Carried Interest Reform: Simmons responds to draft legislation

As part of the UK government's ongoing tax reform efforts, draft legislation was published in the summer of 2025 to introduce a new tax regime for carried interest, scheduled to take effect from April 2026. This followed a consultation response confirming the regime's scope and structure. The draft legislation, proposes to treat carried interest as trading profits subject to income tax and Class 4 National Insurance contributions. A technical consultation period was held until 15 September, during which stakeholders were invited to provide feedback.

Simmons & Simmons has submitted its response to the HMRC consultation on the draft legislation. We note that a number of aspects of the proposed regime, as set out in the draft legislation released, appear more workable than the original proposals, but have identified areas where further clarification or amendment would improve the regime’s effectiveness and fairness.

Key Points from Our Response:

1. Territorial Scope: The draft simplifies rules for non-UK residents receiving qualifying carried interest but not for non-qualifying carried interest. Extending these simplifications to all carried interest could prevent disproportionate tax liabilities for non-UK residents travelling to the UK.

2. Definition of Credit Funds: The current definition of a credit fund is very narrow, focusing solely on "money debts" and excluding economically similar instruments such as preference shares and alternative finance arrangements. A broader definition would better reflect the evolving practices in the private credit market.

3. NICs: Section 23I specifically states that for income tax purposes the individual is treated as carrying on a deemed trade. Clarification is needed on whether section 23I also applies for national insurance contribution purposes or if it is addressed elsewhere.

4. Double Tax Relief: The double tax prevention mechanism at section 23P could be more robust if structured as a deduction under section 23M for amounts otherwise taxed. It is unclear why this approach was not adopted, and further clarification on the rationale behind the chosen approach would be welcome.

5. Tax Distributions: The recognition of tax distributions as carried interest under paragraph 4 of Schedule A1 is a welcome development. However, these distributions are frequently based on an “assumed” tax rate, often reflecting the highest marginal tax rates applicable to a New York City resident. Clarification is needed that this would not prevent a tax distribution from falling within the scope of this paragraph.

6. Continuation Funds: Continuation funds are becoming an increasingly popular solution for managing both high-performing assets and those that are challenging to sell as the fund approaches the end of its life. The current average holding period provisions relating to acquisitions from associated investment schemes at paragraph 17 of Schedule A1 would not typically cover continuation funds, which can often have a significantly different investor base, but the asset(s) would usually still be under the management of the same team. Specific provisions should be made to account for the management continuity of assets transferred to continuation funds, to take account of the period of time that the asset(s) have been under the management of the same team.

7. Real Estate Investments: When considering real estate investments, it is important to recognise that some funds (for example those focused on infrastructure) may invest in real estate alongside other assets, meaning that the 50% threshold envisaged in paragraph 26 of Schedule A1 might not be reached. In addition, some “pure” real estate funds may invest in companies that themselves invest in a portfolio of real estate, raising questions about how the rules apply in such cases. It would be helpful if the legislation also covered these scenarios within the average holding period rules. Furthermore, additional guidance on the effect (if any) of cash being paid out of a below-fund holding structure to repay external debt would be particularly valuable, given that real estate investments are frequently funded to a substantial extent with external leverage.

8. NAV v realisation model differences: Paragraph 30 of Schedule A1 introduces different eligibility periods for the NAV model and the realisation model (4 years v 10 years). The rationale for this distinction is unclear, and further detail would be welcome.

9. TAAR: While the inclusion of a targeted anti-avoidance rule (TAAR) is appropriate, the application of paragraph 21 of Schedule A1 might be disproportionate in certain cases. For example, if assets would naturally have been disposed of after 39 months but are held for an additional month due to the carried interest tax regime, and the economic exposure to the asset is genuinely maintained, it would be helpful to understand whether HMT/HMRC intend for the TAAR to apply in such circumstances, where the holding period is genuinely extended.

10. Secondary Regulations: Whilst we understand the rationale for enabling flexibility through secondary legislation—specifically via paragraph 33 of Schedule A1—to amend the average holding period rules, we would welcome further clarity on the transparency and governance mechanisms surrounding such changes. Would HMT/HMRC anticipate additional industry consultation prior to implementing any amendments?

11. Prospectus Information and GAAR: Paragraph 34 of Schedule A1 introduces a requirement to include the expected average holding period of investments in fund prospectuses, which is not common practice. If management houses begin to include this information, it would be helpful to clarify whether this could raise General Anti-Abuse Rule (GAAR) concerns. If not, it would be very helpful if this could be clarified in guidance.

12. Clawback and Overpaid Tax: At present, paragraph 39 of Schedule A1 only applies where the individual has made an election under paragraph 36 for carried interest to be chargeable as scheme profits arise. If carried interest recipients are not able to reclaim tax on carried interest ultimately clawed-back, this cost is typically passed on to fund investors. It would therefore benefit fund investors if this provision also applied to individuals who have not made an election under paragraph 36.