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Though it operates on a longer timeline than a Tolstoy novel, tax and trust work isn't immune to market forces. How has the practice fared in these lean economic times for Hong Kong and Singapore lawyers? Dave Major reports

Every year around budget time law firms are suddenly reminded they have a stable of intelligent, well-spoken lawyers who work in the tax and trust area. A week later and they're gone again, leaving people scratching their heads, trying to decide whether what they said about the financial secretary is true or not.

It isn't the fault of the lawyers themselves. Law firms have never thrown a lot of people or money at their private client practices - largely for the simple reason that, outside of London and New York, the practice area has never been a huge fee-generator. Certainly not compared to other areas.

Yet even the small market share law firms have carved out may be under threat. Private banks are swallowing up huge swathes of the market, and are showing no hesitation in expanding their headcount. Where the private client lawyer once would handle all the aspects of a wealthy individual's tax and trust work, now the private banks are stepping in with promises of total solutions, relegating the lawyer to the role of external adviser.

On top of this is a host of pressing questions: how much of an increase in trust litigation can we expect? Will Hong Kong get rid of estate duty? And if it doesn't, will Singapore, touted as the Switzerland of Asia, trump Hong Kong as the best place in the region in which to locate a trust.

Rumblings in Hong Kong
Coming as it did on the back of so many other heavy economic blows, the SARS outbreak has only pushed regional economies further into damage control mode. While other practice areas are tied almost inextricably to the economy, most lawyers ALB spoke with agreed that in quiet times, people tend to devote more attention to the trusts. That may mean that although perhaps fewer new structures are being set up, existing clients are revisiting established ones and updating them.

Some lawyers have said that SARS has led to a jump in emigration-based trust work. Throw together SARS, the local economy and government policy, and many clients who had previously been toying with the idea of packing up - and who had set up trusts a decade or so ago for that purpose - are now calling it a day and revisiting those structures before moving out.

Not much has changed on the legislative front. That's largely because the laws on the books are good enough for the current level of demand. One recent change affecting Hong Kong-based work is the new provisions in the Securities and Futures Ordinance, which came into effect on 1 April. Among the new rules is a tighter threshold for disclosure of interest in listed companies. It has dropped from a 10% shareholding threshold to 5%.

"We have seen work come out of that," says Susan Collins of Stephenson Harwood & Lo. "The trust structure may now be a substantial shareholder and the trustee has had to look at the new rules and check to see if there is a need to disclose."

lso fresh in the minds of many tax and trust lawyers is the March conference held in Hong Kong by representatives of the US IRS.

Sponsored by PricewaterhouseCoopers, the event assembled representatives from many financial institutions that have been gearing up for the qualified intermediary audit. This audit - based on Section 1441 withholding tax rules that became effective in 2001 - requires banks and brokers that have elected to become qualified intermediaries or 'QIs' to present to an outside auditor information about their compliance - with procedures for the collection of information regarding their customers, particularly those who have invested in US stocks and bonds.

Says Mimi Hutton of Bryan Cave: "Most large financial institutions chose to become QIs and now must go through the audit of their procedures. They made the decision to become QIs rather than turn a portion of their business over to other institutions that had became QIs."

The idea behind the Section 1441 rules is to help the IRS find US taxpayers who are cheating on their taxes, and taxpayers who are taking the benefit of tax treaty reductions in withholding tax when they are not entitled to do so. Financial institutions have been working hard the last few years collecting the necessary details and making sure that the necessary procedures are in place to be in compliance with the QI rules. The audit reports must be submitted by 30 June.

Lawyers of client families with at least one US citizen or green card holder also closely watched last year how US President George W. Bush handled the proposed repeal of US estate tax. As it stands, the law calls for a gradual phasing out of the tax - currently topping out at 50% - till 2010, at which point it would return to its original 55% rate.

"This is relevant when you have a family in which there are non-Americans with an American wife or children," says Hutton. "For example, a non-US husband dies and passes all his property to his US wife, who then passes it on to her children. She'll pay 50% US estate tax on property inherited from her non-US husband that she passes to her children."

She says that what she typically does in the context of Asian non-US clients with US family members is long-term planning, where wealth that began with non-Americans can be structured to completely avoid the US estate and generation skipping tax rules, and the family is positioned to take advantage of opportunities for significant US income tax savings and interesting charitable planning.

"If the estate tax is repealed that issue will go away, but I don't think it will," she says. "The political impetus for repeal has gone away. The issue for families in Asia is that their wealth tends to be illiquid - real estate, company stock - and if the assets were to be subjected to US estate tax, they may have to be liquidated because the US estate tax would have to be paid within nine months of date of death, in cash."

And murmurs in Singapore
In Singapore, the situation is slightly different from Hong Kong. A common opinion among lawyers is that the trust industry is not nearly as substantial as in Hong Kong. Assets below S$9m (US$5.21m) are exempt from estate duty, and even in situations where it does apply, it is still quite low, so not many Singaporeans actively seek out trust planning. The high-net individuals that do, however, tend to go through the investment banks, such as Merrill Lynch, HSBC and Citibank. Says one lawyer from a large Singapore firm: "These are the three banks mentioned most often by our high-net clients for trusts."
Nevertheless, the government has been moving to attract business related to trusts. Teoh Lian Ee, a director in the tax and trust practice at Singapore firm Drew & Napier, says the intention of recent legislation isn't so much to pull business away from other jurisdictions, as to make Singapore attractive to people shopping around for jurisdictions.

"If there are other push factors in foreign countries, then when people look around they won't see any obstacles, tax wise, in Singapore."

She says that the Singapore Government has put in legislation in recent years to promote the trust industry and to make the legislation user-friendly. "The latest incentive is the exemption from estate duty of all movable property owned by a deceased person who was domiciled outside Singapore at the time of his death," she says. "Instead of a long list of what items of income are allowed, there is talk they should make it a negative list so that so long as you don't fall in the few items you are ok. Right now, you have to go down the list."

According to David Sandison, a tax principal at PricewaterhouseCoopers Singapore, the government's strategy has been to focus on getting the services associated with trusts to base themselves there, rather than altering the tax code to get the trusts themselves.

"Foreign trusts with foreign beneficiaries actually have little to do with Singapore," he says, "but all the peripheral and support services are based in Singapore. That is the angle the government is coming from."

He says that one notable incentive they have given to trust companies in Singapore is the trust itself gets protection from Singapore tax in respect to any of its income and gains that may be earned outside Singapore. "The reason there could be a liability in the first place is that if the trustee has discretionary powers he may create a permanent establishment for the trust in Singapore, which means the trust could potentially be regarded as carrying business in Singapore and therefore its income and gains would be taxable."

There is now a specific exemption to protect any trustee company, he says, pointing out that the original exception which applied only to approved trustee companies has been around for some years. The extension that was given in the 2003 budget - which will pass into law in August - applies not only to approved trustee companies but any trust company that sets up in Singapore.

Big banks, small lawyers
When asked about the position of players in the market, tax and trust lawyers point to the growing prominence of private banks. The law firms are seeing an increasing amount of market share going to the banks and their roles in private client work shift accordingly. It is a trend that first began a few years ago, but one that has picked up momentum recently.

"In an effort to develop new business a few years ago, the banks made a big push into the wealth management industry," says Collins. "They saw substantial new or untapped wealth and decided to concentrate on that growth area, even to the extent where we have seen many of our colleagues go in-house to the banks."

Figures do not exist to support that but, anecdotally at least, many of the big names in the industry a decade ago could be found working for firms. Now, however, people like Bill Ahern and Debbie Annells are to be found inside the banks.

"I have noticed that direct client contact is reduced these days," says Simon Rae of Johnson Stokes Master. "One is becoming more reliant on private banks or trustee companies producing clients to advisers."

The banks are doing the bulk of the structuring or succession planning arrangements, he says, and turning to advisers to implement and prepare the documentation for the structures.

"It definitely has shifted in the past three years," adds Collins. "It is a concern for the private client industry. If you are a law firm, how do you keep your lawyers if they are being approached by the big banks with offers of a better lifestyle or more money?"

She says that law firms may see the trend as a double-edged sword. The negative is that if the professionals are going in-house then they potentially could do the work in-house, leaving less for the firms. However, as they are experienced professionals then they will suggest structures that are appropriate and advise their clients to go to the firms for opinions.

Lawyers are also noticing increased pressure from the Inland Revenue Department. James Bertram, a tax and trust partner at Deacons, says they are looking more at offshore profit claims.

"There is more tax work, particularly on the investigation side," he says. "The IRD is looking more critically at claims that profits should not be taxed because they are offshore profits."

According to Rae, the authorities are now more inclined to challenge the trust on the grounds that it is not entirely legitimate. "They perhaps accept the transactions might be effective for the purposes of estate duty, but what they are not prepared to accept is how the trust was run and administered afterwards - after the assets were put into the trust."

Rae points to an increased focus on the degree of control the settlor retained after the initial transactions and the extent of dominion the trustee had over the assets. "The [IRD] is making more investigations along these lines than had ever been the case."

Whether the step-up in scrutiny will translate into less aggressive structuring only time will tell. "I am not sure it has resulted in that," says Bertram, "although I think it will in due course. People will become more aware of the greater interest the revenue is bringing to bear on tax affairs."

Hand over the assets and then sue
One of the biggest concerns for the industry remains trust litigation, which according to Rae, the languid economy is leading beneficiaries to consider more frequently.

"I have been asked to advise on trust litigation matters in the past three of four years on perhaps a more frequent basis than ever before," he says. "Clearly, when things are going well economically and people are making money, nobody bothers. But when things are going badly economically and people aren't making money, then these things come to light."

Any discussion of trust litigation must make reference to Hong Kong legend Peter Willoughby. Though he passed away a few years ago, he has continued to be a force in tax and trust to the extent that he is widely regarded as somewhat of a guru in the business.

Willoughby lived in the Channel Islands and spent a few months of each year in Hong Kong, working as a consultant at Deacons. One of his crowning achievements was the industry's bible - a four-volume encyclopedia on Hong Kong tax laws. But what remains a hot topic to this day is the predications he made in Misplaced Trust, recently expanded in a second edition by James Wadham.

"The book is not to be ignored," Rae says. "It gives a number of examples, some of them frightening, of how trust litigation can surface quickly and go horribly wrong."

Bertram agrees with the observation that trust litigation in Hong Kong has remained stable, though he argues this may change in the years ahead.

"I think we will see [an increase] internationally, but mainly in other jurisdictions," he says. "I suppose one reason is that prior to 1997, people tended not to set up their trusts in Hong Kong. They generally chose other jurisdictions. So any litigation arising out of those trusts tended to be litigated in those other jurisdictions."

Bertram adds that as Hong Kong has settled down since the handover, people are tending to look on the jurisdiction more as a suitable alternative. "But trusts tend to have a long life and problems may not arise for many years after they are established, so it is quite likely we will see an increase in trust litigation in Hong Kong, but not for some years."

For more than a year, the Hong Kong Trustee Association has been lobbying the government to better market and position the city as a regional centre for trust work. According to Collins, this was prompted by two events. First, the OECD and the Financial Action Task Force put pressure on the offshore jurisdictions to implement stricter know your client requirements.

"As a reaction to this," she says, "people are looking at alternative jurisdictions, like Hong Kong. We have had a number of calls, for example, from banks in Switzerland, saying their clients do not want to use certain offshore jurisdictions anymore."

The other reason was the ramping up of the Lion City by the Singapore government as an ideal jurisdiction for trust work. Trust practitioners in Hong Kong asked why their government was not doing something similar. Dialogue was initiated between the government and the trade group, who took the initiative of launching a survey to better understand the value of their industry. The results are expected towards the end of the summer.

A possible move to re-enforce Hong Kong as a good jurisdiction in which to locate trusts is the abolishment of estate duty. The argument goes that it isn't high-yield for the government and can deter people from keeping assets in Hong Kong, as they are then potentially chargeable on estate duty. Discussion of abolishing it has been going on for years, but the economic conditions may have pushed it further off the table.

"It is useful for tax purposes," says James Bertram of Deacons. "I think it is unlikely we'll see it abolished."