Cyprus: Alternative Investment Funds

The Alternative Investment Funds Law of 2018 (the Law) provides for the operation and registration of Cyprus alternative investment funds (AIFs).  The Cyprus Securities and Exchange Commission (CySEC) is the competent authority for the registration and supervision of AIFs in Cyprus.

Cyprus law provides for the following types of AIFs:

• Registered AIFs
• AIFs with an unlimited number of investors
• AIFs with a limited number of investors.

All Cyprus AIFs (including RAIFs) can have compartments.  The Law recognises the registration of AIFs which will operate as umbrella funds, divided into multiple smaller funds with different investment strategies.

Each compartment that is part of an umbrella fund will be subject to the requirements of the Law as a distinct fund. Although each compartment is treated as a separate fund in law, all compartments constitute a single legal entity and therefore no separate fund rules or instruments of incorporation are drawn up.

Registered AIFs

Cyprus Registered Alternative Investment Funds (RAIFs) are AIFs registered in Cyprus by an authorised Alternative Investment Fund Manager (AIFM), without the need of prior authorisation by CySEC.  Cyprus RAIFs must always be managed externally.

A Cyprus RAIF can take the form of:

• a fixed capital investment company
• a variable capital investment company
• a common fund
• a limited partnership (with or without legal personality).

Where the RAIF is set up as a closed-ended type Limited Partnership which invests more than 70% in illiquid assets, an EU regulated sub-threshold manager, a MiFID investment firm or an EU-based UCITS management company may manage the RAIF.

In all other cases, a manager of a Cyprus RAIF can be licensed as an AIFM anywhere in the EU, enabling EU-wide distribution under the passporting framework.  Third country managers may also be appointed managers of RAIFs subject to having acquired passporting rights under applicable EU rules.

RAIFs can start operating on registration with CySEC without authorisation or supervision requirements.  RAIFs:

• are exclusively addressed to professional/well-informed investors
• can be established as investment companies or limited partnerships (with/without a separate legal personality)
• can be open-ended or closed-ended
• can have compartments
• must be externally managed
• are not subject to minimum capital requirements;
• must have, within 12 months of registration, at least €500,000 assets under management
• must appoint a depositary
• they can be listed on a recognised stock exchange
• they can be marketed across the EU (passporting).

AIFs for an unlimited number of investors

A Cyprus AIF with an unlimited number of investors can take the form of:

• a fixed capital investment company
• a variable capital investment company
• a common fund
• a limited partnership (with or without legal personality).

Cyprus AIFs addressed to an unlimited number of investors have the following characteristics:

• can be marketed to professional/well-informed as well as retail investors
• can have an unlimited number of investors
• can be both open-ended and closed-ended
• if externally managed, no minimum capital is required (if self-managed, the minimum capital is €125,000)
• must have at least €500,000 assets under management within 12 months from registration
• if externally managed, there is no restriction on assets under management exists (if self-managed, assets under management must not exceed €100,000,000 for leveraged funds and €500,000,000 for unleveraged funds)
• require a depositary (whether based in the EU or a third country, subject to certain conditions)
• can be listed on a recognised stock exchange
• can have compartments
• can be marketed across the EU (passporting).

AIFs for a limited number of investors

A Cyprus AIF with a limited number of investors can take the form of:

• a fixed capital investment company
• a variable capital investment company
• a limited partnership (with or without legal personality).

Cyprus AIFs addressed to a limited number of investors have the following characteristics:

• can only be marketed to professional/well-informed investors
• are subject to a maximum number of 50 investors (the shareholders of legal entities that are investors are taken into account for this threshold)
• can be open-ended or closed-ended
• can be externally managed or self-managed (if structured as an investment company or a limited partnership with a legal personality and assets under management do not exceed €100,000,000 if the fund is leveraged and €500,000,000 without leverage with a lock up period of 5 years)
• if externally managed, no minimum capital is required (if self-managed, the minimum capital is €50,000)
• must have at least €250,000 assets under management within 12 months from registration
• may not require a depositary where assets under management do not exceed €5,000,000 or where investors are less than 25 and each investor subscribes to a minimum of €500,000
• cannot be listed on a stock exchange
• can be marketed across the EU (passporting).

AIFs established as variable capital or fixed capital companies have the form of limited liability companies.  As such, the liability of investors is limited to the amount of the investment in the AIF established as a variable capital or fixed capital company.

Rights of unitholders in a compartment (sub-fund) only arise from the assets of that compartment and each compartment is severally liable for the obligations arising from its constitution, operation or dissolution. Assets of an investment compartment are exclusively available to satisfy the rights of unitholders.

Overview

The precise structure depends on the class of assets and investment strategy.  For liquid assets and real estate investments, a corporate form may be preferred, such as a variable or fixed capital company.  Assets can then be held under respective compartments in the AIF.

RAIFs are increasingly used due to their versatility, as they do not require authorisation from CySEC or subsequent monitoring while having the status of AIFs. RAIFs are supervised by a licensed Alternative Investment Fund Manager.  As a result, setting up a RAIF involves a minimal timeframe and substantially reduced cost compared to a licensed AIF, while achieving the same legal structure.

RAIFs must have a depositary (as they are always externally managed), which depositary must be based in Cyprus unless the RAIF is a limited partnership managed by a MiFID-authorised entity.

The use of compartments in RAIFs affords investors a level of flexibility to switch investment strategies. Depending on the legal form of the fund, a RAIF must specify in its fund rules or instruments of incorporation that it operates with more than one investment compartments.

From a fund management perspective, the sub-threshold manager regime Cyprus introduced in 2020 is gaining traction.  Sub-threshold managers (mini managers) can manage up to €100 million in total assets, with the use of leverage, or €500 million when unleveraged, with a lock up of five years.  The mini manager route appears to AIF management arrangements that will undertake limited investment or an interim stage prior to deploying a more sophisticated structure.

Recent trends

Cyprus has seen a substantial growth of its fund and investment management sector over the past few years.  Certain trends in the use of Cyprus investment funds can be identified as follows:

• private equity funds, harnessing Cyprus’ wide double tax treaties network with Asian jurisdictions
• venture capital funds in start-ups and innovation
• renewable energy funds
• family office funds for high net worth individuals and their families
• shipping sector funds.

In all Cyprus AIFs, redemption rights are structured under the constitutional documents of the AIF irrespective of the investment strategy pursued by the AIF.

Cyprus RAIFs can be open or closed-ended. A RAIF can have multiple compartments and can follow any investment strategy and invest in any type of assets, with the exception of loan origination and money market funds. RAIFs do not require authorisation from CySEC or subsequent monitoring and must be addressed to professional investors and/or well-informed investors.

Cyprus AIFs with a limited number of investors can be open-ended or closed-ended but can only be marketed to professional/well-informed investors.  They are subject to a maximum number of 50 investors (the shareholders of legal entities that are investors are taken into account for this threshold).

Cyprus AIFs with an unlimited number of investors can be open-ended or closed-ended and can be marketed to professional/well-informed as well as retail investors.

There are no statutory limits on the manager’s ability to restrict redemption of units or interests of a Cyprus AIF. Such limits would need to be contractually defined in the constitutional documents of the Cyprus AIF.

AIFMs must establish and maintain liquidity management systems and procedures to monitor the liquidity risk of each AIF they manage and ensure that the liquidity profile of the investments of the AIF complies with its underlying obligations.

AIFMs can utilise a wide range of liquidity management tools to manage illiquidity risks in respect of their AIF portfolio.  Such tools include: borrowing, in specie redemptions, holdbacks, writedowns, suspending dealing, side pockets and swing pricing.

The constitutional documents of an AIF may restrict investors on transfers of their interests. Typically, the transfer of units and interests may be subject to the consent of the management of the AIF.

Managing AIFs with a limited number of persons is not subject to any investment restrictions or limits.

Managing AIFs with an unlimited number of persons may be subject to diversification and risk spreading requirements, depending on the investment strategy which they pursue.

Cyprus distinguishes between non-domiciled tax residents and domiciled tax residents. Taxation of investors varies as follows:

Foreign investors:

• are not subject to withholding tax on dividends
• are not subject to taxation on redemption of units
• are not subject to deemed distribution restrictions.

No permanent establishment is triggered where a non-resident investor invests in a Cyprus tax-transparent investment fund.

Non-domiciled resident investors:

• are not subject to withholding tax on dividends
• are not subject to taxation on redemption of units
• if employed in Cyprus by a self-managed Cyprus AIF or an AIFM the may have the option of being taxed at a flat rate of 8% for 10 years at a minimum tax liability of EUR 10,000 per annum.

Domiciled resident investors:

• are subject to a withholding tax of 17% on dividends
• are not subject to taxation on redemption of units
• if employed in Cyprus by a self-managed Cyprus AIF or an AIFM the may have the option of being taxed at a flat rate of 8% for 10 years at a minimum tax liability of EUR 10,000 per annum.

In terms of the taxation of Cyprus AIFs themselves:

• there is no subscription tax on the net assets of the AIF
• there is a 12.5% tax on profit
• there is no capital gains tax (i.e. no tax applies to gains from trading in securities, sales of shares, or sale of property abroad)
• interest received by closed-ended and open-ended AIFs is taxed at 12.5% corporate tax
• notional interest deduction for new equity injections may reduce taxable base for interest received up to 80%
• each compartment (sub-fund) of an umbrella fund, while not a separate legal entity, may be treated as a separate taxpayer.

In AIFs established as corporate entities, investors have the rights provided under mandatory corporate law and as prescribed in the constitutional documents of the AIF.  Typically, investors do not have the right to engage in the management of a Cyprus AIF, however, investors usually have the right to vote on the appointment of the AIF’s board of directors (if the AIF is a corporate entity).

The most typical structures used for highly customised AIFs are the variable capital company and the fixed capital company.

The Alternative Investment Fund Management Law of 2013, as amended (AIFM Law) transposed the EU AIFM Directive 2011/61/EU into Cypriot law.

The AIFM Law applies to the following:

• a Cyprus AIFM managing Cyprus AIFs or AIFs of another EU Member State or a third country
• an EU or third country AIFM managing Cyprus AIFs
• a Cyprus AIFM marketing units or shares of AIFs that they manage in other EU Member States or third countries
• an EU or third country AIFM marketing units or shares of AIFs that they manage in Cyprus.

An investment fund manager offering services to AIFs must be authorised as a Cyprus AIFM if:

• its head and registered offices are located in Cyprus;
• it is a legal person whose regular business is managing one or more AIFs
• the aggregate of the assets under management (AuM) of all AIFs managed by the investment fund manager exceeds:
• EUR 100 million (including leverage), or
• EUR 500 million (for unleveraged funds but with a lock-up period of 5 years).

Authorisation of a Cyprus AIFM is subject to the AIFM meeting the following conditions:

• incorporated as a limited liability company with shares
• meeting initial capital and own funds requirements
• the persons who effectively conduct the business of the AIFM (at least 2) are of sufficiently good repute and are sufficiently experienced also in relation to the investment strategies pursued by the AIFs managed
• the qualifying shareholders of the AIFM (holding 10% or more of the share capital or voting rights in the AIFM) can ensure sound and prudent management
• the head office and central management of the AIFM are situated in Cyprus.

Mini Managers

A sub-threshold AIFM (Mini Manager) can manage the following:

• Cyprus AIFs with limited or unlimited number of persons
• Cyprus RAIFs in the form of a limited partnership
• Foreign AIFs (subject to the discretion of competent authorities in the other jurisdiction).

The total assets under management of a Cyprus Mini Manager must not exceed €100 million, with the use of leverage, or €500 million when unleveraged, with a lock up period of five years.

Mini Managers themselves are subject to a minimum paid-up capital requirement of €50,000.  Where the AIFs managed by a Mini Manager exceed €125,000,000 then the Mini Manage will require own funds equal to 0.02% of the surplus amount.

Mini-managers can market AIFs to professional/well-informed investors across the EU.

RAIFs

Cyprus RAIFs can start operating on registration with CySEC without authorisation requirements.

RAIFs are supervised by a licensed AIFM and, therefore, setting up a RAIF involves a minimal timeframe and substantially reduced cost compared to a licensed AIF.  The AIFM that will manage a RAIF can be licensed anywhere in the EU, enabling EU-wide distribution under the EU passporting framework.

Within 1 month from the date of the registration of the RAIF, the external manager must submit to CySEC an application for the registration in CySEC’s RAIFs register.

Such application should be accompanied by specific documents and data including, inter alia, information on the investment strategy of the RAIF, information on use of leverage and risk profiles of the RAIF, the RAIF instruments of incorporation etc.

From a reporting perspective, Cyprus RAIFs must submit audited annual report and half-yearly unaudited report to CySEC.  These are also made available to investors in the RAIF.  Additional reporting requirements may apply depending on the type of RAIF and the level of AuM.

AIFs

Cyprus AIFs (with a limited or unlimited number of investors) must be authorised by CySEC.

Authorisation of a Cyprus AIF typically requires three to four months as of the date of submitting a complete application to CySEC.  A fast-track option is available for an additional fee.

From a reporting perspective, Cyprus RAIFs must submit audited annual report and half-yearly unaudited report to CySEC.  These are also made available to investors in the RAIF.  Additional reporting requirements apply to Cyprus AIFs with an unlimited number of persons depending on the type of AIF and the level of AuM.

With respect to AIFs with an unlimited number of investors, these can be internally managed.  If externally managed, the manager must be:

• an AIFM established in Cyprus and authorised by CySEC
• a Mini-Manager (subject to the asset value restrictions mentioned above)
• an authorised UCITS management company
• an AIFM established and authorised in an EU Member State. A sub-threshold AIFM from another EU Member State can manage a Cyprus AIF with limited number of persons if authorised to provide portfolio management service, subject to prudential regulation.

With respect to AIFs with an unlimited number of investors, these can be internally managed.  If externally managed, the manager must be:

• an investment firm authorised under MiFID
• a Mini-Manager (subject to the asset value restrictions mentioned above)
• an authorised UCITS management company
• a sub-threshold AIFM from another EU Member State can manage a Cyprus AIF with limited number of persons if authorised to provide portfolio management service, subject to prudential regulation.

The registered office of Cyprus AIFs must be in Cyprus.

With respect to Cyprus AIFMs, these must have their registered and head office in Cyprus and at least two persons must effectively conduct the business of the AIFM, who must be of sufficiently good repute and sufficiently experienced in relation to the investment strategies pursued by the AIFs managed by the AIFM.

Depositaries

Other than an exemption applicable to AIFs with a limited number of persons in certain circumstances, Cyprus AIFs must generally appoint a depositary responsible for the safekeeping of the assets, the performance of oversight and cash monitoring.

AIFs not managed by an AIFM can appoint a depositary in an EU Member State or (if a relevant agreement with Cyprus is in place) a third country.

Where AIFs are externally managed by an AIFM, the depositary must be located in Cyprus.

RAIFs must have a depositary (as they are always externally managed), which depositary must be based in Cyprus unless the RAIF is a limited partnership managed by a MiFID-authorised entity.

Compliance

The managers of Cyprus AIFs (or the AIFs themselves, if internally managed) must establish a compliance function and an independent audit function.

Auditors

External auditors must be appointed by AIFs.

Counsel

Counsel must be appointed by AIFs.

Administrators

AIFs or the external managers of AIFs may appoint a fund administrator to address book-keeping, Net Asset Value (NAV) calculation, reporting and filing requirements.

The governing body of a Cyprus RAIF must comprise at least two non-executives and at least 50% of the governing body’s members must be independent from the external manager.

The governing body of:

• an internally managed Cyprus AIF with unlimited number of persons; or
• the external manager of a Cyprus AIF with unlimited number of persons

must consist of at least 4 natural persons, at least two of which shall be executive.  At least 50% of non-executives should be independent.

The governing body of:

• an internally managed Cyprus AIF with a limited number of persons; or
• the external manager of a Cyprus AIF with a limited number of persons

must consist of at least 3 natural persons, at least 1 of which shall be executive.  At least 50% of non-executives should be independent.

A fund manager authorised in other EU Member States as an AIFM, a UCITS management company, a MiFID investment firm or a credit institution (with approval to provide portfolio management services under MiFID) can manage Cyprus AIFs, subject to certain procedural requirements.

Cyprus law does not impose any additional requirements to managers authorised in another EU Member State. Such managers may have to comply with certain Cyprus law anti-money laundering compliance obligations, depending on the precise set up.

A non-EU AIFM may manage and market Cyprus AIFs on obtaining authorisation from CySEC, which would involve, amongst others, designating Cyprus as the EU Member State of reference for the purposes of the AIFM Law and establishing a legal representative in Cyprus.

CySEC has wide inspection and enforcement powers with respect to Cyprus-authorised managers.

The management fee is contractually regulated between the AIF and the manager. Typical fees range from 0.5% to 1.5% of the NAV of the AIF.

Yes, performance fees are typical when the AIFs invest in securities or other liquid asset types, which are typically subject to a high water mark and a hurdle.

AIFs investing in illiquid assets may more typically involve a waterfall structure and carried interest.

A Cyprus AIFMs’ remuneration policies must be consistent with sound and effective risk management.  Within that context, fee discounts and rebates can be applied.

Management fee “break-points” can be based on investment size.

First loss programs are typical in Cyprus, but can be implemented from a legal perspective, subject to conformity with applicable law.

Seeding / acceleration programs are not typical in Cyprus, but can be accommodated as contractual arrangements linked to Cyprus AIFs.

Performance fees are generally used in liquid asset investment strategies.  Carried interest is typically met in illiquid asset investment strategies.

A Cyprus AIFM may market units of EU AIF in Cyprus, subject to submitting a notification to CySEC.

A Cyprus AIFM may market units of an EU AIF in any other EU Member State by submitting a notification to CySEC, which will then communicate this notification to the competent authorities of the host Member State.

An AIFM authorised in another EU Member State may market units of an EU AIF in Cyprus subject to a notification procedure.

A Cyprus AIFM may market units of a non-EU AIF within the EU, only to professional investors, provided that the third country where the non-EU AIF is established is not listed by the FATF as NCCT; and appropriate co-operation arrangements are in place between CySEC and the supervisory authority of the non-EU AIF.

There is no ‘pre-marketing’ concept in Cyprus law.

Cyprus AIFs addressed to an unlimited number of investors can be open-ended or closed-ended and can be marketed to professional/well-informed as well as retail investors.

Cyprus AIFs addressed to an unlimited number of investors can be open-ended or closed-ended and can be marketed to professional/well-informed as well as retail investors.

A “professional investor” is one who possesses the experience, knowledge and expertise to make their own investment decisions and properly assess the risks that they incur.

A “well-informed investor” is one who does not qualify as a professional investor and:

• confirm in writing that they have sufficient knowledge and experience in financial and business matters to evaluate the merits and risks associated with the prospective investment and that they are aware of the risks associated with the prospective investment or that their business activity is related to the management, acquisition or sale of assets, either on the investor’s own account or on behalf of third parties, and is of the same type as the investments of the AIF; and
• either:
• invests at least EUR125,000 in the AIF; or
• has been assessed by a credit institution, an AIFM, a UCITS Management Company, an investment firm or an external manager of AIFs authorised in Cyprus or another EU Member State (whose assets do not exceed the limit provided for in Article 3(2) of the AIFM Directive) and such assessment shows that such investor has the necessary knowledge and experience in financial and business matters, to evaluate the merits and risks associated with the AIF’s prospective investment based on the AIF’s investment policy; or
• is employed by a credit institution, an AIFM, a UCITS Management Company, an investment firm or an external manager of AIFs authorised in Cyprus or another EU Member State and receives a total remuneration that takes them into the same remuneration bracket as the natural persons who effectively conduct the business of these entities.

A “retail investor” is the investor that does not qualify as a professional investor or as a well-informed investor.

Other than foreign investment rules, there are no specific restrictions on marketing to government entities.

Assisting in fundraising may constitute an investment service subject to authorisation under MiFID.

Use of side letters is not restricted, but would be subject to mandatory Cyprus law requirements (e.g. in relation to investor rights) depending on their precise scope an dintent.

Any rights conferred to a group of investors under the terms of side letters must be disclosed to the other investors, with a description of such rights, the type of investors afforded such rights and their ties with the AIF or AIFM concerned.

Typically side letters provide additional rights or restrictions for certain investors.