Special investment funds also work as closed-end funds – pay attention to special provisions

What is a special investment fund?

Since 1996, it has been possible to establish special investment funds. Before that, various limitations set by legislation made it in practice difficult to develop products relating to special investment funds. Previously, special investment funds have typically been almost like UCITS funds and have only to a lesser degree deviated, for example, from the diversification rules of UCITS funds. However, since the Act on Alternative Investment Fund Managers entered into force, it has been possible to establish special investment funds.

Special investment funds are one possible legal structure for Alternative Investment Funds (AIF), and the related provisions are laid down in the Act on Alternative Investment Fund Managers. Special investment funds are contractual funds that are not legal persons. Investment activities and management of special investment funds are carried out by the Alternative Investment Fund Manager (AIFM) who does however not own the special investment funds under its management. Instead the right of ownership to the assets in the special investment fund remains with the persons, entities and other legal arrangements that have invested their money in the fund. A special investment fund is divided into fund units that create equal rights to the capital in the fund. The fund units can be further divided into fractions. A special investment fund cannot conclude contracts, but they are concluded by the AIFM representing the special investment fund.

Generally, there is very little regulation on the investment activities of AIFs, and it mainly concerns the AIFM. Special investment funds deviate from AIFs having some other legal structure in that the investment policy is regulated in more detail for special investment funds than other legal structures. Secondly, they also deviate from AIFs with some other legal structure by their taxation because in Finland, the taxation of funds is determined based on the legal structure. It is also typical for special investment funds that certain provisions of the Act on Common Funds (213/2019) apply to them, such as certain provisions on fund management and calculation of the value.

A closed-end special investment fund is widely suitable for various needs

In Finland, closed-end funds, from which it is not possible to redeem fund units, have typically been established as limited partnerships. Due to their flexibility under private law, limited partnerships suit the needs of closed-end funds relatively well. However, limited partnerships have some characteristics that are not optimal for the needs of investmend funds, such as relatively heavy administration and complicated documentation.

Special investment funds in closed-end form have lately become more common in Finland. A special investment fund structure is widely suitable for funds with different investments strategies, for example traditional private equity funds but also feeder funds or funds of funds.

Establishing non-UCITS funds is more straightforward than establishing limited partnerships

The board of directors of the AIFM decides on the establishment of a non-UCITS fund. Establishing an AIF is more straightforward than establishing a limited partnership fund that needs a limited liability company to act as the general partner. A separate general partner company is typically established for each limited partnership fund for risk management reasons. Managing several general partner companies may pose challenges as the number of funds under management increases. In contrast, a non-UCITS fund does not have a general partner company, but the AIFM can establish several non-UCITS funds or investment compartments, which brings synergies to the administration. The assets and obligations of a non-UCITS fund have been separated from the AIFM under law so the AIFM cannot become liable for the obligations of the non-UCITS fund, and the owners of the fund units cannot become liable for the obligations of the AIFM.

Simple company structure makes management more efficient

Due to the simple company structure, the management of non-UCITS funds is more efficient than the management of limited partnerships. There is also no obligation to make notifications of changes in investors to the Trade Register. The typical elements in the management of closed-end funds can be determined in the fund’s rules. These include, among other things, the investors’ voting rights in matters that have been agreed separately as well as the advisory committee. In non-UCITS funds, it is also possible to use an investment compartment structure, which is not possible in limited partnerships. With an investment compartment structure, it is possible to create more economies of scale in the management.

Clearer documentation to make fund management more flexible

The fund rules are the non-UCITS fund’s instruments of incorporation. It is not necessary to draft a public partnership agreement, a summary of the detailed fund agreement, which is a specialty of limited partnerships. The rules of a non-UCITS fund are not public. In closed-end non-UCITS funds, it is possible to agree on preferential treatment of certain investors in the same way as in limited partnership funds. This is important in order to properly account for the special needs of the different investor groups. A fund prospectus can also be drafted of a non-UCITS fund. In closed-end non-UCITS funds, investors usually provide their investment commitments with a separate subscription agreement.

The special characteristics of the non-UCITS funds also provide new possibilities in marketing

Due to their simple structure, non-UCITS funds may be easier to market to non-professional investors. Certain investor groups also appreciate the fact that the identity of shareholders is not public knowledge, unlike in limited partnership funds. A non-UCITS fund is often suitable for investor groups for which it is not profitable to invest in limited partnership funds for tax-related or other reasons. In that case, the non-UCITS fund may make it possible to avoid establishing a feeder fund tailored for certain special investor groups (such as a limited partnership with a profit-sharing loan), which provides cost savings and streamlines the administration. Due to sustainability aspects, some investor groups may also avoid complicated feeder fund structures that aim at optimising taxation, which has increased the interest in non-UCITS funds. The investment compartment structure also provides other structuring possibilities, which have previously not been used in Finland.

The impacts of special provisions should be accounted for when planning the fund structure

Despite the numerous advantages, it is recommended to account for the impacts of special provisions concerning non-UCITS funds when planning the fund structure. The regulation concerning non-UCITS funds decreases the need to determine everything in detail in the fund rules, but it also sets certain boundary conditions for the fund’s operations. For example, the impact of the regulation concerning the number of investors, ways to organise the distribution of profit and adapting the share-based system of the non-UCITS fund to match the fund’s needs are matters that usually require some consideration in closed-end non-UCITS funds. By planning the fund structure carefully and developing the rules in an innovative manner, a non-UCITS fund can be adapted to the needs of a closed-end fund so that the outcome can be a viable alternative for establishing a limited partnership fund.