The consultation on certain aspects of the UK government’s carried interest tax reform, announced at the Autumn Budget in October 2024, is due to close on January 31, 2025, allowing stakeholders a chance to express their views on the “qualifying conditions” for the new regime.

The Autumn Budget announcement (on October 30, 2024), which contained the areas for consultation, proposed the following headline changes to the UK’s tax regime for carried interest:

• UK capital gains tax (CGT) rate for carried interest to increase to 32% (currently 28%), effective for carry proceeds received from April 6, 2025.
• Overhaul of the UK carried interest tax regime expected from April 6, 2026, pending the public technical consultation on the “qualifying conditions” and separate private discussions with certain stakeholders.
• No changes to the UK tax treatment of team co-investment (although note that the general rates of CGT for disposals made on or after October 30, 2024, have increased from 10% to 18% for basic rate taxpayers and from 20% to 24% for higher and additional rate taxpayers).

Please see further detail on the current position, the proposed changes and the consultation below.

Between now and April 5, 2025

All of the current UK tax rules in relation to carried interest remain unchanged. This is notwithstanding the increase in the rates of CGT for disposals not giving rise to carried interest announced at the Budget (as mentioned above, an increase of 10% to 18% for basic rate taxpayers and from 20% to 24% for higher and additional rate taxpayers, with effect from 30 October 2024).

From April 6, 2025

The CGT rate for carried interest will increase to 32% from April 6, 2025 (currently 28%). This percentage increase mirrors the increase in the ordinary (non-carried interest) CGT rate applicable to higher/additional rate income tax payers as mentioned above, albeit that the latter became effective on October 30, 2024.

The new CGT rate for carry will apply to carry proceeds received on or after April 6, 2025. Carry paid out of proceeds other than capital gains (for example interest and dividends) will continue to be taxed at usual applicable income tax rates (currently 45% and 39.35% respectively).

This change is expected to remain in place until the implementation of the wider reform package expected in April 2026 (see below).

From April 6, 2026

The Government has announced an overhaul of the carried interest tax regime applicable from 6 April 2026. 

A summary of the intended regime was published on October 30, 2024 but draft legislation and further detail is awaited. It is proposed that the new regime sits alongside the existing disguised investment management fee (DIMF) and income-based carried interest (IBCI) rules. The key aspects of the proposed new regime are summarized below.

• As a starting point, all carried interest would be taxed in the UK as trading profits and therefore subject to income tax (45% for additional rate taxpayers) and Class 4 national insurance contributions (2%). The capital gains tax rules for carried interest would consequently be abolished.
• “Qualifying carried interest” income would be subject to a 72.5% multiplier, in effect meaning that only 72.5% of such amounts would be subject to the income tax and NICs rates set out above. This should mean an effective income tax rate of 32.625% and an effective NICs rate of 1.45%, for example an aggregate effective tax rate of 34.075%, for “qualifying carried interest” from April 6, 2026, assuming no changes to the current income tax and NICs rate.
• Carried interest is expected to be qualifying carried interest if it is not IBCI; in other words and very broadly, the multiplier and therefore lower effective tax rate for “qualifying carried interest” would apply to carried interest which is currently taxed under ordinary principles depending on the nature of the underlying returns from the fund (for example, 28% for capital and capital gains, 39.35% for dividend income and 45% for interest income). Currently, any carried interest that is taxed as IBCI (on the basis that the fund’s minimum asset holding period is not met) is already subject to 45% income tax and 2% NICs and so the basic idea is that this type of carried interest would continue to be taxed at full rates under the new regime once enacted.
• Therefore, under the proposed regime:
  • For IBCI carried interest: this would not qualify for the multiplier and would be subject to 45% income tax and 2% NICs in full. That is the status quo.
  • For Non-IBCI carried interest: this would qualify and benefit from the multiplier and an effective tax rate of 34.075%. That is an increase of 6.075% for carry paid out of capital or capital gains, but is a decrease of between 5.275% and 10.925% for carry paid out of income returns. Carry under the new regime is expected to be taxed at either 47% (IBCI) or 34.08% (non-IBCI, for excample, “qualifying carried interest”).
• The new regime is expected to apply to all individuals receiving carried interest, whether they are employees, LLP members or consultants.
• Currently the IBCI rules do not apply to carried interest that is an employment related security (ERS). In other words, currently employees receiving carry do not need to consider IBCI. The length of time the fund has held its assets is therefore not relevant to the tax treatment of their carry (potentially helpful for example in the case of continuation funds). It is proposed that this exclusion for employees is abolished, and so carried interest holders who are employees would, like LLP members, also become subject to IBCI rules.
• The government is considering the introduction of additional conditions which would need to be met for carried interest to be taxed as “qualifying carried interest” thereby benefiting from the multiplier and lower effective rate. These are the proposals currently under consultation and covered in further detail below.
• The government will also work together with key stakeholders to make targeted amendments to the application of the IBCI rules to private credit funds.
• No grandfathering or transitional rules for existing structures have been proposed; the stated reason being that the government considers the proposals do not impose new conditions or requirements which could not reasonably have been foreseen when existing funds were established.

The consultation

Although the government has proposed the new “qualifying carried interest” regime to reflect the unique nature of carried interest returns, it makes plain that access to the new regime should be appropriately limited. As such it is exploring whether further conditions (referred to as “qualifying conditions”), in addition to those already contained in the DIMF and IBCI rules, should be imposed for carried interest to be taxed under the new regime to be introduced in 2026 .

The two proposals put forward are:

• a minimum co-investment condition measured at a team level (for example, the aggregate co-investment in the fund held by carried interest holders); and
• a minimum holding period assessed at the level of the individual (for example, the length of time the individual waits to receive amounts of carried interest).

The government has noted that respondents to the recent “Call for Evidence” on the tax treatment of carried interest highlighted numerous challenges in implementing a co-investment condition. Defining the parameters of “co-investment” is challenging in a market with increasingly complex fund structures and a wide variation across investment strategies.

In addition, the impact on junior team members and emerging managers (who are typically unable to make large commitments) was also raised, which has lead the government to consult on a team level co-investment condition (for example, assessed on the basis of the aggregate co-investment commitments of the whole team rather than for each individual). The consultation calls for views on this condition, including at what level the minimum should be set and the types of co-investment arrangements that should count.

Given the perceived challenges with introducing a co-investment condition, the government appears to prefer an individual minimum holding period, although has not at this stage ruled out the possibility of introducing both an individual minimum holding period condition and a minimum team level co-investment condition. The Call for Evidence responses focused heavily on the substantial period of time carried interest holders generally wait before receiving any pay out and the government is exploring importing this feature as a condition to accessing the new regime.

It is proposed that the new condition or conditions will sit alongside the existing IBCI conditions, which assess asset holding periods at fund level, with the new individual minimum holding period condition testing the length of time each individual holds their carried interest before receiving returns. The consultation invites views on what an appropriate length of time would be and transitional arrangements for existing funds.

Looking forward

The consultation process closes on January 31, 2025. There is currently no visibility on the timetable for the proposed reforms beyond that, however the government typically produces a summary of responses together with proposed legislation after a period of review. Given that this consultation forms part of a broader reform package which includes expert stakeholder consultation, it remains to be seen when further announcements will be made and in what form.