Fund administration special: Guernsey vs Luxembourg

As funds continue to weigh up the consequences of Brexit, we talk to managers and agency officials in two European domiciles to gauge the case for and against relocating.

Guernsey

The island’s advocates argue that its costs are lower and being based there does not inhibit a manager’s ability to market funds in Europe.

Guernsey’s experience of serving private equity dates back to the early 1980s, when the asset class was in its infancy. Many of the industry’s best-known names – such as Apax, BC Partners, Cinven, Coller Capital, KKR, Permira and Inflexion – have a history of using the jurisdiction.

Indeed, Guernsey is one of the largest offshore jurisdictions in the world and is currently home to private equity funds with a net asset value of more than £110 billion ($144 billion; €128 billion). Providing a proportionate, stable and supportive regulatory regime for managers is a priority for the island.

Those in the funds world who are based in the region struggle to see the rationale for the migration from jurisdictions such as Guernsey to onshore territories, and in particular to Luxembourg. While they understand that some LPs are putting pressure on managers to relocate, they question whether moving to Luxembourg would even satisfy those demands. Rather, they argue that only a move to home turf would fully assuage investor concerns and while a small handful of firms such as Altor have genuinely moved onshore, very few managers are prepared to take on the political risk that entails.

It is easy to see where LPs are coming from, however. Tax avoidance is a red-hot issue and investors are concerned about their reputations. Of course, domiciling in a jurisdiction such as Guernsey has nothing to do with tax avoidance. It’s about avoiding double taxation. The country adheres to the highest standards of international tax and regulatory principles in accordance with current G20, OECD and EU tax initiatives. Transparency around taxation is, in fact, at an all-time high.

Guernsey advocates find the current spate of relocations to Luxembourg all the more flummoxing in light of the regulatory burden that has befallen EU-domiciled funds since the Alternative Investment Fund Managers Directive was implemented almost six years ago. The cost of a Guernsey structure is around 40 percent lower than one that is AIFMD compliant, they say, and yet, contrary to what the well-oiled Luxembourg PR machine may say, Guernsey domiciliation does not inhibit a manager’s ability to market funds in Europe. The fact is, only 3 percent of private equity managers are registered to market in more than three countries, in any case. Switzerland, the UK and Netherlands alone represent two-thirds of private equity fundraising, according to Preqin. Most managers don’t require access to every European jurisdiction, greatly diluting the benefits of the vaunted AIFMD passport. 

Guernsey’s tried and tested regime enables firms to market into the majority of EU member states on a bilateral agreement basis, without the huge compliance overhead that comes with administering in Luxembourg. It was also one of just five jurisdictions given an “unqualified and positive assessment” by the European Securities and Markets Authority.

The growth of the Luxembourg fund administration market has been explosive over the past few years – to the extent that a lack of available resource is a common complaint – but manager migration is nonsensical, the Guernsey camp claims. Offshore territories such as the Channel Islands offer a light-touch, consistent and cost-effective regulatory regime and make the ideal home for private equity funds.


Luxembourg

The Grand Duchy may be a relative newcomer to the fund world, but it is already the second-most popular domicile for private equity funds, second only to Delaware.

Indeed, Luxembourg is home to 250 alternative investment fund managers and over 600 registered managers. The Association of the Luxembourg Fund Industry estimates that somewhere in the region of €400 billion of private equity funds now reside within its borders.

Those numbers are rising fast as private equity managers come under growing pressure to move their funds onshore. Many LPs, particularly pension and government-linked funds, are insisting on relocation as a condition of investment. Blackstone is among the firms that have recently adopted Luxembourg as its European home.

By domiciling in Luxembourg, managers are able to appease investors’ reputational concerns, while continuing to operate in a jurisdiction for which the funds industry is of paramount importance. While the ebb and flow of party politics may see punitive changes to tax and regulatory systems during the 10-year life of a private equity fund in many onshore territories, the funds market represents eight per cent of Luxembourg’s GDP and is therefore of critical importance to the government and its regulators.

Luxembourg’s other key advantage for the private equity industry is that it enables managers to market their funds seamlessly throughout Europe. Private placement regimes may be a workable stop-gap but there are those who believe they do not offer a sustainable approach.

Managers can administer a fund without relocating entirely. For UK-based firms facing ongoing uncertainty over Brexit and third-country passporting, in particular, this is compelling. Delegation rules mean that a Luxembourg AIFM can take responsibility for risk management, while sub-contracting investment and portfolio management back to London, for the best of both worlds.

Indeed, Luxembourg really does have it all, advocates say. It has the talent, the technology and the regulatory regime to provide a long-term home for private equity fund managers. The special limited partnership (société en commandite spéciale, or SCSp), launched in 2013, is an internationally recognised fund structure based on the Anglo-Saxon model. Meanwhile, the subsequent reserved alternative investment fund, created after the introduction of AIFMD, is a clear example of how the country’s government and regulators are willing to listen to industry concerns and proactively deal with them.

Luxembourg also offers full and unfettered access to Europe’s institutional investor capital and is conveniently located for travel from most regions. The growing sense that offshore domiciling is no longer an acceptable option and the impact of AIFMD mean only a continental European base will support global fundraising. Luxembourg provides the core benefits of an offshore location, while residing at the heart of the EU.