Germany Set To Reduce Regulation and Taxation Of Hedge Funds

by Phillip Morton, Investors Offshore.com

10 March 2003

In a bid to attract investors back into Germany the finance ministry has finally approved plans to ease restrictions on the hedge fund industry which until now has been the subject of tight regulation.

Hedge funds have become an increasingly popular investment vehicle in recent years, particularly in the US, UK and offshore centres, especially since the collapse in world equity markets. A hedge fund manager has the freedom to invest in a variety of financial instruments from foreign exchange to commodities and interest rates. Using the practice of short selling, investors are able to profit from a bear market as well as a bull market, giving hedge funds a major advantage over more conventional mutual funds which only perform well when the markets are in an uptrend.

In Germany however, domestically regulated hedge funds have had to comply with rules that stipulate at least 51% of assets must be placed in securities, and this has forced many German investors to place money in foreign hedge fund schemes. In an attempt to attract German investors back, restrictions on investment decisions will be dropped, and taxation will be lowered to bring hedge funds in line with other more conventional funds and assets. As a finance ministry spokesman explained: "We want to keep up with the strong growth of alternative investments, particularly in the Anglo-American financial markets."

However, the finance ministry has applied certain caveats to changes due to be implemented next year. Namely, the disclosure of short sales to aid market transparency. Short selling of shares is also often blamed for placing undue downward pressure on a stock. Warnings will also appear in hedge fund literature stating the risks attendant in investing in such funds, known as a total loss clause.

The government is also giving consideration to a plan that would lift the heavy tax burden currently placed on foreign investment funds in Germany in an attempt to halt the flow of fund mangers to rival financial centres with more relaxed regulatory environments such as Ireland and Luxembourg. Foreign investors have long said that this particular situation is unfair, and some groups have been considering taking Germany to court for possible breach of EU law.

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