Part II - Key Features of the BVI Incubator or Approved Fund

As mentioned in Part I, the BVI Incubator and Approved Funds are the ideal Fund vehicle for the emerging Manager.

Both are governed by the BVI’s Securities and Investment Business (Incubator and Approved Funds) Regulations 2015, as amended (the Regulations) and the Incubator and Approved Funds Guidelines.

2 day approval process

Regulatory approval with the Financial Services Commission in the BVI (the “Commission”) is required to launch an Incubator or Approved Fund.

Application for approval is done via Otonomos’ local counsel and a Fund can typically commence business within two business days of lodging a complete application with the Commission.

Such application must be made in the approved form and provide the following:

• A copy of the applicant’s constitutional documents.
• A copy of the Fund’s offering document which must include the investment warning and a description of the Fund’s investment strategy. If there is no offering document, the investor warning and description of the Fund’s strategy must be provided separately.
• A curriculum vitae for each Director of the Fund.
• A copy of the Fund’s valuation policy.
• Information on arrangements for safe keeping of the Fund’s assets.
• The application fee of US$1,500.

The above means that, provided clients are clear on their Fund’s terms and have all documents required from them ready, the fund setup process from start to finish can take as little as 10 days.

If the Commission considers the application incomplete, it will advise the applicant within two business days of receipt of the application and will outline any further requirements.

The applicant will then have seven days (subject to any extension being granted by the Commission) to provide the further information, after which time the application will be considered abandoned.

Incubator vs Approved Fund

The best way to think about the difference between an Incubator and an Approved fund is along a continuum of Assets Under Management.

The Incubator Fund is aimed at start-up managers looking to build on their initial track record and test their strategy without major upfront investment.

As a result, an Incubator Fund can’t grow above US$20 million in AUM, has a limited shelf life, and needs a minimum investment peer ticket of US$20k:

1. AUM: The net assets of an Incubator Fund must not at anytime exceedUS$20 million, or US$100 million for an Approved Fund. Because of this lower AUM limit, an Incubator Fund does not need to appoint a fund administrator, whilst an Approved Fund is required to appoint an administrator to ensure suitable oversight of its operations..
2. 2-year limit: Additionally, the Incubator Fund’s lifespan is limited to an initial period of two years, with the possibility to extend this by a maximum of 12 months on application to the Commission, which gives the Manager time to test their strategy and determine whether the Fund is viable before committing to operate as a Private, Professional or Approved Fund.
3. Minimum investment: Finally, for Incubator Funds only, each investor must be a “sophisticated private investor” which simply means that they were invited to invest in the Fund and must make a minimum initial investment of US$20,000. There is no prescribed minimum investment amount for Approved Funds.

In all other aspects, the Incubator and Approved are the same:

• Reg-lite: Both are “reg-lite” with minimal ongoing regulatory obligations.

• Offering documents: Only limited mandatory information needs to be contained in an offering document, which practically means that both can operate using a short-form Term Sheet (see Part III), significantly reducing legal costs legal costs and time-to-launch.

• No audit requirement: There is no requirement to conduct an audit or file audited financial statements.

• Limited number of mandatory functionaries: The Manager can elect to only appoint functionaries they believe the Fund requires from the outset. Helpfully, the Fund can be managed by its Directors, as long as it appoints a minimum of two who are independent from each other. This avoids the need for a separately appointed Investment Manager under an Investment Management Agreement (see Part I). If such Investment Manager is appointed, the Commission will expect it to be authorized in the country where it operates from, which as discussed may create a significant dependency in the speed at which a BVI Fund can be setup. It may therefore be a good strategy to let the Fund initially be managed by its two Directors whilst an Investment Manager is acquiring its license or is being authorized to conduct Investment Management Activities.1

• Investor limit: Both Funds are limited to maximum 20 investors. However, once the investor limit is reached, the Regulations allow for a very reasonable time to upgrade the Fund to the next level, ensuring a smooth continuity of operation. Note that a feeder entity that aggregates investors, such as a U.S. LLC for U.S-based investors, would count as only one entry on the Fund’s captable.

• Valuation policy:The fund is required to maintain a clear and comprehensive policy for the valuation of its assets with procedures that are sufficient to ensure that the valuation policy is effectively implemented. The valuation policy shall:

  • Be appropriate for the nature, size, complexity, structure and diversity of the fund and its assets.

  • Be consistent with the provisions concerning valuation in its constitutional documents and term sheet/offering document.

  • Require valuations to be undertaken at least on an annual basis.

  • Include procedures for preparing reports on the valuation of the Fund’s assets.

  • Specify the mechanisms in place for disseminating valuation information and reports to investors.

• Minimum investor disclosures: Each investor must be provided with a written warning (either in a prominent place in the offering document or in a separate document) that:

  • The Fund is an Incubator or Approved Fund, as applicable.

  • The total number of investors in the Fund is limited to a maximum of 20.

  • The Fund is suitable for sophisticated private investors (Incubator Funds only - see above).

  • The Fund is limited to the value of its net assets not exceeding US$20 million or US$100 million, as applicable.

  • The Fund is not subject to supervision by the Commission and that the requirements considered necessary for the protection of investors that apply to public funds do not apply to an Incubator or Approved Fund.

  • An investor is solely responsible for determining whether the Fund is suitable for his or her investment needs.

  • Investment in an Incubator or Approved fund may present a greater risk to an investor than investment in a public fund.

Regulatory considerations

Incubator and approved funds also have the following regulatory obligations under BVI law:

• Money Laundering Reporting Officer (MLRO): Appoint a single money laundering reporting officer in accordance with the Fund’s obligations under the British Virgin Islands Anti-Money Laundering Regulations, 2008 and the British Virgin Islands Anti-Money Laundering and Terrorist Financing Code of Practice, 2008 (as amended). This person is often one of the Directors or a representative of the fund administrator who is conducting the onboarding of investors on behalf of the Fund.
• FATCA & CRS: Register and report with the BVI International Tax Authority (“ITA”) to meet the Fund’s automatic exchange of information obligations under FATCA and CRS.
• Economic Substance: Consider whether the activities the Fund carries out are relevant activities for the purposes of the BVI economic substance regime and whether any reporting or other action is required. Note that the vast majority of incubator and approved funds will be out of scope.
• Investor AML: For Incubator Funds, put in place procedures for investor on-boarding which address typical investor identification requirements and the reporting of suspicious activities to the BVI Financial Investigations Agency, and document how the Fund complies with BVI anti-money laundering procedures. For Approved Funds this will be done by the administrator.

Conversion of an Incubator or an Approved Fund

An Incubator or Approved Fund may continue as such for so long as it remains within the relevant thresholds under the Regulations. As seen above, an Incubator Fund is subject to a validity period of two years, unless extended by a maximum of 12 months subject to approval from the Commission.

If an Incubator or Approved Fund exceeds the restrictions in relation to the value of its net assets or the number of investors for two consecutive months, within seven days of the end of the second month (unless at the time of notification it no longer exceeds the threshold), the Fund must choose whether to:

• Apply for recognition as a Private or Professional Fund.
• In the case of an Incubator Fund, apply for approval as an Approved Fund
• Take steps to amend its constitutional documents to remove its redemption provisions and references to being an Incubator or Approved Fund and cease to operate as a mutual fund.
• Commence the process of liquidating the Fund.

An application for recognition as a Private or Professional Fund must be accompanied by an audit of the Fund’s current financial position and its compliance with the Regulations.

If any of the restrictions in relation to the value of its net assets or the number of investors are exceeded by the Fund in contravention of the provisions of the Regulations, the Commission may require the fund to take one of the steps outlined above.

Ongoing obligations

Incubator and approved funds must:

• Have an Authorized Representative at all times. This has to be a BVI-based individual or entity. Otonomos clients can use our representatives in BVI to act as Authorized Representative from US$ 200/m.
• Have at least two Directors at all times, one of whom must be an individual. There has to be a sufficient degree of independency between the Directors: If the second Director is an entity directly controlled by the first Directors, this may not be considered sufficient arm’s length.
• Pay an annual fee of US$1,000 to the Commission for renewal of its approval as an Incubator or Approved Fund.
• Submit financial statements (which do not need auditing), approved and signed by a director or the general partner of the Fund (as relevant), to the Commission within six months of the end of the financial year to which they relate.
• Submit to the Commission, no later than 31 January in each year, a statement that it is not in breach of the requirements of the Regulations that allow it to continue as an Incubator or Approved fund.

• Incubator Funds must submit to the Commission a semi-annual return no later than 31 January and 31 July in each year for the periods ending 31 December and 30 June respectively, containing the following information:

  • The number of investors in the Fund

  • The total investments in the Fund

  • The aggregate subscriptions to the Fund

  • The aggregate redemptions paid to investors

  • The NAV of the Fund

  • Any significant investor complaint received by the Fund and how the complaint was dealt with.

• Approved Funds are required to submit the same information to the Commission, but on an annual basis only, by 31 January for the previous calendar year.

Conclusion

Compared to other jurisdictions, BVI has an edge in the speed with which emerging Managers can set up a Fund and the relatively light regulatory burdens that applies to their Fund.

It should be the first port of call for any Manager who looks to start managing money on behalf of international investors, or Managers who have a mix of international and U.S.-based investors, the latter by way of a U.S. feeder entity (see Part I).

The best next step towards your setup is your Fund’s Term sheet, which we’ll dissect in the next Part.

With special thanks to Harneys BVI. No legal advice. All mistakes are the author’s.