A multi-class fund may be established as an "exempted segregated portfolio company", which secures statutory protection from the risk of cross-class liability for each segregated portfolio of the SPC
Taking account of the volatile and at times treacherous post 9/11 securities markets facing investors worldwide, the Cayman mutual funds industry fared amazingly well in 2002. The Cayman Islands Monetary Authority (the Authority) reported that the number of regulated mutual funds established in Cayman grew 17% last year. The TASS Research database shows that Cayman is now home to 45.6% of registered offshore funds, nearly as many as those domiciled in Bermuda, Bahamas, British Virgin Islands and Ireland combined. The Authority now regulates 4,220 mutual funds.
This success is both a contributing factor to, and in part the result of, the increasing worldwide recognition of Cayman as a jurisdiction of the highest quality. In August 2002, Moody’s Investor Service released its annual report on Cayman. The highly respected rating organisation maintained the country’s Aa3 foreign currency country ceiling and described the outlook for Cayman as stable, despite the disturbances to the economy caused by September 11 and the U.S. recession, and thanks, it said, to a large and diverse offshore financial services industry. Mutual funds are a cornerstone of that industry.
There are many reasons why Cayman, as a jurisdiction for the establishment of both open-ended and closed-ended offshore funds, is enjoying remarkable success.
The Mutual Funds Law, originally enacted in 1993, applies to "mutual funds", defined as a common investment vehicle (which could be a company, unit trust or partnership) that issues shares, trust units or partnership interests that carry an entitlement to participate in profits or gains and are redeemable or repurchaseable at the option of the investor.
The Law does not regulate Cayman closed-ended funds (which explains the lack of statistics on this industry). "Exempted" mutual funds are open-ended but unregulated because they have no more than 15 investors a majority of whom may change the operator (i.e. directors, trustee or general partner, as the case may be).
Most mutual funds domiciled in Cayman are "Registered" mutual funds, being mutual funds having a minimum investment of US$50,000 (or equivalent) per investor or being listed on a recognised stock exchange. Other types of mutual funds are "Administered" mutual funds, where a licensed mutual fund administrator provides the principal office of the mutual fund in Cayman, and "Licensed", applicable to a retail mutual fund with a non-Cayman administrator. Unless a mutual fund fits within one of these categories, it is prohibited from carrying on (or attempting to carry on) business in or from Cayman.
Leading financial institutions from across the globe, particularly from the Americas, Europe and Asia, have chosen Cayman as the home for their fund products for many reasons, including the following:
- Flexibility in fund structure – Cayman mutual funds can be companies, partnerships or unit trusts according to investor requirements, which are often tax related in their home jurisdiction. There are many structures utilized in the Cayman mutual fund industry, including stand-alone, side-by-side, master/feeder, multi-class (umbrella) funds and fund-of-funds. A regulated mutual fund must have an offering document which describe its equity interests in all material respects and contains such other information as is necessary to enable a prospective investor to make an informed decision as to whether or not to invest but form and content is not prescribed by the Law.
- Speed of establishment – A regulated mutual fund may be launched within a week of establishment, depending on circumstances. Before the offering commences, the fund must file with the Authority evidence of establishment, its current offering document and a summary thereof in the prescribed form and pay the Authority’s fee of US$2,439.02, which fee is due each January thereafter. The fund must notify the Authority within 21 days of making any material changes to such information.
- No direct taxes – Cayman has no capital gains, income, profits, corporation or withholding taxes. If the fund vehicle is an exempted company it can obtain an undertaking from the Cayman Islands Government that it will remain tax-free for a 20-year period and in the case of exempted trust or an exempted limited partnership the period is up to 50-years. Investors must always obtain advice on the impact of taxation by the jurisdiction in which they are tax resident on investment in a Cayman mutual fund. The UK currently proposes to extend the European Union Directive on Taxation of Savings to Cayman but the Cayman Government objects to this in the absence of a ‘level playing field’ for all jurisdictions competing for cross-border financial services work from EU individuals. Where enacted, any economic operator (such as a fund) with beneficial owners (individuals) tax resident in the EU would be required to report to the relevant taxing authority any interest payments received with respect to "debt claims" or income derived from or from the redemption of shares or units in funds that have more than 40% of their assets in debt-claims.
- Hedge funds – Cayman’s simple but effective regulations are well suited for the establishment of hedge funds, which typically charge an incentive fee and either have multiple asset classes, employ leverage or use hedging techniques in their investment strategy. This industry should expand as investors seek extra diversification by including hedge funds alongside more traditional investments.
- Multi-class (umbrella) funds - A multi-class fund may be established as an "exempted segregated portfolio company", which secures statutory protection from the risk of cross-class liability for each segregated portfolio of the SPC. Previously, such protection was only available by each portfolio investing through its own dedicated subsidiary company. The Companies Law now permits an existing exempted company to re-register as an exempted SPC if 95% in value of its creditors have consented, the members have passed a special resolution and the Authority has consented (if the company is regulated).
- Directors – The Authority requires a Cayman mutual fund to have at least two individual directors (and sometimes a sole corporate director) but they need not be independent of the Investment Manager or other sponsor.
- Investment Managers and Advisors – There are no restrictions on a fund’s investment managers and advisors except that any manager or advisor established and/or with a place of business in Cayman should register with the Authority as an "excluded person" under the Securities Investment Business Law if it carries on "securities investment business" exclusively for one or more "sophisticated person" (which includes any mutual fund regulated by the Authority) or for a "high net worth person" or for an entity owned by one or more such persons.
- Prime Brokers and Custodians – There are no restrictions on the arrangements a fund may wish to make with respect to prime brokers and custodians.
- Availability of world-class professional services – Cayman has many lawyers, accountants, and fund administrators with considerable expertise in the mutual funds area.
- Auditors – Since 1 July 2002 the Authority has required local auditor sign off on all entities it regulates, including mutual funds, which must file audited financial statements within six months of each financial year end. This policy improves the Authority’s ability to effectively communicate with auditors. Most audit firms with an offshore funds reputation are now present in Cayman.
- Administrators – There is no general requirement for a fund to have a local Cayman administrator, unless it is a fund that accepts subscriptions of less than US$50,000 per investor and does not have a Mutual Funds Licence.
- Stock Exchange Listing - The Cayman Islands Stock Exchange (www.csx.com.ky) hosts 79 mutual funds (which have a market capitalisation of over US$30 billion) and has been recognised by the London Stock Exchange as an "approved organisation". Cayman mutual funds are also often listed in Ireland (currently with 473 Cayman funds representing nearly one-third of all ISE listed investment funds) and Hong Kong, in particular.
- Trustworthy and reliable legal system – Cayman law, derived from English common law and supplemented by local legislation, ensures that Cayman Islands funds can be structured as well recognized and internationally accepted vehicles. Cayman’s courts system is well developed with appeals ultimately going to the Privy Council in London.
- Anti-money laundering culture - The Cayman Islands has long committed to implementing best international practice and is fully compliant with the requirements of the Organisation of Economic Cooperation and Development (OECD) and Financial Action Task Force (FATF), locally manifested in the Proceeds of Criminal Conduct Law, Money Laundering Regulations, Guidance Notes and Financial Reporting Unit.
- Stable and business oriented government – The Cayman Islands are a British Overseas Territory and have a history of stable government, committed to promoting the financial services industry.
- The Cayman Islands Monetary Authority (www.cimoney.com.ky) – The Authority’s mission is to regulate and supervise the financial services industry in order to maintain a first class financial system that includes safeguarding the interests of mutual fund investors from undue loss. The Authority has regard to international standards and the need for operational freedom by financial services providers and for the maintenance of a dynamic and competitive industry. Undoubtedly, the Cayman mutual funds industry owes much of its success to the high quality of its regulator.
These advantages make Cayman the premier jurisdiction for establishment of offshore funds.
Peter Stafford, Partner, leads the Investment Funds Team in the Commercial Department of Hunter & Hunter, one of the largest Cayman Islands law firms.
The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.