Cayman Islands: Cayman Islands Summary

Introduction

The Cayman Islands, which this year celebrate the 500^th anniversary of their discovery by Christopher Columbus, are one of the world’s most sophisticated financial centres, and have continued to consolidate their position as the offshore domicile of choice for banks, insurance companies and investment funds. At the end of the first quarter of 2003, 485 banks, over 4,300 investment funds and over 600 insurance companies were licensed or otherwise regulated in the Cayman Islands.

Many of the world’s largest banks are represented in the Cayman Islands and they engage in a broad range of banking activities including: asset finance, structured finance, capital markets transactions, international lending, securitisations, asset management, insurance, fiduciary services and investment fund administration. In addition to this internationally-orientated banking, there is a retail banking sector engaged in the usual range of personal and corporate banking services, most of which are now offered via secure websites as well as via traditional physical offices.

The diverse range of financial services offered in the Cayman Islands is regulated by a number of different statutes such as the Banks and Trust Companies Law, the Building Societies Law, the Companies Management Law, the Co-operative Societies Law, the Insurance Law, the Money Services Law and the Mutual Funds Law (collectively, the "Regulatory Laws"). Until fairly recently there was no specific legislation dealing with securities investment business (broadly, dealing in, managing or advising on securities investment), but this anomaly has been addressed by the Securities Investment Business Law, 2001 (the "SIB Law"), which will, when fully in effect, impact upon hitherto unregulated services and will create new offences of insider dealing and the creation of a false or misleading market in securities – see further below.

Responsibility for licensing and regulation of financial service providers rests with the Cayman Islands Monetary Authority ("CIMA"), a statutory body established in 1996 by the Monetary Authority Law. Initially, CIMA’s responsibilities in relation to regulated entities were essentially advisory and supervisory: the ultimate power to grant licenses to, to impose sanctions on and exercise statutory powers against licensees remained with the Governor-in-Council (i.e the Executive Council of the Cayman Islands government). In one of the major developments of the last year, amendments have been made to the Monetary Authority Law, which expand and clarify the role of CIMA and provide for its operational independence from the Cayman Islands government. Decisions which were previously those of the Governor-in-Council have become the responsibility of CIMA.

Consequential amendments were necessary to the Regulatory Laws in order to provide that regulation of all financial services rested with CIMA and the necessary legislation was passed at the end of 2002 and at the beginning of 2003.

CIMA’s functions, other than its functions relating to currency and the currency reserve, are divided into three areas: regulatory functions, consisting principally of the regulation and supervision of financial services business and monitoring compliance with anti-money laundering regulations; co-operative functions consisting of the provision of assistance to overseas regulatory authorities; and advisory functions consisting of advising the government on regulatory and co-operative matters, and in particular, whether the regulatory laws and CIMA’s regulatory and co-operative functions are consistent with those in other jurisdictions.

CIMA is responsible both for the processing of licence applications and for the ongoing supervision of licensees.

The policy for new licences is, in summary, that a banking licence will be granted only in "very special circumstances", if the applicant does not have a supervised banking entity in another country. Where the applicant is a branch or subsidiary of a bank established and licensed in another jurisdiction, a banking licence will not be granted unless the supervisory authority in that jurisdiction confirms that it has no objection to the establishment of a Cayman Islands branch or subsidiary, that it has no regulatory concerns with respect to the parent entity or its management, and that the Cayman Islands branch or subsidiary will be included in the consolidated supervision of the parent entity. That consolidated supervision must be conducted in accordance with standards acceptable to CIMA, which means, in practice, that it must adhere to the Basel Core Principles

CIMA has a statutory duty to maintain a general review of banking practice in the Cayman Islands and to monitor the business of each licensee. CIMA’s ongoing supervision of licensed banks is based on off-site analysis and on-site inspections. CIMA conducts, among other things, analysis of regular audited and unaudited financial statements, meetings with management and periodic reports or examinations by auditors on specific areas of internal controls. Capital adequacy, asset quality, management capability and expertise, earnings and liquidity are assessed on an ongoing basis, and CIMA’s stated policy is to adhere very closely to the Basel Principles for Effective Banking Supervision. It has set threshold capital adequacy ratios of 12% for subsidiaries of banks subject to consolidated supervision and 15% for locally incorporated banks.

CIMA has published policy statements on credit risk management, operational management (both based on equivalent publications by the Basel Committee on Banking Supervision) and compliance. The amendment earlier this year to the Monetary Authority Law specifically requires CIMA to issue a regulatory handbook setting out its policies and procedures, which can be expected to consolidate all CIMA’s policy statements relating to the regulatory laws. The regulatory handbook is scheduled for issue in August 2003.

The issue or transfer of shares of a licensed bank (and of most other licensees under the regulatory laws) is prohibited without CIMA’s prior approval, and this prohibition extends to beneficial as well as legal interests in shares. The transfer of shares in a bank’s parent company will be regarded, for this purpose, as a transfer of a beneficial interest in the shares of the bank itself.

But a bank may be exempted from this requirement for prior consent if its shares are publicly traded on a stock exchange approved by CIMA. Any such exemption is subject to the conditions that the bank must, as soon as reasonably practicable, (i) notify CIMA of any change of control of the bank, any acquisition by a person or group of persons of more than 10% of the issued share capital or total voting rights of the bank or its parent company; and (ii) provide CIMA with such information, within such period of time as it may require to assess whether each of the transferees of the shares is a fit and proper person to have control of the bank, or ownership of the shares.

Sanctions are available to CIMA if it is of the opinion that: (i) a bank is or appears likely to be unable to meet its obligations as they fall due; is carrying on business in a manner detrimental to the public interest, the interests of its depositors or other creditors; has contravened the Banks and Trust Companies Law or failed to comply with a condition of its licence; (ii) the direction and control of a bank’s business has not been conducted in a fit and proper manner, or a director, manager or officer of the bank is not a fit and proper person to hold that position; or (iii) a person acquiring ownership or control of a bank is not a fit and proper person to have that control or ownership.

In those circumstances, CIMA has various possible courses of action. It may: (i) revoke the bank’s licence, impose conditions or further conditions on that licence, or vary or revoke any such conditions; (ii) require the substitution of any director or officer of the bank; (iii) appoint a person to advise the bank on the proper conduct of its affairs and to report to CIMA, or to assume control of the bank’s affairs (any such appointment being at the expense of the bank); and (iv) require the bank to take such other action as CIMA considers necessary.

CIMA’s approach to, and its procedures for, the exercise of these powers are set out in its policy statement, The Ladder of Compliance.

There is no deposit insurance or guarantee scheme in the Cayman Islands, but deposits with a Class A licensed bank incorporated in the Cayman Islands, constitute, up to a prescribed limit and subject to certain exclusions, preferential debts, on the winding up of the bank.

The first CI$20,000 (US$24,000) of such deposits are repayable in priority to other debts of the bank (other than certain taxes and wages, with which they rank equally). This is essentially a measure to protect individual depositors, and does not apply to deposits in the name of another financial institution, any director, controller or manager of the bank (or anyone exercising those functions), any person holding 5% or more of the shares of the bank, or any parent, subsidiary or company under common ownership with the bank.

The tax information exchange agreement, entered into by the Cayman Islands with the United States of America in November 2001, will come into effect, in relation to criminal tax matters, for the first tax year after December 2003. This agreement, which was made in accordance with the Cayman Islands’ commitment to the OECD in May 2000, relates to federal income tax only and to criminal tax evasion. The implementation of the agreement will permit the disclosure of information, pursuant to requests made in the prescribed manner made by the designated competent authority in one country to the designated competent authority in the other. The competent authorities are, for the United States of America, the secretary of the Treasury, and, for the Cayman Islands, the Cayman Islands Tax Co-operation Authority. Legislation will be required in the Cayman Islands to designate the necessary competent authority and to prescribe the manner in which requests for information will be dealt with.

The proposed directive by the Council of the European Commission to ensure effective taxation of savings income in the form of interest payments within the European Community is part of a package of measures by the European Commission to tackle "harmful tax competition" in the European Union. The directive would require the reporting of certain information relating to interest payments to individuals resident in European member states. It would not apply to payments to institutional customers.

The European member states have, themselves, had difficulty reaching agreement as to the form and implementation of the directive, but the United Kingdom government has given a commitment that its dependent territories, including the Cayman Islands, will adopt equivalent measures. The Cayman Islands has opposed any requirement that it adopt such measures.

The basis of the Cayman Islands’ anti-money laundering legislation is the Misuse of Drugs Law, the Misuse of Drugs (International Co-operation) Law and the Proceeds of Criminal Conduct Law. The Proceeds of Criminal Conduct Law provides for the making of regulations relating to anti-money laundering procedures, and such regulations ("Regulations") were made, initially, in September 2000.

The Regulations require anyone engaged in relevant financial business to have in place systems and training to prevent money laundering. In particular, procedures must be in place for the identification of clients, keeping records of client identification, reporting of suspicious transactions, internal controls and communication and employee anti-money laundering training.

To supplement the legislation and the Regulations, CIMA, in consultation with the professional associations engaged in financial services, has issued Guidance Notes on the Prevention and Detection of Money Laundering in the Cayman Islands. These Guidance Notes, mostly recently updated in April 2003, aim to provide consistency in the interpretation and implementation of the Regulations in relation to the key areas of client identification and verification, record keeping procedures, internal reporting procedures, reporting of suspicious transactions and staff training.

In September 2002, the Cayman Islands government pledged its support to the United States of America in adopting measures to combat terrorist activity. Certain measures are already in force in the Cayman Islands, by virtue of orders made under the United Kingdom’s United Nations Act, but the Cayman Islands government is preparing specific legislation, which is expected to differ from the anti-money laundering legislation and which will apply to the proceeds of illegal activities, by targeting the application of funds from legitimate sources to finance terrorist activities.

The Securities Investment Business Law ("SIB Law") was enacted in March 2002 to provide a single regulatory regime for all aspects of securities investment business, some of which was previously regulated under other regulatory laws and some of which was previously unregulated. The SIB Law requires any person conducting securities investment business to be licensed by CIMA so to do, unless he falls within one of the specified exemptions.

The SIB Law provides that different commencement dates may be prescribed for different provisions. The provisions of the SIB Law relating to the exemptions came into force on 14 August 2002, but the remaining provisions have yet to be implemented.

Securities, for the purposes of the SIB Law, include shares and capital stock of companies, limited partnership interests, units of participation in unit trusts, most forms of debt instruments, warrants and similar instruments, futures, options and contracts for differences. Securities investment business includes:

1. advising on securities if the advice is given to a person as, or as agent for, an investor or potential investor and advising on the merits of buying, selling, subscribing for or underwriting securities, or exercising any rights so to do, whether as principal or agent;
2. arranging deals in securities with a view to another person, whether as principal or agent, buying, selling, subscribing for or underwriting securities, or a person who participates in the arrangement buying, selling, subscribing for or underwriting securities;
3. discretionary management of securities belonging to others, or advising a person on securities, if the advice is given to a person in his capacity as, or as an agent for, an investor or potential investor, and advice on the merits of buying, selling, subscribing for or underwriting a particular security, or exercising any right conferred by a security so to do, in either case whether as principal or agent.

Certain activities which would otherwise constitute securities investment business are specifically excluded. In summary, these are buying, selling, subscribing for or underwriting, as principal or agent, debt instruments, guarantees or assurances made or provided by that person or his principal; issuing, redeeming or repurchasing securities, debt instruments, warrants and similar instruments; transactions for the purposes of risk management; disposal of goods of supply or services, the buying, selling, subscribing for or underwriting securities by an employer in connection with the operation of a share or pension scheme and the application of proprietary assets for the purchase, sale or subscription for securities.

In addition to the Cayman Islands Government, CIMA and the Cayman Islands Stock Exchange, the exemptions apply to any of the following categories of people who carry on securities investment business:

1. a group company which carries on securities investment business exclusively for one or more companies in the same group;
2. a person participating in a joint enterprise (and, if a company, any other company which is part of the same group) with the person carrying on securities investment business, where the activities constituting the securities investment business are to be carried on for the purposes of or in connection with that joint enterprise;
3. a person who carries on securities investment business solely for one or more of:

(i) sophisticated persons (persons regulated by CIMA or by a recognised overseas regulatory authority, persons any of whose securities are listed on a recognised stock exchange or persons who by virtue of knowledge and experience in financial and business matters are reasonably to be regarded as capable of evaluating the merits of a proposed transaction and who participates in a transaction with a value of CI$80,000 (US$100,000) or its equivalent in any other currency in the case of each single transaction);

(ii) high net worth persons (individuals whose net worth is at least CI$800,000 (US$1,000,000) or its equivalent in any other currency, or any person that has total assets of not less than CI$4,000,000 (US$5,000,000) or its equivalent in any other currency); and

(iii) a company, partnership or trust (whether or not a regulated mutual fund) whose shareholders, partners or unitholders fall within (c)(i) or (c)(ii);

4. a person who is regulated in respect of securities investment business by a recognized overseas regulatory authority in the country in which the securities investment business is being conducted;
5. subject to certain restrictions, a person who conducts securities investment business only in the course of acting as a director, partner, liquidator, trustee in bankruptcy, receiver, executor or administrator, or a trustee acting together with co-trustees as such or acting for a beneficiary under a trust.

Any person who falls within the exemptions in paragraphs (a), (c) or (d) above will be required to file an annual declaration with CIMA specifying the exemption which applies to him.

When the remaining provisions of the SIB Law come into force, subject to those exemptions, any company incorporated in the Cayman Islands, partnership established under the laws of the Cayman Islands or any person who has established a place of business in the Cayman Islands through which securities investment business is carried on, will be required to be licensed, though there will be a six month transitional period.

The landscape of the banking sector in the Cayman Islands continues to evolve. On the retail side the combination of the Caribbean retail banking operations of CIBC and Barclays Bank Plc in 14 jurisdictions (including the Cayman Islands) at the end of 2002 to create First Caribbean International Bank was a significant regional event and it remains to be seen whether this is a portent of a consolidation in the retail banking industry or a one-off. The legislative framework governing banking services appears to have been completed by the introduction of the SIB Law, although the operative provisions of that law have yet to be brought into effect. With regard to the regulatory climate, the ongoing worldwide fight against money laundering and terrorist funding, may well result in further tinkering with practical guidelines, but the Cayman Islands is one of the most advanced juridictions with regard to anti money laundering regulation, and this should continue to give the jurisdiction a distinct business advantage over other offshore financial centres.