The Alternative lnvestment Fund Managers Directive - equivalence or protectionism?

Simon Witney, Partner, SJ Berwin LLP


Many of you will be aware of the proposed "Alternative lnvestment Fund Managers Directive", which is currently making its way through the EU's legislative process, and which will ultimately be implemented in each of the EU's 27 Member States. There are various encouraging comments from some of the interested parties, but it is worth considering the potential impact of the current proposals on "third countries" - proposals that will impact every North American private equity and hedge fund manager (and those in a range of other asset classes) seeking investors in Europe unless the Directive is significantly revised in the coming months. The new rules would impose significant obstacles in the way of anyone wishing to manage or market private funds in Europe.

As drafted, and subject to some fairly limited exemptions, the Directive applies to all "Alternative lnvestment Fund" managers, with Alternative lnvestment Fund defined very widely to encompass any investment fund that is not authorised under the UClTS directive (the EU's retail investment funds directive). It will therefore extend to funds and managers established outside the EU if they wish to market to investors in the EU.

Non-EU funds

The draft Directive provides that an EU authorised manager can market interests in funds it manages which are domiciled outside the EU to professional investors inside "a Member State", but only if the third country in which the fund is based has signed an agreement with the relevant Member State complying with the standards laid down in the OECD Model Tax Convention and ensures an effective exchange of information in tax matters.

The drafting, which refers to marketing to investors in "a Member State" where the third country has signed an agreement with "this Member State", suggests that each Member State would be required to enter into the appropriate tax agreement with the relevant third country before investors in such Member State could be approached. The requirement for a tax agreement is supposed to reflect current G20 thinking, but in reality seems little more than an attempt to raise the bar on certain jurisdictions' tax arrangements.

The right for EU managers to market non-EU funds referred to above will only come into force three years after the rest of the Directive. Prior to this three year period Member States may (but need not) allow (or continue to allow) managers to market non-EU funds under existing national law. It is important to note that EU managers will have to comply with the extensive and detailed provisions of the Directive in relation to any fund (EU or non- EU) which they manage unless the manager concerned does not market its funds in the EU. Moreover, the Directive currently lacks clarity over the meaning of "management" for the purposes of the Directive.

Non-EU managers

In addition to provisions relating to marketing of non-EU funds which have EU managers, the Directive also provides that Member States may authorise managers established in a third country to market funds to professional investors "in the Community", but only if:

  • the Commission has adopted measures confirming that such third country has in the Commission's view equivalent legislation regarding "prudential regulation and ongoing supervision" and grants managers effective market access at least comparable to that granted by the Community;
  • a co-operation agreement between the regulators in the Member State in which authorisation is sought and the relevant third country exists which ensures efficient exchange of relevant information;
  • the third country has signed an agreement with the Member State in which authorisation is sought which complies with the standards laid down in the OECD Model Tax Convention and ensures an effective exchange of information in tax matters.

Note from the above that, whilst the Commission must have determined that a particular jurisdiction has "equivalent" legislation and offers comparable market access, it is then a particular Member State that must enter into a co-operation agreement and OECD tax agreement with the relevant country before managers established in that country can be authorised under the Directive in the relevant Member State.

In contrast to the provisions relating to non-EU Funds, the provisions relating to non-EU managers appear to provide a "passport", allowing the non-EU manager to market funds in the other Member States without needing separate authorisation but it is not clear whether separate applications will in practice be required. It is understood that at least separate tax agreements would be sought.

Again, the requirement for "equivalence" has been described as a reflection of G20 thinking but appears to many to be a protectionist measure intended to shut out non-EU funds and managers from "Fortress Europe". The requirements of the Directive are such that it is hard to find many countries in the world that have "equivalent" regulation, and - even if the US tightens its regulatory regime for alternative investment fund managers in the way currently proposed - it is very unlikely to go anything like as far as the Directive (which stipulates extensive valuation, capital and disclosure requirements, among many others).

As with the right to market non-EU funds referred to above, the right for non-EU managers to be authorised to market in the EU will only come into force three years after the rest of the Directive. Prior to the end of this three year period it is not clear whether a non-EU manager could market inside the EU. It could not be authorised under the Directive to do so, but a Member State may remain able (though not obliged) to allow managers to market non-EU Funds under existing national law. Following the three year period, although it is equally unclear in the Directive, it is apparent from discussions with the Commission that it wishes there to be a total ban on marketing non-EU funds in the EU except in compliance with the Directive. There is intense debate over how far Member States will accept this.

Placement agents & delegation to other service providers

Generally, the Directive speaks of authorised managers marketing funds, but a placement agent that is not itself involved in the management and operation of funds would be unlikely to wish (or be able) to seek authorisation as a manager.

The current drafting suggests that non-EU placement agents or other service providers will not be able to market funds in the EU at all, since the third-country provisions and the three year derogation all relate to marketing by "managers" rather than other service providers.

Most EU placement agents (and some subsidiaries of non-EU firms that provide services in the EU) would instead be authorised under the Markets in Financial Instruments directive ("MiFID). Provisions in the recitals suggest that firms authorised under MiFlD would be able to provide services but only in respect of funds which can be marketed "under the Directive". There are indications that these provisions may be amended - they certainly need clarification.

It is clear that it will be possible after the three year transposition period has elapsed to market non-EU funds "under the Directive" (i.e. those which have a manager, EU or non-EU, which obtains authorisation in accordance with the Directive and that follows the Directive requirements). Prior to this, where a Member State chooses to allow marketing of non-EU funds under existing national law this is not "under the Directive" - which might arguably prevent a MiFlD firm from carrying on marketing or indeed providing any other services in such circumstances.

A further point to note is that the Directive proposes detailed restrictions on funds and managers delegating functions to third party service providers, including additional requirements where the third party service provider isestablished outside the EU. Since many service providers are not subject to uniform regulation even within the EU, these additional requirements lead many to assume this is again simple protectionism.


Even confining comments to aspects of the Directive that will impact on non-EU funds and managers, it can be seen that there remains considerable uncertainty about what the Directive will mean in practice.

What is clear is that it will have major consequences for non-EU funds and managers, who potentially face a major loss of business in the EU because of the significant obstacles to obtaining marketing rights.

Lobbying efforts are underway in much of the EU but because of the sweeping impact on the marketing of non- EU funds by non-EU managers serious consideration should be given to what further political pressure might be brought to bear to ensure that the final form Directive is about reasonable equivalence and not protectionism.

Simon Witney, Partner,

Simon is a Partner with SJ Berwin, a leading pan-European law firm, where he is a member of the private equity team. He is a member of the British Private Equity and Venture Capital Association's Legal and Technical Committee and the European Private Equity and Venture Capital Association's Tax and Legal Committee and regularly works with them on issues which are of critical importance to the European private equity and business community. In October 2006, Simon was named as one of the "30 most influential lawyers in global private equity" by the highly regarded industry journal Private Equity International, and, in January 2008, he was recognized as one of the Hot 100 lawyers by The Lawyer.

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