The Disguised Investment Management Fee (DIMF) rules

The Disguised Investment Management Fee (DIMF) rules

If you’re an investment manager of a private equity fund, you’ll receive three types of return: 

1. A share of the annual management fee based on the value of fund assets;
2. A share of fund investments known as ‘carried interest’; and 
3. Returns from co-investment.

Historically, some investment schemes would make use of ‘GP LP or GP LLP’ planning to divert some of the annual management fee received by a fund to its limited partners. The intention being that you would be taxed on your partnership allocation by reference to the nature of the underlying fund investment returns and not as trading profits.  DIMF rules were introduced with effect from 6 April 2015 to counteract such planning.

Instances where the DIMF rules can apply

The scope of the DIMF rules is very wide and the rules catch any ‘untaxed’ amounts received where you directly or indirectly provide investment management services to the investment fund, unless the amount falls within certain exemptions for carried interest, co-investment return or a repayment of an earlier investment. Amounts may also be outside the scope of DIMF if it can be shown that they are being provided solely to incentivise executives, the grant of the award is independent of a fund’s performance and is not part of an arrangement to avoid the DIMF rules. However, where the DIMF rules apply, any amounts you receive will be treated as trading profits and potentially subject to Income Tax (at up to 45% in 2023/24) and Class 4 National Insurance Contributions (at up to 9% in 2023/24).  

It should be emphasised that for the purposes of the DIMF exemption, carried interest and co-investment have very specific definitions. It’s quite possible for your carried interest and co-investment to be structured incorrectly or meet the definition of ‘income-based carried interest' and fall outside these exemptions (and therefore be subject to the DIMF regime). Furthermore, falling within one of these exemptions alone does not mean that an amount will be tax-free; rather that the amount will not be taxed in accordance with the DIMF rules.

Application of the DIMF rules

If the DIMF rules apply, and you’re a UK resident, you will be subject to tax on the full amount of disguised fee received as trading profits (even if you use the remittance basis). Whereas if you are non-UK resident, you’re only taxable to the extent that you carry out investment management services in the UK. Non-UK residents may qualify for relief under a double tax treaty depending on whether there is a UK permanent establishment.

One central concept under the DIMF rules is that a disguised fee must ‘arise’ to you; this generally happens when an amount has been allocated to you and you have access to the funds. The DIMF rules will also impose a tax charge where an amount arises to certain persons ‘connected’ to you or where you are able to enjoy the amount.

It’s worth bearing in mind that the DIMF rules are based on amounts being payable to you in respect of investment management services and are completely independent of whether an investment scheme has actually generated any income or profits. A charge to DIMF can even arise where you receive an investment fee by way of a loan, which can sometimes be seen in the early days of a private equity fund.

What should you do?

The rules on DIMF are complex and of wide scope, potentially catching incorrectly structured payments and even amounts received before a fund has generated profits. While the rules are often thought of in the context of private equity funds, which are typically structured as partnerships, the rules are not restricted to private equity and, since 6 April 2016, no longer require the involvement of a partnership. Therefore, if you’re setting up or providing investment management services to an investment fund and expect to receive distributions, it’s important that you understand the potential UK tax exposures, the availability of exemptions and their impact on your UK tax position.  

We can assist you in understanding the rules, the impact on your tax position and ensuring that funds are structured correctly to fall within the relevant exemptions or, where possible, to fall outside the scope of DIMF. Where necessary, we can also assist with tax reporting in the UK or rectifying historic omissions. 

For professional advice regarding the taxation of investments managers (including the application of the DIMF rules), please fill in the form below and one of our experts will be in touch to discuss your requirements and how we can help.