Malta’s NAIF regime is a regulatory masterstroke
With the recent introduction of the Notified AIF regime, Malta is positioning itself to provide fund promoters with an unregulated fund where speed to market is of the essence.
Over the years, Malta has become a jurisdiction of choice for providers of financial services particularly the funds sector with over 600 investment funds, 86 fund managers, of which 40 AIFMs, and 26 fund administrators.
As one of the earliest adopters of the AIFM Directive in 2013, Malta has sought to provide a compelling route to market for smaller and emerging hedge fund managers and it appears to be going from strength to strength; especially now that the Notified AIF regime is available as an additional, quicker, alternative route to market.
"The main aims of the AIFMD were those of strengthening the regulatory and supervisory framework applicable to AIFMs whilst on the other hand, safeguarding investor protection. The MFSA feels that this is still an area of growth, particularly following the recent introduction of the Notified AIF regime," comments Professor Joseph Bannister, Chairman of the MFSA.
"So far this year we've seen 8 new AIFs licensed and 41 PIFs licensed with the MFSA," observes Kenneth Farrugia, Chairman of FinanceMalta. "For smaller managers who don't want to go beyond EUR100 million, the PIF regime adequately fits their requirements so clearly the decision by the regulator to maintain the PIF regime alongside the AIFMD regime was a good one. Fund managers want flexibility today. Malta's product suite provides that flexibility to structure hedge funds within the full scope of AIFMD, or not as the case may be, using the PIF regime. In addition, Malta has a healthy UCITS regime."
The key to any jurisdiction's long-term is the ability to constantly look ahead and bring new solutions to the investment management community. A healthy dose of pragmatism also goes a long way, as regulators look to strike the right balance between effective oversight and ease of doing business.
As such, the decision to retain the PIF regime following the introduction of AIFMD was key to keeping Malta's funds jurisdiction as flexible as possible. Whereas the AIF is fully passportable, the PIF is not.
The PIF regime defines three types of investors. An Extraordinary Investor is someone who invests EUR100,000 or more in the fund. A Qualifying Investor is defined as someone willing to invest EUR75,000 to EUR100,000, and an Experienced Investor as someone willing to invest EUR20,000.
"The plan is to consolidate the PIF regime and have one category: the Qualifying Investor Fund. If a PIF is set up and does not opt to be a de minimis PIF (EUR100 million threshold for open-ended funds and EUR500 million for closed-ended funds), and the manager is aware that such thresholds will be exceeded after the fund launches, the MFSA will require the PIF to be converted into an AIF where it will fall under the full scope of AIFMD," explains Nicholas Warren, Manager, Corporate Services, Chetcuti Cauchi Advocates.
To add even further choice to investment managers, this June Malta formerly introduced the Notified AIF regime. Traditionally, the MFSA has always been oriented towards regulating the authorisation and supervision of funds, together with the authorisation and supervision of service providers.
"The Authority had adopted this approach in the transposition of the UCITS IV and V Directive. This approach was further consolidated in the transposition of the AIFMD, notwithstanding the fact that this Directive sought to regulate the fund manager rather than the fund.
"Through the introduction of the Notified AIF, the Authority is focusing its regulatory and supervisory efforts on the fund manager, in line with the AIFMD. However, the Authority has also introduced a number of safeguards to strike a balance between expectations of fund promoters and adequate investor protection. Thus, the AIFM and the governing body of the Notified AIF each undertake responsibility for the fund including inter alia the obligations arising in terms of the AIFMD. Furthermore, the AIFM is required to carry out the necessary due diligence on the members of the governing body of the fund and on the service providers of the fund," explains Professor Bannister.
This is a huge opportunity for Malta and demonstrates the power of pragmatism. Granted, it is still early days so one cannot accurately assess the popularity of the NAIF, but the fact that Europe now has onshore unregulated funds – Luxembourg in turn has introduced the Reserved AIF – is a big step forward and symbolises a merging of the onshore and offshore worlds.
"The NAIF is currently only available to those who are already set up as EU AIFMs, however it will become available to third country AIFMs if and when the country where they have been established has been granted passporting rights under the AIFMD," explains Dr Louis de Gabriele, head of the Corporate and Finance practice group at Camilleri Preziosi Advocates. "Initial interest is coming from those who already know about Malta and perhaps already have some presence here or have past experience at using Malta and are better placed to understand the additional advantages that the NAIF regime could offer them."
Dr Jean Farrugia is senior partner at DF Advocates. Discussing the genesis of the NAIF regime, he comments: "The MFSA decided to look into the possibility of having a fund product that could be launched by regulated AIFMs, that would be recognised as an AIF under AIFMD, without the fund itself requiring a license from the regulator. In other words, shifting the responsibility of assessing the fund documentation, and making sure that everything is line with the requirements of the Directive under Maltese law, on to the AIFM.
"The result was the introduction of the Notified AIF. From a tax perspective, AIFs set up and launched in line with the NAIF regime shall be fiscally treated in the same manner as licensed AIFs and therefore non-prescribed NAIFs will benefit from a complete tax exemption. Also, given that the NAIF is an EU product, the AIFMD marketing passport will be available, meaning a NAIF can be marketed cross-border to professional investors within the EEA without further regulatory obstacles being imposed."
Since the NAIF is an unregulated product, when it comes to funds that target underlying assets that the MFSA deems risky and in need of regulation, they will be automatically excluded from being set up as a NAIF. Loan funds would not qualify, for example.
"The NAIF is not subject to a licensing process by the MFSA and the onus of due diligence and responsibility lies within the AIFM. The NAIF cannot be self-managed, cannot be in the form of a loan fund and cannot invest in non-financial assets, including real estate," says Dr Stefania Grech, Financial Services Associate, Chetcuti Cauchi Advocates. She confirms that there are five exclusions, in total:
• Funds that are self-managed;
• Funds that are managed by non-EEA AIFMs (at least until the AIFM's domicile receives third country passporting rights by ESMA i.e. Jersey and Guernsey);
• Loan funds;
• Funds that invest in non-financial assets as specified by the MFSA; and finally,
• Maltese collective investment schemes that already hold a license under Malta's Investment Services Act.
"The flexibility of the NAIF has opened up the door to structuring alternative funds. It will allow fund promoters to tap in to new unexplored regimes and will give investors the opportunity to invest onshore in a legal structure that is similar to what they are used to in the offshore world. The NAIF gives investment managers the chance to run an onshore strategy pari passu to an offshore strategy. As a variety of legal structures can be used, it ends up becoming a more tax efficient investment vehicle for the investor," says Dr Grech.
"In addition to the SICAV & INVCO, fund promoters are free to structure a NAIF as a limited partnership, incorporated cells, a unit trust or a contractual fund," says Dr Maria Chetcuti Cauchi. "As a new typology in the funds industry, the Malta NAIF has de facto revolutionised the process for structuring of funds in that it speeded up the customary time-to-market. By regulating and supervising the manager rather than the fund itself, much of the MFSA's work is brought to a level of merely inserting the new NAIF into a list the records it maintains. This is welcome news to any fund manager when the latter comes to choose the venue of domiciliation of their fund."
Over at Camilleri Preziosi, Dr de Gabriele confirms that the NAIF is picking up momentum but says it takes time to build awareness when introducing any new fund product. "It's too early to make an assessment on where this could go. But it has the right attributes to be successful going forward in my view. People are asking the right questions."
Asked whether the NAIF could be used in a sub-investment management arrangement whereby non-authorised AIFMs appoint a third party AIFM, Dr de Gabriele comments:
"That becomes slightly more complicated. The premise of the Notified AIF framework is to make it as simple and expeditious as possible. Provided the registered AIFM takes responsibility for the fund and the fulfillment of its obligations under the AIFMD, there should be no theoretical reason why it couldn't launch a NAIF on behalf of a fund promoter in a sub-investment management arrangement. The emphasis is placed firmly on the manager, after all, not the fund itself. Whether it is the AIFM promoting the fund product or whether it is a third party promoting it with the AIFM providing full oversight, it shouldn't make that great a difference.
"I would not exclude the possibility of that happening going forward because the rules don't expressly exclude it."
The lighter touch nature of Maltese regulations renders the setting up and launching of EU AIFs via Malta easier, quicker and more cost-effective.
"It can safely be stated that with the introducing of the NAIF, Malta has once again placed itself at the forefront of regulatory innovation in Europe making it a preferred destination and base for the fund industry," opines Dr Farrugia. "That said, there are fund promoters who would still opt to launch their fund under the PIF regime – particularly venture capital and private equity fund promoters who aren't necessarily interested in distributing their fund across the EU and therefore do not necessarily require a fully AIFMD-compliant product."
Aside from the NAIF, one other interesting area of growth for Malta is with respect to the securitisation market. This is something that is gaining traction again following the financial crisis, and Malta is in a strong position to act as one of Europe's leading securitisation markets.
Previously, the jurisdiction already had the protected cell company (PCC), which was established in both law and practice when the Securitisation Cell Company (SCC) Regulations came into force at the end of 2014.
As the MFSA points out its June newsletter, protected cell companies been a feature of Maltese insurance law for well over a decade and a number of insurance PCCs have already been operating successfully for a number of years.
"Insurance sits alongside the asset management sector and today we have around 59 insurance offerings here in Malta for both life and non-life areas of the market; the latter accounting for a large chunk. Combine that with insurance managers in Malta and there are some big names –AON, Munich Re. We have around 13 insurance managers presently," says Kenneth Farrugia.
Leveraging the PCC, the Securitisation Cell Company allows fund managers to establish securitisation vehicles that use multiple compartments (cells) to cater for different groups of investors and different sets of assets or risks. Each cell is ring fenced for every other cell in the SCC structure, and therefore insulated from any possible claims arising from other creditors of the same SCC, both in respect of instruments issued through other cells, as well as the general creditors of the company.
Recently, Malta launched its first re-insurance SPV, when USA Risk established Exchange Re SCC Limited– a platform for collateralised reinsurance transactions that avails of the SCC structure (www.artemis.bm/blog/2016/08/10/exchange-re-authorised-as-rspv-scc-in-ma…). The platform calls itself the first "ILS platform in Malta for private collateralised reinsurance transactions organised as a securitisation cell company (SCC)".
This places Malta at the European vanguard of jurisdictions able to provide cell structures for insurance-linked securities transactions, including collateralised reinsurance transactions and is yet another example of how the island is optimising the flexibility of its legal structuring arsenal to cater to investment managers across the asset management spectrum.
The NAIF can also be used for securitisation products. "In Malta there are two routes to market for securitisation products – one can either go through the licensed route, which is then publicly marketed in the EU, or one can go thorugh the privately placed route with an unlicensed vehicle. Malta's reputation as a securitisation market is becoming more prominent. We are seeing more and more interest in securitisation vehicles," notes Dr Grech.
In conclusion, Kenneth Farrugia is in no doubt that the NAIF will further enhance Malta's reputation.
"The first NAIF has been authorised and I think it is an excellent product that provides quick time to market, which is ultimately what any fund promoter looks for. If a manager has a strategy in mind and wants to take it to the market quickly, but doesn't want to go through a laborious due diligence and approval process, they can now use an appointed AIFM to get a Notified AIF off the ground within 10 working days. That is a big plus for managers where timing is of the essence.
"The NAIF was a great example of close collaboration between Malta's funds industry and the MFSA so far as addressing the licensing requirements of fund products."