Mayor Bloomberg recently found himself unwittingly besieged by the press, thanks in part to the investments made by his charitable foundation, to which the Mayor had generously donated some $1.8 billion for worldwide charitable purposes. It seemed incredible that such a benevolent act could have landed the Mayor in such a tempest in a teapot, proving once again, that no good deed goes unpunished.
The New York Observer broke the story in April1 that the Mayor's charitable foundation had "transferred almost $300 million into various offshore destinations" which, as it turns out, was a reference to investments made by the charity in hedge funds. As is expected by any well run foundation, it had diversified its investments and yes, some of them were made into Cayman Islands hedge funds. The rest of the media quickly joined pursuit of the apparent 'scandal'.
At a press briefing the Mayor was forced to defend himself and his charitable foundation: "... And incidentally, as far as I know, the investments that my money managers make are perfectly legal. They're fully disclosed. And they're appropriate to maximize the assets which I'm giving away to charities.....we live in a global world, your company is a global company. You cannot just cover America. You can't think of America without the rest of the world. You can't invest without investing around the world. You can't have a business without doing business around the world. That was what happened back in the Smoot-Hawley days. We're not going to make that mistake again."
Finally a few kind words were made by the beleaguered Mayor, about how 'nice' the people from the Cayman Islands are, and ending with another right-on-the-money statement, "Every diverse investment pool invests around the world, we live in a global world. The companies that we invest in do business around the world globally."
The Mayor was clearly taken by surprise by the off-the-wall negative response to his charitable foundation's investment overseas and seemed ill prepared for the attention which reached a level more appropriate to allegations of illegal activity. Yet there was no accusation of anything illegal. Out of the adversity, however, some pearls of wisdom were drawn: acts of protectionism, such as those from the Smoot-Hawley days which contributed to the severity of the Great Depression, usually are at best counter–productive and, yes we do live, invest and function in a global world.
There is a good reason why Yale, Duke University, Rockefeller Foundation,2 the Bloomberg Family Foundation and even the US Government, invest through low or no tax jurisdictions3. While US nonprofit institutions are generally exempt from taxation, income produced by their investments would otherwise be subject to taxation. The New York Times wrote an article in 2007 about the benefits of investing in offshore hedge funds by nonprofits. Conversely, the New York Observer in 'exposing' Mayor Bloomberg, contrasts his investments to those of Bill and Melissa Gates by in part referring to the New York Times article: "The Times also reported that the Gates Foundation did not invest in offshore hedge funds" and suggested that the Gates did not do so as they found such investments "egregious". The truth however is that the Times actually reported that the Gates had "no" hedge fund investments, period. It is also interesting to note however, that Microsoft has taken quite a bit of heat of its own for setting up offices in Reno, Nevada, a US tax haven state that has no corporate income tax. This prompted The Guardian to publish an article entitled, 'Is Microsoft a tax dodger',4 pointing out that Microsoft has avoided payment of business and occupation tax by setting up in Nevada as opposed to Washington.
It is increasingly important, if not urgent, for onshore jurisdictions to respect the importance of the intertwining of the global markets, inclusive of well regulated offshore jurisdictions which contribute in no small manner to the healthy equilibrium of the markets. The need for respect for this healthy balance is brought out in the ironic saga of the EU Alternative Investment Fund Manager Directive ('AIFM Directive'). Back in March 2009, the then Prime Minister of England, Gordon Brown, erroneously suggested that jurisdictions such as the Cayman Islands played a role in the global crisis, when he publicly commented that people's savings would be safer without 'off-shore tax havens'. It appeared that he, amongst others, connected the Cayman Islands (which continues to host most of the world's hedge funds), and the hedge fund industry with the global financial crisis and in turn convicted the hedge fund industry, all through some inexplicable means. This sort of thinking helped to set the backdrop for the G20 Nations agreement to tighten oversight of the hedge fund industry at the G20 summit in April 2009 held in London, which in turn gave birth to the AIFM Directive. The Directive would prevent non-EU domiciled managers from marketing their funds in the EU unless EU regulators have agreed on the equivalence of the local regulation applicable to the non-EU manager; it also required that the relevant country from which hedge fund managers market their funds, sign up to the OECD Model Tax Convention and agreed to tax information sharing and a process for ensuring "an efficient exchange of information" between regulators.
The Directive itself however quickly met with strong opposition throughout the EU from organizations such as AIMA. These entities immediately assessed the impending disaster for the hedge fund industry (including its investors), warning that the Directive would weaken the competitiveness of the EU in investment management making the EU less attractive for international investment5, and decried the Directive as 'protectionist'6.
The initiative to extend oversight to the hedge fund industry from the G20 summit fostered a unified front amongst the G20 ( the same summit Gordon Brown claimed there was established a "New World Order"), until the UK and the US realized that such an initiative would end up adversely affecting their economies. Suddenly, protectionism didn't seem like such a good idea! The US Treasurer, Timothy Geithner, sent a strongly worded letter to Michel Barnier, EU commissioner for the internal market and services, warning the EU not to pass what could be seen as 'protectionist rules' with the AIFM Directive.7 All at once, the United States and the UK were caught-up in, what seemed to some, to be tax driven initiatives directed at negatively affecting offshore centres. The EU commissioner responded by giving Geithner the proverbial boot, stating that he was not amenable to pressure and would not take instructions "from Paris or London and certainly not from Washington"! After meeting Mr. Barnier in March, Simon Walker, chief executive of the British Private Equity Association, described the situation regarding the AIFM Directive as "extraordinarily serious."
Gordon Brown didn't fare better than Geithner and was equally caught off guard when faced with certain, serious and negative implications to the UK posed by the EU's AIFM Directive and by the lengthy campaigns and protests by the hedge fund industry (and just about every stake holder involved in or about to be impacted by the proposed initiatives8). Britain also became a bitter opponent to the Directive. The European Private Equity and Venture Capital Association ('EVCA') conducted a survey published in March 2010, which showed that of the world's most active institutional investors in venture and growth capital funds, 67% would either withdraw from venture and growth investment completely or substantially reduce their allocations (by over 30%!). The caption of EVCA's Press Release read 'EU Regulation Will Destroy Key Source of Finance For Innovation'9. At the eleventh hour Gordon Brown, realizing his party's defeat would come at the hands of the European Directive, requested a postponement of the vote on the AIFM Directive until after Britain's elections in May, and left the poisoned chalice for the new British Government to contend with.
It is not perhaps by coincidence that when the dust settled, the UK found itself outside of a protectionist ring of some of the highest taxing countries in the world when the EU vote to move forward with the Directive came in early May of this year. Britain has ultimately found it difficult to ignore the reasoning of its business community and concerns that the Directive will affect the returns to savers and pensioners and prevent investors from diversifying risk.10
The Financial Times surmised that: 'Rather than fighting a last-ditch battle over hedge funds, Mr. Osborne [the new UK Chancellor] wants to keep his powder dry for a much bigger debate next month over plans to create an EU-wide regulatory system for financial services'. One can only hope this will not foreshadow events to come with the proposed EU-wide regulatory system. The International Monetary Fund's warning in April11 to Western countries that their economies were too weak for spending cuts, tax increases or higher interest rates begs the question: is the EU really ready to mastermind a EU-wide regulatory system for financial services as they have with the AIFM Directive? Whilst we all know what happened to Greece, surely the letter from Britain's outgoing Chief Secretary to the new Treasury Liam Byrne with a one-liner 'I'm afraid to tell you there's no money left', says it all! In March, both the US and the UK received warnings from Moody's Investors Services that they have moved "substantially" closer to losing their AAA rating as their deficits continue to soar.
Even more worrying, is the OECD's latest call in late May for additional tax rises in advanced economies by next year at the latest to deal with "very unfavorable government debt dynamics". A concerning direct contrast to the International Monetary Fund's warning!
Aggressive tactics against one's own business community for legally mitigating their liabilities, including taxes however, is a further recipe for disaster. And certainly high handed tactics against other competing, well regulated low tax jurisdictions cannot and should not prevail. Particularly given that, as the Tax Justice Network points out, whenever they are asked to identify the biggest tax haven in the world, invariably their answer is the City of London12. Furthermore it is well known and accepted that the US hosts equally impressive tax havens of its own with Reno, Nevada and the state of Delaware, where even the US Government incorporates companies and avoids the payment of taxes on transactions with which it is involved13.
As a result of the second vote in respect of the AIFM Directive, Ecofin, the Council of Ministers meeting comprising finance ministers, agreed that: "Non-EU AIFM would be able to market funds established in third countries [such as the Cayman Islands] in an EU member state, provided that ... there are appropriate cooperation arrangements between the competent authorities in the EU and those of the third country manager for the purpose of systemic risk oversight." The vote now means a final draft will be negotiated before being put to an ultimate vote in the whole European Parliament, penciled in for July.
Pursuant to the European Parliament's Econ committee ('Econ') lang="">text 'appropriate cooperation arrangements' require: "A professional investor domiciled in a Member State shall not invest in shares or units of an Alternative Investment Fund domiciled in a third country [such as the Cayman Islands] if any of the conditions in Article 35 are not satisfied in relation to that third country." Those conditions being:-
- a cooperation agreement between the competent authorities of that Member State and the supervisor of the Alternative Investment Fund, which ensures an efficient exchange of all information that are relevant for monitoring the potential implications of the activities of the Alternative Investment Fund.
- a signed agreement with each relevant EU Member State which ensures an effective exchange of information in tax matters.
- a requirement that the third country grants EU Alternative Investment Fund Managers effective market access comparable to that granted by the EU to Alternative Investment Fund Managers from that third country
- a requirement that the Alternative Investment Fund Manager agree with the European Securities and Markets Authority to comply with the Directive
- a requirement that the Alternative Investment Fund Manager agree to submit to the jurisdiction of courts in the Union in relation to any matters arising from this Directive.
AIMA immediately expressed its concerns and outrage to the text of the Directive from Econ and held it to be ' impractical and unworkable'.
Cayman had a clear, simple and immediate response to the AIFM Directive: on an objective analysis, the Cayman Islands already meets the requirements under the new rules. This is a testament to Cayman's well regulated financial industry, indeed, one which is more regulated than some competing onshore jurisdictions.
Footnotes
1. The New York Observer 20th April 2010
2. New York Times May 16th 2007
3. Cayman could learn from the US Treasurer; what NOT to do.
4. September 2009
5. AIMA warns of global impact of EU AIFM Directive. 27th July 2009.
6. Europolitics 17th February 2010
7. Hedge Funds Review 11th March 2010
8. AIMA says draft directive still 'protectionist". 17th February 2010
9. 15th March 2010
10. Association of British Insurers
11. Guardian.co.uk. Western economies too weak for spending cuts, IMF warns.
12. Tax Justice Network. February 7th 2009
13. Cayman could learn from the US Treasurer; what NOT to do. Mondaq, supra
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
