By Lauren Mack and Simon Riveles
The Alternative Investment Fund Managers Directive (“AIFMD”) governs Alternative Investment Fund Managers (“AIFMs”) and Alternative Investment Funds (“AIFs”) in the European Union (“EU”) and seeks to harmonize the applicable regulations throughout the member states of the EU. Among its regulations are two different paths that AIFMs planning to market to EU investors may take: (a) minimum requirements for the National Private Placement Regimes (“NPPRs”) of each individual EU member state, and (b) regulations related to the EU Passport, which allows an AIFM to market to professional investors in any EU member state if it is in compliance with the Passport requirements. The EU Passport is currently available only to EU fund managers marketing AIFs established in the EU, whereas any fund may take advantage of an EU member state’s NPPR.
When is a Fund Manager Regulated under the AIFMD?
The AIFMD applies to any legal person who is appointed by or on behalf of an AIF that regularly engages in the business of providing risk or portfolio management services to one or more AIFs. To be subject to the AIFMD, the manager must be directly appointed “by or on behalf” of the AIF and not just be a delegate of the person appointed by the AIF. For purposes of the Directive, an AIF is any collective investment undertaking (which does not include an undertaking for collective investment in transferable securities) which raises capital from investors with a view to investing that capital in accordance with a defined investment policy. A fund is an AIF regardless of its legal structure or whether it is open or closed-ended.
The AIFMD applies to all AIFMs in the EU and to non-EU AIFMs that are (a) managing or marketing one or more AIFs established in the EU to EU investors, or (b) marketing one or more AIFs established outside of the EU to EU investors.
Excluded from the scope of the AIFMD are managers of:
1. One or more AIFs where all investors are companies within the same group as the AIFMD, provided that none of those investors are an AIF;
2. AIFs with aggregate total assets of (a) less than €100 million; or (b) less than €500 million, provided that the AIF does not have any debt or redemption rights during the five year period following the date of initial investment in the AIF; and
3. Securitization special purpose vehicles.
AIFMs that do not meet the aggregate asset threshold must still register with the appropriate member state authority and provide the identity of all AIFs they manage and information on their investment strategies at time of registration. They also must comply with regular reporting requirements on main instruments trading, principal exposures, and concentrations for systemic risk monitoring purposes.
Real estate fund managers are regulated under the AIFMD unless they are a joint venture or a co-management arrangement for an asset where each of the investors co-owns the asset under management directly, as there would be no AIF in those situations.
Marketing to EU investors that is not at the direct or indirect initiative of the non-EU AIFM continues to be allowed under the AIFMD (i.e. “reverse solicitation” or “passive marketing”). Therefore, EU investors can contact non-EU AIFMs regarding investing in non-EU AIFs without the AIFM becoming subject to the requirements of the AIFMD.
What are the NPPR Requirements for AIFMs Regulated under the AIFMD?
The AIFMD has three main conditions that each EU member country must require from AIFMDs (whether located inside or outside of the EU) marketing to investors in that country:
1. Disclosure – The non-EU AIFM must comply with certain disclosure and transparency requirements, including:
a. Making available an annual report for each non-EU AIF that it markets in the European Union, which must disclose the fees paid by the AIFM to its staff (including management fees and carried interest payments), among other information;
b. Making available certain information to investors before they invest and notifying them of any material changes in that information, including preferential treatment provided to an investor, if any, and information on all fees and expenses that will be directly or indirectly borne by investors;
c. Regular reporting by the AIFM to the appropriate authorities in that EU member state; and
d. When a non-EU AIF acquires control, either individually or jointly, of an unlisted or listed EU company, the AIFM must make a number of disclosures to that company, its shareholders, and to regulators. In addition, where a non-EU AIF has acquired control of an unlisted EU company, it may not facilitate any share buy-back, distribution, capital reduction, or share redemption for two years after acquiring control unless an exemption is available.
2. Co-operation – Appropriate information exchange agreements must be in place between (a) the appropriate authorities in the EU member state; (b) the supervisory authority of the country where the AIF is domiciled; and (c) the supervisory authority of the country where the AIFM is established. This is to ensure that the appropriate authorities of the relevant EU member can effectively carry out their supervisory duties.
3. FATF – Neither the non-EU AIF nor the AIFM may be authorized or registered in a country which is listed by the Financial Action Task Force (“FATF”) on anti-money laundering and terrorist financing as a “Non-cooperative Country and Territory” at the time of marketing.
The above are only the minimum requirements for each country’s NPPR, meaning that a member state may impose stricter requirements. The AIFM NPPR regime will remain in place until at least 2018, after which the possibility of abolishing it will be explored.
Can AIFMs and AIFs in the United States Take Advantage of the EU Passport?
Not yet. The passport is currently only available to EU countries, but the possibility of opening it up to non-EU countries is being explored. The European Securities and Markets Authority (“ESMA”) recently published its advice on extending the passports to AIFMs and AIFs located in six non-EU countries, including the US. The ESMA considered the various regulatory issues in each jurisdiction, such as investor protection, competition, potential market disruption, and the monitoring of systemic risk. It did not reach a definitive option on whether the EU passport should be extended to the US, however, due to concerns related to competition, regulatory issues and a lack of sufficient evidence to properly assess the relevant criteria.
Will Extension of the Passport Benefit US AIFMs and AIFs?
The ability to take advantage of the EU Passport certainly won’t hurt US AIFMs and AIFs. If the Passport is extended, US AIFMs will have three options if they wish to market fund interests in the EU:
1. Take advantage of the Passport by registering under the AIFMD, which would subject the AIFM’s global operations to EU rules;
2. Continue marketing under each country’s NPPR; or
3. Establish an EU presence for purposes of marketing to EU investors, either through a separate group registered as an EU AIFM or through an agreement with a third-party AIFM located in the EU.
Although the Passport requirements are burdensome, they will likely often be less arduous than complying with the NPPRs of each member country that the AIFM wishes to market its AIF in. Furthermore, many have speculated that some EU states will pass stricter NPPR requirements, possibly including by lowering the aggregate asset thresholds for AIFMs to be subject to that country’s NPPR. The ability of non-EU AIFMs to market fund interests to EU investors under their NPPRs may even be completely eliminated in 2018 or later, leaving the EU Passport as the only avenue for non-EU AIFMs to market in those countries.
What are the EU Passport Requirements for Non-EU AIFMs Regulated under the AIFMD?
If the EU Passport is extended to the United States, US AIFMs that choose to take advantage of it will be subject to the following requirements:
1. Must apply for authorization to act as an authorized AIFM from an EU member state of reference (an “MSR”);
2. Comply in full with all of the AIFMD obligations;
3. Appoint a legal representative in the MSR to act as its official contact point in the EU and to perform compliance functions under AIFMD;
4. Comply with the same co-operation and FATF requirements required under the NPPRs; and
5. A tax information sharing agreement must be in place with the MSR and the US.
Full compliance with the AIFMD means complying with strict provisions on the use of liquidity, limits on leverage, use of depositaries, delegation to service providers, valuation of assets, minimum capital requirements, remuneration policies and practices, use of risk management systems, and more general reporting obligations. For many private equity funds and hedge fund managers, complying with the AIFMD would also mean restructuring their existing custodian and prime brokerage relationships.
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