On 6 April 2017, the Legislative Reform (Private Fund Limited Partnerships) Order 2017 (LRO) came into force. The LRO introduces a new UK investment vehicle – the private fund limited partnership (PFLP) which is designed for both existing and new UK limited partnerships that meet the PFLP conditions. The LRO amends the Limited Partnerships Act 1907 to allow the PFLP to retain the flexibility of a limited partnership as well as the benefit of limited liability status and transparency for investors, but also ensures that many of the financial and administrative burdens associated with the existing structure have been eliminated.
The changes introduced by the LRO were the subject of a July 2015 consultation with HM Treasury providing feedback on that process in March 2016 – overviews of both publications can be found in our summer 2015 and spring 2016 updates. In this article we consider the key benefits of the finalised regime; the conditions that need to be satisfied to achieve designation and who within the industry are likely to avail themselves of the structure given the potential changes that may be introduced as a result of the BEIS call for evidence.
PFLP designation and registration
A limited partnership may be designated as a PFLP if it satisfies the following two conditions:
- the PFLP must be constituted by an agreement; and
- the partnership must be a collective investment scheme within the meaning given in s235 FSMA, ignoring all of the exemptions.
Whilst the second condition obviously has to be assessed on a case by case basis, it is expected that the vast majority of limited partnerships which are funds and co-investment vehicles will satisfy both of the conditions.
To be registered as a PFLP, a new limited partnership will need to apply for this designation on registration. Existing limited partnerships meeting these conditions will be able to apply for re-designation as PFLPs at any time (even if not structured as PFLPs at the outset), but following re-designation, the partnership cannot return to its historic status.
To make an application to be a PFLP on registration of the partnership, Form LP7 should be used (which looks much the same as the form LP5 to register a traditional LP) and the general partner will be required to declare that the partnership meets the PFLP conditions. Where a partnership does not satisfy the conditions initially, the amended Form LP5 will need to be filed and thereafter, the partnership can file Form LP8 for designation as a PFLP.
The main difference in the partnership documentation governing a PFLP as compared with a traditional limited partnership is that the partnership agreement will not require the traditional capital/loan split in relation to limited partner contributions. This is because limited partners in a PFLP are not required to make a contribution of capital in order to become limited partners, and can withdraw any capital which is contributed without being liable for debts and obligations to the amount withdrawn. This will simplify partnership agreements and make them comparable to those used for fund partnerships in other jurisdictions (such as the Channel Islands or Cayman Islands).
A limited partnership designated as a PFLP will still be required to have a name ending with the word “limited partnership” or “LP” rather than using “PFLP” as a suffix.
What are the benefits of the PFLP regime?
Certainty as regards the extent to which limited partnerships can be involved in decision-making
A key element of the new regime is the inclusion of a non-exhaustive list of explicit safe harbours (the so-called “white list”) for a limited partner in a PFLP. This provides clarity on the extent to which limited partners can be involved in the management of the partnership without losing their limited liability status. The inclusion of this list brings the regime in line with those in places like Jersey and the Cayman Islands.
The “white list” is broad and includes the new activity, which we highlighted in our Spring 2016 update, of “look-through” voting concerning feeder funds, i.e. where limited partners direct how a feeder partnership exercises its rights in relation to the underlying fund.
As part of the explanatory document, the government has confirmed that the intention of the “white list” is not to enable limited partners to carry on new activities which would otherwise clearly amount to taking part in the management of the business. Those listed are activities that are currently carried on by investors, with the government acknowledging that investors often spend “considerable sums on legal advice to get comfort on the position”. The legislation aims to provide limited partners sufficient scope to monitor and assess the performance of investments, and to approve actions of the general partner – it is not intended to enable them to act on behalf of the partnership. The “white list” is not prescriptive, the partners will still need to agree commercially which activities the limited partners can undertake and embed those in the partnership agreement.
The legislation also confirms that the existence of the list does not create any adverse presumptions for limited partners in other partnerships, and nor is it exclusive (i.e. an activity is not necessarily problematic just because it is not included on the list).
A relaxation of the capital requirements
Given that the government believes that capital contributions are administratively burdensome and serve no purpose in respect of private funds, the LRO mirrors the consultation position that we reported on in May 2016, namely:
- capital contributions are optional for limited partners;
- capital is withdrawable for limited partners with no impact on liability in relation to the PFLP’s debts and obligations; and
- there is no requirement to publicise capital contributions.
The LRO carves out a different treatment for existing partnerships that elect to become PFLPs, depending on when the partnership was established. For those limited partnerships that register post 6 April 2017 and subsequently transfer to PFLP status, the treatment of the contributions will also transfer meaning that all capital, regardless of when contributed, is withdrawable. For partnerships that were established prior to 6 April 2017 and then transfer to the new regime, any contributions made prior to April 2017 will remain subject to the former regime and as a result, will not be withdrawable.
Simplified filing requirements, duties and winding up procedures
PFLPs will not have to publish a Gazette notice when a general partner becomes a limited partner or on transfers of interests by a limited partner. When a general partner retires, the PFLP will still be required to advertise in the Gazette, and notice of the retirement to third parties dealing with the PFLP is only effective when published.
As set out in the government’s original proposals, the final regime exempts PFLP investors from the duties to render accounts and information, and not to compete with the PFLP (the approach which was adopted in the vast majority of cases by specific provisions in the LPA in any case). However, the statutory duty to account for profits made in competing businesses will still apply, unless it has been excluded in the partnership agreement (which would usually be the case).
Historically, where there is no general partner, a court order has been required to wind up a partnership which can be a time consuming process. The new PFLP regime permits limited partners to appoint a third party to carry out the wind-up where a general partner no longer exists. Additionally, even where there is a general partner, the LRO enables the partners to agree that someone other than the general partner will carry-out the wind-up without running the risk that such a decision would have an impact on the limited partners’ liability status.
Whether to designate and the required process
In our experience, not many GPs have yet chosen to re-designate their existing partnerships as PFLPs, although new funds are often turning to the new regime. As we discuss here [link to BEIS article], in addition to seeking views on the interaction between the use of Scottish limited partnerships and criminal activity, BEIS is also taking the opportunity to look at other characteristics of UK limited partnership law, such as transparency requirements, principal place of business, arrangements for ending a limited partnership, and the role of formation agents. It would not be surprising if the uptake of the PFLP regime becomes more significant once any changes that may come out of the work by BEIS are known.
To the extent that partnerships do decide to pursue the new regime, please bear in mind the following:
- For LPs that are up and running, we would only recommend that minor changes are made to the LP documentation – as changes will require investor consent. The LPA should make clear that the partnership has been designated a PFLP. Even with these minor administrative changes, the fact that requirements to notify the registrar of partner changes in a PFLP are fewer (compared to an LP) is by itself enough to make status as a PFLP worthwhile – minimising what is seen as an outdated administrative requirement.
- For new partnerships that are being registered and choosing the be designated as PFLPs at the same time, we are currently seeing a cautious approach being followed, with many retaining the traditional loan/capital split in documentation (as this is what investors are used to and will be expecting to see). There is also debate in the market in relation to removing this split – because it will be more difficult to quantify how much the carried interest partner will need to commit to the fund vehicle whilst staying in strict compliance with the MoU.