Aliya Allen examines the Bahamas Investment Condominium (ICON), a new investment fund product for the LATAM market.
The Bahamas maturity as a wealth management centre provides it with an inherent understanding that changes to its regulatory and business environment should not be knee-jerk reactions to market or political conditions but measured responses that build on the trust and confidence that the jurisdiction has earned – and values – among the broad choice of global institutions which provide asset management, private banking, trust, and related services to owners of capital from around the world.
Indicative of the measured and progressive approach is The Bahamas’ carefully designed regulatory environment for investment funds. Indeed this design has borne fruit; over the last few years, there has been year upon year growth largely on the back of the investment fund vehicle known as the SMART Fund. Even with more institutionally focused templates like the SMART 7, SMART Fund Models (SFMs) have been used as a cost-effective investment fund vehicle for families, family offices, and related investors.
The SMART Fund concept was conceived in the spirit of truly risk based regulation in recognition of the fact that depending on the structure of the investment fund, the regulation could be tailored appropriately to fit the specific business case. This is justified by the cap on the number of investors that may invest in many of the templates. As a result, the regulation accommodates agreement by a small number of investors to waive the production of audited financials in favour of semi-annual performance reports. In practice, this waiver may be utilized once or not at all but the utility is there should the investment fund require it to accommodate an illiquid strategy, or the consolidation of an audit in one jurisdiction. SMART Funds reflect market responsiveness which is the flame that ignites innovation in The Bahamas. Its flashpoint is the level and intensity of public and private interaction that is the basis of legislation creating client-centric products and services within a modern and robust regulatory regime.
While the number of SMART Funds on the register grows, The Bahamas is not content to be viewed as simply a niche fund player; it has set its sights much higher, looking to expand awareness of its entire funds offering, including its well-regarded professional fund which may be established for sophisticated investors satisfying certain net worth qualifying criteria.
Years of focused efforts have seen the Bahamas gain a strong foothold in the Brazilian market. And while wealth management is the bedrock of the Bahamas international financial services offerings, it is the jurisdiction’s funds industry and its innovative product offerings that are at the leading edge of its growing business from LATAM. Brazil in particular has become an increasingly important market for The Bahamas, the result of a consistent and dedicated focus on assisting with satisfying the sophisticated requirements of a jurisdiction whose hedge funds number in the region of 13,000. It would not be overreaching to estimate that a large number of the existing funds licensed in The Bahamas originated – especially using SFMs --to accommodate Brazilian funds, fund managers, investors and strategies.
Under Brazil’s civil code the condominium was the formalization of the concept of joint ownership and administration of property (in all forms) between co-owners within an unincorporated entity. The condominium is not a legal entity separate and apart from co-owners and the administrator is empowered to act on behalf of and represent it in all matters. As a result of further amendments, a condominium investment fund was created; this modified the original condominium concept providing that a condominium (in the investment funds context) was a ‘pooling of funds intended for investments in a diversified portfolio composed of financial assets and other instruments available on the financial market.’
The Bahamas Investment Condominium (ICON) provides an alternative legal structure for investment funds that is inherently familiar to those in Brazil and indeed those in countries which have similar civil law constructs. It was this commitment to building products that benefit from cultural and legal familiarity that saw The Bahamas introduce foundations law in 2004; the ICON is an extension of this effort.
The ICON is defined as a contractual relationship subsisting between investors (called participants), under which the investors agree to pool assets for the purposes of investing those assets as a collective. The structure is then licensed and fully regulated as an investment fund - as is done today using existing vehicles such as the International Business Company, the Exempted Limited Partnership, and the Unit Trust.
The ICON is simply a new structuring vehicle that can be licensed as a SMART Fund, Professional Fund or Standard Fund in The Bahamas. It is not a company, not a partnership, and not a trust. It is a pooling mechanism and operating instrument for investment funds.
So what are the advantages of an ICON over a company, trust or partnership aside from familiarity?
Centralizing ‘governance’ and not just ‘administration’ within a regulated entity helps to achieve international best practices of investment fund governance and operation. The governing administrator and general administrator of an ICON are regulated, whether in The Bahamas or an equivalent jurisdiction.
The ICON can be simply established in a much more streamlined way than a corporate vehicle.
There is flexibility. It’s possible to set up an ICON where investors are called on to contribute in the case of negative net equity, before the fund can be deemed insolvent. It’s also possible to establish an ICON where the liability of the investors is limited.
The ICON shares many features with the Brazilian condominium: the ICON possesses no distinct legal personality save that for the purposes of the legislation it is able to own assets in its name; enter into agreements in its name; and sue and be sued in its name. The lack of legal personality is addressed by the appointment of an administrator that is empowered to transact in its name, and represent and bind the ICON.
The ICON is established by the initial participants signing “governing regulations” which is the governing document of the ICON. The initial participants engage the ICON’s administrator which must be an institution that is regulated by the Securities Commission of The Bahamas as an investment fund administrator under the Investment Funds Act. The administrator will then prepare a certificate evidencing that the ICON has been established, and which contains the information specified in the schedule attached to the legislation which brought ICON into existence. This certificate subsequently is signed by the administrator and submitted along with a prescribed fee to the Registrar General for stamping.
As foreshadowed above, the administrator can be a single institution or separate institutions performing two distinct roles – that of ‘governance’ and that of ‘general administration’. The role of the governing administrator is similar to that of a director, trustee or general partner. The governing administrator bears a fiduciary responsibility to participants in the ICON. The general administrator performs such roles as maintaining the register of participation interests, issuing subscription confirmations etc.
A unique ICON feature is the provision for other types of entities - eg, companies, unit trusts and exempted limited partnerships - to convert to an ICON by following a defined procedure. ICON legislation is clear as to the effect of conversion and it is important to note that conversion does not relieve a converted entity from liabilities or obligations incurred preceding the conversion to an ICON.
While designed to be reflective of Brazilian requirements, and thus intended to target fund-familiar investors looking to diversify away from their domestic market, ICON is not solely focussed on Brazil. The Bahamas is also seeing considerable interest in the fund from other Latin American countries because the structure enables the governance, operation and asset optimization in a manner that other structures simply cannot. Sophisticated investors are able to access and establish offshore funds in a format to which they are already very well accustomed, where the fund administrator assumes a relatively enhanced role encompassing the traditional functions of accounting and investor relations, in addition to fund governance. Thus, a familiar legal structure can be matched up with the regulatory overlay of the Bahamian funds regime, which also has much in common with the Brazilian fund regulatory environment, considering that both countries are Members (A Signatories) of the International Organization of Securities Commissions (IOSCO).
It’s important to note that the ICON is simply the structure that underpins the licensing category. It is possible to license an ICON as a standard fund, professional fund or a SMART Fund. A good example of how this works well for Brazil is the combination of the ICON with the SMART Fund model 007 license (the “ICON-007”). The beauty of the ICON-007 is the flexibility to customize the fund’s operating structure in a way that efficiently provides for reduced legal and cost concerns. Customization of a fund for asset management requires the consideration of a number of factors, including its proposed strategy, investment policy, investment restrictions, counterparties, liquidity provisions, and total expense ratio. Moreover, the most important factor from the investor’s perspective is often found to be its tax implications and how to structure the fund so that it is tax-neutral and therefore more cost efficient.
On this basis, the SFM 007 provides for a regulatory framework that is comparable to the onshore Brazilian multimarket super-qualified fund, which is established as a condominium and may invest up to 100 per cent of its assets outside of Brazil, unlike other types of Brazilian funds. Currently, the minimum initial investment per investor is $1 million Brazilian Reais, which is roughly equivalent to the minimum investment requirement for the SFM 007 (ie, US$0.5 million).
In the current climate, success for an IFC depends on a host of factors but certainly one of them is the ability to develop market-responsive, compliant and innovative products. The ICON follows in the traditions of the Bahamas Foundation and the Bahamas Executive Entity in being the first of their kind in the common law world…and that’s quite iconic indeed.
Partner, Graham Thompson, Bahamas