USA Law and Practice Contributed by: Bill Sturman, Matthew Holt, Steven Starr and Cliff Cone, Clifford Chance
150% asset coverage), versus the 50% histori - cal leverage limit. UITs generally do not engage in borrowing. They are designed to be passively managed and have a fixed portfolio, which limits their need for lev - erage. The structure of UITs makes borrowing impractical and uncommon. Lenders to registered funds often require secu - rity, usually in the form of the fund’s portfolio assets. Key considerations for registered funds when utilising fund financing are compliance with regulatory borrowing limits and manag - ing liquidity risk in connection with redemption requests from investors. 3.6 Tax Regime Retail funds formed in the United States are typically established as “regulated investment companies” (RICs). RICs are subject to a pref - erential tax regime. Provided that a RIC meets certain distribution, income, and asset require - ments, it will generally not be subject to US fed - eral income tax on the income that it distributes to its shareholders. The maximum US federal income tax rate for individual US citizens and residents is currently 37%. The maximum US federal income tax rate for US entities that are treated as corporations for US tax purposes is 21%. An individual US citizen or resident is sub - ject to a lower US federal income tax rate for income treated as long-term capital gain, which would generally arise from the sale of assets held for investment for a period longer than one year. The maximum US federal income tax rate for long-term capital gains is 20%. In addition, an individual US citizen or resident may be sub - ject to a 3.8% tax applicable on their net invest - ment income. Additional state and local taxes may apply.
Assuming certain requirements are met, a RIC may elect to make distributions that retain the character of income earned by the RIC. A RIC electing this treatment may, for example, distrib - ute a “capital gain dividend” to its shareholders with respect to capital gain earned by the RIC, which would be taxable to a US individual or resident investor at lower long-term capital gains rates. Certain distributions by a RIC of ordinary income received by a US entity treated as a corporation for US federal income tax purposes may qualify for a “dividends received deduction” of 50% (or greater if the US entity treated as a corporation owns 20% or more of the RIC’s shares). US tax-exempt investors are generally exempt from US tax except for income generated (i) from a business that is unrelated to the US tax- exempt investor’s exempt purpose or (ii) from an investment that is debt-financed (such income, UBTI). Subject to certain exceptions, an invest - ment in a RIC should not cause a US tax-exempt investor to recognise UBTI. Non-US investors are subject to US federal income tax for any income that is treated as “effectively connected” with that US trade or business (such income, ECI). Generally, an investment in a RIC is not expected to cause a non-US investor to recognise ECI or be treat - ed as engaged in a US trade or business. With regard to US source interest, a RIC may desig - nate an “interest-related dividend” to its share - holders with respect to certain interest earned by the RIC. If certain requirements are met, inter - est-related dividends distributed by a RIC to a non-US holder will not be subject to US federal withholding. US source income that is not ECI and does not qualify for an exemption (such as RIC distributions that are treated as US source dividends) is generally subject to US federal
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