US Legislation Impacting On Offshore

by Glen Shapiro, LawAndTax-News.com, New York

20 March 2006

Martin Livingston from Cayman Islands law firm Maples & Calder points out a close similarity between the SEC's hedge fund registration rules and the Treasury's abortive 2003 attempt to impose anti-money laundering rules via its FinCEN unit, and worries about their impact on offshore advisers.

In an article submitted to hedge fund publication Albourne Village, Mr Livingston says about the SEC rules: 'Using similar criteria to that imposed by the Treasury, US advisers having more than $30m of assets under management, 15 or more clients (in a 12-month period) and who either hold themselves out as investment advisers or advise registered investment companies will now need to be registered. Historically, advisers were allowed to regard the hedge funds themselves as their ‘clients’. The rule now includes as clients the investors of private funds, which are essentially defined as any unregistered investment companies with less than a two-year lock-up period. Reinvested dividends and redemptions for extraordinary circumstances were excepted when determining eligibility for the two-year lock-up period.'

'A broad range of regulatory compliance controls will be imposed upon registrants, including periodic reporting to the SEC (Form ADV) and investors alike, key employees of the adviser being subject to SEC fitness screens, as well as advisers establishing programmes to prevent violation of federal securities laws'.

Mr Livingston says that, as in the case of the Treasury rules, the registration requirements extend to non-US advisers with more than 15 US-resident clients. The SEC appears to have ignored the need for offshore advisers to have managed assets over $30m.

Mr Livingston says that although, technically, SEC registration does not yet make an investment adviser a financial institution, as defined under the Bank Secrecy Act for the purposes of the Patriot Act, it does bring them one step closer to being subject to the US anti-money laundering regime. Indeed, most US investment advisers now choose to adopt anti-money laundering programmes based on Patriot Act requirements regardless.

Last December, FinCEN unveiled a final regulation implementing the international correspondent banking provisions and the private banking provisions of Section 312 of the Patriot Act. The final rule requires certain US financial institutions to apply due diligence to correspondent accounts maintained for certain foreign financial institutions. US financial institutions have until now been operating under interim provisions.

The updated rule takes effect within 90 days for new accounts opened by US financial institutions and 270 days for existing accounts from the date the regulation is published in the Federal Register.

Section 312 of the USA Patriot Act requires US financial institutions to perform due diligence and, in some cases, enhanced due diligence, with regard to correspondent accounts established or maintained for foreign financial institutions and private banking accounts established or maintained for non-US persons.

“This rule reflects a significant milestone in our continued progress towards adding transparency to the financial system to help safeguard it from the financing of terror and other illicit money flows,” observed William J. Fox, Director of the Financial Crimes Enforcement Network.

Earlier this month, the Patriot Act was renewed, after a troubled passage through Congress. US Treasury Secretary John Snow welcomed the renewal, announcing that: "The President's signature today on the renewal of the USA Patriot Act enables us to continue to fight the war on terror with the tools necessary to do the job. At the Treasury Department, the Patriot Act has significantly advanced the financial war on terror. While hatred fuels the terrorist agenda, it is money that makes it possible for them to carry out their ruthless acts."

The Patriot Act enables the Treasury to better track and identify terrorist funds through effective sharing of information with the financial sector both vertically – between the government and the industry – and horizontally – by providing a safe harbor that allows industry members to also share information with each other. This sheds more light on the financial system as terrorists seek to conceal their funding.

The Patriot Act has also, according to Mr Snow, assisted the Treasury in preventing money laundering and terrorist financing through greater transparency of correspondent accounts maintained by US banks on behalf of foreign banks.

Mr Livingstone points out that SEC registration has the effect of subjecting offshore advisers to US jurisdiction and SEC examination, which is costly, threatens confidentiality, and seems to be another example of the extra-territorial hegemony of US legislation.

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