On 19 July 2016, the European Securities and Markets Authority (ESMA) issued a new recommendation (ESMA Advice) on the application of the EU passport to third country managers of alternative investment funds (Third country AIFMs) or third country alternative investment funds (Third country AIFs) as relating to 12 third countries. On 30 July 2015, ESMA had already delivered a recommendation resp. opinion on the extension of the EU passport as relating to 6 third countries.
Deriving from the latest ESMA Advice, the EU Commission should, in principle, enact a delegated act within three months according to the Directive 2011/61/EU (AIFM Directive) that entails a system change in the marketing regime for situations concerning a third country: with the introduction of a so-called third country passport, the regulations of the EU passport regime (introduced through the AIFM Directive) will also apply to Third Country AIFMs or Third Country AIFs.
The three-month period has meanwhile expired without the enactment of a delegated act by the EU Commission. The industry no longer anticipates that the delegated act will be adopted this year. Rather, a decision by the EU Commission is expected to be rendered in the first quarter of 2017. Whether the EU Commission will even enact a delegated act and if so, whether and to what extent it will follow the ESMA Advice remains nevertheless unclear.
1. Current legal situation in Germany
In Germany, the EU licensing regime of the AIFM Directive was implemented by sections 321 to 330a of the German Capital Investment Code (Kapitalanlagegesetzbuch – KAGB).
The implication of the EU passport is that an AIFM licensed in a Member State is authorised to market AIFs to professional investors across Europe. In regards to the EU passporting regulations, the AIFM Directive distinguishes whether it has a relation to the EU or whether the relation to a third country is present.
A “relation to the EU” is present if the AIFMs, who are licensed in a Member State (or in a country which is party to the Agreement on the European Economic Area (EEA)), can market EU-AIFs or Third Country AIFs across Europe pursuant to the required notification procedures. In such cases, no further authorisation from the respective Member States is necessary for marketing and management. A simple marketing notification to the supervisory authority of the origin state of the EU-AIFM is in fact sufficient.
For matters involving third countries – i.e. marketing and management of Third Country AIFs or EU-AIFs by means of Third Country AIFMs – the licensing regulations first apply following the enactment of the delegated act by the EU Commission. Until the application of the delegated act (so-called third country deadline), Member States are permitted by the AIFM Directive to regulate issues involving third countries through national provisions (i.e. “National Notification Procedure”; also misleadingly referred to as “national private placement regime”).
According to the current applicable National Notification Procedure pertaining to third countries in Germany (section 330 KAGB), marketing by Third Country AIFs and EU AIFs through Third Country AIFMs to professional investors is currently permitted under the following conditions:
- marketing notification to the Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht – BaFin) that i. a. contains the following information/documents:
- documents regarding the establishment (such as investment conditions or by-laws/partnership agreement);
- detailed description of the Third Country AIFM; and
- assertions by the Third Country AIFM, that it, in relation to the BaFin:
- fulfils its reporting obligations pursuant to KAGB,
- informs about all amendments regarding itself or the managed AIF, and
- discloses information regarding its activities and submits documents upon request
- compliance with its comprehensive information and reporting obligations towards the investors as mandated by section 307, 308 KAGB;
- establishment of one or more positions that fulfil the functions/duties of a depositary within the meaning of the AIFM Directive;
- establishment of appropriate preventative measures to avert marketing to retail investors;
- adherence to its reporting obligations towards the BaFin;
- conclusion of appropriate cooperation agreements between BaFin and the respective supervisory authority of the Third Country AIFM / Third Country AIF (i.e. Memoranda of Understanding – MoU); and
- neither the country of the registered office of the Third Country AIFM nor the country of the registered office of Third Country AIF shall be on the “black list” of non-cooperative states / regions composed by the Financial Action Task Force on Money Laundering (FATF).
If marketing to a German semi-professional investor is intended, the Third Country AIFM – in addition to the aforementioned conditions – must fulfil all requirements of the AIFM Directive implemented by the KAGB. This includes, in particular, the following details and documents in relation to the BaFin:
- evidence of the intended initial capital (up to EUR 300,000 depending on whether internal or external management is available);
- details on the managing directors (reliability / professional ability) and significantly participating shareholders (bedeutend beteiligte Inhaber) (in Third Country AIFM); and
- details on the remuneration scheme and practice and any outsourcing agreements as well as a detailed business plan.
2. Amendments to marketing rules for Third Country AIFM
Third Country AIFM based in a third country eligible for passporting
In its recommendations regarding the extension of the regulations of the EU passport to third countries, ESMA has followed thus far a state-for-state principle. This means that ESMA has subjected only a limited number of states to an examination on their eligibility for passporting.
In its (first) statement of 30 July 2015, ESMA illuminated on the eligibility for passporting for only six countries (Guernsey, Jersey, Switzerland, Hong Kong, Singapore, the United States). In its recommendation of 19 July 2016, it expanded its examination on the eligibility for passporting from six to a total of 12 third countries (Guernsey, Hong Kong, Jersey, Singapore, Switzerland, Canada, Australia, Japan, Bermuda, Cayman Island, Isle of Man, the United States). ESMA came to the following results:
- there are no barriers in relation to an extension of the EU passport regulations to Canada, Guernsey, Japan, Jersey and Switzerland;
- contrary to its last recommendation letter of 30 July 2015, ESMA is currently also in favour of an extension of the EU passport to the United States. However, according to ESMA, an extension of the EU passport should only occur under certain restrictions (particularly the restriction of the circle of investors to professional investors);
- if Australia, Singapore and Hong Kong open their funds market to EU funds (managers), ESMA perceives no significant barriers in relation to an extension of the EU passport regulations; and
- ESMA is currently not in the position to render a conclusive recommendation with respect to Bermuda, the Cayman Islands and the Isle of Man.
The enactment of the anticipated delegated act will bring substantial changes to Third Country AIFM based in a third country eligible for passporting:
- AIFM from these third countries must use the third country passport (pursuant to section 326 KAGB) – the National Notification Procedure (section 330 KAGB) is no longer applicable;
- Third Country AIFMs require a license in their reference Member State, which in principle corresponds to that for domestic AIFM; if the reference Member State is Germany, the following details / documents exceeding a domestic license are required (section 58 KAGB):
- disclosure of the marketing strategy, such that BaFin can evaluate the assessment of the Third Country AIFM of the reference Member State; the reference Member State is determined, inter alia, according to the geographic focus, in which the Manager intends to establish effective marketing;
- appointment of a legal representative based in Germany;
- written evidence based on the ESMA technical regulation standards of legislation regarding investor protection in the third country equivalent to EU legislation and compliance by the Third Country AIFM; these must be „substantiated“ by a legal opinion on the third country legislation; and
- requirements pertaining to third countries are fulfilled (MoU between the third country, in which the Third Country AIFM is based, and BaFin; the third country is not on the „black list“; treaty between the third country and Germany on the exchange of information in tax matters; third country regulations applicable to Third Country AIFM does not bar BaFin from effectively exercising its supervisory functions).
- marketing notification in a reference Member State – if this is Germany, the marketing notification is to be implemented according to section 326, 321 para. 1 sentence 2 KAGB, which requires the following details / documents, provided that these were not already submitted to the BaFin for the license application:
- detailed business plan with information on the identified AIF and its registered office,investment conditions and by-laws / partnership agreement of the notified AIF;
- information on / establishment of a depositary;
- description of the notified AIF as well as details / submission of all available information on the notified AIF (inter alia, information obligations pursuant to section 307 KAGB) and supervisory authorities (reporting obligations);
- if necessary, details on the registered office of the Master-AIF and its AIFM if the identified AIF is a Feeder-AIF; and
- details on the arrangements to establish appropriate preventative measures for the prevention of marketing to a retail investor.
- AIF managed by the Third Country AIFM within the framework of the third country license can then be marketed throughout Europe.
Third Country AIFM based in a third country ineligible for passporting
With respect to Third Country AIFM based in a third country ineligible for passporting, BaFin has recently orally clarified and communicated to the industry that the current National Notification Procedures should continue to apply. Therefore, the introduction of the third country passport will bring no changes to Third Country AIFM based in a third country ineligible for a passport. If they want to market to Germany, the Third Country AIFMs based in a third country ineligible for passporting can continue to use the National Notification Procedures.
Portfolio protection regulations of KAGB
Pursuant to section 344 KAGB (the provision is misleading and poorly drafted), it is presumed that such third country AIFMs, who have already obtained a license from the BaFin for marketing before the third country deadline according to the applicable National Notification Procedures, can continue their marketing to Germany on the basis of this license.
When and to what extent the third country passport will be implemented is yet to be determined. As indicated in its first opinion of 30 July 2015, ESMA has again proposed to the EU Commission to await the extension of the EU passport until ESMA has examined a sufficient number of states for their eligibility for passporting. ESMA is silent, however, on the point in time at which it considers a sufficient number has been reached. In any case, ESMA will continue its evaluation of third countries.
It is also conceivable that the EU Commission endorses the state-for-state principle and first introduces the third country passport by enacting one of the delegated acts only for the countries for which ESMA has already made a positive recommendation.
In particular, these countries (the United States or Switzerland) are likely to have a significant interest in an imminent extension of the EU passport regime.
Against the background of „Brexit“ (withdrawal by the United Kingdom from the EU) – through which the United Kingdom could become a third country and could thus no longer use the EU passport – a quick introduction (and previous ESMA Advice) of the third country passport would be welcomed. If the United Kingdom retains its national implementation of the AIFM Directive (or retains it at least materially), it would simply be classified as a “third country eligible for passporting” – third country AIFMs based there could continue to benefit from the (third country) passport.