Over the past couple of years, we have seen a noticeable increase in the number of investment funds targeting securities and assets in the Gulf Cooperation Council (GCC) countries. However, with the exception of those focusing on assets in the Kingdom of Saudi Arabia, a large majority of investment funds continue to be domiciled in offshore jurisdictions predominantly in the Cayman Islands. In response to this, local regulators have overhauled funds regulations for locally domiciled vehicles in an attempt to attract more investments and maintain oversight over the offering and operations of funds. These regulations have had mixed results.
On the one hand, the regulations bring stability, some tax advantages and potential exemptions to certain regulatory requirements. In particular, due to the legal structure of most locally domiciled funds, the regulators have generally allowed local funds with non-GCC ownership to invest in certain sectors or real property that would otherwise be subject to foreign ownership restrictions.
On the other hand, some provisions are overly burdensome and create impracticable restrictions on many potential funds. Certain regulators have expressed willingness to waive provisions on a case-by-case basis. However, since many of the local fund regulations are relatively new, sponsors and fund managers may have to take a wait-and-see approach in some jurisdictions to see how accommodating the regulators will be.
Below we examine the regimes governing locally domiciled investment funds in the following jurisdictions: Saudi Arabia, Qatar and the United Arab Emirates (UAE).
Saudi Arabia: An overview
The kingdom is now home to a large majority of investment funds being domiciled in the GCC due to its relatively clear and predictable funds regime. The recent turmoil in Bahrain has also added to the popularity of the countrys investment funds industry. Currently, the offering and operations of all funds in Saudi Arabia are governed by the Capital Market Authority (CMA) pursuant to the Investment Funds Regulations and the Real Estate Investment Funds Regulations (together known as the Saudi Fund Regulations). An investment fund may only be formed, managed and offered by a company licensed by the Saudi CMA as an authorized person. The fund itself is an unincorporated contractual vehicle formed between the fund manager and the investors pursuant to the terms and conditions of the fund. Accordingly, the fund must act and hold its investments through its fund manager, a CMA-licensed custodian or a special purpose vehicle (SPV) substantially owned by the fund manager or custodian.
Funds may be publicly offered or privately placed, and must be authorized by the Saudi CMA. There are no exemptions for funds being offered to sophisticated investors, financial institutions or high-net-worth individuals.
For a public fund, the offering documents must be prepared in Arabic and submitted to the Saudi CMA for formal approval. This process can take several months. There is no minimum investment amount for investors in a public fund and no restrictions on the length of the offering period.
For private funds, only the subscription form and terms and conditions must be in Arabic. Other offering documents, such as a private placement memorandum, may be in English. Once the offering documents are submitted, if the Saudi CMA does not comment on the offering documents within 15 business days, the fund manager may begin offering the fund to up to 200 Saudi Arabian investors who must be identified to the Saudi CMA as part of the submission. The minimum investment per investor amount is SAR 1 million. The offering of units is only permitted during the 12 months following the end of the 15 business day comment period. If the fund manager wishes to offer shares after such period has expired, the offering documents must be re-submitted to the Saudi CMA. If a fund manager wants to form an open-ended fund, it would be wise to offer the fund publicly to avoid the annually recurring Saudi CMA approval process.
Corporate governance and foreign ownership
The Saudi Fund Regulations require that each fund have a board which will oversee the fund manager and approve investments. At least a third of the board, and no less than two members, should be independent. In addition, the Saudi CMA has allowed privately placed funds to have fewer independent members on a case-by-case basis.
Units in a Saudi fund entitle their holders to a proportional share of the profits of the fund. While the Saudi CMA has not permitted separate classes of units in a fund, it has allowed for disproportionate allocation of profits. Also, often the fund manager receives a performance allocation from the profits of the fund. The Saudi CMA has also allowed a fund manager to enter into side letters with investors in certain circumstances granting preferential rights or reducing or eliminating fees charged to such investors.
All funds are subject to a number of restrictions and requirements as to valuations, subscriptions, redemptions, diversification, etc. These restrictions would be inapplicable or impracticable to the investment strategy for many investment funds. Accordingly, the Saudi CMA has shown a willingness to waive certain provisions on a case-by-case basis.
Units in a Saudi Arabian investment fund may be offered to foreigners. Under the Real Estate Investment Funds Regulations, real estate funds may only be offered to Saudi Arabian companies and nationals, as well as other GCC nationals and foreigners residing in the kingdom. However, the Saudi CMA has on a regular basis allowed non-GCC nationals and companies to subscribe for units. Currently, non-GCC investors in a Saudi fund are not required to register with the Saudi Arabian General Investment Authority (SAGIA).
Saudi funds are extremely tax efficient vehicles. The Department of Zakat and Income Tax (DZIT) has not assessed any taxes on Saudi funds, their investments or unit holders in a Saudi fund. However, the DZIT has reserved the right to tax funds in the future and on a retroactive basis.
There is no requirement for a fund manager to invest any amount in a fund it manages, although the Saudi CMA has expressed its preference for the fund manager to make such investments. The Saudi Fund Regulations also imply that an investor should contribute the full amount of its capital when it subscribes for units. However, the Saudi CMA has regularly approved funds with capital commitment structures.
In general, the Saudi CMA has shown flexibility in creating fund structures that most other regulatory bodies in the region have been unable or unwilling to do. Additionally, we understand that the Saudi CMA is considering revamping its funds regime in the near future.
Investing in Qatar
The formation and offering of investment funds in Qatar is regulated by the Qatar Central Bank (QCB) pursuant to Law No. 25 of 2002 or the Qatari Funds Law. All funds domiciled in Qatar must be licensed by the QCB. There are no exemptions to this licensing process.
A fund may only be established by a Qatari-licensed bank or a QCB-licensed company and is formed upon entry of its name in the commercial register at the Ministry of Economy and Commerce. Foreigners may acquire units in a Qatari fund, although the QCB retains discretion to limit the extent of their participation. The Qatari Funds Law does not regulate the number of investors or diversification of a funds investments, but Qatari funds are subject to a 10-percent tax rate on profits sourced in the country.
Unfortunately, the Qatari Funds Law is not comprehensive and, despite its 11-year history, is relatively unutilized. In our experience, most funds investing into Qatar still use offshore investment vehicles or SPVs. Qatar is one of the only GCC jurisdictions that has not recently overhauled its fund regulations, or announced its intention to do so.
However, the Qatar Financial Centre (QFC) recently introduced the Collective Investment Schemes Rules 2010 and the Private Placement Schemes Rules 2010 in an attempt to enhance the QFCs reputation as a prime jurisdiction in which to establish investment funds. The Qatar Financial Centre Regulatory Authority (QFCRA) regulates funds formed in the QFC. For investors, it is worth knowing that the primary advantage of a QFC fund is its exemption from all Qatari taxes.
UAEs new fund regulations
Investment funds in the UAE were previously regulated by the UAE Central Bank. However, new fund regulations were issued and implemented in 2012 by the UAE Securities & Commodities Authority (ESCA). The new ESCA Regulations are expected to be the first in a series of related regulations.
A UAE domiciled fund, which must be sponsored by a UAE joint stock company or a UAE branch of a duly licensed foreign company, can be established only with the approval of the ESCA.
The offering documents of a UAE domiciled fund must be in Arabic. Any amendments to the offering documents must be approved by ESCA and certain amendments require the approval of the investors in the fund. There are no express exemptions to the ESCA licensing and approval process.
The ESCA Regulations are silent on the corporate form of a UAE fund. We understand that a local fund is an unincorporated vehicle in which investors do not have an equity interest but instead have a contractual right to share in the profits and losses of the underlying investments of the fund. Given that a local fund does not have a corporate personality, the legal title to investments could be held by the fund manager (or an SPV affiliated with the fund manager) rather than the fund itself, similar to the structure which must be implemented for a Saudi domiciled fund.
We also understand that eventually the UAE Companies Law may be amended to give a UAE fund its own legal personality, but there are no plans for such amendment in the immediate future.
The ESCA Regulations include several unusual restrictions for local funds, such as the maximum amount a fund can invest in any single company. These restrictions would be impracticable in the context of private equity and real estate funds. However, we understand that ESCA intends to take a pragmatic approach in this regard and has the discretion to waive such restrictions under the regulations.
Another point of interest is the fact that ESCA Regulations do not contain a minimum investment amount for investors in a private or public fund. In practice, we understand ESCA will require a minimum initial investment of AED 250,000.
Investor rights and profit share
The fund manager of a UAE fund is required under the ESCA Regulations to invest at least three percent of the capital. The fund manager, together with its subsidiaries and affiliates, is restricted from investing more than 49 percent of the capital of the fund unless the fund is closed-ended and privately placed.
The ESCA Regulations are silent as to the length of the offering period of the fund although they do require that the period should be specified in the offering documents. Presumably, open-ended funds and mutual funds will not need to specify an offering period and can issue units for an indefinite period once the fund is approved by ESCA.
Units in a UAE fund confer upon their holders equal rights and entitle them to a proportional share of the profits of the fund. ESCA indicated that it would be willing to allow certain investors to have different rights but this would be determined on a case-by-case basis.
Additionally, the ESCA Regulations contemplate that all subscription amounts for units must be paid up front. We understand that it is not ESCAs intent to prohibit a capital commitment structure and such will be permitted if clearly set forth in the funds offering documents.
Each UAE fund must have a board of directors. The board must contain a representative of the fund manager and at least three members independent from the fund manager. All appointments and removals of directors are subject to the approval of ESCA.
The investment funds regime in the Dubai International Financial Centre (DIFC) is one of the most developed in the region. However, despite its relatively clear and comprehensive regulations, the DIFC has not taken off as a regional destination for fund establishment and most managers and sponsors still choose to domicile their investment funds in offshore jurisdictions, particularly in the Cayman Islands.
Having said this, the DIFC is very popular for setting up licensed asset management entities and is arguably now the hub for fund managers in the GCC. There are also some very useful corporate structures available in the DIFC, including the Special Purpose Company, which is commonly used as part of a fund structure, particularly when investing in Saudi Arabia and Kuwait.
King & Spalding has witnessed a growing interest in the GCC and MENA investment markets. In 2012, for example, lawyers in our Abu Dhabi and Dubai offices as well as our affiliated Riyadh office, advised clients on forming and launching over two dozen funds targeting assets in the region.
These funds ranged from private equity, real estate, infrastructure, distressed assets, credit and hedge funds and were structured on conventional and Shariah-compliant bases.
James Stull is an associate at King & Spaldings Dubai office, where he regularly advises fund sponsors and managers on structuring and establishing investment funds with a Middle Eastern focus.
Phillip Sacks, a senior associate at King & Spaldings Dubai office, advises investment managers on all types of investment funds including private equity, venture capital, real estate, infrastructure and hedge funds.
Nabil Issa is a partner at King & Spaldings Riyadh and Dubai offices. He is one of the regions market leaders in investment fund establishment, with a particular focus on Saudi Arabia.
Zawya 2013
