This briefing gives a short overview of and some practical guidance about three recent legal developments which impact those involved in investment funds. Please feel free to call Chris Ormond or your usual BLP contact if you would like to discuss any of the issues in more detail, including how they may apply to your business and activities.
Relaxation of US marketing rules for private placements
Fund managers marketing their funds to US investors will be well versed with the need under the private placement safe harbour to avoid any “general solicitation” i.e. advertising or publicity. However, the new rules under the JOBS Act which took effect on 23 September 2013 set out an alternative – general solicitation is permitted during fund raising, on the basis that all the investors are “accredited” (or reasonably believed to be so) and that the fund manager can verify this. But note that the US Securities and Exchange Commission (the SEC) has proposed additional rules (which are still being consulted on) that would increase disclosure requirements and impose new consequences for failure to follow the new rules.
What does this mean?
- Fund managers will want to weigh up the benefit of embracing the new rules and being able to freely market their funds in the US alongside the higher compliance burden that this entails (and with further rules expected to follow). The alternative is to continue to operate as before, with no general solicitation but fewer regulatory controls.
- Fund managers who do market using the new rules will need to establish (either themselves or by using a third party verification service) procedures to sufficiently determine accredited investor status. Also it will be crucial to monitor the progress of the proposed additional SEC rules – one of which is a new filing requirement for fund managers to give the SEC at least 15 days’ advance notice of engaging in general solicitation.
- Finally, the new rules do not operate in isolation and fund managers need to be mindful of the cross-border implications of any general marketing initiatives. For instance, for EU investors, not prejudicing the marketing rules under AIFMD, and in the UK, the financial promotion regime.
Alternative Investment Fund Managers Directive (AIFMD) - risk and portfolio management can be combined if proportionate, and safeguards are in place
Risk management procedures are at the core of the AIFMD’s requirements: in particular, an Alternative Investment Fund Manager (AIFM) has to separate risk management from its operational business (including portfolio management). However, allowance is made for a proportionate approach so that, in the context of the size, internal activities, nature, scope and complexity of an AIFM’s business, risk and portfolio management can be combined provided the independence of risk management is not compromised. To achieve this the AIFM will have to establish specific safeguards against conflicts of interest, regularly review their effectiveness and take timely remedial action to address any deficiencies.
What does this mean?
By way of example, for an AIFM of a newly-formed entity, operating a single fund and with a small number of personnel, the risk manager could be part of the investment management team, if there are safeguards against conflicts of interest in place. These safeguards are set out in the European Commission delegated regulation and include that:
- any conflicting duties are properly segregated;
- the risk manager’s remuneration is linked to its risk management function, independent of its performance in business areas; and
- the risk management function is independently reviewed.
These safeguards will need to be documented in the AIFM’s application form and will be reviewed and assessed by the Financial Conduct Authority.
Partnership accounts and using an LLP as a general partner
Many investment fund UK limited partnerships (UKLPs) have a single corporate general partner (GP), and where they can’t use an exemption, now have to publish the UKLP’s audited accounts with the Registrar of Companies, both annually and on dissolution. However these accounts do not have to be filed for UKLPs with a GP that is a limited liability partnership (LLP): these UKLPs will fall outside the accounting regulations.
Amending regulations, effective from 1 October 2013, have corrected a defect in interpretation that it is the status of the GP only (rather than all the partners) that is relevant when determining if a UKLP is a “Qualifying Partnership” and subject to the partnership accounting regulations. If the GP (or each GP where there is more than one) is a company, Scottish partnership with limited company members, or Scottish limited partnership with a GP that is a limited company (or for each a similar vehicle set up in another country), it is a Qualifying Partnership. The GP of a Qualifying Partnership has to prepare, audit and file accounts and reports as if the UKLP was a company. UKLPs that are dormant or dealt with on a consolidated basis will be exempt.
What does this mean?
- For existing funds that are subject to the regulations, it is possible to restructure so that the UKLP is not a Qualifying Partnership. The simplest route to achieve this is to appoint a second GP which is an LLP. An alternative is to establish a new LLP and transfer the contracts, assets and liabilities of the GP company to the new LLP vehicle.
- Using an LLP as a GP will not affect matters such as regulatory considerations, the title holders or corporate governance requirements.
- LLPs themselves are subject to statutory filing requirements in a similar way to companies, but as a GP their accounts would reflect their partnership share only.