Corporate collective investment vehicles – is the (long held) dream about to become a reality?

• The Government released on 25 August 2017 a draft Bill and a draft explanatory memorandum, for consultation, as part of its proposal to establish a corporate collective investment vehicle in Australia.
• Submissions close on 21 September 2017.
• The corporate collective investment vehicle (CCIV) is intended to facilitate Australia’s participating in the Asia Region Funds Passport Regime, for which a draft Bill and explanatory memorandum were released on the same day.
• The CCIV as proposed appears workable – more detail on some aspects, such as transition provisions and taxation treatment, is still to come.
• Consultation on the full exposure draft will occur prior to the Bill’s introduction.

It has been some years now since the Johnson Report [Australia as a Financial Centre: Building on our Strengths Report, Australian Financial Centre Forum, November 2009] was released which among other things, recommended the establishment of an Investment Manager Regime (IMR) to eliminate some of the unexpected tax consequences for foreign investors investing in Australian managed investment vehicles (especially those with offshore assets), the introduction of an Asia Region Funds Passport (Passport) and the development of new collective investment vehicles.

On Friday 25 August, the Government released a package of consultation papers and draft legislation, intended to further its work on the Passport and to provide the legislative framework to make the corporate collective investment vehicle a reality.  The package included an exposure draft Bill and a draft explanatory memorandum for each of the following developments:

• the establishment of a corporate collective investment vehicle (CCIV); and
• the legislation of the Passport rules and other regulation to facilitate Australia’s commitments as a signatory to the Memorandum of Cooperation establishing the Asia Region Funds Passport. [Participating economies have up to 18 months from 30 June 2016 to implement domestic arrangements].  

The release of this package follows the Government’s earlier consultation on the CCIV proposals.  The Government released in August/September 2016 a consultation paper entitled "Collective Investment Vehicles:  Introducing the regulatory framework for a corporate vehicle".  The paper discussed several proposals for the approach to be taken to the development of CCIVs (and contained some reference to consequential changes to be made to the existing managed investment scheme regime under the Corporations Act 2001 (Cth) (Corporations Act)). 

The Passport

The Passport has been making steady progress for some time.  It is intended to enable eligible funds established in participating economies (home jurisdictions) to be marketed across other participating economies with limited extra regulatory requirements.

Interestingly, while it was not the case when the Passport concept was devised, the Government has indicated that it considers that a CCIV, being like a UCIT which is readily understood and accepted in several Asian jurisdictions, will support the establishment of the Passport as it will provide Australian fund managers with a vehicle which can be used to establish funds with a structure which is already popular in parts of Asia.

Regulatory framework

The CCIV can best be described as a hybrid.  While it is a company and subject to many of the ordinary company rules under the Corporations Act, it is also to have applied to it a number of additional rules which are taken from the existing regulatory framework for registered managed investment schemes (MIS) contained primarily in Chapter 5C of the Corporations Act.

It is said in the draft explanatory memorandum that this will ease transition for managers wishing to migrate MIS members to a CCIV structure.  There are many economic reasons why there should be incentives in place to enable this to occur. (For example, the cost of establishing an operation as an authorised corporate director (ACD) or a depositary will only be viable if there is a sufficient volume of funds under management in the new structure to justify the cost).  The Government will release at a later date information about the transition process and the relief required to enable this to occur (including relief to enable the merger of an MIS and the sub-fund of a CCIV, and relief from any capital gains and stamp duty costs of transition).

There are some critical differences between a CCIV and an ordinary company.  These include at a high level:

• maintenance of capital rules will not apply to a CCIV so that a member’s shares in a CCIV can be redeemed at the option of the member (creating an open-ended fund structure); and
• the only activities which the CCIV will be able to conduct will be ‘passive’ investment activities, in other words, it will not be able to conduct an active trading business.

A CCIV is a company limited by shares, but unlike an ordinary company, its board must comprise a single authorised corporate director (i.e. an ACD).   A foreign company cannot register as a CCIV.  The actual process for registration is still under consideration and is to be included in the next exposure draft of the Bill.

The CCIV is not to have any of its own employees or officers, other than the ACD.  This is intended to ensure that the activities of the CCIV are passive.

ASIC will be empowered to make rules for the operation of CCIVs and will also be given statutory powers of exemption and modification in relation to the new laws.

Retail CCIV v wholesale CCIV

The draft Bill proposes that a CCIV will be retail if:

• it has a member who acquired one or more of the shares in the CCIV as a retail client or an indirect retail client (i.e. through a custodial arrangement, such as an investor directed portfolio service (IDPS)); or
• the CCIV was promoted by a professional promoter to a retail client.

We consider that there should be some additional exceptions here, for example, to enable a CCIV to be a wholesale CCIV, for example, if the only retail clients who have invested are associated with the ACD (similar to the PDS exception for investors who are associated with the responsible entity of a scheme).

Constitution and compliance plan

The constitution for a retail CCIV will have prescribed content requirements similar to a retail (registered) MIS – the content requirements will cover the consideration paid to acquire shares in the CCIV, the powers of the ACD to invest and deal with the CCIV's assets and the establishment of sub-funds and classes of shares related to sub-funds.

The ACD's rights to fees and indemnification, and to borrow and raise money, must also be in the constitution.  There will be no requirement to include a complaint resolution mechanism as that is adequately provided for in Section 912A(2).

Unlike retail MIS, there will be no need to specify winding up procedures in the CCIV constitution.  CCIVs will be subject to new external administration provisions to be incorporated into the Corporations Act.

Sub-funds

A CCIV will be made up of one or more sub-funds, the investments of which are intended to be for the benefit (and risk) of the members of that sub-fund.  Sub-funds will not be individually registered with ASIC – rather, each time the ACD proposes to establish a new sub-fund, it must notify ASIC.  [At this stage, it is not apparent how ASIC will administer licensing for the operation of a CCIV with multiple sub-funds across a range of asset classes].

A CCIV will be a segregated liability company – that is, the assets of one sub-fund will not be available to meet the liabilities of another sub-fund.  That means that assets and liabilities must be allocated to individual sub-funds.  No assets can be unallocated.  Similarly, an ACD cannot allocate an asset to more than one sub-fund and the draft Bill currently contemplates that assets jointly owned by sub-funds must be held through some type of holding vehicle (like a trust) so there is property that can be separately allocated.  Further thought needs to be given to this, as there can be commercial and tax consequences which arise from interposing investment vehicles in investment structures which can be adverse to underlying investors.

Each sub-fund will have its own class of shares and a class of shares of a sub-fund can only be referable to one sub-fund and not another.  The drafts contemplate that there cannot be interfunding within a CCIV – in other words, one sub-fund cannot invest in another sub-fund.  This may make existing investment structures used in MIS structures unworkable and will require industry comment.

The Government proposes that there be special provisions included in the Corporations Act to enable sub-funds to operate independently.  For example, there will be an ability for the members of one sub-fund to vote independently of the members of other sub-funds, on matters which are only relevant to them. However, there will be matters where votes need to be taken at a CCIV level, for example, the removal or replacement of the ACD or the removal or replacement of the depositary.

Shares and capital

The draft Bill contemplates that a CCIV may only reduce its share capital (other than by redeeming shares) in one of the following circumstances:

• under a court order;
• as prescribed in CCIV Rules; or
• if all of the following are met:
  • the reduction is permitted in the CCIV constitution
  • the reduction is fair and reasonable to the members of each affected sub-fund
  • each affected sub-fund is solvent at the time and will not be insolvent after the reduction; and
  • the reduction is approved by a resolution passed at a general meeting of members of the affected sub-fund.

It is not apparent how other, selective reductions may occur which are not necessarily those instituted by the member, for example, special classes of shares with different rights in a sub-fund, or circumstances where the ACD considers that it is in the best interests of members that there be a reduction, for example, where there are adverse tax consequences of a particular member or members continuing to hold shares.

It is also proposed that financial assistance rules will apply to a CCIV.  However it is not entirely clear how that will work, given the existence of dividend/distribution reinvestment in the industry which can be compulsory (or provided on an opt out basis).

Similar redemption restrictions are proposed for “illiquid” sub-funds.  This may be an opportunity for the industry to comment on the workability of these provisions which are drawn from the MIS regime.  The rules should be able to be adapted to allow for example, regular fixed periods or gates at which withdrawal will be permitted, without the need for separate  offers.  The industry should consider whether it has a desire to see these rules become more flexible while still protecting investors.

ACD and directors’ duties

One of the major differences between a retail MIS and a CCIV is the requirement for there to be a majority of external directors on the ACD.  For retail MIS, the responsible entity has been able to meet its legislative obligation to maintain some level of independent oversight by either:

• having a majority of external directors; or
• having a compliance committee with a majority of external members.

In corporate groups with scheme operations, it has suited them to satisfy the independence requirements through the use of compliance committees.  The new tests are quite stringent and there may need to be a few modifications proposed to make them workable.  For example, in listed groups, it may be appropriate to enable an external director to be the same as an external director of a holding company of the ACD.

As with retail MIS, the ACD will have a power of delegation.  However, the agent it engages must not be the depositary.  The depository function and the limitation which this presents is explained further below.  The ACD remains liable for the acts of its agents, even if fraudulent or outside the scope of authority.  The intention is to create a sole responsibility regime, similar to that for retail MIS.

The regime proposed for replacement of an ACD is largely the same as that which exists for a retail MIS.  Generally, there needs to be a members’ meeting called (with similar approval thresholds for removal and replacement as for a retail MIS).  The draft Bill also contemplates a temporary ACD mechanism.  The draft Bill also proposes similar statutory novation provisions for the rights and obligations (and contracts) of the outgoing ACD to become of those of the new ACD.  It is not clear whether this is sensible, given the CCIV is a corporate rather than a trust structure.  Under the retail MIS regime, all contracts were in the name of the responsible entity, hence the need to novate rights and obligations relating to a scheme on a change of responsible entity.  The existence of a corporate investment vehicle may largely avoid the need for this requirement.

Directors of the ACD will owe fiduciary-style duties directly, as do the directors of a responsible entity.  The duty owed to act in the best interests of members of the CCIV will likely take priority over the duties owed by the director to the ACD – more detail regarding the interaction with Part 2F of the Corporations Act is to be provided in the next exposure draft.

An officer of a retail CCIV will also have duties to take reasonable steps to ensure that the ACD complies with the Corporations Act, conditions imposed on the ACD’s Australian Financial Services Licence (AFSL), the CCIV’s constitution and the CCIV’s compliance plan.  

Depositary

A key feature of a UCITS fund is the requirement to have a depositary.  The draft Bill has adopted that feature with a few differences for the Australian market.

A depositary is a person who is primarily responsible for holding the assets of the CCIV on trust, but also for certain oversight functions in relation to the operation of the CCIV.  The person appointed must be either a public company or a foreign company registered under the Corporations Act, which has an AFSL authorising it to act as a depositary and that meets certain independence requirements.  The independence requirements are broad and industry participants will need to consider whether there are difficulties in them applying, particularly as the voting power test used by the draft Bill is drawn from the takeovers provisions of the Corporations Act and so have a broad reach.

Because Australian collective investment vehicles do not have restrictions on their investments, the depositary will not have responsibility for overseeing the CCIV’s investment activities.  However, the depositary will be responsible for supervising the ACD’s conduct in relation to the following activities:

• issuing, redeeming and cancelling shares in the CCIV;
• valuing shares in the CCIV;
• allocating assets and liabilities of the CCIV to sub-funds of the CCIV; and
• allocating and distributing income of the CCIV.

Currently custodians perform some of these functions as agent for a responsible entity of a retail MIS.  If custodians are to become depositaries, it is not clear how these supervisory functions will work.

The draft Bill also contemplates that some assets will be carved out of the mandatory requirement that they be held on trust by the depositary.  We expect that the carve outs will likely be drawn from the definition of “special custody assets” which can be found in the ASIC Class Order which imposes financial requirements on responsible entities of registered managed investment schemes [ASIC Class Order [CO 13/760]].

The depositary must be nominated on the application for registration of the CCIV.  It is mandatory for a retail CCIV but optional for a wholesale CCIV.  If a wholesale CCIV elects to launch with a depositary, it cannot subsequently revoke that election.  There are restrictions on the removal and replacement of the depositary – in essence this will require member approval.

The depositary will owe fiduciary-style duties similar to the responsible entity.   As the depositary only has discretion in relation to its supervisory duties and not in relation to its other functions, which require it to act on directions from the ACD, there may need to be some modification of the duties as currently expressed to reflect the matters over which the depositary has control.

Finally, there is a proposal for statutory novation of a depositary's obligations, liabilities and contracts on a change to a new depositary.  This proposal also requires some thought as some depositary arrangements will relate to its service provision more generally and will also be peculiar to that depositary (e.g. its individual sub-custody network arrangements).

How does the new structure compare – a summary

To understand how the new structure will work, it is useful to compare the CCIV against other collective investment vehicle structures which are currently used in the Australian market.

Put simply, most collective investments in Australia take place through trust structures which are either:

• able to be offered to retail clients (i.e. retail MIS) - these are generally required to be registered under Chapter 5C of the Corporations Act and are subject to the various investor protection requirements of those provisions and others in the Corporations Act (such as the meeting provisions in Part 2G.4 of the Corporations Act); or
• only offered to wholesale clients (i.e. wholesale MIS) – these are not required to be registered and so do not have the same investor protections as a retail MIS.

The new CCIV structure is able to be used for both retail and wholesale offerings with slightly more optionality available for the set-up of a wholesale CCIV.

The following table describes the high-level differences between these alternatives:

Taxation

While the detail of the taxation arrangements to apply to CCIVs is not yet available, the intention appears to be to replicate, so far as possible, the tax rules that currently apply to trust-based MIS structures.  The draft explanatory memorandum for the draft CCIV Bill states that the attribution managed investment trust (AMIT) rules will extend to CCIVs, subject to meeting certain requirements including regarding restrictions on carrying on an active business.

It appears therefore that where investments entail both active and passive components, there will still be a need to consider whether a stapled structure is the most appropriate investment structure, having regard to commercial imperatives of the investment.

However, it should be noted that the Federal government is currently reviewing the income tax treatment of stapled structures with a particular focus on restricting the perceived tax advantages of utilising such structures in connection with non-traditional asset classes (i.e. outside the traditional REIT or infrastructure sectors).  This review is likely to result in wide ranging legislative change within the short to near term.

The Government is to consult separately on the proposed taxation arrangements for CCIV.

Consultation and assistance

Ashurst will be an active participant in the consultation process on CCIVs and the Passport through industry working groups and direct participating in Treasury round tables which will occur over the coming weeks.  Submissions close on 21 September.  If you would like us to consider any views about the proposals, please contact us.  We would also be happy to assist with any individual submissions which our clients would like to make on the proposals.