Five Reasons why LPs want to invest in an Irish ILP
Whilst capital raising declined during 2020 across most alternative asset classes and regions in light of the pandemic-induced slowdown, stronger confidence levels amongst limited partners (“ LPs”), the current negative interest rate environment and the potential for higher risk-adjusted returns in the alternative sector, have seen a strong recovery in fundraising activities across a range of alternative asset classes during the second half of 2020 and into Q1 2021.1 Significantly, this rapid recovery in fundraising activities raises questions for LPs and general partners (“GPs”) alike in relation to where to domicile their next private and real asset funds and what structure will best suit the requirements of their prospective LPs.
The Investment Limited Partnerships Act, 1994, as amended by way of the Investment Limited Partnerships (Amendment) Act, 2020 (together the “ ILP Act”) provides for a modernised Irish common law, limited partnership structure – known as the “investment limited partnership” (“ILP”) – which positions Ireland as an attractive destination for venture capital, private equity, private debt, credit/direct lending, real estate, energy and infrastructure funds.
An ILP must be regulated by the Central Bank of Ireland (the “ Central Bank”) as an alternative investment fund (“AIF”) under AIFMD 2. ILPs are specifically designed for use as a collective investment fund and will typically be regulated as qualifying investor AIFs (“QIAIFs”)3, which are Irish regulated AIFMD compliant structures aimed at sophisticated or institutional investors. An ILP is formed under and governed by a limited partnership agreement (“LPA”) between at least one GP (who is responsible for managing the business of the ILP) and an unlimited number of LPs (i.e. investors). As an AIFMD compliant structure, a QIAIF ILP will typically be able to avail of the pan‑European marketing passport under AIFMD to be sold to European investors, as well as being marketed to non-European investors via local registration or private placement options.
In this article, we focus upon some of the key reasons why the enhanced ILP structure is a European fund structure, which will be preferred by LPs investing in new private fund and real asset ranges.
1. Ireland’s ecosystem and reputation
As a leading global domicile for the establishment of investment funds in excess of 30 years, Ireland has continued to strengthen its position during the pandemic. Assets under management of Irish-resident funds reached an all-time high of €3,683 billion at the end of June 2021. 4
Ireland has an internationally regarded and approachable regulator, with an efficient regulatory authorisation process and is at the forefront of product innovation. In addition, LPs view Ireland as a transparent and well-regulated global hub for investment funds, with a strong emphasis on investor protection, which is an important factor for promotors considering Ireland as a suitable jurisdiction for their product and in particular, where they are marketing their strategies to LPs who are required to allocate a portion of their capital to regulated structures.
As the largest alternative investment fund centre in the world, Ireland has developed into a centre of excellence with industry leading expertise across a range of sectors, with a successful track record in servicing partnership structures.
Ireland, as a committed member of the European Union (“ EU”), is an important gateway to LPs, who will appreciate Ireland’s position as the last English speaking common law jurisdiction in the EU.
2. The ILP - A modern partnership structure with a familiar feel
Limited partnerships are the vehicle of choice globally for private and real asset funds. Ireland has had a wide range of legal structures available for fund structuring purposes, however, until the recent reforms of the ILP were introduced, it lacked a partnership structure suitable for private and real asset funds.
In light of recent legislative changes to the ILP Act and enhancements to Central Bank rules for closed-ended funds, many of the customary private fund and real assets features with which LPs will be familiar and expect in practice can be accommodated within an ILP. These features include: closed-ended periods, capital drawdowns, capital accounting, capital contributions, carried interest, distribution waterfalls, catch-up payments, excuse and exclude provisions and defaulting investor provisions. Furthermore, the ILP shares many characteristics with the commonly used tax transparent Delaware, Cayman and Luxembourg partnership structures and as such, will feel familiar to LPs.
As a common law partnership structure, GPs will be subject to fiduciary duties, as well as statutory obligations, with which LPs will be more familiar and will appreciate from an investor protection perspective. In addition, LPs may seek to strengthen the fiduciary duties owed by a GP through the LPA and side letter arrangements.
A high-level summary of the key characteristics of an ILP authorised as a QIAIF are set out in the table in the schedule below.
3. Flexibility to accommodate investor requirements
The ILP is a regulated partnership structure which fits within the Irish ‘tool kit’ of regulated and unregulated structuring solutions and which can be tailored to suit individual investor requirements.
An ILP can be used in conjunction with other regulated funds (opaque or contractual) or unregulated limited partnership structures (established under the Limited Partnership Act 1907), special purpose vehicles or holding companies for the purpose of holding specific investments or for tailored structuring below the level of the ILP to accommodate requirements of certain investors, taking into account their domicile, investor type or any specific terms that may be agreed upon with an LP (e.g. joint venture terms in relation to the acquisition of real estate etc.).
An ILP can be established as an umbrella fund with multiple segregated liability sub-funds, which can be valuable for structuring solutions (e.g. accommodating co-investment arrangements or establishing cloned funds within an umbrella to accommodate specific investors). In addition, it is permitted to establish sub-categories of LPs (such as special LPs, designated LPs etc.), to facilitate the requirements of LPs that may need to be divided into sub-categories for regulatory reasons (e.g. ERISA investors) or to accommodate different voting or fee arrangements and to facilitate additional commitments or closings.
In practice, the ILP is suitable for nearly all types of professional investors (subject to meeting the applicable investor eligibility requirements for QIAIF products) regardless of geography and as such, the flexible structuring solutions on offer in Ireland using an ILP are an attractive proposition for both LPs and GPs.
The terms of private and real asset funds are typically subject to heavy negotiation during the fundraising phase. Subject to AIFMD and Central Bank regulatory requirements in relation to fair and equal treatment of investors, the ILP structure and the QIAIF regime offer a great deal of flexibility so that the specific requirements of individual investors can frequently be accommodated through the LPA and/or appropriate side letter arrangements. The provision of preferential treatment to an LP does not require the individual LP to be identified; however, reporting obligations in respect of side-letter arrangements must be provided by an AIFM to the Central Bank or its home regulator.
Side-letter arrangements are permitted provided the LPA and offering documents provide for preferential treatment arrangements and the offering memorandum includes a description of how the AIFM ensures a fair treatment of LPs and whenever an LP obtains preferential treatment (or the right to obtain preferential treatment), a description of that preferential treatment, the type of LPs who obtain such preferential treatment and, where relevant, their legal or economic links with the ILP or AIFM must be disclosed in the offering memorandum.
4. Limited liability safeguards
Given the relatively illiquid but higher risk-adjusted returns associated with private and real asset funds and the passive role of LPs, the level of investor protection available to LPs to safeguard their limited liability status is of paramount concern. This is one of the primary reasons why investors prefer limited partnerships for structuring such funds ahead of other legal structures.
While a general partner to an ILP has unlimited liability for the debts and obligations of the ILP, an LP is not liable beyond the amount of its capital contributed or committed (unless it performs activities related to the management and operation of the ILP). An LP who participates in the conduct of the business of an ILP in its dealings with third parties may be liable on the insolvency of the ILP for debts incurred by the ILP in the period during which it participated in the conduct of its business, as if such an LP had been a general partner during this period.
Helpfully, LPs considering investing in an ILP will appreciate that the ILP Act includes a list of “safe-harbour” or “white-list” actions that an LP may undertake without losing the benefit of limited liability, similar to limited partnership regimes in other jurisdictions. 5
In order to further protect the limited liability status of LPs, the LPA should be carefully drafted to ensure that (i) the specific roles of GPs and LPs are documented clearly and (ii) to that any permitted activities that may be undertaken by LPs are contractually provided for.
An ILP is transparent for Irish tax purposes such that the income, gains and losses of an ILP are treated as accruing directly to each partner of the ILP in proportion to the value of the interests beneficially owned by the partner.
Nevertheless, where in any period the amount of income or gains which are taken as arising or accruing to the partners of the ILP is less than the total amount arising or accruing to the ILP for that period then the difference will be treated as arising or accruing to the GP (or apportioned between the GPs in cases where there is more than one GP).
It should be noted that an ILP must make an annual return to Irish Revenue Commissioners providing information regarding the relevant income, gains and losses of the ILP and specified details in relation to the partners’ holdings in the ILP.
As the sustainability, environmental, social and governance (“ SESG”) agenda continues to accelerate with a recent sustainable investment disclosure obligations taking effect and LPs expecting asset managers to incorporate SESG principles into their investment strategies, this is also an important consideration for LPs when determining the type of structure that they wish to invest in. In this regard, the tax transparent ILP structure is well suited to SESG initiatives in that it can facilitate direct exposure to the underlying assets for LPs.
|Key characteristics of an ILP authorised as a QIAIF|
|Legal form / Legal personality||Common law, tax transparent limited partnership without separate legal personality.|
|Regulatory status||Regulated and supervised by the Central Bank as a QIAIF.|
|Timing||May avail of a 24-hour authorisation process, subject to any required pre-submission/derogation applications. No notorial process required.|
|Duration / Term extensions||Open-ended, open-ended with limited liquidity or closed-ended depending on the liquidity profile of the investments. The offering memorandum for closed ended funds must disclose the closed-ended term and provide that at the end of the term, the ILP must be wound up, convered into an open-ended fund or that the term of the ILP is to be extended with the approval of LPs.|
|Management||Managed by one or more GPs, which may be a natural person or a body corporate (Irish or non-Irish). The GP is not required to be authorised by the Central Bank, but is subject to the Central Bank fitness and probity process.|
|Service providers||Fully authorised EU, Irish registered (sub-threshold) or Non-EU AIFM (unless role retained by GP); GP (Irish or non-Irish), administrator (Irish), depositary (full or specialised, Irish), investment manager (unless performed by AIFM), distributor (unless performed by AIFM) as well as auditors (Irish) and legal advisors (Irish).|
|Marketing||Yes - where a fully authorised EU AIFM is appointed and provided the ILP is not a feeder fund to a non‑EEA AIF. Otherwise, ILP may be marketed in accordancew with national private placement rules (where available).|
|No. of GP and LPs||One or more general partners and one or more limited partners (no upper limit). May provide for different categories of LPs, for example, to facilitate different returns on investments; carried interest, excused investor provisions.|
|Eligible investors||QIAIF ILPs may only be marketed to “qualifying investors”, which includes: (i) a professional client within the meaning of AIFMD; (ii) investors with an appraisal certifying their suitability from an EU credit institution, MiFID firm or UCITS management company; or (iii) an investor that self-certifies as to having sufficient knowledge and experience or actively engaging in business in the same type of assets as the fund is offering. AIFMD marketing only permitted toward MIFID II professional investors (other categories of “retail investors” may be permitted to invest according to local rules). A “Knowledgeable Persons” exemption is available for certain classes of persons who are directly involved in the management and distribution of the QIAIF ILP.|
|GP & LP liability / Safe harbour provisions||GP has unlimited liability for the ILP’s debts and obligations. Exculpation and indemnity rights available to the GP are subject to statutory limits under the ILP Act. LP liability is typically restricted to the amount committed/ subscribed. An LP who participates in the conduct of the business of an ILP in its dealings with third parties may be liable on the insolvency of the ILP for debts incurred by the ILP in the period during which it participated in the conduct of its business, as if such an LP had been a general partner during this period. The ILP Act specifies certain activities which will not be deemed to constitute participation by an LP in the business of an ILP (as dicsussed further above).|
|LP contributions||LP contributions may be satisfied in cash or in kind. Limited Partners must typically subscribe for a minimum investment/commitment of EUR 100,000 or its equivalent in foreign currency (or EUR 500,000 for QIAIFs that invest 50% or more into an unregulated fund). LPs are only required to contribute capital in the circumstances set down in the LPA.|
|Withdrawals||Withdrawal of capital is permitted provided the ILP has a positive net asset value (and LPs will have no continuing claw-back risk), subject to the terms of the LPA and offering memorandum.|
|Eligible investments and investment restrictions||Generally may invest in any asset type and conduct any investment strategy. QIAIF ILPs (other than loan origination QIAIFs) are not subject to any regulatory limit on the amount which they can borrow or the extent to which they may incur leverage, subject to disclosure obligations. No diversification requirements typically apply, with the exception of specific rules applicable to direct lending loan origination QIAIFs.|
|Voting rights||LPs are entitled to voting rights as provided by law/regulation and the LPA and subject to disclosure in the offering documents.|
|Advisory committee||Use of advisory committees permitted where provided for in the fund documents and not subject to separate regulation. Investors can be granted the right to appoint a representative to the advisory committee. Advisory committee may not have investment discretion, have the power to make any investment decisions or provide non-discretionary investment advice.|
|Disclosure and filing obligations / Financial statements||ILP documents will not typically be publicly available but must be filed with the Central Bank (including the offering memorandum and the LPA). Central Bank maintains a record of the existence of each ILP but does not disclose the details of LPs. Annual audited report required to be published in each financial year and filed with the Central Bank and to be made available to LPs within six (6) months from the end of the financial year to which it relates.|
|LPA amendments||LPA amendments requires majority investor approval or alternatively, depositary written certification that the amendments do not prejudice the interests of LPs. LPA amendments also require Central Bank approval (typically received within one worknig day).|
Aongus McCarthy, Legal Director, DLA Piper
1Sources: McKinsey Global Private Markets Review 2021 available at this link and Pitchbook European PE Breakdown Q2 2021 available at this link.
2 Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010
3ILPs can also be established as retail investor AIFs (RIAIFs), which can be marketed to retail investors as well as professional investors. However, for the purpose of this article we have focused upon ILPs established as QIAIFs, which is the regulatory wrapper typically availed of.
4Source: Central Bank of Ireland Investment Fund Statistics – Q2 2021 available at this link.
5The ILP Act includes the following list of safe harbour actions that an LP is permitted to take:
- being a contractor for, or being an agent or employee of, the ILP or a GP or acting as a director, officer or shareholder of a GP which is a body corporate;
- consulting with and advising a GP with respect to the business of the ILP;
- investigating, reviewing, or being advised as to the accounts or business affairs of the ILP or exercising any right conferred by the ILP Act;
- acting as surety or guarantor or providing any other form of security for the ILP either generally or in respect of specific obligations;
- voting as a LP on one or more specific matters set down in the ILP Act, including the dissolution/winding up of the ILP, approval of changes in investment objective and/or investment policy, approval of alterations to the LPA and the admission, removal or withdrawal of a GP or LP or depositary and the continuation of the business of the ILP thereafter, transactions in which one or more of the GPs have an actual or potential conflict of interest with one or more of the LPs and in relation to a decision to approve an alteration in the LPA.
- any of the following: (i) serving on any board or committee (such as an advisory committee) of the ILP, or established by, or as provided for in the LPA in respect of, a GP, the LP or the partners generally; (ii) appointing, electing or otherwise participating in the choice of a representative or any other person to serve on any such board or committee; (iii) acting as a member of any such board or committee either directly or by or through any representative or other person, including giving advice in respect of, or consenting or refusing to consent to, any action proposed by the GP on behalf of the ILP and exercising any powers or authorities or performing any obligations as a member of any such board or committee in the manner contemplated by the LPA.