Loyens & Loeff New York regularly posts ‘Snippets' on a range of EU tax and legal topics. This Snippet focuses on the impact of engaging with a Luxembourg Host AIFM on a fund's deal process.
US Fund Managers (“USFM”) aiming to raise capital in Europe may want to benefit from an EU marketing passport to accommodate EU-wide distribution. A Luxembourg Alternative Investment Fund (“Lux AIF”) managed by a Luxembourg Authorized Host Alternative Investment Fund Manager (“Lux Host AIFM”) comes with that benefit.
A Lux Host AIFM must assume two core functions: risk management and portfolio management (respectively “RM” and “PM”). The PM function executes the investment strategy, and the RM function monitors whether proposed transactions comply with the fund's risk profile. As the USFM has designed the fund's investment strategy, it should assume the PM function. This requires a transfer of the PM function from the Lux Host AIFM to the USFM. A delegation arrangement is the default route for such a transfer.
A delegation of PM by the Lux Host AIFM to the USFM requires that the USFM is SEC-regulated, and that the Luxembourg CSSF is notified about the delegation before it becomes effective. The delegation comes with a power of attorney granted by the Lux AIF to the USFM, so it can enter into deals on behalf of and in the name of the Lux AIF.
From the USFM‘s perspective, engaging with a Lux Host AIFM may feel like hiring a Luxembourg risk manager while retaining the PM function. As explained above, the EU regulatory reality is different: as per the AIFM agreement between the Lux AIF and the Lux Host AIFM, the former assumes the RM function but also the PM function, which it commits to delegate to the USFM under a PM agreement.
The Lux Host AIFM will have to: (i) perform initial and periodic due diligences on its delegate, being the USFM; and (ii) monitor the delegated PM function on an ongoing basis. The due diligence focuses on the USFM's organization, while the PM monitoring focuses on whether the Lux AIF invests in line with its strategy.
The monitoring duty typically has a post-transaction character. It is backed by certain information rights granted to the Lux Host AIFM under the PM delegation agreement. Monitoring is typically done on a quarterly basis and based on information shared with investors for the usual quarterly reporting process. As a best practice, the Lux Host AIFM, in its capacity as risk manager, requires to be informed on proposed deals at least 5 days before the day of signing. On that basis, the Lux Host AIFM informs the USFM or the fund whether the transaction fits the fund's risk profile.
The ongoing monitoring obligations imposed by the Lux Host AIFM on the USFM have no material impact on the actual investment process. However, the Lux Host AIFM would still require pre-transaction involvement for the RM function it retains.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
