The Collective Investment Law (DIFC Law No. 2 of 2010) – An Overview
Collective Investment Law of 2010
The Collective Investment Law (DIFC Law Number 2 of 2010) came into force on 1 July 2010, and applies in the jurisdiction of the Dubai International Financial Centre. The Collective Investment Law defines the arrangements which, according to the Dubai Financial Services Authority (DFSA), amount to Collective Investment Funds; this proffered definition is expansive in scope and covers a plethora of pertinent arrangements.
What is a Collective Investment Fund?
Subject to Article 12 in the Collective Investment Law of 2010, a collective investment fund refers to any arrangements concerning the property of any description, where:
- the purpose or effect of the arrangement is to enable persons taking part in the same to receive profits, or income arising from the acquisition, holding, management, or disposal of the property, or sums paid out of such profits or income;
- the arrangements must be such that the persons who are to participate in the arrangements do not have day-to-day control over the management of the property, whether or not they have the right to be consulted;
- the contributions of the unit-holders and the profits out of which payments are to be made to them are pooled, and/ or, the property is managed as a whole by a fund manager.
As per the Collective Investment Law, a person shall not make an offer of any units (be it share, or interest) in a Collective Investment Fund in the DIFC, unless the offer of such a unit is made in thorough accordance with the Collective Investment Law, and any other applicable rules of the DFSA.
The Basic Categories of the Collective Investment Funds
Based on geographical location, collective investment funds can be classified as either domestic funds or foreign funds.
Domestic Funds is the term employed to refer to collective investment funds that have been established or domiciled in the DIFC. Domestic funds may be sub-categorized into three groups – public funds, exempt funds, and qualified investor funds. These can, in turn, be sub-divided into an assortment of specialist sub-categories that include Islamic funds, feeder funds, master funds, private equity funds, property funds, real estate investment funds, hedge funds, umbrella funds, among others.
Conversely, Foreign Funds is the term employed to refer to collective investment funds that are domiciled outside the DIFC. It is critical to note that only foreign funds that meet certain criteria can be sold in, or through the DIFC. Foreign funds that meet the stringent eligibility criterion to be sold through the DIFC can be subcategorized into Designated Foreign Funds, and Non-Designated Foreign Funds.
Key Features of the Collective Funds Regime
The Collective Investment Funds regime was designed to provide adequate investor protection while meeting international standards for regulation. Some of the cardinal features of the same are as follows;
- A Public Fund regime, which extends a wider umbrella of protection to retail investors vis-a-vis requirements, such as the independent oversight of a fund, and detailed disclosure in a prospectus;
- An Exempt Fund regime in which funds enjoy the feature of a fast-track notification process; here, the DFSA aims to complete the notification process within a period of 5 days, and with the added advantage of lighter regulation than a Public Fund;
- A Qualified Investor Fund (QIF) regime, which provides proportionate regulation; this allows for flexibility for the QIF Managers and QIFs, by means of reliance on key requirements in the Collective Investment Law. This regime is unique in that it requires self-certification regarding the adequacy of systems and controls. Like Exempt funds, QIFs also enjoy a fast-track notification process, with the DFSA aiming to complete the authorization process within a period of 2 days;
- Domestic Fund Managers are also a critical feature of the regime; they are DIFC-based and are empowered to establish and manage funds in the DIFC, as well as in jurisdictions outside the DIFC;
- It must be noted that fund managers that hail from authorized jurisdictions are also empowered to establish and manage funds in the DIFC under certain circumstances;
- DFSA-licensed Firms are permitted by Law to market and sell units in an expansive range of Foreign Funds in, or from, the DIFC;
- A competitive fee structure is applied and attached to fund managers and funds;
- The fund managers of umbrella funds are afforded the flexibility to use the Protected Cell Company (PCC) structure for open-ended umbrella funds. This legally protects investors in each sub-fund from liabilities arising in other sub-funds borne by the umbrella;
- Bespoke shari'a governance requirements apply to Islamic funds;
Bespoke regulatory requirements
- accommodate specialist funds, such as private equity, property, REIT, money market and hedge funds;
- Key players in the fund management service sector are also closely regulated and monitored by the DFSA; this is to ensure optimal investor protection, by the upholding of high industry standards that meet international best practice; and
- It must be noted that, in order to establish and manage a fund in the DIFC, one needs to be either a DFSA-licensed fund manager or an external fund manager.
Types of Domestic Fund Vehicles
As per Article 26 of the Collective Investment Law, there exist three types of fund vehicles that can be employed to establish a domestic fund in the DIFC. These are Investment Companies, Investment Trusts and Investment Partnerships.
While each is possessive of unique features, the most preferred to date is undoubtedly the Investment Company model; trust structures are predominantly employed for property funds, and partnerships for the hedge, and private equity funds.
An Investment Company requires to be incorporated in the DIFC, with the fund director named as a corporate director in the company. It must be noted that an investment company established as an umbrella fund is empowered to employ the PCC (protected cell company) structure.
An Investment Trust gains authorization upon the creation of a trust deed between a fund manager and a trustee. The trustee may either be a DFSA- licensed trustee, or an authorized individual from an approved jurisdiction.
Finally, an Investment Partnership is a limited partnership registered in the DIFC, which consists of a general partner and limited partners. The general partner shall be the individual authorized by the DFSA to be the fund manager of the fund.
The Management of a Domestic Fund (by a DFSA-licensed fund manager)
The Collective Investment Law sets forth the general duties of a fund manager of a domestic fund. They are tasked with the management of the fund, including the fund property, in a manner that is in accordance with the fund's Constitution. They are required to perform the functions conferred by the Collective Investment Law. They must necessarily comply with any conditions or restrictions imposed by the DFSA, and with any requirements or limitations imposed under the Collective Investment Law. This includes any limits relating to financial interests that it or any of its associates may hold in a fund.
The fund manager is also expected to take reasonable steps to ensure that in any dealings, a conflict of interest does not arise. They are also required to ensure that the fund property is valued at regular intervals, except for situations that suspend such valuation in accordance with its Constitution. Ultimately, the fund manager is answerable to the unit-holders with regard to the safe-keeping of the fund property, regardless of whether this specific task has been delegated to a third party.
The Management of a Domestic Fund (by an External Fund Manager)
As per Article 20 of the Collective Investment Law, a fund manager from an acceptable jurisdiction may establish and manage a domestic fund domiciled in the DIFC, without having to obtain a DFSA license, on a handful of conditions:
- it must necessarily be a corporate body;
- the domestic fund is being managed from a jurisdiction that is either included in DFSA's Recognized Jurisdictions List or is assessed by the DFSA to have been capable of providing an adequate threshold of regulation;
- It must willingly subject itself to the DIFC Laws and Courts; and
- It must appoint a DFSA-licensed fund administrator (trustee). They shall act as the local agent of the External Fund Manager in order to receive, process, and deal with the DFSA for regulatory processes. The local agent shall also be required to take on some investor-related functions.
The Management of an External Fund from the DIFC
Domestic fund managers are authorized to manage a fund in a jurisdiction outside the DIFC (i.e. an external fund). Upon the submitting of a proposal seeking the establishment of an external fund, the DFSA assesses the desirability of the relevant jurisdiction. This is conducted in terms of its Financial Action Task Force compliance and on the basis of whether the applicant has adequate controls in place to address risks that may arise from having the fund established in that particular jurisdiction.
Marketing of Domestic and Foreign Funds
The marketing of domestic fund is based on generally accepted principles of disclosure vis-a-vis prospectus requirements. However, it must be noted that the level of prospectus disclosure required for public funds, which are open to upwards of 100 investors, and/or retail clients, is significantly higher than the disclosure requirements for exempt funds, which are open only to professional investors.
Article 51 of the Collective Investment Law on Prospectus Requirements states that if the fund is public, a copy of the prospectus is required to be filed with the DFSA.
Article 54 of the Collective Investment Law on the marketing of foreign funds states that they can only be marketed in the DIFC by DFSA-licensed firms that are possessive of holding advisory or arranging authorizations. Furthermore, the following criterion is required to be met in order for them to advertise units of foreign funds:
- The foreign fund must be a designated, regulated fund in a jurisdiction included in the DFSA's Recognized Jurisdictions; or
- The firm has a reasonable basis for recommending the investment (in the units of the foreign fund) to the particular client, taking into consideration their investment objectives and circumstances; or
- The foreign fund is open to 100 or fewer investors, each of whom meets the Professional Client test and makes a minimum subscription of USD 50,000 (not offered to investors by way of a public offering).
Another key detail contained in the Law is that foreign funds which cannot be marketed to retail investors in the home jurisdiction of that fund are prohibited from being marketed to retail investors in the DIFC.
Through the medium of the Collective Investment Law, the DIFC has constructed a new regime that has been tailored artfully to meet the needs of authorized firms who endeavor to manage Collective Investment Funds in the DIFC. From a structuring perspective, the framework affords maximum flexibility and ensures no stone is left unturned in terms of regulation and oversight.