Fund Structures

Table of Contents

General

Funds are constituted worldwide. Some jurisdictions, particularly those offering favourable tax status, are particularly attractive for funds. The legal structure of a fund is determined to an extent by the relevant statutory provisions of the jurisdiction of the establishment. Regulatory considerations are relevant.

It may be possible to list the fund on an exchange, as is the case in Ireland. In some cases, only a corporate fund may be listed, whereas others allow a trust-based fund to be listed.

Issues of tax avoidance and possible tax evasion arise in relation to investment by domestic investors in foreign tax funds. Anti-avoidance legislation and anti-evasion legislation may seek to reduce avoidance and evasion.

The fund may be required to be open-ended or closed-ended. Some jurisdictions may not allow open-ended vehicles. Funds which are invested in less liquid assets may better be structured as closed end vehicles so as to avoid the necessity for the regular raising of cash to meet redemptions.

The investment strategy will be a consideration. A closed-end vehicle is less likely to be subject to regulatory restrictions. They are more likely to be empowered to borrow, use derivatives and have greater concentration than open-ended vehicles.

Tax considerations will be important. Ireland has a special regime for taxation of funds domestic and international.

Vehicles

The most common vehicles internationally are reflected in domestic jurisdiction and legislation in Ireland. Unit trusts are a long-established open-ended vehicle. They are established as a trust under a trust deed. The investors are the beneficiaries.

An open-ended investment company involves the issue of a flexible number of participating shares held by investors. The management company has rights over the fund assets.

The company may hold separate management or non-participating shares. Some jurisdictions allow OEICS to be self-managed by their directors.

Limited liability partnerships are common in the United States. They are used as open-ended investment entities. The investors are the limited partners, and the managers are the general partners.

Open-ended funds may be established by contractual agreement. This is used in jurisdictions where closed funds are not common. The mechanism has been facilitated in Ireland since 2006.

Closed-end vehicles are sometimes referred to as investment trusts. They are in the form of traditional companies with a stable share capital.

Structure

The complexity of funds can be engineered through the relevant trust deed, capital rights, etc., depending on the relevant structures. One common distinction is between capital and income shares with provision for wind-up after a specific life.

Income shares are designed to give the owners entitlement to distributions on the underlying assets. Capital shares are designed to give a return on liquidation when the shares are disposed of such as when the fund is being wound up.

Shares may be engineered or the terms of the trust may be fixed to provide for variations of preferences and rights as between income and capital and underlying investments. Shares may be convertible from one form to another.

Legal forms can be used to engineer umbrella fund structures. This may be done by one or more unit trusts, open-end investment companies or limited partnership structures. The Companies’ legislation in Ireland now specifically provides for segregated funds with insulated liability.

Some categories

Funds may be divided into a number of broad categories.

Securities funds invest in securities and debts. Money funds invest in money market instruments, including certificates of deposit, banker’s acceptance, treasury bills, short-term government securities and equivalent.

Futures and options funds invest in futures and options. Tiered features and options funds use uncovered futures and options to a prescribed extent.

Property funds invest in a mixture of real property and shares in property companies. The rules may determine the extent of exposure to properties permitted.

Funds may be geared so as to achieve capital growth and/or income. There may be a balanced combination of both.

Umbrella Funds

An umbrella fund structure allows for group management which may be more efficient. A single set of accounts and documents may be sufficient rather than separate documents for each sub-fund so that economies of scale may be possible. Investors may be entitled to switch between funds.

An umbrella fund holds a number of sub-funds established as separate legal entities. They may be a company and a trust. Some funds have their own portfolio of assets and investment objectives and share classes corresponding to them.

Each share class is valued as if it were a separate fund. The assets and liabilities are separated if possible. In some jurisdictions, it may not be possible to separate them so as to avoid the insolvency of one impacting another.

Different funds may have different regulatory statuses. Some may be capable of being marketed to the public on a retail basis, while other funds of the same umbrella group may be treated differently.

Some jurisdictions have legislation which protects each sub fund in the event of the insolvency of the others. There may be deemed to be different cells in the same company on terms that the cells are protected from the debts of other cells.

Feeder & Fund of Funds

A feeder fund is one where the underlying investment is a single another fund. Both the feeder and underlying fund are usually open-ended and the value of the shares of each move in tandem. The structure of the underlying fund may not suit all investors for legal, tax or regulatory purposes. The feeder fund may conform to the investment criteria and legal and regulatory requirements of particular classes of investors.

Feeder funds may allow differential pricing and management fees depending on the skill of the investors. Listing requirements may require larger investments. The feeder fund may facilitate investment by a number of smaller investors.

A fund of funds is a fund whose investments are wholly or mainly other funds. It is not a separate structure in itself and is not a feeder or umbrella fund. This enables the fund manager to give choices to investors as to the appropriate mix of underlying markets or assets or the type of assets in which to invest. Investors may gain exposure to a specialist fund without meeting minimum subscriptions that may be otherwise applicable.

A currency hedge may be established for the benefit of investors who have a preference for a different currency. The hedge is applied to the investment by the feeder fund into the master fund so that investors may invest in funds without significant currency risk.

Exchange Traded Funds

Exchange traded funds are open-ended funds similar to tracker funds or funds following an index, stock exchange index. Exchange-traded funds are traded on a stock exchange so that buyers may purchase shares from holders who are dealing with them on the exchange.

They may be able to purchase from broker-dealers who then deal directly with the exchange. These generally happen in pre-determined blocks/units. Traditional funds trade daily, whereas exchange-traded funds exchange constantly throughout the trading day.

Management fees may be lower for exchange-traded funds as there is less active management. Brokerage fees may impact on the net amount invested.

Retail & Wholesale

Retail investment funds are marketed to the public generally. There is usually a relatively low entry requirement. They are subject to the more restrictive controls in relation to their investment policy, management administration and promotion. Individuals may invest directly or may be assisted and advised by a broker or other intermediary.

Managed clients tend to be medium to high to high-net-worth individuals with sufficient funds to justify professional management. Monies may be managed by an investment house, stockbroker or the wealth management services of the bank. The fund may have a high minimum entry level.

Wholesale investors are institutions such as life insurance companies, pension funds or other organizations with large pools of surplus cash.

Some funds are only accessible to professional or substantial investors. Regulations will invariably be more stringent in respect of retail investors.

Listing of Exchange

It may be an advantage to list the fund on a stock exchange. Many stock exchanges, including the Irish Stock Exchange, permit listing of funds. Some institutional investors must invest in listed funds only by the law or the terms of their constitution.

Listing gives greater visibility. Shares may be traded at any time when the exchange is open.

Listing facilitates the use of strategies such as stop orders, loss limits, etc., commonly employed in shareholding. Listing may allow investors to short-sell and buy on margin. It may facilitate settlement centrally.

Because the exchange facilitates liquidity in the shares, it reduces the need for the fund to hold cash to finance redemption.

A fund need not necessarily be listed in the same jurisdiction in which it is established. However, it is usually more efficient that it is so. In order to be listed, a fund must meet the listing requirements of the jurisdiction concerned. See the chapters on the listing requirements for Irish funds.

Listing requirements include requirements for an acceptable jurisdiction.
Holding of funds may be required through a depository or settlement agent.
Funds may be required to be a minimum size.
There must be the ability to calculate net asset value periodically.
The directors must accept responsibility for the listing documents.
Directors must have adequate skill and management experience.
Fund investment manager must have appropriate skill, knowledge and experience.
Shares and units in the fund must be freely transferable and treated equally.
Accounting must conform with the international accounting standards or US or UK equivalent.

The listing documents will require detailed information on the legal structure of the fund, details of the share price and share rights. It will require details of the manager, including the investment manager, advisors, and fund managers. It will require disclosure of services and other material agreements. It must state the investment policy and strategy.

Extensive ongoing information will be required in relation to the financial position. Annual and interim financial accounts will be required.

Ongoing Listing Requirements

There are ongoing obligations

to file accounts and returns at the exchange,
to notify the exchange of net asset value calculations,
to notify material changes,
to notify price-sensitive information.