Seven years after the Alternative Investment Fund Managers Directive (AIFMD) was first introduced, proposals are now in train for an AIFMD 2 following an extensive industry-wide consultation by the European Commission (EC).
The contents of AIFMD 2 do not represent a radical departure from the existing provisions although they do contain some potentially important changes. INDOS takes a look at what AIFMD 2 could mean for the industry.
Tweaks to the NPPR
Under Article 42 of AIFMD, non-EU alternative investment fund managers (AIFMs) can market their alternative investment funds (AIFs) to European Union (EU) investors through national private placement regimes (NPPRs).
In order to leverage NPPRs, non-EU AIFMs and non-EU AIFs cannot be located in countries that are identified by the Financial Action Task Force (FATF) as being high risk in relation to money laundering and terrorist financing. AIFMD 2 tightens this provision even further stipulating that non-EU AIFMs and non-EU AIFs cannot be based in high-risk jurisdictions under the EU’s Anti-Money Laundering (AML) Directive, nor are they allowed to operate out of countries on the EU’s list of non-cooperative tax jurisdictions.
In practice, major asset management hubs such as the UK and US will not be affected while none of the offshore fund centres are currently on the EU’s proscribed AML or Tax lists. Despite this, the Cayman Islands was put on the EU’s tax list briefly in 2020 and, more recently on 7 January 2022, the European Commission adopted a draft regulation to add nine countries including the Cayman Islands to their AML list. If the Cayman Islands were to remain on the list in 2024 (when AIFMD II is due to take effect) it would impact a Cayman fund’s ability to be marketed into Europe through NPPR.
Despite indications when AIFMD was first introduced that the EU-wide marketing passport might one day be extended to non-EU managers and funds, there are no intentions in AIFMD 2 to do so. The good news, however, for non-EU managers and funds is that marketing via NPPR is set to continue.
An updating of delegation arrangements
Concerns had been expressed that AIFMD 2 might introduce significant changes to the current delegation model where EU managers delegate portfolio or risk management to entities outside the EU. One of the EC’s biggest fears around delegation was that it could potentially result in letterbox entities, or companies with limited physical substance, cropping up inside the EU.
The European Securities and Markets Authority (ESMA) is looking to contain this risk by requiring member state regulators to notify ESMA on an annual basis when an AIFM “delegates more portfolio or risk management to entities in third countries than it retains”. ESMA will be required to conduct a member state peer review every two years and a five year letterbox review. In order to demonstrate substance, AIFMs must appoint two EU residents to conduct the business of the AIFM. As this is already a standard market practice, the changes will have limited impact.
Largely status quo for the existing depositary regime
AIFMD 2’s impact on the current depositary set-up are not material. An original AIFMD concession allowing AIFs located in countries, where the number of depositaries is lacking, to use providers outside of their home jurisdictions – will continue. The EC added an assessment will be made in due course on establishing a pan-EU depositary passport, an issue it has been grappling with for many years now. The rules also said that central securities depositories (CSDs) can be delegates of depositaries with no additional due diligence checks being needed as part of their appointment – again, this has little bearing on the wider industry.
Much ado about nothing?
The old adage that ‘no news is good news’ generally rings true for AIFMD 2. The EC’s amendments did not contain any nasty shocks meaning there is little cause for alarm at managers, although they should keep vigilant for any long lasting revisions to the EU’s AML and tax blacklist of third countries lest it unduly impacts their marketing arrangements once AIFMD II takes effect.
Although it is disappointing the AIFMD passport has been kicked yet again into the long grass, most managers will be quietly relieved that the amendments are limited. Accordingly, the proposals will now go through the EU’s legislative process, meaning AIFMD 2 is unlikely to become law before 2024 or 2025. It remains to be seen if the UK’s Financial Conduct Authority will implement any of the EU changes to its own AIFMD requirements.