Cayman Islands: Growth in use of parallel funds structures

Parallel funds are investment vehicles structured to co-invest and divest alongside a main fund, with each structure being similar in many ways to the main fund in terms of strategy, investment policy, investment target, asset classes, risk management, etc. The major distinction between the different funds in the structure are typically the tax framework (capital gains, dividend, interest, etc.) or the intention of the investment manager to differentiate each fund vehicle based on their investor group.

For example, parallel funds may include an onshore fund or mid-shore (established in any jurisdiction, e.g. Singapore or Hong Kong) and a standalone Cayman fund, both being managed by the same investment manager, with similar investment objectives and strategies, making identical investments but having different structures and a different pool of investors (e.g. US investors in one Cayman structure or Delaware structure, Japanese investors in a Singapore domiciled fund structure, and other non-US investors based in Asia in another Cayman-domiciled fund structure), in order to cater for a tax efficient framework or regulatory requirements based on investors’ jurisdiction of domicile.

Parallel funds are often established by private equity (PE) fund managers to complement the main fund and address legal, tax, regulatory, accounting or other considerations from specific investors who are interested in the investment objective and strategy.

Parallel funds versus master-feeder funds. Parallel funds are distinguishable from master-feeder structures in that the feeder funds invest directly into the master fund, thereby pooling all investments in the master fund. With parallel funds, separate investment funds invest directly in the same investment deals or asset classes, but they are kept as distinct entities with no pooling of capital into a master fund.

What are the key benefits and advantages offered by parallel fund structures?

Using parallel funds provides a number of benefits to investment managers, including:

1. Flexibility, allowing investment managers to tailor investment strategies and structures based on investor profiles, offering different fee structures or liquidity terms;
2. Tax efficiency, providing a tax efficient way to invest without triggering adverse tax consequences in jurisdictions with stringent regulations; and
3. Regulatory compliance, allowing investment managers to adapt to varying regulatory environments, ensuring compliance.

However, it would be wise to note that parallel fund structures do not come without risks, including:

1. Operational issues – the investment manager may need to manage multiple funds across jurisdictions;
2. Different regulatory requirements – creating more administrative responsibility and complexities in terms of operations and compliance, increasing cost; and
3. Investor relations and fees – managing communications and reporting between different investor classes, and dealing with different structures and fees can cause confusion and increase the administrative burden.

When structuring parallel funds, consideration needs to be given to:

1. Investment strategy alignment to ensure that funds can invest in the same underlying assets without conflicts of interest;
2. Fund documentation, drafted to address the specific needs of each fund while ensuring consistency;
3. Management and fees, ensuring transparency; and
4. Legal and tax advice to ensure compliance with all relevant laws and regulations, and optimise the tax impact for investors.

When considering the Cayman Islands for a parallel fund structure, its robust legal framework, absence of taxes on investment funds and their investors, and flexible regulatory environment make it attractive for investment managers and investors alike.

This article was first published with Asia Business Law Journal. https://law.asia/cayman-islands-parallel-funds-growth-benefits/

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. If you require further advice relating to the matters discussed in this Article, please contact us. We would be delighted to assist.

Vanisha Harjani
E: vanisha.harjani@loebsmith.com