It has now been well over a year since the UK left the EU and we still have no precise information as to the Financial Services regulatory regime applicable to investment firms after the end of the transition period (31 December 2020).
The most probable outcome is that UK Alternative Investment Funds (‘AIFs’) and UK Alternative Investment Fund Managers (‘AIFMs) will be reclassified as third-country entities. Therefore, UK AIFs and AIFMs will lose access to the current marketing and management passport under the Alternative Investment Managers Directive 2011/61/EU (‘AIFMD’). In the same way, the UK based MiFID investment managers, and wholesale arrangers who act as fund distributors will lose their access to the relevant passports under MiFID.
To gain access to EEA markets after the transition period for marketing, UK AIFMs will need to go via the National Private Placement Regime (‘NPPR’) for any AIFs as set out in Article 42 of the AIFMD.
The UK AIFM will also need to consider whether they have engaged a third-party UK distributor, which has been using MiFID passports to distribute the fund product in the EEA countries, as these UK distributors will also lose their MiFID passporting rights after Brexit.
In the absence of NPPR registration and passports, the UK AIFM could rely on passive marketing exemption or ‘reverse solicitation’ which would require the EEA investor to approach the UK AIFM without any prior communications from the UK AIFM. The requirements attached to the reverse solicitation differ in each Member State and therefore should be checked with local counsels before relying on it.
The NPPR
The NPPR is a widely used method of accessing and targeting investors in any individual EEA Member States for products that meet the relevant rules. The implementation of the NPPR varies across the Member States and as such, can lead to additional costs associated with registration and maintaining ongoing compliance within the individual regulatory regimes.
We find that the most desirable jurisdictions are the ones requiring notification of marketing only, such as the UK, Luxembourg, Ireland and Netherlands. Others, for example, Austria have additional local law requirements (‘gold-plating’). Germany and Denmark also gold-plate the requirements through the depository-lite regime. Whereas, in Italy, there is an outright ban on NPPR.
As mentioned, the NPPR requirements relate to the product and do not address the marketing activity itself, which may be regulated by the national laws as implemented through the Markets in Financial Instruments Directive II (‘MiFID II’). In itself, therefore, this is only part of the solution if the UK AIFM has delegated distribution of its products to a UK distributor relying on MiFID passport.
After registering the fund under the NPPR rules, the third country AIFMs typically need to comply with at least the following requirements:
- Appropriate disclosures to investors as required by the AIFMD are complied with;
- Annex IV reporting obligations are met;
- AIFMD notification requirements to the local regulator are met (such as controlling shareholdings in EEA listed and non-listed companies);
- An annual report is provided to the investors as per the AIFMD requirements; and
- Any additional requirements imposed by the EEA state (such as depository requirements in countries like Germany).
If the AIFs are distributed to retail investors, additional requirements, restrictions, and limitations usually apply depending on where the investors are located.
Extending the AIFMD Passport?
Since the implementation of the AIFMD, the European Securities and Markets Authorities (ESMA) have been considering extending the AIFMD passport to both non-EEA AIFs and non-EEA AIFMs as long as there would be no disruption to markets, competition, or risk-monitoring. This seems to be an ever more distant possibility as it relies heavily on political sentiment and the will of the third countries to treat EEA AIFMs with equivalent openness.
Therefore, it is unlikely that the UK could benefit from a tailored solution based around the idea of a passport extension.
Marketing and other regulated activities
To continue on the points made above about marketing, even after getting their fund products registered for EEA distribution, the UK AIFMs still need to ensure that the entity conducting the marketing activities does not breach the law in the target EEA state. Any non-EEA AIFM be they in the USA or Hong Kong or now UK will be able to continue marketing under Article 42 of the AIFMD.
Whereas the non-EEA AIFM can continue the fund distribution activities following an NPPR registration, a third-party fund distribution activities could include arranging and investment advice regulated activities, which often are regulated under the rules that have been derived from MiFID. Providing investment advice and personal recommendations to an investor based in EEA country might require authorisation and a place of business in that EEA country, or in another EEA country if a MiFID passport is relied upon. Today, the UK based distributors of UK AIFMs can conduct these MiFID activities by using their MiFID passports.
Many UK AIFMs have also been authorised under the AIFMD as Collective Portfolio Management Investment firms (“CPMI”) which allows them to conduct some of the MiFID regulated activities such as investment advice and management of individual managed accounts (‘MiFID top-ups’). In relation to these MiFID activities, which do not relate to AIF distribution, the UK AIFMs should ensure that that these are only conducted in the UK. In turn, this may limit the firm to activities that are defined in the UK as “arranging” which are commonly seen taking place in the UK where the firm is authorised to conduct those activities.
Should the UK AIFM with MiFID top-up permissions, or MiFID Investment Firm require EEA authorisation to conduct MiFID regulated activities, it would need to set up an EEA subsidiary which will be authorised in the EEA to conduct MiFID activities. Laven can assist you with this in a more streamlined and cost-efficient way than setting up a subsidiary. In any case, it is worthwhile to seek local legal assistance in the countries where the AIFM would like to register its funds and continue to provide any other regulated services. Here Laven can connect you with our extensive network of law firms in the EEA, and in the UK, or we welcome to working alongside your lawyers
Reverse solicitation
The AIFMD does not intend to regulate situations whereby the investors approach the managers; however, the AIFM needs to be able to provide evidence that it was the investor who contacted them first with a view to investing into AIFMs funds in order to prove that the firm was conducting any marketing activities in the relevant EEA country. The problem with the reverse solicitation exemption is that AIFMs relying on it can be challenged in a court later.
Issues relating to the absence of management passport
The UK AIFMs currently managing EEA AIFs should ensure that these vehicles can still be managed by a third country AIFM after Brexit transition period ends. As an example, Luxembourg Reserved Alternative Investment Fund (‘RAIF’) requires an EEA authorised AIFM as their manager. Following the Brexit transition period, UK AIFMs would stop being an EEA authorised AIFMs, and in worst cases, the fund vehicle would have to be converted to a different type of vehicle which might have to be authorised separately by the EEA regulator.
