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Guide to setting up an investment fund in Jersey

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Jersey is a high-quality location for fund management and administration with more than four decades of experience in servicing the investment funds market.

Jersey is a high-quality location for fund management and administration with more than four decades of experience in servicing the investment funds market. The establishment and operation of investment funds in Jersey is governed principally by two pieces of legislation, namely, the Control of Borrowing (Jersey) Law, 1947 as amended, (the ‘Borrowing Law’) and the Collective Investment Funds (Jersey) Law, 1988 as amended, (the ‘CIF Law’). Together the two statutes provide the framework for appropriate investor protection whilst retaining the flexibility to adapt quickly to changing market conditions.

The island’s fund industry has doubled in size over the past five years and stood at GBP246bn at the end of March 2008. More than half of this amount is represented by specialist and alternative funds.  Much of the recent growth is down to the impact of Expert Funds, which were introduced in 2004 to offer a streamlined regulation product for funds targeting expert investors. Earlier this year, Jersey introduced Unregulated Funds, for vehicles targeting sophisticated institutional investors, as well as funds already subject to oversight on a recognised stock exchange.

The environment for funds in Jersey has also been enhanced by the transfer on November 14, 2007 of the regulation of fund functionaries from the CIF Law to the Financial Services (Jersey) Law 1998 (the ‘FSJ Law’), which has improved the interaction between the Jersey Financial Services Commission (the ‘JFSC’) and fund service providers.

This change enshrines the shift in focus of fund supervision by the JFSC from product-by-product regulation to the licensing of fund service providers on the island. The regulation of funds has been separated from the regulation of fund functionaries, who no longer need to apply to the regulator for a license under the CIF Law for each new fund they intend to act for, as long as they are already registered to undertake the proposed activity.

Expert funds

The publication of the Expert Fund Guide by the JFSC on February 3, 2004 opened the door to establishing innovative schemes and hedge fund-type products aimed at sophisticated, high net worth, professional and institutional investors. There is no restriction on the number of investors in an Expert Fund and no requirement for the creation of a local management company linked to the fund’s promoter.

The authorisation of an Expert Fund requires a Jersey-based monitoring fund functionary, in most cases the administrator, to take primary responsibility for self-certifying that a proposed fund meets the structure and documentation criteria for an Expert Fund. This helps minimise the regulatory role of the JFSC in the establishment of the fund. The functionary also certifies that appropriate disclosures have been made in the fund’s documentation, particularly in respect of the offering document’s disclosures of investment and borrowing strategies.

An application for establishment of an Expert Fund must be lodged with the JFSC, completed by the regulated Jersey functionary and countersigned by the directors of the fund, the general partner or trustee. If the fund meets the Expert Fund guidelines and all regulatory checks are satisfied, the appropriate consents and certificates will be issued by the JFSC on an expedited basis, normally within three days.

From April this year, funds will receive a certificate of approval from the JFSC rather than a permit as formerly, while the functionary receives a license to provide services to the designated fund. The license for each functionary sets out the terms of approval and ongoing requirements on the fund – principally continuing to have two resident directors, complying with the terms of the Expert Fund Guide, and notifying the JFSC of any material change that might alter the terms of the original permit/certificate. The monitoring functionary has ongoing responsibility for overseeing compliance by the investment manager with the fund’s investment principles and notifying the JFSC of any breach of the terms.

In an expert fund, no particular investment or leverage restrictions are imposed by the regulator provided that the functionary believes the strategies have been fully disclosed to investors. The JFSC should be informed if there is an intention to leverage more than 200 per cent, providing the reason for this.

The fund’s board, general partner or trustee is ultimately responsible for the management and control of the fund. A fund company must have two Jersey-resident directors, who must be approved by the regulator and must have relevant fund experience. There is no requirement for the investment manager to be represented on the board of directors, but it is normal practice.

Investors in Expert Fund must receive and accept an investment warning acknowledging that the fund is suitable only for expert investors and to confirm their awareness that it involves special risks and is subject to limited regulatory oversight. Investors must also confirm that that they are either investing USD100,000, are a professional investor as defined by the Expert Funds Guide or a high net worth individual with USS1m in assets excluding their principal residence, but including assets jointly held with a spouse, or fall within another category of ‘expert investor’.

Most Expert Funds rely on the professional investor exemption or the minimum subscription level. In practice, most Jersey-domiciled hedge funds have a higher minimum subscription level, typically USD500,000, although directors retain the discretion to reduce the threshold for particular investors. The JFSC has confirmed that applications to extend the definition of ‘expert investor’ to carried interest investors is likely to be treated sympathetically and that those involved in establishing and providing services to an Expert Fund should be able to invest in the fund without having to meet the expert investor criteria.

The investment manager should be regulated in an OECD or associate member jurisdiction, although a non OECD-based investment manager may also be approved if it can demonstrate a relevant track record in an appropriate strategy and is well known to investors. Any jurisdiction with a memorandum of understanding with the JFSC or where the local regulator can provide suitable assurances to its Jersey counterpart is likely to be acceptable.
 
An investment manager should operate a ‘four eyes’ principle in its investment procedures. They should possess relevant experience in relation to the investment strategies followed by the Expert Fund, be solvent, and have no previous record of regulatory infractions.
 
Investment managers that do not meet these criteria fully may be approved on a case-by-case basis by the JFSC. There is no capital adequacy requirement unless the investment manager is resident in Jersey, in which case it must have a substantial share capital and comply with the Jersey code of practice for fund service business.

Most Expert Funds can benefit from regulatory flexibility regarding custody of assets provided that it can demonstrate adequate safekeeping procedures, although open-ended Expert Funds must use a Jersey custodian. An open-ended Expert Fund that is a hedge fund may appoint a prime broker that is part of a group with a credit rating of A1/P1 or better.

Expert Funds must have a regulated Jersey administrator (or manager/trustee) with a physical presence in the island whose role includes taking reasonable measures to monitor the investment manager’s adherence to the investment and borrowing restrictions set out in the fund’s prospectus. The functionary must also maintain sufficient records in Jersey to fulfill its obligations to the regulator.

Unregulated funds

The Unregulated Fund regime introduced on February 19 2008 allows eligible funds to merely notify the JFSC of their establishment, rather than going through a full authorisation process. There are two forms of unregulated fund, the Unregulated Eligible Investor Fund and Unregulated Exchange Traded Fund.
Unregulated Eligible Investor Funds are available to investors injecting a minimum of USD1,000,000 or equivalent into the fund, or that meet the criteria of a sophisticated investor, and investors must acknowledge in writing their acceptance of the risks involved. In addition, the fund must ensure that its investors meet the legal requirements for investment. The fund may be open-ended or closed-ended and take the form of a company or cell company, unit trust or partnership.

An Unregulated Eligible Investor Fund is not required to have a Jersey-based administrator or custodian, nor Jersey-resident directors, and it is not required to appoint auditors in Jersey or elsewhere. The fund may list only on a stock exchange that permits restrictions upon transfers of interests, to ensure that only eligible investors can access the fund.

Unregulated Exchange Traded Funds are not regulated by the JFSC on the basis that they are already regulated by an approved stock exchange. An Unregulated Exchange Traded Fund may only take the form of a closed-ended fund, but may be established as a company or cell company, unit trust or partnership. It is also not required to appoint auditors.

Listed funds

Introduced in 2007, the Listed Fund Guide provides a fast-track procedure for the establishment of closed-ended funds that are listed on recognised stock exchanges or markets such as the Channel Islands Stock Exchange. The investment manager of a listed fund must be established in an OECD jurisdiction or one with which the JFSC has entered into a memorandum of understanding, or that is otherwise approved by the regulator.

Cell companies

Changes to the Companies (Jersey) Law, 1991 on February 1, 2006 introduced two new forms of company, Protected Cell Companies (‘PCCs’) and Incorporated Cell Companies (‘ICCs’), suitable for the establishment of multi-class investment funds, companies for a series of structured finance transactions and specialist insurance vehicles.

Both types of company can create individual segregated cells with their own assets and liabilities, distinct and ‘ring-fenced’ from those of other cells and from the cell company itself. The key legal principle for both PCCs and ICCs is that assets of each individual cell are not available to the creditors of any other cell.

A PCC is a separate legal entity, however protected cells do not have legal personality independent of the PCC. ICCs are similar to PCCs, however each incorporated cell is a separate corporate entity with the ability to appoint separate boards of directors.

Once a cell company has been created, repeat transactions can be carried out more speedily, offering advantages for funds and securitisations structures where initial documentation can be complex but may be replicated in future offerings. In addition, Jersey regulatory consent can be obtained in advance for the broad structure of a fund or securitisation and later updated when new cells are added to the structure, offering potential cost savings.

COBO-only funds

‘COBO Only Funds’ are those where the number of such offers is less than 50 and where the fund is not listed. Consent will be required from the JFSC under the Borrowing Law and in considering this, the JFSC will perform a preliminary review of the ‘promoter’ behind the scheme as well as a review of the private placement memorandum prior to the issue of a COBO consent. In considering a promoter, the JFSC will analyse the track record, reputation and experience of the promoter as well as such issues as spread of ownership and financial resources. The JFSC will also have an ongoing regulatory role and the COBO consent will set out various conditions, which the fund will need to comply with.

Taxation of Jersey funds

From 2009, the States of Jersey are to implement a standard rate of corporate income tax of 0% and a special rate of corporate income tax of 10% into the Island’s existing tax system, which will replace the exempt company tax system currently in place.  A small proportion of companies can be subject to the 10% special rate of corporate income tax under the zero/ten system and it is proposed that the 10% rate will apply to ‘specified financial services companies’.
The ‘Zero-Ten’ taxation rules have been structured so as to ensure that Jersey fund companies (and fund managers established in Jersey but with no physical presence) are not adversely affected compared to the current exempt company rules where a company is not deemed resident in Jersey.

There are no taxes, registration fees or duties payable to the Jersey authorities in respect of the establishment or administration of a Unit Trust.  By extra-statutory concession neither the trustee nor the assets of a Unit Trust will be liable to Jersey income tax on the income of a Unit Trust arising outside Jersey or, by concession, bank interest arising in Jersey. In addition, distributions paid to non-residents will not be subject to any withholding. However, the manager will be required to deduct Jersey income tax from distributions made to any Jersey unit holders.

A Limited Partnership is tax transparent. Profits and losses of the Limited Partnership are attributed to the partner themselves who will be taxed according to their proportionate share of profits and losses.

The Limited Partnership itself will not be subject to assessment for income tax and a non-resident partner will not be liable to Jersey income tax except on Jersey source income (but excluding by concession, bank deposit interest). Interest receivable by a non-resident partner from a loan made to a Limited Partnership is not Jersey source income. Hence, provided a Limited Partnership has no Jersey resident partners (a general partner is treated as non-resident for these purposes) and no Jersey source income, no tax return is required to be submitted.

By Bill Gibbon, Funds Group Partner with  Voisin and Tom Amy, Head of Funds &  SPV Group at Volaw Trust & Corporate Services Limited in Jersey

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