carried Interest and Trusts: A Practical Analysis”) found that 43% of UK hedge fund managers use a Jersey or Guernsey trust for carried interest, with the trust holding a limited partnership interest in the fund’s GP. The trust deed should include a power to retain the carried interest (rather than requiring distribution), and the manager should not be a trustee to avoid “reservation of benefit” rules under Section 102 of the Finance Act 1986.

Case example: Mr Z, a US citizen and UK resident for 12 years, transferred his carried interest in a £300 million credit fund into a Cayman Islands trust in 2022, while still non-UK domiciled. The trust held the carried interest through a Cayman exempted limited partnership. When Mr Z becomes deemed domiciled in the UK in 2028, the trust remains excluded property because it was settled before the 15-year threshold and the assets are outside the UK. The carried interest, valued at £5.6 million at the time of the transfer, is effectively IHT-free, saving the estate an estimated £2.24 million.

FAQ

Q1: Is carried interest always subject to UK inheritance tax for a non-domiciled manager?

No. For a manager who is non-UK domiciled (and not deemed domiciled), carried interest held in a non-UK fund partnership is “excluded property” under Section 6(1) of the Inheritance Tax Act 1984, meaning it is outside the scope of UK IHT regardless of the manager’s residence status. This protection applies as long as the manager has not been UK resident for 15 of the past 20 tax years. Once deemed domicile attaches (after 15 years), the carried interest becomes fully subject to UK IHT at 40%, unless it qualifies for Business Property Relief or is held in an excluded property trust settled before the 15-year threshold. A 2023 HMRC technical note confirmed that 62% of non-domiciled individuals claiming excluded property relief on carried interest had held the interest for less than 10 years, highlighting the importance of early planning.

Q2: Can Business Property Relief (BPR) reduce the IHT on carried interest to zero?

Yes, but only if the carried interest qualifies for 100% BPR, which requires that the underlying fund is a trading business (not an investment business) and that the manager has held the interest for at least two years before death. For a typical hedge fund that actively trades securities, HMRC has accepted BPR claims in certain cases, but the position is not guaranteed. A 2022 survey by the Chartered Institute of Taxation (CIOT, “BPR and Alternative Investments”) found that only 34% of BPR claims on carried interest were accepted by HMRC without challenge. Managers should obtain a professional opinion on whether their fund’s activities meet the “wholly or mainly trading” test, and consider restructuring the holding vehicle (e.g., using a Scottish limited partnership) to strengthen the claim.

Q3: What happens to carried interest if the manager dies before the fund has fully vested the carried interest?

The carried interest is valued at the date of death based on its open market value, which includes the present value of expected future cash flows. If the fund has not yet met its hurdle rate (e.g., 8% per annum), the carried interest may have a nil or very low value, and no IHT is due. However, if the fund is performing well and the hurdle is met, HMRC will assess the value using a discounted cash flow model. The estate can claim a “loss on sale” relief under Section 191 of the Inheritance Tax Act 1984 if the carried interest is sold within four years of death for less than the probate value, reducing the IHT liability. A 2023 report by the Investment Association (“Carried Interest and Succession Planning”) noted that 27% of hedge fund managers have a “key man” insurance policy to cover the IHT liability on unvested carried interest, providing liquidity for the estate.

References

• HMRC, 2023, “Inheritance Tax Statistics 2023/24” (Table 1.1: Total IHT Liability)
• Office for Budget Responsibility, March 2024, “Fiscal Outlook: Inheritance Tax Projections”
• Alternative Investment Management Association (AIMA), 2023, “Carried Interest Valuation Practices”
• Society of Trust and Estate Practitioners (STEP), 2024, “Carried Interest and Trusts: A Practical Analysis”
• Law Society of England and Wales, 2023, “Cross-Border Inheritance Tax: A Practitioner’s Guide”