BVI Limited Partnership Hedge Funds: Calling Japan

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1 BERMUDA BRITISH VIRGIN ISLANDS CAYMAN ISLANDS CYPRUS DUBAI HONG KONG LONDON MAURITIUS MOSCOW SÃO PAULO SINGAPORE conyersdill.com June 2012 BVI Limited Partnership Hedge Funds: Calling Japan Structuring BVI hedge funds as limited partnerships The British Virgin Islands ( BVI ) is a leading offshore jurisdiction for the establishment of hedge funds 1, offering the advantages of tax neutrality, developed professional infrastructure, common law judicial system and strong legislative framework. In the latter regard, the BVI is particularly noted for its versatile company law statute, the BVI Business Companies Act, 2004 ( BCA ), which is modeled on Delaware law. However, while a majority of BVI hedge funds are incorporated under the BCA 2, the company form is not the only option available for BVI funds. In particular, a limited partnership ( LP ) structure may be an appropriate alternative where target investors are located in jurisdictions such as Japan, where securities laws may make certain allowances for the general partner of an offshore LP to market LP interests to Japanese investors. BVI LP funds benefit from the same jurisdictional advantages listed above and, as noted below, the position of the investor as limited partner will normally be analogous to that of a non voting, participating shareholder in a BVI company fund. 1 A hedge fund, being a mutual fund as defined under the Securities and Investment Business Act, 2010, includes a company or partnership which (i) collects and pools investor funds for the purpose of collective investment and (ii) issues fund interests that entitle the holder to receive on demand or within a specified period after demand an amount computed by reference to the value of a proportionate interest in the whole or in a part of the net assets of the company or partnership. 2 Of the regulated mutual funds listed on the British Virgin Islands Financial Services Commission website ( approximately 103 professional funds and 26 private funds have names ending with L.P. or Limited Partnership, as required under the PA for limited partnerships, out of a total of 1,792 professional funds and 720 private funds (none of the 189 regulated public funds appear as limited partnerships).

2 Regulatory Framework and Structure The principal statute governing the formation and operation of all BVI partnerships is the Partnership Act, 1996 ( PA ), which substantially codifies the common law. In that regard, BVI LPs are not legal entities per se however they can effectively function as such for business purposes. Generally, the PA distinguishes between two types of LPs: local and international. International LPs cannot carry on business with persons resident in the BVI or own an interest in property situated in the BVI, but can carry on business from the BVI in connection with transactions and activities external to the BVI. In practice, the activities of a hedge fund will easily fit within the restrictions 3 and an international LP is therefore the appropriate choice for a fund. As discussed below, the PA is less comprehensive than the BCA, however like the BCA, it allows for considerable flexibility in structuring a fund. In addition to tailoring the terms governing the LP, the partnership structure itself may vary. In that regard, while a BVI LP must have at least one general partner, the general partner may be a company or may itself be an LP. The former structure is often referred as two tiered, and the latter, three tiered, and the choice between them may be driven by (non BVI) tax and other fee related considerations. The constituent documents of a BVI LP are the articles of limited partnership ( Articles ), which are executed by the partners and set out the terms governing the LP, and the memorandum of partnership ( Memorandum ), which sets out basic information regarding the LP as specified in the PA. Only the Memorandum is a public document, being filed with the BVI Financial Services Commission ( FSC ), which registers the Memorandum and issues a certificate of limited partnership establishing the LP. Like all BVI companies, every BVI LP must have a registered agent and registered office in the BVI, and like BVI fund companies, LPs must be recognised or registered in accordance with the Securities and Investment Business Act, 2010 ( SIBA ) in order to carry on hedge fund business in or from within the BVI. That process involves making application in the approved form to the FSC. Once recognised or registered, BVI LP funds must comply with the provisions of SIBA and related regulations which apply to all BVI hedge funds however structured. 3 The PA specifies that an international LP is not carrying on business with persons resident in the BVI by reason only of banking, having professional advisers, leasing an office, maintaining books or holding meetings in the BVI or having a BVI company or other resident person as one of its partners. Page 2 of 5

3 Position of the Limited Partner As a limited partner, the investor s position will normally be analogous to a shareholder in a BVI company fund: a passive provider of capital with no liability beyond its contribution and no participation in management beyond very limited approval rights, as described below. No estate, inheritance, succession or gift tax, rate, duty, levy or other charge is payable by persons who are not resident in the BVI with respect to any interest in an international LP. Similarly, all payments made by an international LP to nonresidents of the BVI and any capital gains realised with respect to interests in an international LP by non residents of the BVI are exempt from the Income Tax Act of the BVI. Role and Domicile of the General Partner Just as the position of a limited partner is comparable to that of a participating shareholder, the general partner of a BVI fund LP will perform a management role analogous to the board of directors within a company structure, in addition to any investment related services that it may provide. However, investment related services, if any, to be performed by the general partner are an important consideration under BVI law. While it is often contemplated that the general partner of a BVI fund LP will provide investment management and/or, as in response to Japanese regulation, marketing services to the fund, to the extent that such services fall within the scope of investment business as defined in SIBA, the general partner may need to be licensed if it carries on or holds itself out as carrying on such business in or from within the BVI. There is no doubt that acting as manager or investment adviser of a hedge fund is an activity constituting investment business within the meaning of SIBA, and there is also a widely held view that marketing or otherwise promoting a fund amounts to arranging deals in investments, which is also a licensable activity. While limited exclusions apply in respect of persons carrying on investment business activities, a general partner in a partnership will not be excluded from licensing if it receives remuneration in such capacity. Likewise, a general partner which is a BVI business company will be deemed to meet the criterion of in or from within the BVI wherever it engages in investment business. Page 3 of 5

4 Although a more detailed analysis of investment business activities and potential exclusions is beyond the scope of this note, establishing the general partner in a jurisdiction outside the BVI (such as Bermuda) will normally eliminate the need to obtain a license under SIBA if there are no perceived advantages in doing so. At the same time, the laws of the ex BVI jurisdiction will need to be considered to ensure that the general partner is not subject to licensing elsewhere. Importance of Detailed Articles Unlike the BCA, the PA does not contain comprehensive default provisions. Whereas reference may be had to the BCA if the memorandum and articles of association of a fund company are silent on any number of matters from amending the company s memorandum and articles of association to transferring shares to convening shareholder meetings, it is important that the Articles of a BVI fund LP be detailed. Matters which should be provided for in detail in the Articles include the following: (i) (ii) term and termination: where no set term is agreed upon for its duration, a partnership may be terminated by any partner at any time. In practice, BVI fund LPs are often established for an indefinite term unless terminated in accordance with the Articles by the general partner or as a result of its resignation or insolvency (as to which, see point (iii) below); procedure for amending the Memorandum or Articles: the PA merely states that the procedure will be as set out in the Articles. A common practice is to allow amendments by the general partner if, in its opinion, the amendment will not have a material adverse effect on any limited partners, and to require the latters consent only in the event of such effect, or of modification of their interest in or liability to the LP. Such limited approval rights are analogous to those of participating investors in BVI fund companies where modifications to shareholder rights are proposed; (iii) addition or replacement of general partner: with the following exception, the ability to add or change the general partner(s) of a BVI LP is normally vested by the Articles in the general partner. However, in order to avoid the dissolution of the LP pursuant to section 75 of the PA in the event of the general partner s resignation or insolvency, the Articles should make provision for the limited partners to vote in such circumstances to continue the business of the LP with a new general partner; (iv) transfer of limited partner interests: in the absence of provisions in the Articles, limited partnership interests are assignable, although the assignee does not automatically assume the assignor s status of a limited partner. Under the laws Page 4 of 5

5 of some jurisdictions, the transfer of limited partner interests may also trigger termination of the LP for tax purposes. A common practice is for the Articles to make all transfers of limited partner interests subject to the discretion of the general partner, in some cases, additionally requiring a legal opinion with respect to tax or other implications of the transfer; (v) admission and withdrawals of limited partners: in the absence of provisions in the Articles, the PA provides that the general partner requires the consent of all the limited partners to admit any new partners, a requirement that would be impracticable in the context of a hedge fund where regular subscriptions are contemplated. Likewise, the Articles must specify the timing and other terms for withdrawals by a limited partner, just as company fund articles of association set out redemption terms. Conclusion Although currently numbering far fewer than BVI business company funds, as the BVI fund investor universe continues to expand, LPs may become an increasingly attractive structure for hedge fund promoters. In that regard, LPs offer structural flexibility and enable investors to be placed in a comparable position to, and to benefit from the same jurisdictional advantages as, BVI fund company shareholders. Alison Chilcott Spyer Associate +1 (284) alison.chilcott@conyersdill.com This article is not intended to be a substitute for legal advice or a legal opinion. It deals in broad terms only and is intended to merely provide a brief overview and give general information. About Conyers Dill & Pearman Conyers Dill & Pearman advises on the laws of Bermuda, the British Virgin Islands, Cayman Islands and Mauritius. Conyers lawyers specialise in company and commercial law, commercial litigation and private client matters. With a strategic global presence in major international business centres spanning 11 countries and multiple time zones, Conyers offers true global reach. Affiliated companies (Codan) provide a range of trust, corporate secretarial, accounting and management services. Founded in 1928, Conyers has 550 staff, including approximately 150 lawyers. For more information please contact: Naomi Little +1 (441) naomi.little@conyersdill.com Page 5 of 5