Making a good match

What are the main things a hedge fund should consider when choosing a jurisdiction? What are some of the main legal decisions hedge funds need to make before they set up a fund?

The choice of jurisdiction for a hedge fund, according to Catherine Gardner and Fred Levy at Brown Rudnick in Washington, should be determined on the basis of taxation and regulatory issues. They say the main consideration for most hedge funds in choosing a jurisdiction in which to domicile is the location of its target investors and fund managers.

The jurisdiction should provide the most advantageous taxation scheme for the investors as well as a well-developed regulatory and legal scheme for hedge funds, say Gardner and Levy. 

According to Mitch Nichter at legal firm Paul Hastings, the primary factors in choosing a fund domicile include location and type of targeted investors, for example investor domicile and tax status, investment strategy of the fund and location of fund personnel.

Robert Duggan at Walkers in London thinks the decision on jurisdiction cannot be simplified to just a question of on or offshore. “Some of the main considerations underpinning choice of jurisdiction generally, and not solely the question of onshore versus offshore, are tax, regulation, cost and ease of use,” he says.

“Ease of use, for example, will always be relative,” notes Duggan. “Language and cultural barriers are often cited as concerns, and validly so, but the more fundamental concern should be the ease of use of available structures.”

Speed of set-up, language, light regulation (although the availability of light regulation will be more restricted following the implementation of the draft EU directive on alternative investment fund managers), flexibility, tax treaties of relevance to the strategy, and availability of experienced/competent support services (lawyers/administrators/accountants) are all highlighted by Simon Firth at Kaye Scholer as important.

Brian McDermott and Siobhán Moloney at A&L Goodbody say regulation and the tax environment are the two most important factors to consider. Expertise and international recognition are also important.

They say there is a tendency for institutional investors to prefer funds domiciled in onshore jurisdictions with efficient regulatory environments and that this has prompted funds to establish in jurisdictions like Ireland this year.

The quality of service providers is of key importance to investors, say McDermott and Moloney. They point to Ireland’s position as the largest hedge fund administration centre in the world and its recognition as a centre for excellence for hedge fund administration.

“Increasingly, choice of jurisdiction governed by issues of service quality and jurisdictional legal, regulatory and financial credibility are key to choosing a jurisdiction,” concludes Daniel Mackelden at Cains on the Isle of Man.

Dermot Deering at Hassans in Gibraltar says considerations include the “general soundness of the jurisdiction and its regulatory and business environment, tax, competent and competitive professional advice and services and, of course, the weather,” he cheekily adds.

Joey Garcia at Isolas concedes that the choice of jurisdiction is likely to be the most complex and significant legal decision a fund manager takes.  “Once a domicile has been chosen, the hedge fund structure and legal form may be determined,” he says.

Before making that decision the manager needs to determine the type of investors the fund has secured or is attempting to attract.

“There is no point in establishing a fund which caters for sophisticated investors in a jurisdiction which provides little or no products of this type when another location that enjoys more flexibility may offer a greater variety or better class of product. Some lesser known and emerging locations may have exactly the niche product which a fund manager is searching for with legislation in place which caters for the clients’ specific needs,” he notes.

He also believes clarity and security are of particular resonance in today’s environment. “Both managers and investors must be able to rest assured that their choice of jurisdiction operates within a legal framework that affords them all of the necessary legal protections and mechanisms. This, along with political and financial stability of a jurisdiction, is likely to become a more and more important factor when deciding on a jurisdiction to domicile your fund,” concludes Garcia.

Cost, too, is also a consideration. Corporate tax rates and financial stability remain key, he says. “The importance of structuring a fund in a tax-efficient way will also always be paramount as in some cases the accumulation of taxes, charges and levies may determine whether a fund remains profitable to its investors,” he notes.

The amount of time a fund takes from conception to launch is also significant, says Garcia. 

The stability of the jurisdiction and its reputation is of paramount importance, declares Omar Zerafa at Aequitas Legal in Malta. He says funds are “looking for a sturdy yet dynamic legal framework which offers flexibility to the fund in its operations as well as adequate protection to the investors. Undoubtedly, a lenient tax regime is also an important consideration in choosing a jurisdiction for a hedge fund.”

Time to market, regulatory framework, the country’s and regulator’s reputation, the tax regime, investor protection, the sophistication of the legal services offered and more should be taken into account, advises Andre Zerafa at Ganado & Associates in Malta. “The main decisions tend to revolve around legal nature, residence of directors, control over the structure, rights and collateral given to the prime broker over the fund’s assets, NAV calculation mechanisms, acceptance or otherwise of in specie subscriptions and the possibility to benefit from the particular domicile’s double-taxation treaty network,” he says.

Well-regarded, tried and tested legal structures, stability of government and constitution, absence of relevant taxation, quality of service providers, flexibility of statutory and regulatory regimes and size of fund industry are all important considerations, according to Jon Fowler at Maples and Calder in Cayman.

Key considerations, say Tania Dons and Richard Finlay at Conyers Dill & Pearman, include the quality and sophistication of the legal system and key legislation, particularly in the event of liquidation and insolvency, the political stability of the jurisdiction, time to market, tax-efficiency and the quality of local service providers.

In the British Virgin Islands (BVI) office, Robert Briant says the key decision in choosing a jurisdiction is to ensure the domicile has robust laws and a sound regulatory framework.

“With the OECD finally making a distinction between offshore financial centres (being jurisdictions such as the BVI, the Cayman Islands, and Bermuda) and bank secrecy jurisdictions (such as Switzerland and Lichtenstein), greater comfort will be offered to managers and investors using offshore financial centres,” concludes Briant.

In the Mauritius office, Craig Fulton says the starting point is to decide if the fund is being set up as an offshore structure. “Once this is settled then it is a case of determining which offshore jurisdiction best suits your needs,” he says.

He believes hedge funds want a jurisdiction with a respected legal system where there is a strong local judiciary and law firms that offer a high standard of service operating in that jurisdiction.

“They also want a jurisdiction that is well regulated with effective legislation and a respected regulator,” states Fulton.

Gray Smith at Appleby in the Cayman Islands believes the reputation of the country is crucial and is what investors will look at. “Why give yourself the headache of explaining why you chose somewhere off the beaten track if you don’t need to? Capital raising is hard enough as it is,” he concludes.