It has been another busy quarter in the Cayman Islands for legislative changes. At the time of writing, The Exempted Limited Partnership Bill, 2014 and The Contracts (Rights of Third Parties) Bill, 2014 are subject to the legislative consultative process and they are expected to come into force by the end of the first quarter of 2014. FATCA deadlines are now upon us and the Cayman Islands has signed key agreements which facilitate the registration and reporting process. Further, the Cayman Islands Monetary Authority has recently produced additional guidance on corporate governance for funds.
Everyone is talking about FATCA. The Foreign Account Tax Compliance Act, which was enacted by the United States in 2010 and comes into force on July 1, 2014, imposes due diligence, information reporting and control burdens on a range of non-US financial intermediaries and investment entities (foreign financial institutions or FFIs), including banks, other financial institutions, certain insurance companies, as well as investment funds and other collective investment vehicles. FFIs will be required to register with the United States Inland Revenue Service and disclose accountholder information for certain U.S. persons that have investments in or are managed by FFIs. Failure by an FFI to register with the IRS or to comply with the reporting obligations will result in a 30 percent withholding tax being imposed on gross payments to the FFI from a U.S. resident paying agent.
In November 2013, the Cayman Islands government entered into a Model I Intergovernmental Agreement with the United States (the IGA) which simplified FATCA compliance for a range of Cayman FFIs, including hedge and private equity funds. Under the IGA, rather than FFIs reporting directly to the IRS, Cayman FFIs will be required to disclose information relating to “accounts and non-financial entities substantially owned by United States citizens and residents” to the Cayman Islands Tax Information Authority (TIA). The TIA will, in turn, forward this information to the IRS and, consequently, FFIs in Cayman are not required to report directly to the IRS. Cayman Islands enabling legislation to give effect to the IGA is expected imminently.
All FFIs based in the Cayman Islands will be required to register on the IRS FATCA Registration Portal for the purpose of obtaining a global intermediary identification number (GIIN). Although this requirement takes effect from July 1, 2014, the IGA provides that all Cayman reporting FFIs (with a number of named exceptions) are exempt from FATCA withholding tax until January 1, 2015. Thereafter, all Cayman FFIs will be subject to withholding tax if they fail to provide U.S. paying agents with a GIIN.
The Exempted Limited Partnership Bill, 2014
The Exempted Limited Partnership Bill, 2014 was gazetted on February 21, 2014 and is expected to be in force within the first quarter of 2014.
The ELP Bill is a major re-working of the Exempted Limited Partnership Law (2013 Revision) following extensive public and private sector consultation. The ELP Bill gives partners greater contractual flexibility to determine their affairs and will enhance the overall attractiveness of the Cayman Islands as a domicile for partnership formation.
The amendments to the ELP Bill fall into three broad categories;
- (i) market – driven changes which enhance the Cayman Islands position as a leading jurisdiction for fund formation;
- (ii) changes which convey greater authority for the partners to determine their business; and
- (iii) changes which apply concepts used in the Cayman Islands Companies Law, so far as applicable.
The list of persons who are able to qualify as a general partner has been extended to include a limited partnership or limited liability partnership established in a recognized jurisdiction outside of the Cayman Islands (a foreign limited partnership). It is expected that the list of persons who can perform the role of general partner will be extended further in due course.
A number of the requirements under Cayman Islands law relating to the execution and delivery of partnership documents have been revised with a view to making it more manageable for investors to accede to the partnership or to execute partnership documents. In particular, a partnership agreement or subscription agreement will be executed validly where it is executed in any manner contemplated by the parties, including (a) execution of the complete agreement or (b) where any signature or execution page to the document is executed whether or not the agreement is in its final form. Further, where the agreement conveys a power of attorney, execution of the agreement will be deemed to be validly executed as a deed without any further demonstration of satisfaction of the requirements for execution as a deed. These provisions of the ELP Bill will also have retroactive effect.
The ELP Bill extends the list of “safe harbor” activities which a limited partner can carry out without losing its limited liability status. A limited partner will not be taking part in the conduct of the business of the exempted limited partnership if the limited partner, or a representative of the limited partner, participates in a board or committee of the exempted limited partnership.
Provisions which allow a creditor to claw back monies that have been distributed to partners have been modified and restricted under the ELP Bill and applies only if the exempted limited partnership was (a) insolvent at the time of the payment of the contribution to the limited partner or release of obligation; and (ii) the limited partner has actual knowledge of the insolvency of the partnership.
Convey power to the partners to determine their business
Partners will have the ability to determine approval thresholds between themselves in the partnership agreement, and determine, where there are multiple general partners, which general partner is entitled to exercise certain authority.
The general partner is required to act in the interests of the exempted limited partnership unless there is an express provision in the partnership agreement to the contrary. The ELP Bill provides that a limited partner does not owe any fiduciary duties to the exempted limited partnership or any other partner when exercising any of its rights or authorities or otherwise in performing any of its obligations under the partnership agreement. This standard is analogous to the standard applicable to a shareholder of a company. Further, a member of any board or committee of an exempted limited partnership does not owe any fiduciary duty in exercising any of its rights as a member of the board or committee to the exempted limited partnership or any other partner.
Partners are at liberty to determine what consequences or remedies apply in the event that a partner fails to perform any of its obligations under the partnership agreement or otherwise breaches the provisions of the partnership agreement. The ELP Bill makes it clear that a remedy or consequence which is penal in nature will not be unenforceable solely on that basis.
Companies Law concepts so far as applicable
Following the broad principles in the Cayman Islands Companies Law, it is now permissible for a Cayman Islands exempted limited partnership to have an additional dual foreign name.
Further, where the registrar has reasonable cause to believe that an exempted limited partnership is not carrying on business or is not in operation, the registrar may strike the exempted limited partnership off the register and de-register the exempted limited partnership. The provisions for strike off are broadly similar to those applicable to a company under the Companies Law, except that when a partnership is de-registered by strike off, any assets remaining in the partnership at the time of strike off vest in the applicable general partner.
The new Cayman Islands’ ELP Bill is expected to make fund formation in the Cayman Islands even more attractive. Many of the changes will also facilitate the establishment of parallel fund structures with other jurisdictions. The ELP Bill is an example of this proactive, cooperative process, helping the Cayman Islands to maintain its status as a leading offshore jurisdiction.
The Contracts (Rights of Third Parties) Bill, 2014
The Contracts (Rights of Third Parties) Bill, 2014 was published in the Cayman Islands Gazette on February 21, 2014 and is also expected to come into force in the first quarter of 2014. The CRTP Bill will allow for the enforcement of contracts by third parties and reform the well known doctrine of privity of contract in the Cayman Islands.
The CRTP Bill provides that a third party may, in his own right, enforce a term of a contract if the contract expressly provides that he is entitled to do so and identifies him.
The doctrine of privity of contract has meant, first, that a person may not have obligations imposed upon them by a contract to which they are not a party and, second, that a person who is not a party to a contract (a third party) may not enforce that contract. The second limb of the doctrine was criticized as it does not allow for cases where it was obvious on the facts that a contract was intended to benefit a third party. To combat circumstances where the application of the privity doctrine led to unfairness, the U.K. adopted the Contracts (Rights of Third Parties) Act in 1999 (the U.K. CRTP Act).
While the Cayman Islands’ CRTP Bill is based on the U.K CRTP Act, the significant difference is that under the CRTP Bill, a third party can only enforce a contract when the contract expressly provides that right. The U.K. CRTP Act, on the other hand, applies when a contract purports to confer a benefit on a third party, and can therefore operate by implication without an express provision.
Pursuant to the CRTP Bill, the contract can identify the relevant third party by name, as a member of a class or by a particular description, and includes persons who are not in existence when the contract is entered into.
If a third party is identified in the contract, and the contract expressly states that the CRTP Bill applies, then the third party will have available to him any remedy that would have been available in an action for breach of contract as if he had been a party to that contract in accordance with the terms thereof.
If the parties to a contract wish for a third party to be able to enforce a term of that contract, then the CRTP Bill provides a convenient mechanism for the third party to enforce the contract without having to be a party to it or provide consideration. The parties simply need to provide the mechanism within the contract for the CRTP Bill to apply. The parties must carefully consider the limitations applicable under the contract and the rights of the third party to object to any potential rescission or variation.
If, on the other hand, the parties do not want third parties to be able to enforce their contracts, then, unlike under the UK CRTP Act, they simply need to do nothing. The CRTP Bill will not apply to a contract unless the contract specifically provides for its application.
Fund specific guidance on corporate governance
On December 5, 2013, CIMA issued the Statement of Guidance on Corporate Governance for Mutual Funds. The SoG-MF seeks to provide high level guidance on the corporate governance standards expected in the oversight of regulated mutual funds by its operators (i.e. directors, general partner or trustee, as applicable) including the primary duties applicable to the operators of such funds.
Noteworthy principles of the SoG-MF
The SoG-MF is largely a restatement of common law principles with a focus on mutual fund specific issues, relating to the oversight function and duties. The SoG-MF applies to all regulated mutual funds including funds licensed or administered under section 4(1) of the Mutual Funds Law and funds registered under section 4(3) of the Mutual Funds Law.
The governing body or board of directors of a regulated mutual fund has a positive duty to monitor laws and regulations affecting the funds industry (including anti-money laundering or combating terrorist financing requirements) and to request information to ensure that the fund and its service and or professional providers are complying with these and, where it is not, provide appropriate direction to ensure compliance. The governing body should require regular reporting from the investment manager and other service providers to enable it to make informed decisions and to adequately oversee and supervise the fund.
CIMA has recognized that the operator of a fund is often not actively administering or operating the fund but rather has a duty to retain sufficient oversight so as to enable the operator to satisfy itself that the fund is efficiently and effectively operated and managed in accordance with all applicable laws, regulations and rules.
The governing body and operators must ensure that the fund has a conflict of interest policy and ensure that it is adhered to. The governing body should meet at least twice a year and, where necessary, must request the presence of its service providers.
Operators must exercise independent judgment, operate with due skill, care and diligence and act honestly and in good faith. Operators should not overly rely on a delegation of their duties to service providers and must have the relevant experience or capacity to fulfill the minimum expectations of the SoG-MF.
CIMA’s proactive approach to modernizing the corporate governance standards in the Cayman Islands is welcomed by the industry. It is viewed as promoting and enhancing market confidence which will only help the Cayman Islands maintain its position as the leading international financial center for mutual funds.
The Cayman Islands continues to listen to industry and stakeholders and make important changes to our legislation to meet the changing needs and requirements of key markets. The proposed amendments to the Exempted Limited Partnership Law and the Contracts (Rights of Third Parties) Law make sense and will enhance the attractiveness of Cayman as a jurisdiction to do business in. In the next quarter we will provide further color on the FATCA enabling legislation and look at other key changes in the Cayman legal landscape.