In this Briefing Note we will focus on the Approved Fund, exploring its main features and benefits, and the requirements, and obligations that apply to the Approved Fund. The main features are as follows;

1. Structure. An Approved Fund can be structured as a BVI business company or a limited partnership.
2. It is limited to a maximum of 20 Investors. If, during any two consecutive months period, the number of investors in the Approved Fund exceeds twenty (20), it must notify the FSC in writing and simultaneously submit an application for the conversion and recognition of the Fund as either a Private Fund or a Professional Fund. Notice to the FSC must be submitted within seven (7) days of exceeding the specified limit after the two months period, unless at the time of the notification, the Approved Fund no longer exceeds the specified limit.
3. There is no minimum initial investment for each investor. There is no minimum initial investment amount set for each investor into an Approved Fund. However, in the event that an Approved Fund upgrades to a Professional Fund, its investors will need to certify that they are professional investors and will need to demonstrate that they have subscribed for an investment of at least US$100,000 (or its equivalent in another currency) in the Fund, or top-up their existing investment amount for meeting the US$100,00 requirement. There is no statutory equivalent to the grandfathering of the Incubator Fund’s sophisticated investors.
4. It is limited to a Maximum Net Asset of US$100 million or its equivalence in any other currency. If, during any two consecutive months period, the Approved Fund exceeds this US$100,000,000 threshold, it must notify the FSC in writing and simultaneously submit an application for the conversion and recognition of the Approved Fund as either a Private Fund or a Professional Fund.
5. There is no term limit on the Fund. The Approved Fund is not limited to a specific lifetime, like an Incubator Fund. The Approved Fund is aimed at providing a solution to open-ended funds that target friends and family, family offices and/or an investor base within a close network to run investment strategies indefinitely but without focusing mainly on building a verifiable track record. The structure has the advantages of (i) a shorter launch timeframe, (ii) fewer regulatory obligations, and (iii) less required functionaries and service providers as it can be operated without an investment manager, auditor or custodian.
6. A Summary of the Key Terms of the Offering to Investors with Investor Warning is required.
   1. There is no requirement to file audited financial statements. Whilst the Fund must have accounts showing a true and fair view of its financial affairs, there is no requirement for its accounts to be audited and filed with the FSC.
   2. Commencement. The Fund can commence business two days from the date that the FSC receives the application.
   3. Functionaries. The Fund must have a fund administrator but are not required to have a custodian or manager.

1. Reduced organizational costs as there is no need for a Private Placement Memorandum as a Summary of the terms of the offering with investor warnings and investment strategy information will suffice.
2. No requirements for authorized capital or share capital. Shares can be issued without par value.
3.  A ‘lighter-touch’ regulatory regime.
4. As there is no term limit for the Fund, it provides the management team with a platform that can focus on running the investment strategies without the constrains of time or the pressure of upgrading to a more regulated product like the Professional Fund or the Private Fund unless the performance of the Approved Fund triggers a mandatory upgrade.
5. Reduced service provider costs as there is no need for a custodian, manager or auditor.
6. Fast launch timeframe.

Approved Funds have limited functionary requirements, especially when compared to Professional Funds, Private Funds, or Public Funds. This means that the Approved Fund does not require an investment manager, custodian or auditor and it does not need to provide an offering memorandum to investors. It is only required to provide a summary of terms with a description of the investment strategy and appropriate warnings to investors so they could make an informed decision before investing in the Approved Fund.

Approved Funds must have a minimum of two directors at all times (one of which must be an individual). As part of the application to the FSC, the directors of the Approved Fund are required to submit their resume to the FSC to check if they are fit and proper persons.

Anti-Money Laundering: Approved Funds are subject to the BVI anti-money laundering regime and are required to have in place anti-money laundering policies and procedures and conduct client due diligence on their investors.

FATCA/CRS: Approved Funds will be BVI reporting financial institutions for the purposes of compliance with the US Foreign Account Tax Compliance Act (FATCA) and the OECD’s common reporting standard for automatic exchange of financial account information (CRS) and the intergovernmental agreements and domestic legislation implementing FATCA and CRS in the BVI (AEOI) and will therefore be required to, among other things, register with BVI FARS and deal with annual reporting for FATCA and/or CRS.

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on the formation and launch of a BVI Approved Fund and submitting an application to the BVI FSC for recognition, please contact your usual Loeb Smith attorney or any of the following:

E: gary.smith@loebsmith.com
E: robert.farrell@loebsmith.com
E: santiago.carvajal@loebsmith.com
E: vivian.huang@loebsmith.com
E: yun.sheng@loebsmith.com
E: elizabeth.kenny@loebsmith.com
E: faye.huang@loebsmith.com

Under the Anti-Money Laundering (Amendment) Regulations, 2022 (“Amendment Regulations”) and the Anti-Money Laundering and Terrorist Financing (Amendment) Code of Practice, 2022 (the “Amendment Code”) the BVI has expanded the definition of “relevant person” to include virtual asset service providers (“VASPs”) and has expanded the definition of “relevant business” to include the business of carrying on or providing virtual asset services when a transaction involves virtual assets valued at US$1,000 or more. The Amendment Regulations and the Amendment Code are now in force and effective (from 19th August 2022 and 29th August 2022 respectively), but the specific sections of the Amendment Regulations that relate to VASPs will not come into force until 1 December 2022. Our subsequent briefings on the Amendment Regulations and the Amendment Code will cover other changes introduced.

The BVI’s Virtual Assets Service Providers Act (“VASP Act”) is not yet in force and has not yet been published. The requirement for VASPs to comply with the updated BVI AML/CFT/CPF regime from 1 December 2022 is a distinct requirement that may also be covered in the Virtual Assets Service Providers Act when it is eventually published.

Even though the BVI’s VASP Act has not yet been published, it is likely that the definition of “virtual asset”, and “virtual asset services provider” will be very similar to the definitions within the FATF Glossary as follows:

“Virtual asset” as a digital representation of value that can be digitally traded or transferred and can be used for payment or investment purposes. Virtual assets do not include digital representations of fiat currencies, securities, and other financial assets that are already covered elsewhere in the FATF Recommendations;

“Virtual asset service provider” as any natural or legal person who is not covered elsewhere under the Recommendations and as a business that conducts one or more of the following activities or operations for or on behalf of another natural or legal person:

i. Exchange between virtual assets and fiat currencies;

ii. Exchange between one or more forms of virtual assets;

iii. Transfer of virtual assets; and

iv. Safekeeping and/or administration of virtual assets or instruments enabling control over virtual assets;

v. Participation in and provision of financial services related to an issuer’s offer and/or sale of a virtual asset.

These changes are being made as part of the BVI’s effort in implementing the amended Financial Action Task Force (“FATF”) Recommendation 15 (New Technologies) of the FATF’s International Standards for Combating Money Laundering and the Financing of Terrorism & Proliferation and the FATF’s Updated Guidance for a Risk-Based Approach to Virtual Assets and Virtual Asset Service Providers. The FATF Recommendation 15 requires that VASPs be regulated for anti-money laundering and countering the financing of terrorism (AML/CFT) purposes, that they be licensed or registered, and subject to effective systems for monitoring or supervision.

With effect from 1 December 2022, VASPs providing a virtual asset service need to comply with the updated BVI AML/CFT/CPF regime. Accordingly, by way of summary, VASPs will be required to, among other things:

1. appoint a money laundering reporting officer (“MLRO”) who (1) is required to be of sufficient seniority to perform the functions reposed on an MLRO under the Amendment Code and the Amendment Regulations, (2) must be a natural person, and (3) have access to all relevant information and material of the VASP to enable him/her to perform the functions reposed in him/her under the Amendment Code and the Amendment Regulations. See required qualifications and obligations of MLRO below.
2. establish and maintain written internal reporting policies and procedures and internal controls for, among other things, (A) customer identification (including requesting, collection and verification of client/customer due diligence and conducting fraud, adverse media, politically exposed persons, and sanctions screening), (B) record keeping and internal reporting to (i) enable its directors, or as the case may be, partners, all other persons involved in its management, and all key staff, to know to whom they should report knowledge or suspicion of money laundering; (ii) ensure that there is a clear reporting chain under which suspicions of money laundering will be passed to the MLRO;
3. ensure that the MLRO has reasonable access to all relevant information which may be of assistance to him/her and which is available to the VASP; and (iv) ensure full compliance with the requirements of the Amendment Code.
4. comply with the new “travel rule” in relation to transfers of virtual assets. FATF Recommendation 16 (Wire transfers) requires that countries collect identifying information from the originators and beneficiaries of domestic and cross-border wire transfers in order to create a suitable AML/CFT audit trail. This includes the obligation to obtain, hold, and submit required originator and beneficiary information associated with virtual asset transfers in order to identify and report suspicious transactions, take freezing actions, and prohibit transactions with designated persons and entities. The requirements apply to both VASPs and other obliged entities such as financial institutions when they send or receive virtual asset transfers on behalf of a customer.

The updated BVI AML/CFT/CPF regime sets a de minimis level for one-off transactions of US$1,000, above which the VASP is required to collect customer due diligence.

In order to be appointed as an MLRO, a person is required to possess the following qualifications:

1. he or she must at the minimum hold a diploma with a post qualification experience of not less than 3 years;
2. he or she must be fit and proper;
3. he or she must have a broad knowledge of anti-money laundering and terrorist financing matters, including the relevant regional and international treaties (including United Nations Resolutions) relating to the combating of money laundering and terrorist financing;
4. he or she must have a good appreciation and understanding of BVI laws relating to money laundering and terrorist financing; and
5. he or she must possess the ability to make independent and analytical decisions and not be easily susceptible to undue influence.

The MLRO’s responsibility includes ensuring compliance by staff of the VASP with:

1. the provisions of the BVI’s AML/CFT/CPF regime, the Proceeds of Criminal Conduct Act, the Anti-money Laundering and Terrorist Financing (Amendment) Code of Practice, and other enactments relating to AML/CFT/CPF;
2. internal reporting and policies and procedures relating to AML/CFT/CPF compliance.

The MLRO will be the main point of contact with the BVI regulatory authorities (e.g. the BVI FSC and FIA).

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on the application of BVI’s Anti-Money Laundering Regime to Virtual Asset Service Providers, please contact your usual Loeb Smith attorney or :

E: gary.smith@loebsmith.com
E: robert.farrell@loebsmith.com
E: santiago.carvajal@loebsmith.com

The Claimant sought injunctive relief in the form of an interim freezing order and disclosure orders from the High Court against a number of defendants as part of his attempts to recover cryptocurrencies which had been taken from him fraudulently. The Claimant was the victim of a scam which induced him to transfer approximately 2.1M USDT and approximately 230,000 USDC from his personal wallets.

The Claimant believed that the website ‘www.tda-finan.com’ (the “Website”) (which is no longer available) was affiliated with TD Ameritrade (which is a regulated entity in the United States) due to the deliberate misuse of a corporate logo which was designed to make the Website appear legitimate. As a result of this deception, the Claimant deposited USDT and USDC into a number of digital wallets associated with the Website and also purported to make certain trades through his account. So as to prolong the appearance of legitimacy, the Claimant’s account appeared to reflect those trades.

In February 2022, the Claimant’s open trades on the Website were abruptly closed without any input from him. The Claimant naturally became suspicious and unsuccessfully attempted to withdraw funds from his account. The Claimant’s account was then blocked, and after a number of exchanges by email with a representative of the Website, it became apparent to the Claimant that he had been defrauded.

The Claimant instructed counsel and engaged an ‘intelligence investigator’ in an attempt to recover his assets. The investigators were able to trace, approximately, 2.175M of USDT and USDC to a number of addresses maintained with a number of large crypto-exchanges (all of which were named as defendants to the case) (the “Crypto-Exchanges”).

The Claimant sought to bring the following claims:

• a claim of fraudulent misrepresentation, deceit, unlawful means conspiracy and unjust enrichment against those who had operated the Website; and
• a claim in constructive trust against both those who had operated the Website and each of the Crypto-Exchanges, given they control the exchanges into which the misappropriated cryptocurrency had been transferred.

In order to proceed with these claims, the Court had to consider whether the freezing order and disclosure order should be granted, and if they should, whether the Claimant’s application to serve notice of proceedings outside of England and Wales (with English law being the governing law of the claim) using an alternative method of service, should be permitted.

Whilst the location of the fraudsters was unknown (albeit there was some evidence to suggest they were based in Hong Kong), the Crypto-Exchanges were located in the Cayman Islands, Panama, the Seychelles and Thailand.

The Court was satisfied that there was a serious issued to be tried in England and Wales on the basis that; (i) the misrepresentations regarding the Website were made to the Claimant in England and (ii) that (applying the principle in Ion Science Limited & Duncan John v. Persons Unknown, Binance Holdings Limited, Payment Ventures Limited[2]) the lex situs of the crypto assets that were the subject of the fraud is the country where the rightful owner is domiciled (in this case England). Finally, the Court concluded that the governing law of the claim was also English law on the basis that the loss sustained by the Claimant took place in England.

The Court also concurred that the Claimant had a prima facie case against each of the Crypto-Exchanges as constructive trustees as they had control of the exchanges to which the missing assets had been traced by the Claimant’s investigator.

The Court conceded that damages would not have been an adequate alternative remedy for the Claimant, because awarding damages would not prevent the further dissipation of the Client’s assets. Mr. Justice Trower noted that the “balance of convenience” came down “firmly” in favour of granting the relief sought.

On the topic of disclosure orders against the Crypto-Exchanges, the Court made the requested orders having considered that the disclosure of the information sought had a “real prospect” of helping the Claimant recover his crypto-assets and also noting that the order should be granted notwithstanding any duty of confidentiality owed by the Crypto-Exchanges to any third parties.

The Court then considered the means by which notice of the orders made would be served on the fraudsters. Counsel for the Claimant had requested service by email and also by NFT in the form of an airdrop into the accounts associated with the Website, into which the Claimant first deposited his crypto assets. The Judge, Mr. Justice Trower, was bold in his assertion that there “could be no objection” to the request, noting that service by this means would “embed the service in the blockchain” and would only enhance the prospect of the fraudsters being made aware of the Court orders and the proceedings more generally. However, Mr. Justice Trower did observe that it was important that service was also made by email and that he might not have been content to order alternative service solely by NFT.

The decisions in this case are to be welcomed as they only serve to enhance the prospects of recovery of lost assets for victims of fraud. The willingness of the Court to embrace the benefits of blockchain technology to serve notice on those who seek to hide behind its anonymity should be applauded and we can only hope that the Court will continue along this trajectory.

Indeed, as fraudulent activities in respect of cryptocurrencies and other digital assets are on the rise, the frequency of such applications will likely only increase and it is surely only a matter of time before crypto businesses established in the Cayman Islands are dealing with such matters on a regular basis.

The case also serves as a warning to those who operate crypto exchanges that the Courts are more than willing to entertain claims based on constructive trust where the misappropriated assets are traced to accounts hosted by them. One can only hope that this will spur these organisations into action to take all necessary steps to combat fraudulent activities, such as freezing the accounts into which misappropriated assets are transferred on receipt of notice.

[1] [2022] EWHC 1723 (Ch)

[2] (unreported) [2020] (Comm.)

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on Digital asset litigation, please contact your usual Loeb Smith attorney or :

Robert Farrell
E:robert.farrell@loebsmith.com
T: +1 345 749 7499

The Report found that the most common jurisdictions where crypto open-ended funds are domiciled are:

Cayman Islands – is the preferred place with almost half of the market (49%).

British Virgin Islands (“BVI”) with 13%. The BVI has overtaken the United States as the second most popular location. Each location saw its share of the market increase slightly year on year, Cayman Islands from 48% to 49% and British Virgin Islands from 11% to 13%.

The United States saw their market share reduced from 46% to 10% during 2021.

The Report lists factors which influence the decision on crypto hedge fund domiciles and the most popular answers were due to ‘crypto friendly’ (22%), ‘regulations’ (20%) and ‘fund friendly’ regulations (17%). This indicates that as many governments and authorities still take a rather unfriendly or indifferent approach towards the crypto industry, or rather are still trying to figure out the correct mix of regulations, other jurisdictions like Cayman and the BVI have stepped up and provided solutions that appear to tick most of the boxes for making them attractive as domiciles for these types of investment funds.

As per the Report, the total assets under management (“AUM”) of crypto open-ended funds increased by 8% to about $4.1 billion in 2021, compared to $3.8 billion reported by respondents to the Report in 2020. According to the Report, there were fewer funds with lower levels of AUM at the end of 2021, while at the other end of the spectrum, the number of funds managing larger amounts of assets was considerably higher.

A significant detail shown in the Report is that 89 hedge funds accounted for an estimated US$436 billion in AUM.

According to the Report, the average management fees for 2021 in crypto open-ended funds remained the same (2.2%). The lack of significant change in management fees is likely to reflect the fact that running costs could have remained at a similar level in relation to previous years. The average performance fee slightly decreased (from 22.5% to 21.6%). The decreased performance fees are likely to be a result of competitive pressures starting to increase, as more funds enter the cryptocurrency space and compete to attract new investors, leading to slightly lower overall fees.

The Report raised concerns regarding the upcoming higher organizational cost of crypto open-ended funds as worldwide regulations are becoming more detailed and investors are demanding more professional and institutional set-ups.

The Report identified High-net worth individuals (“HNWI”) as the most common investor type in crypto open-ended funds, with more than 80% of surveyed funds stating them as their usual type of investor. HNWIs are followed by family offices accounting for 66% and fund-of-funds representing just over 53% in third place, where HNWIs are also the largest investors within these fund-of-funds.

Having in mind that the Report surveyed retail crypto open-ended funds, the average number of investors per fund is 54. However, a more representative value could be the median number of investors, which is 30.

The Report found that the average investment made into crypto open-ended funds is $1.63M but most funds have a ticket size of less than $0.5M.

The Report states that 29% of the crypto open-ended funds surveyed have at least half of their daily cryptocurrency trading volume in Bitcoin compared with 56% in 2020.

The top three sectors that crypto hedge funds have invested into are Store of Value (Bitcoin and Litecoin) with 86%, DeFi (Uni, Aave and Sushi) with 78%, and Infrastructure (Ethereum) with 74% based cryptocurrencies.

In 2021 more altcoins have been traded by over 40% of the funds compared to last year where only one altcoin (Ethereum) was traded by more than 40% of the funds. 2021 shows that Ethereum (ETH, 83%), Solana (SOL, 51%), Polkadot (DOT, 48%), Terra (LUNA, 45%), and Avalanche (AVAX, 42%), were the top traded coins (stable coins were excluded).

However, the recent incident of the collapse of LUNA could become a setback for the general crypto industry in the short term.

Market Neutral: The most common (30%) investment strategy among crypto open-ended funds is Market Neutral. These funds aim to profit regardless of the direction of the market, usually using derivatives to mitigate or eliminate broader market risk.

Quantitative Long Short: This investment strategy makes up for a quarter of all currently active crypto funds with a 25%. Quantitative funds, also called quant funds, are investment funds where crypto are chosen based on numerical data compiled through quantitative analysis. Liquidity is key for these strategies and restricts these funds to only trading more liquid cryptocurrencies.

Discretionary long only: This investment strategy represents a 14% of all the crypto fund. For crypto open-ended funds involved in investing in early token and coin offering and investing and holding in other more liquid cryptocurrencies and digital assets.

Discretionary long/short strategy: This investment strategy represents a 12%. For crypto open-ended funds, discretionary long/short strategy involves buying cryptocurrencies and digital assets that are expected to increase in value and selling short cryptocurrencies and digital assets that are expected to decrease in value.

Multi-strategy funds: Lastly, the multi-strategy funds (a combination of all the above) represent a much smaller proportion with barely 12% of the market.

In terms of performance these strategies had very different results. Market Neutral funds gave an average performance of +37%, Discretionary Long an average performance of +420% and Quantitative Long/Short an average performance of +116%. Against the trend from previous years, the crypto hedge funds had a median performance of 63.4% in 2021, slightly outperforming BTC’s price, which went up about 60%.

Custodian: Interestingly, as the crypto ecosystem continues to mature and institutional investors’ demands are allocated, the Report shows that the digital asset custody market has expanded. This has led to the utilization of independent custodians. Compared to the 2020 data, the use of independent custodians has increased from 76% to 82%, with funds opting either for third-party, or exchange custodians. For example, quantitative fund, discretionary long/short and multi-strategy funds may have their cryptocurrencies and digital assets directly with the exchanges that they use to trade continuously. Therefore, having a well-defined and updated risk management policy is more important than having a custodian.

Independent Directors:  The Report reflects that in 2021, there has been an increase in the percentage of crypto open-ended funds with an independent director on their board from 38% to 51%. This number increased due to three main reasons:

A growing number of newly formed, governance-conscious funds driving demand for independent directors;

existing crypto hedge funds becoming more structured and financially capable of hiring senior talent; and

A growing supply of board directors possessing industry-specific expertise and knowledge as the industry further matures.

Administrator: 91% of the crypto open-ended funds surveyed for the Report have appointed and use independent third-party administrators. The main service required by these funds from the administrators is to independently calculate and verify the net asset value and prepare all the required information for the auditor.

Institutional and/or sophisticated investors are increasingly unwilling to invest in a crypto open-ended fund that has not appointed an independent fund administrator.

Regardless of the choice of fund administrator, the valuation policy needs particular focus. Most funds will have their valuation methodologies and frameworks set out in the Private Placement Memorandum (PPM). It is important for any fund to ensure that it complies with the key terms of the offering set out in its offering documentation.

Institutional and Sophisticated investors are familiarized with the Cayman Islands and BVI and the regulatory regime for open-ended funds. These investors feel more comfortable investing in crypto open-ended funds established in Cayman and BVI as these two offshore jurisdictions have a track record, infrastructure and regulation that facilitate the operation of these funds.

The investment funds industry is slowly starting to consider the cryptocurrencies and other digital assets as other underlying assets that an open-ended fund can invest in.

The tax neutrality of the Cayman Islands and the BVI provides the perfect location for crypto open-ended funds and investors to manage their tax affairs in the most effective manner.

The laws of the Cayman Islands and the BVI are a combination of common law and statute and are based heavily upon English common law. This gives Cayman Islands and BVI law and their respective legal systems a common origin with those of many of the jurisdictions of its users, including the United States. It also means that a fund registered in the Cayman Islands or the BVI and its participating shares are well recognised and accepted around the world.

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on Crypto open-ended funds, please contact your usual Loeb Smith attorney or :

Santiago Mtnez-Carvajal
E: santiago.carvajal@loebsmith.com
T: +1 345 749 7593