Germany is frequently used by advisers and managers for the formation of venture capital, private equity and similar closed-end alternative investment funds as well as retail funds wherever the manager of the respective investment fund is located in Germany; ie, Germany is generally not used as a domicile for structuring alternative investment funds or retail funds by non-German advisers or managers. Typically, German private equity or venture capital funds are structured as limited partnerships that are transparent for German tax purposes.
German resident institutional investors as well as German family offices are a frequent target of the fundraising activities of venture capital, private equity and similar alternative investment funds located in Germany or various other jurisdictions around the world.
Alternative Investment Funds
The typical legal forms of investment funds used in Germany are limited partnerships, investment stock corporations and contractual funds with no legal personality of their own (Sondervermögen). The most frequently used legal form for private funds is the limited partnership, whereas retail funds, undertakings for the collective investment in transferable securities (UCITS) funds and, quite often, real estate funds are more often structured as contractual funds. A key difference is that a limited partnership is transparent for German tax purposes, whereas the rules of the German Investment Tax Act apply in respect of corporate fund structures and contractual funds.
Common Process for Setting Up Investment Funds
The process for setting up an investment fund in Germany has to be described separately for registered sub-threshold managers and fully licensed managers of alternative investment funds. The regulation of investment funds in Germany is primarily exercised through the regulation of the respective manager. The manager is required to apply for a full licence or needs to be registered with the German supervisory authority for financial services (BaFin) under the German Capital Investment Act (KAGB). The KAGB implements the European Alternative Investment Fund Managers Directive (AIFMD) rules into German law.
This registration process is available to certain small or medium-sized managers only. The most important category of these small to medium-sized managers is known as “sub-threshold manager” under the AIFMD and KAGB. In practice, most German alternative investment fund managers outside the real estate area still fall within this category.
Sub-threshold managers under the KAGB are managers with assets under management of not more than EUR500 million (with no leverage at fund level) or not more than EUR100 million (in the case of leverage at fund level) and who manage so-called special alternative investment funds (“Special AIFs”) only. Special AIFs are AIFs whose interests or shares may only be acquired by professional investors or semi-professional investors (ie, non-retail funds).
The registration process is relatively simple. It requires the submission of a registration request together with certain documents on the manager and the investment fund(s) the manager intendsto manage (such as the fund’s limited partnership agreement and the manager’s articles of association). In addition, a Special AIF may not require the investors to pay in capital in excess of their respective original capital commitment.
Ongoing compliance issues
An advantage of the registration is that only a few provisions of the KAGB apply to “registered-only” managers, mainly the provisions on the registration requirements, some ongoing reporting requirements and the general supervisory powers of BaFin. However, fund-specific requirements do not apply to “registered-only” managers and their funds. In particular, the depository requirements and marketing requirements, as well as the additional requirements of the KAGB for fully licensed managers, do not apply.
In exchange for such a light regulation, “registered-only” managers do not benefit from the European marketing passport under the AIFMD. A registered manager can, however, opt up to become a fully licensed manager (or upgrade to an EU European venture capital fund (EuVECA) manager). Since 2021, “registered-only” managers are required to audit their annual financial statements. Such audit shall include a review of the compliance with the KAGB and German anti-money laundering law.
Fully Licensed Manager: Licensing Process
Fund managers who do not qualify for a registration or who opt up must apply for a full fund management licence with BaFin under the KAGB. A full fund management licence opens a door for managers to market funds to retail investors as well as to the marketing passport under the AIFMD. Retail investors are neither professional nor semi-professional investors.Licensing procedure
The licensing procedure is a fully fledged authorisation process with requirements equivalent to the requirements for granting permission under Article 8 of the AIFMD or Article 6 of the UCITS Directive. The licensing procedure checks requirements such as sufficient initial capital or owned funds, sufficiently good repute of the directors and shareholders, and organisational structure of the manager.
The licensing of the manager results in the manager being subject to the entirety of the KAGB. This means, in particular, the following:
- appointment of a depositary for the funds;
- access to setting up contractual funds;
- adherence to the corporate governance rules for funds set up as investment corporations or investment limited partnerships (so-called Investment KGs);
- adherence to the fund-related requirements of the KAGB;
- adherence to the pre-marketing and marketing rules of the KAGB;
- access to the marketing passport under the AIFMD or UCITS Directive;
- access to the managing passport under the AIFMD or UCITS Directive; and
- adherence to the reporting requirements of the KAGB.
Investors admitted to investment funds in Germany typically benefit from limited liability. As limited partners of a limited partnership, as the most frequently used structure for alternative investment funds in Germany, their liability in relation to third parties for obligations of the fund is limited to their respective liability amount registered with the commercial register of the respective fund partnership. The liability amount is typically a small portion (ie, 0.1%) of their capital commitment. Once this portion of their capital commitment has been contributed to the alternative investment fund, their liability in relation to third parties ceases to exist.
In relation to the alternative investment fund itself, the liability is restricted to the unpaid portion of the investor’s capital commitment. For fund structures other than limited partnerships, an even stricter limitation of liability applies. Legal opinions are commonly issued to confirm such limitation of liability.
In respect of usual AIFs that are marketed to non-retail investors, there is no legal requirement to issue a private placement memorandum (PPM); however, the Article 23 AIFMD disclosures must be provided if the fund is marketed under the AIFMD. In any case, a PPM is commonly produced for all AIFs in order to ensure that the investors are informed – completely and correctly, and in a non-misleading manner – about the respective AIF, its management, its investment strategy, the risks associated with an investment and the expected tax consequences of the investment. These disclosures are recommendable in order to avoid liability of the sponsor or managers under general prospectus liability rules.
If the fund is marketed to semi-professional investors, a key information document must be produced.
There are annual reporting requirements for managers of retail funds and managers of non-retail funds. In addition, there are semi-annual reporting requirements for contractual funds and investment stock corporations (AG) with variable capital. The reports need to be published.
Furthermore, since 1 July 2020, new notification requirements implementing Council Directive (EU) 2018/822 for cross-border tax arrangements apply for intermediaries of funds (usually the fund manager).
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Chambers_Investment Funds 2022_Chapter Germany
This article was first published in: Chambers Legal Practice Guide Investment Funds, 2022