Cyprus Alternative Investment Funds – the Road Ahead

Jun 30, 2022

In recent years Cyprus has significantly enhanced its fund legislation to position itself as a flexible and cost-effective jurisdiction for funds and fund managers within the European Union.

The success of the Registered Alternative Investment Fund or so called RAIF is a step in the right direction and the jurisdiction continues to work hard to further enhance the reputation of the sector both domestically and internationally.

Cyprus can position itself as a regional fund centre and a cost-effective investment platform into the EU, drawing on its strength of being a common law jurisdiction with a comprehensive tax treaty network spanning over 60 countries. Moreover, Cyprus has the ability to offer fund managers and promoters cost-effective and compliant substance solutions to meet the increasingly demanding, complex and evolving legal and regulatory dynamics of the European fund industry as demonstrated by the European Commission’s review of AIFMD in November 2021 and subsequent legislative proposals. Brexit also means the UK is no longer the logical choice for a cross border European Fund Management Company with selective EU 27-member states seeking to benefit from this.

With the growth in the RAIF product in Cyprus has come demand for Alternative Investment Fund Managers that are required to manage a RAIF. While setting up a proprietary AIFM does offer advantages it is not a prerequisite and 3rd party AIFMs (so called independent management companies, or 3rd party ManCos) are available, which can potentially offer a turnkey solution instead of setting up a proprietary AIFM. This development has also coincided with self-managed investment funds or self-manged investment companies (so called SMICs) becoming less popular. SMICs were traditionally popular and cost-effective with the Board of Directors of the fund responsible for all functions but in practice outsourcing most functions (investment management, fund administration etc) through contractual arrangements. The viability of SMICs is however now questionable given the increase in substance requirements as well as time commitments from Directors in recent years required by regulators that make this fund management model the least robust in terms of substance demonstration and increasingly expensive.

Institutional investors are increasingly comfortable with the 3rd party AIFM management model that offers comfort with respect to governance including the 3rd party AIFM being responsible, inter alia, for the operations and oversight of the Fund including current areas of particular regulatory focus such as liquidity risk management. Looking at specific examples in the local market in Cyprus, CYREIT AIF Variable Capital Investment Company Plc, which in terms of Assets Under Management is arguably the largest, Cyprus-focused, real estate Alternative Investment Fund in Cyprus with a portfolio of 21 commercial properties and successfully raised institutional capital internationally and locally, historically was a SMIC before converting in 2020 to a 3rd party AIFM model. In this now well-established example there is a local team of established industry professionals on the ground managing the real estate side of the portfolio end to end, while the 3rd party AIFM retains responsibility for the day to day management and oversight of the Fund. The model is also cost-effective given increasing regulatory focus on fees, the so-called Value Assessment of Funds. The FCA in the UK for example has introduced rules requiring UK Fund Managers to assess the value that their Funds deliver to investors and to publish a summary of these assessments annually.

The above example also fits in well with the broader industry themes such as increasing regulatory and taxation pressures for Fund Management functions to be conducted within the same location as the Funds and SPVs and the increased focus of the OECD BEP’s project on Fund Management activities requiring substantive Fund Management activities to be conducted in the same location where profit is derived with the goal of combatting tax avoidance. In addition, FATF’s global focus on AML requires increased local oversight of AML/KYC functions in the jurisdiction of the Fund that this fund management model satisfies. The model is also currently well-placed to satisfy the criteria of the Anti-Tax Avoidance Directive III (ATAD 3) that remains in a draft form.

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