There has been a great deal of attention focused on the Cayman Islands these past few months, more so than usual. Much of the debate as to what to do about the so called "tax havens" has ranged from the White House, the G8, the G20 to the Organisation for Economic Co-operation and Development ("OECD"). For those of us who work in the Cayman Islands financial industry, the debate seems to centre around the generally successful and meaningful role of the Islands in the global financial industry over the years, in the face of the steadily declining economic health of some of the onshore jurisdictions. Whilst we can look to the increasing tax burdens and unwieldy government systems as contributors to the ill health of most onshore jurisdictions, perhaps it is fair to say, however, that the current and sudden global economic crisis was spawned by perpetuating a culture of debt that became the catalyst for the failure of the US economy. That in turn had unprecedented and devastating global ramifications that brought just about everyone to their knees.
Whilst the unprecedented global economic crisis has generated what appears to be the "perfect storm" for the offshore financial centres, it is unfortunate that, perhaps for political reasons, no distinction seems to be made for those well regulated offshore jurisdictions. Perhaps what is even more indicative of a political bias is that there has been little said to address the real identified factors behind the crisis. As a result, the Cayman Islands Government was forced to feverishly fight being 'Grey-listed' by the OECD. Cayman however, on the signing of its twelfth Tax Information Exchange Agreement with New Zealand this month was placed on the 'White List'.
As an offshore pioneer, Cayman can argue that it has secured itself as the jurisdiction of choice primarily through the crafting of visionary laws and regulations and has become a meaningful contributor and player to global industry by also ensuring that those laws and regulations evolved as necessary and remain well honed. Cayman has also played by the rules and ensured that the business that does go through its jurisdiction meets the international anti-money laundering requirements, and in this respect, it has exceeded the standards of most onshore jurisdictions. A strong private sector which includes buoyant associations such as the Bankers Association, the Directors Association, the Company Managers Association, the Law Society, the Cayman Islands Financial Services Association, the Society of Professional Accountants and the Alternative Investment Managers Association, has worked with the Cayman Governments of the day to ensure that the Cayman financial industry, particularly the banking and investment funds industry, remains at the pinnacle of the global industry.
The current efforts of the EU and the US, against the so called "tax havens" and businesses established offshore, particularly those that are well run and well regulated offshore jurisdictions, seem to require thwarting capitalism and fair market trade in the private sector, especially onshore. The level of backlash to the draft EU Directive for Alternative Investment Fund Managers ("Directive") designed to further regulate alternative investments, should have been perhaps therefore anticipated, as the Directive definitely seems to run contrary to capitalism and fair market trade, attributes of most democratic societies. A bemused observer made the comment that he was unable to understand why the G20 finance ministers who met in March 2009 had focused on the hedge fund industry in particular, notwithstanding that there was no indication that the hedge fund industry played any part in the current global economic woes (Bernie Madoff aside, (although, in any event, he was not a hedge fund manager) and in that instance the failure of the SEC to do their job as a regulatory body seems well established). Since then, the EU Commissioner for Internal Market and Services Charlie McCreevy, has admitted that most commentators agree that alternative investments were not the primary cause of the crisis but stated publicly that there has been "strong political pressure" for more regulation. Such a confession should be of concern to all in the global market. The Financial News1 has reported that some of Europe's leading institutional investors have said they will oppose the draft Directive, hedge fund managers and private equity firms have formed steering groups to focus their calls for change to the draft Directive and City minister, Lord Myners, has urged investors to join the protest. The editorial of the Financial News points out the obvious: it is unfair to single out the hedge funds as they are, as a general rule "one of the victims of the crisis, not one of the culprits".
The Directive is viewed as imposing yet another burden that fund managers do not welcome. At the forefront of the battle against the Directive, is the Alternative Investment Management Association ('AIMA'), whose membership is certain to be the most immediately and heavily impacted. AIMA has launched a major campaign against the Directive which they have warned could potentially have devastating consequences, including to Europe's pension fund industry which they warn could lose up to €25 billion a year if implemented in its current form!2 Their efforts have not been in vain as a broad alliance has evolved right across the global industry, from the global banks to the UK commercial real estate industry. Ironically it is reported that the US are quietly petitioning against the Directive.
The International Fund Investment's research department3 interviewed UK based alternative fund managers and their consultants earlier this summer, as well as institutional investors and family offices to get their views on domiciliation on the heels of the Directive and the recent income tax increases. Ultimately, when asked if they will relocate their funds as a result of the Directive, most interviewed indicated that it is the rules, resources, reputation and regulatory infrastructure that are the critical factors in domicile satisfaction – not so much that they are in the EU. Cayman currently hosts 80% of the world's hedge funds. The fact that the Cayman Islands has as strong an infrastructure to support the investment fund industry as most onshore jurisdictions, has kept the Cayman Islands at the pinnacle of success in the hedge fund industry to date. It might prove to be a critical factor to enable it to weather the storm. When asked to rate the service they receive from their offshore service providers, the report showed that auditors came top, lawyers came second and administrators came last. The fact that the Cayman Islands continues to host almost all of the top accounting firms and more leading law firms than most of its competitor offshore jurisdictions, allows Cayman to continue to be favourably viewed for domiciliation of funds.
Whilst the research was geared mostly to investment managers and their own domiciliation, the statistics and overall information that the report generated was quite enlightening. Some 84% view the current draft Directive as negative to the industry and managers and advisers alike were "unremittingly hostile". The prediction by most in the industry particularly in the UK is that, if the Directive goes through anywhere near its current form, the migration out of the UK and out of the EU will be almost certain. The Financial News quoted Lindsay Tomlinson, the incoming chairman of the National Association of Pension Funds and European vice-chairman of asset manager Barclays Global Investors, as commenting on the Directive "if implemented as drafted, would have many consequences that in aggregate do not seem to benefit investors. The problem in amending this draft is to decide where to start." Only 22% of managers ruled out leaving the UK if the Directive is not substantially amended. But whilst many are predicted to launch new funds in the EU moving forward, most managers will, it is predicted, keep their current offshore fund structures. The EU Funds will be additional and will mirror the offshore structures. The fund managers have made the point that EU based funds will be 'expensive and time consuming' and most predict the failure of the draft Directive. If it goes through, regardless of its objective, it seems clear that it will deal a lethal blow to the European fund managers and the industry. Any relocation of the funds themselves to Europe as a result of the draft Directive is not one that most are willing to make. Most who have worked in the industry believe the move will mean being forced to work in a jurisdiction that is less user friendly, with less efficiency, less flexibility and more set up costs and overall expenses than setting up in the Cayman Islands which is known for striking the right balance with effective and appropriate legislation. This includes the more likely jurisdictions such as Ireland and Luxembourg that they will consider if they are forced to relocate. They see themselves as being forced into a system that is bound for failure, which is a high price tag that the industry, including the investors, cannot afford. In fact a significant majority show that they will continue to use offshore funds for all of the aforementioned reasons in spite of having to take into account the potential threats and penalties levied at the industry. Perhaps, rightfully, they do not see the blame for the current economic woes and the Madoff type sagas as resting with the offshore industry. NO ONE interviewed was looking to relocate their funds voluntarily and most said they would not, even if they were required to relocate themselves to another jurisdiction. But even Ireland, one of the jurisdictions expected to gain in the hedge fund re-domiciliation of hedge fund managers if the draft Directive goes through in its current form, is protesting the Directive because of the negative impact it will have on the Irish Pension schemes and their investments.
Ultimately, all agree it is too soon to know how things will look once the dust has settled. In the meantime, much will depend on proactive measures to ensure that the Cayman Islands remains a key player in the industry. At a Chamber of Commerce luncheon held in July, the Leader of Government Business for the Cayman Islands, the Honourable McKeeva Bush, announced that the Cayman Islands Government was "...seeking legislative support to encourage fund managers to physically set up operations in Cayman." Mr. Bush continued, "To this end, I will shortly announce a working group to produce a comprehensive strategy for attracting these fund managers here. I also intend setting up a similar group to encourage international businesses to establish a physical presence locally." This is heartening and encouraging news as it shows a willingness to continue to evolve to meet the market conditions, although this also seems to require a paradigm shift in local policies including Cayman's Immigration laws and policies.
It is imperative that other key stakeholders in the global industry also speak up and underscore the importance of the role that the well regulated low-tax jurisdictions, such as the Cayman Islands, play for the continued welfare of the industry as a whole. The Institute of Directors' bold statements of warning to the UK Government and its criticism of the G20 nations of the continued attacks on low tax jurisdictions as without basis and "may not be the most productive [choices]", are welcomed. Richard Baron, the Head of Taxation at the Institute of Directors commented, "There are some bad jurisdictions, which facilitate tax evasion or worse crimes. But we must also recognize that low-tax jurisdictions can oil the wheels of commerce. It is perfectly reasonable for other states to act to protect their tax revenues, but they must be careful not to throw grit into the mechanism." An article published on Step.org, written by Jason Sharmon4, author of "Behind the Corporate Veil: A Participant Study of Financial Anonymity and Crime" detailed a study to determine which countries were more rigorous or lax in applying international rules of due diligence for corporate vehicles as well as opening of bank accounts. The study brought home what those of us who work in the industry in Cayman have long known: "On average the US and the UK have a worse record of compliance than the offshore financial centres... Corporate service providers in jurisdictions like... [the] Cayman Islands... were punctilious in their customer due diligence."
Mr. Sharmon summarises the political nature of the assessment made by the OECD and G20 in stating, "the G20 and OECD have fixated on the problem of willingness to exchange financial information between countries. This ignores the prior issue that unless countries enforce the obligation to collect information on those entering the financial system, there will simply be no information to exchange. It is hardly credible to say that major OECD centres lack the means to enforce the 'know your customer' standards they have designed, committed to and imposed on others. Instead, it seems that these countries have simply chosen not to comply with important international benchmarks..."
The recent significant income tax increase in the UK has caused concern with almost all fund managers (94%). Most London based fund managers have said that they would consider having an additional office elsewhere as a result of the tax increase. The tax increase might be the last straw for fund managers in the UK. It was commented that because of the high income and capital taxes, legitimate tax planning and offshore structures have increased and will continue to increase. This again, might be good news for the Cayman Islands, which may prove to be a benefactor.
For the Cayman Islands however the task of finding a level playing field to stand up and defend itself has always been a tall order. This time around it seems that Cayman might have allies in the private sectors onshore, which have quickly surmised that everyone's bottom dollar is at risk with the implementation of the Directive and the general attack on the offshore centres.
We invite you to visit CaymanHedgeFundWorld.com for a summary of the Investment Funds legislation in the Cayman Islands which has allowed Cayman to play a leading role in the industry.
1. Financial News, 13th July, 2009
2. AIMA media release 4th August 2009
3. An Industry in Transformation, 2009
4. STEPJOURNAL , July/August 2009
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