The Cayman Islands

Author: | Published: 9 Jul 2001
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The Cayman Islands, located in the western Caribbean, have become the preferred offshore jurisdiction of most of the world's leading financial institutions for structuring international financial transactions of all types.

Mutual funds

There are over 3,200 regulated open-ended mutual funds registered in the Cayman Islands. The Cayman Islands is also domicile to many more hedge funds, private equity, venture capital and other closed-ended funds, which do not need to be registered. These funds can be structured as companies, limited partnerships or unit trusts, all of which may have their shares or units redeemed. Open-ended companies, unit trusts or partnerships established to operate as investment or mutual funds with more than fifteen investors are regulated. Such an entity must either be specifically licensed as a mutual fund or appoint a licensed mutual fund administrator to provide its principal office, unless there is a minimum investment per investor of $50,000 or its equity interests are quoted on a recognized stock exchange in which case a straightforward filing can be made. The Cayman Islands is particularly popular among hedge and institutional fund promoters since registration under the Mutual Funds Law can be effected in a short time frame and there is no legislation which dictates investment policies or portfolio requirements. Cayman entities are also used for funds marketed to retail investors. Persons providing mutual fund administration or management services are required to obtain a licence under the Mutual Funds Law or the Companies Management Law. Many of the banks and trust companies, together with specialist mutual fund administrators, located in the Cayman Islands offer a full range of management services to mutual funds.

Structured finance and capital markets

Cayman Islands companies, partnerships and trusts are used for all types of on and off balance sheet capital markets and structured finance transactions, including securitizations, CBO, CLO and CDO transactions, note and bond issues, swaps and derivative transactions, repackagings, commercial paper and medium term note programmes. Cayman Islands issuers regularly obtain triple AAA ratings from all the major rating agencies. Local trust companies commonly hold the shares in special purpose bankruptcy remote vehicles on the terms of charitable trusts and provide independent boards of directors.

Companies, joint ventures, e-business and IPO entities

There are over 53,000 exempted and ordinary non-resident companies registered in the Cayman Islands participating in all manner of international cross border trade and business including internet-related and e-business. The Cayman Islands has recognized the development of e-commerce and implemented the Electronics Transaction Law, 2000 (ETL). This legislation is modeled after the United Nations Commission on International Trade Law (UNCITRAL) Model Law and the draft UNCITRAL Uniform Rules on Electronic Signatures. Under the ETL legal recognition is given, for example, to electronic writing, retention of documents in electronic form, electronic contracts (which rank the same as paper based transactions) and electronic signatures. The governor-in-council is empowered to enforce regulations that protect the privacy of data.

Offshore banking

The Cayman Islands is the one of world's largest banking centres. 43 of the world's 50 leading banks are present in the Islands. Bank subsidiaries and branches established in the Cayman Islands may undertake all manner of banking activity including commercial lending, capital raising and funding activities, writing derivatives and medium-term note and commercial paper programmes. Banks may not transact any banking business without obtaining a licence under the Banks and Trust Companies Law. An A licence permits unrestricted domestic and offshore business; a B licence permits only offshore business. The holder of a B licence may have an office in the Islands and conduct business with other licensees and offshore companies but, except in limited circumstances, may not do business with residents of the Islands.

Insurance

The Cayman Islands has become popular for the establishment of insurance and captive insurance companies for writing insurance, reinsurance, catastrophe bonds and other specialist insurance and annuity products. There are more than 500 captive and other insurance companies licensed in the Cayman Islands. All persons carrying on or desiring to carry on insurance (including reinsurance) business in or from within the Cayman Islands must be licensed under the Insurance Law; in addition, provision is made for the licensing of insurance agents and brokers and those providing insurance and underwriting expertise. Persons intending to engage in insurance business from within the Cayman Islands but not to engage in domestic business may obtain a Class B licence. A restricted Class B licence is designed for the insurer formed essentially as a single parent "captive" or as a "mutual" by a common interest group to write insurance, other than domestic insurance, only for its parent or members or such other persons as may be approved by the Cayman Islands authorities. Class B insurers may be formed as segregated portfolio companies and segregate their assets and liabilities by individual portfolios of business.

Commercial aircraft financing

Cayman Islands entities are involved in numerous commercial aircraft financing and operating lease transactions, acting as either owners or lessors of aircraft operated around the world. In addition aircraft and aircraft mortgages can be registered pursuant to the Air Navigation (Overseas Territories) Order 1989 as amended.

Shipping

Cayman Islands companies are often involved in commercial ship financing transactions. There is a Category 1 ship registry in George Town for commercial and private shipping and yachts. Parts of the Merchant Shipping Acts 1894 to1988 of the UK have been extended to and apply in the Cayman Islands. It is usually straightforward under Cayman Islands law for any ship owner to establish the necessary ownership or chartering structure to qualify for registration of a ship in the Cayman Islands.

Trustee and company management services

Licensed Cayman Islands companies provide a full range of trust and company management services.

Structuring products in the Cayman Islands

Financial institutions choose the Cayman Islands for structuring their investment and structured finance products for many of the following reasons:

Low country risk

The Cayman Islands is a British Overseas Territory and benefit from close ties with the UK. However, the Cayman Islands Legislative Assembly is responsible for passing its own laws and the British government would only intervene in exceptional circumstances.

Fiscal neutrality

There are no taxes or foreign exchange controls to disrupt cashflows through Cayman Islands vehicles. In fact, there is no income tax, capital or wealth tax, capital gains tax, inheritance tax or estate duty, gift tax, withholding tax, undistributed profits tax, business tax, corporation tax, payroll tax, immovable property tax, sales tax, turnover tax, transfer tax (except where the transfer is chargeable to stamp duty) and taxes on liquidation. Cayman entities can obtain a tax undertaking from the Cayman Islands government that no taxation introduced for a period of 20 years (or in certain circumstances, for example, an issue of long dated or perpetual bonds, up to 30 years or 50 years for an exempted limited partnership or unit trust) will be applicable to the entity or the holders of its securities.

Credible legal system

Cayman Islands law is based on English common law with the addition of local statutes which have in many respects changed and modernized the common law and are constantly being upgraded to meet the demands of the finance industry. The courts system in the Cayman Islands and its practice and procedures are based on English law. Civil cases are tried by the Grand Court, which is presided over by the Chief Justice, with Grand Court Judges permanently resident in the Islands. Appeals lie from the Grand Court to the Cayman Islands Court of Appeal, which sits in Grand Cayman, and from there to the Judicial Committee of the Privy Council in England. A Cayman Islands court will give effect to contracts governed by foreign laws.

Institutional acceptance

All the leading investment banks and fund promoters are regular users of the Cayman Islands for structuring financial products and investors are familiar with investing in Cayman Islands entities. Cayman Islands legal opinions are regularly accepted by the major institutions and rating agencies. Many of the industry organizations such as the ISDA, and various bankers associations all recognize that special purpose companies (SPCs) established in the Cayman Islands are acceptable counterparties in derivative transactions. Cayman Islands legal opinions have been produced for various Bankers Associations, ISDA, ISMA and other industry organizations relating to swaps, credit support annexes, stock lending agreements, repurchase agreements and others.

Regulation

The Cayman Islands Monetary Authority (CIMA) is responsible for the regulation of the financial industry and supervises banks, trust companies, insurance companies, mutual funds and company management. There is no specific transaction regulation of debt issues or derivative transactions as such. CIMA regulates open-ended mutual funds under the Mutual Funds Law, which provides various licensing and registration options which make the process as user friendly as possible. Registration can be effected in a short time frame and there is no legislation which dictates investment policies or portfolio requirements. Unlike some other offshore jurisdictions, however, the Cayman Islands does not insist on the use of local service providers eg administrators, paying agents, custodians etc. There are no restrictions on an SPC in the Cayman Islands lending, borrowing or issuing debt securities (none of these activities, for example, constitute banking business requiring the SPC to be licensed as a bank). The Cayman Islands follows the approach of most other jurisdictions, eg England and Wales, in not regarding instruments such as credit linked bonds or credit default swaps as insurance products which would require the Cayman Islands company to obtain an insurance licence. For licensed activities, CIMA applies international standards of regulation, for example the principles applied for banking supervision by the Basle Committee on Banking Supervision.

Local services

The Cayman Islands have service providers and professional advisers which can provide a complete range of financial services. The Cayman Islands Stock Exchange (CSX), which opened in 1997, was admitted to the London Stock Exchange's list of approved organizations and today lists mutual funds and debt securities with a total market capitalization of approximately $36 billion. The listing process is not onerous and provides investors with the appropriate degree of regulation and security when making investment decisions. The CSX lists eurobonds, derivative warrants, depositary receipts, asset-backed or other debt securities and securities issued by mutual funds. The CSX also provides for secondary listings of securities which are listed on other stock exchanges designated as the issuers primary regulatory exchange.

Speed

Since Cayman entities can be formed on the day of filing and there are no lengthy regulation or filing procedures, products can very quickly be brought to market. The cost of forming and maintaining Cayman entities is competitive and usually minimal in the context of most transactions.

Lender and rating agency requirements

Often transaction structuring will be driven by lender or rating agency requirements. Under Cayman Islands common law it is only in certain specific cases (English case law is persuasive in this context) that the separate corporate personality of an SPC will be ignored so as to allow creditors of an SPC to proceed against its shareholders or to allow creditors of shareholders to proceed against the SPC. Most of these cases involve fraud.

The establishment of bankruptcy remote vehicles in the Cayman Islands is very well established and accepted by the rating agencies. The typical structure has the following features:

  • the charitable trust in the Cayman Islands is a well recognized method of having an independent person own shares in an SPC. The trust will be established by an independent Cayman Islands trust company;
  • the same local trust company will also usually provide directors and officers to the SPC either exclusively or in addition to individuals who are connected with other parties in the structured finance transaction;
  • Cayman Islands law recognizes limited recourse arrangements and non-petition covenants provided their effect under the governing law of the document in which they are contained is to remove any residual claim against the SPC;
  • Cayman Islands law requires directors to observe certain fiduciary duties. In the context of a structured finance transaction this typically translates into the directors deciding independently that the structured finance transaction is in the best commercial interests of the SPC itself. In this way the directors can comfortably approve the transaction on the basis that as the transaction is limited recourse there is effectively little risk to the SPC and, if the SPC makes a small profit, commonly $1,000, the SPC makes a healthy return on its share capital (which is usually only $1,000 or less); and
  • Cayman Islands entities can include features that satisfy the rating agency's requirements, such as restrictions on objects and powers, debt limitations, independent director, no merger or reorganization and separateness.

The Cayman Islands does not have any system of corporate rehabilitation, such as the English "administration" procedure or the US Chapter 11 proceedings under the Bankruptcy Code whereby a debtor can effectively "freeze" the rights of creditors, including, in certain cases, the creditors rights to enforce security interests.

Under Cayman Islands law secured creditors may usually enforce their security in a liquidation of an SPC.

Liquidators of a Cayman Islands company cannot disclaim onerous contracts. The contractual rights of creditors continue to exist following a liquidation.

The fraudulent preference rules require, as a minimum, that any disposition must be made with a view to preferring one creditor over another before that disposition can be attacked - it is not sufficient simply that an asset or payment was made in circumstances which resulted in one creditor losing out.

Netting and set off arrangements are recognized by express statutory provisions and will be enforced both pre- and post-insolvency (assuming they are effective as a contractual matter under the governing law of the contract in which they are contained).

Contractual subordination is recognized by express statutory provision (assuming it is effective as a contractual matter under the governing law of the contract).

There is no general concept of substance over legal form - this means that heavily subordinated debt, long term and perpetual debt, for example, would continue to be treated as debt and therefore benefit from the favourable treatment given to creditors, rather than being treated as equity. Similarly, participating debt will not be regarded as equity for Cayman Islands purposes notwithstanding that it can have most of the economic characteristics of equity.

The list of "preferred creditors" in the Cayman Islands is limited and, in practice, in the case of an SPC, which will have no employees in the Cayman Islands, relates only to unpaid government fees.

Redomiciliation provisions

The Cayman Islands allows companies to move to or move from the Cayman Islands without triggering a disposal of assets or requiring a novation of liabilities – this is useful in the event that the selected jurisdiction ceases to be viable for taxation or securities regulation reasons.

Security issues

The Cayman Islands has no general system of registration of security interests to perfect or obtain priority (although there are registration systems in place for ships and aircraft registered in Cayman, limited partnership interests of Cayman exempted limited partnerships and "personal chattels" under the Bills of Sale law). Companies are required to keep an internal register of mortgages and charges but failure to make the appropriate entries does not, of itself, affect the creation of the security interest or its perfection or priority. The law which governs the creation of the security interest, its perfection and the priority of the secured party depends upon the application of Cayman Islands conflict of law rules which in general terms look to the law governing the security agreement and the law constituting the asset over which the security has been taken or the law of the place where the asset subject to the security interest is situated, depending upon the nature of the asset.

Cayman entities

The Cayman Islands has a wide range of flexible legal entities for use in international transactions including exempted companies, partnerships and trusts, all of which are based on familiar legal concepts having the following notable features:

Exempted companies

  • Used for all types of offshore transactions.
  • Corporate entity formed under the Companies Law with separate legal personality owned by its shareholders, which have limited liability, and managed by its directors.
  • May be incorporated on same day of filing.
  • Eligible for tax exemption for up to 30 years.
  • Minimal continuing requirements and no need to prepare audited accounts unless it is a regulated entity.
  • Must maintain a registered office in the Cayman Islands.
  • No annual directors' or shareholders meeting required to be held in the Cayman Islands.
  • Minimum of only one director and one shareholder required and no nationality requirements.
  • No prescribed minimum issued or paid-up capital.
  • Share capital may be divided into such classes f shares, with different rights as to voting, participation in profits and/or return of capital, as authorized by its articles of association.
  • The Companies Law in the Cayman Islands provides significant flexibility in allowing SPCs to issue shares, redeem or repurchase shares and to pay dividends (for example, an SPC can pay dividends out of any premium subscribed for its shares), subject in most cases to an overriding solvency test. Distributable profits may be calculated on a much wider basis than conventional business profits may be calculated eg for GAAP purposes.

Partnerships

  • A partnership can be formed under the Partnership Law but the partnership as such has no corporate identity or separate legal personality.
  • A corporation or an individual may be a partner.
  • Any ordinary or limited partnership should preferably be created by written agreement or by deed. In the case of an ordinary partnership no filing or registration is necessary.

Exempted limited partnerships (ELPs)

  • ELPs are often used for investment, private equity and venture capital funds and CDO transactions.
  • Exempted limited partnerships are partnerships registered under the Exempted Limited Partnership Law as a partnership of one or more partners whose liability for the obligations of the firm is unlimited (the general partners) together with one or more partners whose liability is limited in amount (the limited partners).
  • Only general partners may take part in the management of the affairs of the ELP.
  • To establish an exempted limited partnership a general partner must file a signed statement with the Registrar of Limited Partnerships containing certain basic details, which is open to public inspection.
  • At least one of the general partners must be a Cayman registered entity or a registered foreign company.
  • The general partner must maintain at the registered office a register of limited partnership interests and of mortgages thereof, both of which are public documents.
  • Property may be held in the name of, and loans may be made to, the partnership.
  • A limited partner may, with the consent of the general partner, transfer or mortgage his interest.
  • A limited partner may receive a return of his contribution subject to the partnership being solvent.
  • An exempted limited partnership may obtain a 50 year undertaking against the future imposition of taxation.

Trusts

  • Used for traditional trust funds, unit trust funds and structured finance transactions.
  • A trust is a fiduciary relationship with respect to property, imposing on the trustee an obligation to deal with the trust property for the benefit of specified persons and as such has no corporate identity or separate legal personality.
  • The trust law of the Cayman Islands is derived from the English law of trusts but is subject to somewhat different statutory modifications as referred to below.
  • The Fraudulent Dispositions Law strengthens the integrity of a Cayman Islands trust and, in the absence of a Cayman Islands bankruptcy of the settlor, may protect it against successful attack by future creditors of the settlor.
  • The Perpetuities Law abolished the old common law rule which invalidated any disposition unless it vested within a period of lives-in-being plus 21 years and introduced a new perpetuity period of 150 years. The Perpetuities Law also introduced a new "wait and see" rule whereby a disposition (or power) will only fail if it falls outside the new perpetuity period.
  • Under the Special Trusts (Alternative Regime) Law (STAR), pure purpose and mixed purpose/private trusts are now permitted. Under STAR, a third party enforcer must be appointed. Charitable purpose and private trusts may have unlimited duration.
  • The Trusts Law provides for the registration of exempted trusts. All the trust documents must be delivered to the Registrar of Trusts, who issues a certificate of registration. A trustee of an exempted trust may obtain a 50-year undertaking against the future imposition of taxation in respect of trust property or income.

Anti-money laundering legislation

As part of the global fight against money laundering, the Cayman Islands has adopted comprehensive anti-money laundering legislation. The Proceeds of Criminal Conduct Law creates a number of offences - money-laundering, assisting in money-laundering, receiving the proceeds of another's criminal conduct, failure to report a suspicious transaction and tipping-off. New Regulations issued under the Proceeds of Criminal Conduct Law have also imposed mandatory "know your client", record keeping and internal control and reporting procedure requirements.

"Harmful tax competition" initiative

In response to the OECD's "harmful tax competition" initiative, the Cayman Islands government gave an "Advance Commitment" to the OECD and therefore did not appear on the OECD official list of "tax havens" which was published in June 2000. It was established that no change would be made to the zero tax regime in the Cayman Islands. The OECD has confirmed that the Cayman Islands system of no "direct taxes" is not in itself considered "harmful" and the Cayman Islands government is committed to its continuation.

The Cayman Islands government undertook in its commitment to the OECD that exchange of information for criminal tax matters shall become effective for the first tax year after December 31 2003, with exchange of information for civil and administrative tax matters to become effective for the first tax year after December 31 2005. It is not anticipated that these changes will significantly affect the international market for Cayman Islands financial services.


Maples and Calder

PO Box 309
Ugland House
South Church Street
Grand Cayman
Cayman Islands

Tel: +1 345 949 8066
Fax: +1 345 949 8080
www.maplesandcalder.com