There are still issues to be resolved in respect of Hong Kong’s planned limited partnership for funds (LPF), for which a proposal is due to be submitted in the first half of this year. Perhaps the biggest question is to what extent tax concessions will be applied to carried interest under the regime.
Alternative investment managers would be more inclined to make use of the LPF structure if it offered substantial tax relief – but that may not be the only attraction of the new framework.
Ultimately, state-linked investors in Hong Kong and China will likely favour funds set up under the LPF structure when they are commiting capital, a senior lawyer told AsianInvestor.
“Tax concessions or not, I think there will be government-backed sponsorship of this new regime,” said Effie Vasilopoulos, a Hong Kong-based partner at US law firm Sidley Austin, which is helping to help draft the new legislation.
“It's very likely that the government agencies in Hong Kong that have been involved in developing this scheme – such as the HKMA [Hong Kong Monetary Authority] – will be strongly inclined to prefer arrangements that are structured under this new law when acting as an institutional investor,” she added.
CHINA PUSH FACTOR
What's more, public institutions in mainland China, which account for a huge pool of capital, will probably take a similar line, added Vasilopoulos, who co-leads Sidley’s global investment funds group and has been heavily involved in the LPF consultation process.
“I think there will be a similar push factor amongst state-sponsored actors in China as well,” she said. “I would expect that when there is a competitive and viable onshore regime, their position will be that managed accounts they hand out should preferably be structured under the new law.”
Darryl Chan, executive director for corporate services at the HKMA, underlined the de facto central bank's support for the LPF at the the HKVCA Asia Private Equity Forum last month.
Asked whether the HKMA would look to commit capital to fund managers making use of the new structure, a spokeswoman declined to give a specific answer. “The HKMA will collaborate with the private equity industry and related stakeholders to facilitate their adoption of the new regime,” she said.
The government aims to submit the legislative proposal to the Legislative Council in the first half of 2020 and implement the new legal regime by end of this year, she added.
However, there does not appear to have been a huge flood of interest i the LPF from asset managers so far, perhaps because most are happy using Cayman Islands structures for their Asian strategies.
But that may change given the Organisation for Economic Co-operation and Development (OECD) is imposing stricter economic substance requirements on such offshore jurisdictions, especially if combined with the pull factors of possible tax concessions and a desire to compete for Chinese and Hong Kong government entities' capital.
A senior executive at a private equity fund-of-funds manager in Hong Kong said he wasn't aware of any general partners (GPs) planning to switch to the LPF as yet. "If it is successful," he noted on condition of anonymity, "it would mean a lot of potential business for Hong Kong counsels at the expense of Cayman Islands counsels."
LOCAL FIRMS TO LEAD?
Hong Kong-headquartered GPs may be the first to test the structure, the executive said. "Maybe initially they can try having both a HK limited partnership structure and a Cayman Islands structure, and let LPs [limited partners, or investors] choose which one to take."
And, as it is a new framework that's not widely understood, LPs may need advice from Hong Kong (rather than Cayman) counsels opinion before they go ahead, he added.
Vasilopoulos also feels Hong Kong-based fund managers will be early movers.
There is likely to be strong takeup among local fund houses, she said, “once they see that this regime is actually quite similar to and competitive with what they're used to [for instance, Cayman Islands and other traditional offshore fund structures], doesn't require a major reboot of systems or knowledge, and offers more certainty both from tax and regulation … particularly if there are tax concessions.”
More internationally oriented asset managers, meanwhile, may take longer to assess and adopt the new vehicle, said Vasilopoulos.
But the new regime offers potentially “very significant cost savings” over the traditional offshore model, she said, as a manager will typically require far fewer structures.
If Hong Kong introduces significant tax incentives and more clarity on tax policy, Vasilopoulos added, managers will be able to use a simpler, more streamlined structure under the new regime. That will mean much lower cost and much clearer transparency on how tax will apply than with the current structures, she said.
Singapore's private equity regime was in place since 2010 but only really started gaining traction in 2013. Time will tell if Hong Kong can mimic that success; it certainly has a potentially even bigger pool of affiliated government assets to back its new framework.