The extension of the AIFMD passport to non-EU countries
January 2017 | PROFESSIONAL INSIGHT| FINANCE & INVESTMENT
Financier Worldwide Magazine
On 11 October 2016, Steven Maijoor, the chair of the European Securities Markets Authority (ESMA), delivered a speech to the Economic and Monetary Affairs Committee of the European Parliament. In his address, Mr Maijoor gave an update on ESMA’s work in assessing the suitability of extending the AIFMD passport to a number of non-EU jurisdictions, or so-called ‘third countries’.
The AIFMD passport allows alternative investment fund managers (AIFMs) to manage or market alternative investment funds (AIFs) across the EU, on the basis of a single authorisation in one EU Member State.
Currently, only EU authorised AIFMs managing or marketing EU registered funds can utilise the passport.
Non-EU AIFMs wishing to manage or market AIFs in the EU, and EU AIFMs marketing non-EU AIFs, are not able to benefit from passporting. Instead, any marketing of such AIFs may only be carried out on the basis of private placement rules. The problem here is that private placement rules differ across each EU country. Indeed, some EU countries are effectively closed to non-EU funds since they do not permit marketing to investors in their jurisdiction without the AIFMD passport. The disparity in treatment between EU AIFMs and non-EU AIFMs has led to criticism that the AIFMD has created a ‘fortress Europe’ in the AIF industry.
However, the AIFMD, which came into effect in 2013, envisages the extension of the passport to non-EU AIFMs and AIFs, and mandates ESMA to advise the European Parliament, Council and the European Commission in this regard.
In July 2015, ESMA issued its initial advice on the extension of the AIFMD passport, saying that it had no objection to the passport being extended to Guernsey and Jersey. ESMA also recommended granting the passport to Switzerland once that country enacted pending legislation. ESMA asked for further time to finalise its assessment of whether the passport should be extended to Hong Kong, Singapore and the US.
On 19 July 2016, ESMA published its second set of advice on extending the AIFMD passporting rights. With regard to extended passport to Canada, Guernsey, Jersey, Japan and Switzerland, the ESMA issued a positive assessment to extending the passport to these countries. Further, ESMA indicated there are no significant obstacles to extending the passport to Hong Kong and Singapore when the assessment is based on those jurisdictions’ AIFs alone. ESMA gave a largely positive assessment of Australia. However, for all three jurisdictions, ESMA qualified its endorsement by highlighting a lack of full reciprocal access for EU funds marketing in these countries.
Equally, ESMA found no significant obstacles to extending the passport under the criteria of investor protection and monitoring of systemic risk to the US. However, under the criteria of competition and market disruption, ESMA highlighted that extending the passport might result in an uneven playing field between AIFMs in the EU and the US. US funds accessing the EU through the passport would be faced with less onerous rules than would apply to those EU funds choosing to market in the US by way of public offer.
ESMA stated that it is as yet unable to give definitive advice on the extension of the passport to Bermuda and the Cayman Islands as each are in the process of implementing new regulatory regimes of their own.
With regard to the Isle of Man, ESMA stated that it was difficult to carry out a full assessment given the absence of an AIFMD-like regime on the island.
ESMA assessed each country on the basis of a standard set of criteria, which includes a consideration of the effectiveness of the cooperation arrangements between the supervisory authorities in the EU and the relevant third country, and whether there are any significant obstacles to extending the passport on the grounds of investor protection, market disruption, competition and the monitoring of systemic risk.
The AIFMD’s approach to third country access can be contrasted with that of other EU Directives which grant access to the EU single market to those third country firms assessed as being subject to a regulatory regime in their home country which is equivalent to that in the EU. The AIFMD is not concerned with equivalence per se, since non-EU AIFMs which are granted the AIFMD passport will, in any event, be required to sign up to the AIFMD in full. Non-EU AIFMs wishing to avail of the passport will need to obtain authorisation in their ‘Member State of reference’ – essentially the Member State with which the non-EU AIFM is most closely connected, based on certain criteria set out in the AIFMD.
The extension of the AIFMD passport is now dependent on the European Commission adopting rules extending the passport to those third countries that have received a positive assessment from ESMA, and such legislation not being objected to by the European Parliament and Council. However, ESMA suggests that the EU institutions might wish to wait until ESMA has advised on a critical mass of non-EU countries before it legislates for the extension of the AIFMD passport, bearing in mind the market impact of extending the passport. In the meantime, ESMA will continue its assessment of other non-EU countries which have a presence in the EU funds sphere.
Implications for Brexit
ESMA’s most recent advice on the AIFMD passport will be of interest to UK based AIFMs, which may be considered third country AIFMs post-Brexit.
UK AIFMs face a period of uncertainty until the conclusion of the UK’s Brexit negotiations. For now, the UK remains in the EU and UK AIFMs can manage and market EU AIFs across the EU on the basis of authorisation by the Financial Conduct Authority. However, if the UK is outside the European Economic Area post Brexit, UK AIFMs will not be able to obtain a third country passport under the AIFMD without, we expect, a review by ESMA of the UK regulatory regime and a recommendation that the EU Commission adopt legislation extending the passport to the UK. Unless this process takes place as part of the UK exit negotiations, there could be a gap in the aftermath of the UK’s exit from the EU during which UK AIFMs will be unable to access the single market by way of passporting and would instead have to comply with the private placement rules of individual Member States.
ESMA is unlikely to be in a position to advise on the extension of the AIFMD passport to the UK until the UK has put in place a replacement AIFMD regulatory regime post-Brexit (in much the same way as they were unable to adjudicate on Bermuda and the Cayman Islands in their most recent advice). While that regime may look largely the same as that in place at the moment, it will not be identical and that may inevitably result in a delay to ESMA’s equivalency adjudications.
In this regard, the UK may have some concerns with the speed and transparency of the AIFMD passport extension process. Indeed, ESMA’s assessment of a non-EU jurisdiction can take several months to complete and resource constraints on ESMA may hinder any chance of there being a quicker process. Furthermore, if ESMA delivers a qualified approval of a third country, it may result in a further delay if the Commission has to consider different policy options regarding the conditions under which the passport is granted; for example, in the case of its advice on extending the passport to the US, ESMA suggests three different ways in which the passport may be extended to the US.
Further, there are no clear timelines. While the AIFMD envisages the Commission taking steps to extend the passport within three months of ESMA issuing positive advice on a third country, this timeline has not been complied with so far. Moreover, even in the case of a positive assessment, it appears that third countries may have to wait until a sufficient number of third countries have been approved for the passport before the Commission will act.
The process is somewhat politicised. The Commission has previously specified to ESMA which particular third countries ESMA should assess. The UK will hope that it is at the top of the queue for ESMA assessment if and when the time comes.
As the AIFMD approaches its fifth year in operation, a review of the Directive is scheduled to begin by mid-2017. There will be a public consultation as part of that review. It will be interesting to hear the views of industry on the extension of the passport to third countries.
Damien Barnaville is a partner at LK Shields. He can be contacted on +353 1 638 5886 or by email: email@example.com.
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