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Citicorp Trustee Company Limited; November 2001

NEWS & VIEWS

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Welcome to a special N2 edition of News & Views

This is a special edition of News & Views which concentrates on the Collective Investment Schemes Sourcebook. As most readers will be aware, there are numerous decisions to be taken by managers/ACDs and Trustees/Depositaries ahead of N2. This edition may serve as a useful final 'checklist' as 3^rd December (the first working day after N2) fast approaches. Below is a summary of the more important decisions and our views in relation thereto.

TRUST DEED/INSTRUMENT OF INCORPORATION

Any expenses incurred by the authorised fund manager or the depositary in the updating of these documents of constitution solely to reflect changes brought about by N2 is an allowable expense chargeable to the fund.

Generally, a revision occasioned solely for compulsory N2 matters or any potential relaxation of rules will not require a meeting of holders for approval. However there are exceptions. If it is intended to take advantage of any wider investment powers possible after N2, i.e. where the impact is on the investment objectives or investment policy then it would still be necessary to have a meeting of holders for approval. One such instance would be where the constitutive documents make reference to the pool of issuers in the present CIS regulations from which investments in GAPS (Government and Public Securities) may be made. These issuers will now have to be stated in the documents because, unlike the 1991 Regulations, the CIS Sourcebook does not make reference to or contain a pool or list of issuers. It should be noted that under the transitional rules the existing pool of issuers could be treated as valid for up to 1 year after N2. However should it be intended to expand that list beyond those issuers that appear in the existing regulations it would then be necessary to seek the agreement of the depositary and investors.

The requirement to disclose the names of the countries, states, local authorities or public international bodies in whose securities the fund may invest more than 35% of its assets also applies.

PROSPECTUS

As the transitional arrangements do not cover the prospectus/scheme particulars these documents must be N2 compliant on 3^rd December 2001.

It is important that the revised scheme particulars/prospectus should reflect the decisions taken in respect of all of the other matters in this newsletter.

Any expenses incurred by an authorised fund manager in redrafting the scheme particulars/prospectus are not allowable expenses chargeable to the fund.

ELIGIBLE MARKETS

As most readers will be aware the current Financial Services Regulated Schemes Regulations referred to the 1997 FSA guidance on Eligible Markets which in turn stated that IMRO may publish information from time to time in respect of its monitoring approach to eligible markets. In this regard IMRO Reporter 14 (April 1996) listed those markets on which IMRO did not intend to question the due diligence which the manager carried out with regard to establishing the eligibility of the markets on that list. These markets included securities and derivatives markets in EU member states and securities and derivatives markets in certain non-EU member states (old Schedule 5).

Under the new CIS Sourcebook managers are required to conduct due diligence on all markets other than markets in EEA states where transferable securities are officially listed. There is no reference to any other published material giving further guidance or indicating the monitoring approach by the regulator.

CTCL would therefore expect managers (and ACDs) to continue to conduct due diligence on an annual basis to confirm continued eligibility of those non-EEA securities markets already deemed to be eligible. In this regard we intend to review manager's/ACD's due diligence on eligible markets whenever the manager/ACD has completed his annual review or earlier if changes in market circumstances make it desirable.

RECONCILIATIONS

CIS 7 Annex 1G –2 (6) provides guidance on the frequency of reconciliation/agreement between an authorised fund manager's and a depositary's records. The frequency is to be agreed between the two parties concerned. For our part, we would envisage a continuation of the present monthly frequency. This frequency would be subject to continuous monitoring with a view to increasing frequency if it should subsequently be felt that market conditions or other circumstances justify such action.

CHARGING EXPENSES TO CAPITAL

The new regulations are more permissive with regard to charging expenses to capital. There are basically two scenarios envisaged:

Where the full annual management fees are already being charged to capital (presently only allowable for income funds and balanced funds but now also permissible for capital growth funds) then other fees and expenses may also be charged to capital (with the agreement of the depositary), without further notice to investors.
Where the full annual management fees are not already being charged to capital they and other fees and expenses may now be charged to capital (with the agreement of the depositary) in respect of income and balanced funds after giving 90 days notice to investors, and in respect of capital growth funds, after investor approval.

In any event management fees, depositary fees and expenses, and other expenses must be charged in the first instance to income before subsequent transfer to capital. As depositary we would not withhold our consent if the manager makes a reasonable case for transfer to capital but nevertheless it is our view that authorised fund managers should consult with the fund's auditors to confirm that they are also in agreement with the transfer.

UNCLAIMED DISTRIBUTIONS

The new CIS Sourcebook brings Unit Trusts into line with OEICs in respect of the treatment of unclaimed distributions. The main change is that for unit trusts, distributions will revert to the property of the scheme after remaining outstanding for a period of six years rather than twelve years as at present. This gives rise to an important question – what should happen to those unclaimed distributions that have already been outstanding for more than six years? The important point to note is that unclaimed distributions are not covered by the transitional arrangements. The view within the industry, with which we concur, is that an immediate transfer of all unclaimed distributions outstanding 6 years or more should be made to the scheme property on N2. It is therefore vital that the first valuation after N2 reflects this transfer. Any claim for a previously unclaimed distribution that is already in progress should be excluded from the transfer.

UNAPPROVED SECURITIES

The new regulations require the authorised fund manager to notify the depositary of any acquisition of unapproved securities as soon as reasonably practicable. It is our view that as depositary we would expect to be notified before the valuation point of the following day.

INCOME EQUALISATION

This is no longer mandatory for unit trusts. In our discussions with managers it is apparent that few are considering discontinuing accounting for equalisation for unit trusts at this time. If applicable, there should be greater disclosure on how equalisation is accounted for and paid.

REPORT AND ACCOUNTS

A decision is required whether or not to adopt the new regulations immediately or to continue under the existing regulations in respect of accounting periods ending up to one year after N2.

In our discussions with management groups it was apparent that most were intending to move to the new regime immediately on N2.

It is important that the revised scheme particulars/prospectus should reflect the decision taken.

EURO

When making the mandatory statement regarding the base currency of a fund we would recommend that authorised fund managers take the opportunity to make a provision for possible future conversion to Euro. Potentially this may avoid the need for a meeting later should a manager wish to convert the base currency to Euro at a later date in circumstances in which it would not be compulsory to do so.

VAT

It is our view that, in general, existing references to VAT on expenses within the scheme particulars/prospectus should be expanded upon. We believe the new regulations require greater disclosure and specific information as to which expenses are subject to VAT as well as a clear statement where it is intended to charge VAT to a fund.

FIXED INTEREST/MONEY MARKET

A decision is required on whether to increase settlement periods for creations and cancellations in relation to fixed interest and money market funds and notify the depositary accordingly.

DISTRIBUTIONS

For unit trusts a decision is required whether to extend the distribution payment date to up to four months after the accounting period end and again the depositary should be notified accordingly.

MATERIALITY OF BOX MANAGEMENT ERRORS

Appendix G 3 (2) of the CIS Sourcebook requires the authorised fund manager to report to the depositary immediately any box management errors that do not result in a breach but are nevertheless material. Guidance as to what constitutes material in this regard is also given, and it covers several matters that are non-monetary in nature. We believe it is up to the authorised fund manager to determine materiality in the first instance and for the depositary to assess the reasonability of that determination.

TAX CALCULATIONS

Authorised fund managers are no longer required to review tax calculations on a quarterly basis. Instead they must now review these on a 'regular' basis.

Whilst we believe that the existing frequency of review would be adequate in most cases, nevertheless it can no longer be relied upon as adequate in all cases and therefore authorised fund managers must be prepared to increase the frequency of the tax review where circumstances require. Therefore, with that in mind, findings from the reviews undertaken should be continuously assessed by authorised fund managers.

FUND MANAGER CHECKS

The fund manager now has the responsibility for checking the valuation at least once a week rather than just reviewing the portfolio as at present. Our expectation would be for the fund manager to ensure that a portfolio holds the correct stocklines and in the correct quantity and that each stockline is appropriately priced. We would not expect a manager to check cash entries or income. We also appreciate that for index funds it may not be reasonable to expect a fund manager to personally perform a detailed check of all stock lines.

PRICE CHECKS

Whereas previously this was an annual requirement on the part of the depositary now it is to be performed according to the depositary's assessment of the risk profile of each fund. In practice we expect to continue with an annual price check on the majority of funds.

PROPERTY FUNDS

The current regulations provide a list of those countries in which immovable property may be purchased. As this list does not form part of the new regulations, authorised fund managers will have to list the countries in which immovable property will be purchased in the prospectus. Should managers wish to expand on the existing list, this could have an impact on the investment objectives and policy and therefore they may need investor approval.

OTHER N2 MATTERS IN BRIEF

Other required updates to scheme documents include:

Update references to statute – replace FSA 1986 with FSMA 2000
Investment in associated schemes – change to reflect new categories of ICVCs if applicable.
ICVC – state that ACD (not ACD and other directors) is solely responsible for deciding which markets are eligible. The depositary's role in this matter has not changed.

The material in this communication is for information purposes only. At the time of publication, this information was believed to be accurate, but neither Citibank nor Citicorp Trustee Company Limited makes any representation or warranty to any person as to the accuracy or completeness of the material contained herein. The material contained herein does not constitute in any way investment or legal advice or a recommendation reference or endorsement by Citibank or Citicorp Trustee Company Limited or any person or entity named herein.

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Citicorp Trustee Company Limited; November 2001 NEWS & VIEWS

Citicorp Trustee Company Limited; November 2001

NEWS & VIEWS