One of the reasons why Cayman Islands investment funds are so popular is the flexibility of the fund products available. The Cayman Islands Monetary Authority (CIMA) supervises regulated investment funds via the Mutual Funds Law, which regulates open-ended funds such as the classic Cayman hedge fund. Closed-ended funds by contrast are not regulated under the Mutual Funds Law, although they can choose to be.
For funds where the investor is able to choose whether to redeem (ie cash-in) their investment on a regular basis, the Mutual Funds Law offers 3 types of regulated funds and a useful exemption in certain circumstances where there are 15 or fewer investors.
4(3) Funds: The most popular regulated fund is the so-called 4(3) fund, named after section 4(3) of the Mutual Funds Law which regulates it. This type of fund must be offering equity interests (shares, partnership interests, units in a unit trust) to investors for the purpose of pooling investors’ funds, which entitle investors to a share of the profits of the fund and which are redeemable at the option of the investor. There are no restrictions on a 4(3) fund’s investment objectives and no requirement to appoint a Cayman resident manager or directors (although directors must be registered or licensed by CIMA – we will write more on this in a future post). There are no diversification requirements either. The minimum initial investment level is US$100,000 for each investor, or the equivalent in another currency, or the equity interests must be listed on a stock exchange recognised by CIMA. This is the type of fund which is typically used when setting up a hedge fund in the Cayman Islands and, at the end of 2014, including registered master funds, made up about 95% of all Cayman Islands funds registered with CIMA.
To register as a 4(3) fund, the fund must send CIMA its offering document setting out details of the shares / other equity interests being offered to investors, an application form, the registration fee (currently US$4,268) and consent letters from the fund’s administrator and auditor. For investor protection, the auditor must be based in the Cayman Islands and on an approved list issued by CIMA (which includes the Cayman branches of large international audit firms plus other Cayman audit firms). Once registered the fund then has to file audited annual accounts within 6 months of its financial year end, pay an annual fee to CIMA and file any amendments to its offering document with CIMA. 4(3) funds also include master funds which are set up in the Cayman Islands and which have to register with CIMA where they have one or more feeder fund which is regulated by CIMA.
4(4) Funds: If an open-ended fund has 15 or fewer investors, a majority (in number) of whom are able to appoint or remove the directors of the fund (or the general partner where the fund is a partnership or the trustee for a unit trust), then the fund does not have to register with CIMA, under an exemption set out in section 4(4) of the Mutual Funds Law. The 4(4) exemption is popular for funds with only one investor, friends and family funds and start-up funds in some circumstances, although the exemption is not available for master funds.
The Mutual Funds Law also regulates administered funds, where the fund has a principal office in Cayman at the office of a Cayman based licensed fund administrator, and licensed funds, which can be used for retail funds offered to the public outside Cayman. At the end of 2014 however, less than 5% of all funds registered with CIMA were administered / licensed.
Closed-ended funds, where investors are not able to redeem their investment at their own option, are not regulated by the Mutual Funds Law and so Cayman has also established itself as a popular place to set up private equity funds.
This mix of appropriate regulation of open-ended funds for the sophisticated investor market and no requirement to register closed-ended funds with CIMA has helped to make Cayman the successful funds jurisdiction that it is today.