Expertise in the ever-growing Islamic finance market
Maples and Calder's Islamic finance team has been involved in many of the most innovative Islamic finance transactions, including the largest Sukuk issuance to date, the first Sukuk issuance in the UK, the first Sukuk to be listed on the Cayman Islands and Dubai stock exchanges, derivative transactions, project finance structures, the largest Shariah compliant private equity fund ever launched, in each case structured to comply with Islamic principles or Shariah.
As the Islamic finance market continues to expand across the globe, we have seen many of our clients show an ever-increasing interest in offering Shariah products and many are now expanding and diversifying their range of Shariah compliant services. JONATHAN CAULTON and MUSHFIQUE KHAN discuss the usage of Cayman Islands structures in Islamic finance transactions.
Why the use of the Cayman Islands helps in structuring many Islamic finance products
There are many good reasons why Cayman Islands structures are a popular choice for Islamic finance products, as they are for conventional finance products.
Sophistication as a jurisdiction
The Cayman Islands is a British Overseas Territory. The UK is responsible for the external affairs of the Cayman Islands and its defence and internal security but, otherwise, the Cayman Islands is effectively self-governing with a democraticallyelected legislature. The Cayman Islands has no exchange controls, it makes its own laws and has independent legal and judicial systems.
The substantive law of the Cayman Islands is based on English common law; local statutes have built upon this and developed innovative and flexible approaches tailored for a sophisticated / institutional client base to provide the perfect platform for Islamic finance structures. Well-recognised legal concepts (including limited liability and separate corporate personality) underpin the Cayman Islands corporate vehicle, as well as the principles governing lending and the granting of security over assets. Decades of experience and extensive due diligence have demonstrated to investors, banks, development agencies, counterparties, regulators and international authorities that the Cayman Islands legal system is sophisticated and reliable. Furthermore, international lenders and rating agencies have rigorously reviewed and stress-tested the Cayman Islands laws governing lending and granting of security over assets. All of these principles have been tried and tested and were found to be robust and effective despite the turmoil of the global financial crisis. The Cayman Islands has retained a rating of 'Aa3' from Moody's Investors Service continuously since 2000. The outlook for the rating is stable, encouraging investors to have utmost confidence in the jurisdiction. Further, there is an established and reliable stock exchange (the CSX), that has 'recognised stock exchange' status from the UK HM Revenue and Customs. At the time of writing, the CSX has more than 1,100 listings (including Shariah compliant funds and Sukuk).
There are dedicated 'fast track' commercial courts in the Cayman Islands, including a Financial Services Division of the Grand Court that recognises the need for special procedures and skills in dealing with the more complex civil cases that arise out of the financial sector in the Cayman Islands. Cayman Islands courts are very active, efficient and well respected. In addition, the ultimate court of appeal is the Privy Council in London so there is a good deal of certainty in relation to the judicial process. This is a strong source of comfort for investors and counterparties, who may want the reassurance that if rights have to be enforced before a court, it will be before a familiar and trusted system.
The Cayman Islands is a well-known and trusted centre of excellence for its established and experienced financial services sector and professional service providers. The quality and depth of this professional infrastructure enables exemplary service and support to financial institutions, sophisticated investors, rating agencies and professional firms in all of the world's major financial markets. The Cayman Islands prides itself on a high standard of professional services, with lawyers, auditors, trust companies and fund administrators familiar with complex cross-jurisdictional structures. The banks are viewed as reliable and responsive and the local infrastructure for communication is sophisticated. All of the big four accountants maintain offices in the Cayman Islands. There is a strong and proven commitment of government and industry cooperation and consultation transparency. The Cayman Islands is rated by the OECD as largely compliant regarding transparency and information exchange - the same rating as given to the UK, Germany and the US.
The Cayman Islands is a tax-neutral domicile. The Cayman Islands is not a party to any double taxation treaties and so any taxes due where money is made (such as corporation tax) and where money is distributed (such as capital gains tax or income tax on dividends) remain payable in such jurisdictions. The fact there is no additional layer of tax or withholding in the Cayman Islands means that complex international transactions may be structured efficiently without an additional layer of tax in the jurisdiction where the vehicle combining the stakeholder's interests happens to be located. A Cayman Islands company may apply for an undertaking from the Cayman Islands government that such tax-free status will be maintained for a period of 20 years from incorporation, irrespective of any subsequent generally applicable law change. The period can be extended for a further 10 years if the transaction requires it.
The formalities regarding the incorporation of companies are straightforward, meaning a company (subject to satisfying relevant know-your-client requirements) can be incorporated on a same-day basis and at a low cost. Maintenance requirements are also limited; for instance, there is no requirement to have resident directors, to convene annual general meetings or (unless they are regulated entities) to prepare and file accounts. This reduces cost and administration. The Cayman Islands does not impose a double layer of regulation. No governmental or regulatory approvals are required for incorporation of a company which is not otherwise required to be regulated as a bank, trust company, mutual fund, mutual fund administrator, insurance company, company manager or broker/ dealer/advisor.
The Cayman Islands has proved flexible in response to the needs of the growing Islamic finance industry. For example, since 2007, companies have been permitted to register their names in Arabic as well as in English and in 2008, amendments were made to two Cayman Islands statutes to facilitate the issuance of Sukuk as they are now classed as 'alternative financial instruments' and fall outside of trusts and funds regulation.
Examples of popular Islamic products in the Cayman Islands
Below, we look at the current market for Islamic finance, and show how a Cayman Islands entity can benefit common Islamic structures and why the Cayman Islands is the jurisdiction of choice for Islamic finance products ranging from Islamic investment funds and private equity funds, Sukuk and securitisation structures and asset finance as well as the implementation SPVs that act as the financial intermediaries for derivative transactions.
As mentioned previously, the Cayman Islands legal framework is based on English law and thus, unlike certain GCC jurisdictions, it recognises the concept of trust which is crucial to a variety of Islamic finance transactions.
A Sukuk structure typically involves the acquisition of assets from an originator (or borrower) seeking to raise financing through an issuer SPV (incorporated in the Cayman Islands). A strict requirement of Shariah scholars is that the issuer SPV and the originator deal on an arm's length basis. Thus, it is common for the Cayman Islands issuer SPV to be owned by a Cayman Islands purpose or charitable trust.
The issuer SPV holds the assets on trust for the benefit of the Sukuk holders and will fund itself by the issue of Sukuk instruments with proceeds raised paid to the originator.
The Cayman Islands has been used for special purpose companies as formal issuers of Sukuk regularly for a number of years and sold by large enterprises from the Middle East and the wider Islamic world.
Along with capital market structures, the Cayman Islands has also become a home to Shariah compliant aviation finance. As is standard with any Ijarah aircraft financing, the financier will purchase the asset (in this case aircraft) on its client's behalf and then leases the right to use such an asset to its client in exchange for rental payments (with profit commonly benchmarked against LIBOR). A Cayman Islands SPV can provide protection for the financier; this is because as lessor it will otherwise remain the legal owner of the aircraft and will therefore be liable for any losses resulting from such ownership. Therefore, to diminish the risk for the financier, the parties can establish a Cayman Islands SPV to act as legal owner and lessor. The client may also deem it efficient to establish a Cayman Islands SPV to act as lessee and operator of the aircraft.
The literal meaning of Musharakah is 'sharing'. These contracts are based on a partnership process in which several parties contribute to the financing and management of a Shariah compliant project.
In this contract, each partner to the Musharakah contract retains their share in the capital until the end of the project. The profit ratio is pre-agreed in the contracts and losses are distributed in proportion to the capital provided.
In a Cayman Islands context, the partners to the Musharakah contract would each be a Cayman Islands SPV with one providing the financing and the other being the sponsor (and in most cases making a contribution in kind). The two partners form a joint venture entity (also a Cayman Islands SPV) and it is this company that will enter into the contracts for the purchase, management or development of the underlying asset. The shares of the joint venture SPV will be owned by the partners and the shares of the partners may be held by a Cayman Islands trust.
The Cayman Islands has become a perfect home for Islamic finance. As the modern era of Islamic finance continues to develop, the Cayman Islands remains well placed to facilitate Islamic investment structures.
Originally published in UK Islamic Finance
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.