Categories of Funds in Ireland

There are two broad categories of regulated investment funds in Ireland:

1. undertakings for collective investment in transferable securities ("UCITS") established pursuant to regulations implementing the European Union's ("EU") UCITS Directive; and

2. collective investment schemes other than UCITS ("non-UCITS").

Either category of funds may be established as a single fund or as an umbrella fund comprising one or more sub-funds, each of which may have a different investment objective and policies.

UCITS

The principal benefit of a UCITS classification is that the fund may be offered to the public throughout the EU subject to compliance with the cross-border notification procedures specified by the UCITS Directive (the "UCITS passport"). UCITS may be offered to both institutional and retail investors. Due to the potential for distribution to retail investors throughout the EU, UCITS are subject to an EU-wide regulatory regime in terms of eligible investments and diversification requirements. From a regulatory perspective, UCITS funds may invest in financial derivative instruments (exchange traded or over-the-counter ("OTC")) for investment purposes as well as for efficient portfolio management ("EPM") purposes subject to certain conditions including:

(i) the reference item or index to which the derivative relates must be an eligible asset and must come within its investment objectives;

(ii) the counterparties are regulated institutions of a type approved by the Central Bank;

(iii) the derivatives are subject to reliable and verifiable valuation on a daily basis and can be sold, liquidated or closed by an offsetting transaction at any time and for fair value; and

(iv) compliance with the global exposure, counterparty exposure and cover requirements prescribed by the Central Bank's UCITS Notices and the derivatives risk management process adopted in respect of the UCITS.

Non-UCITS

A non-UCITS fund does not have the benefit of the UCITS passport and so the marketing of a non-UCITS fund is subject to the relevant domestic law of each country into which it is marketed. However, the Central Bank's non- UCITS regime imposes varying subscription, investment and borrowing restrictions depending on whether the fund is established for retail investors, professional investors ("PIF") or qualifying investors ("QIF"):

Retail

No minimum subscription requirement.

PIF

Minimum initial subscription requirement of €100,000.00. Derogations from the investment restrictions applicable to retail non-UCITS are possible on a case by case basis from the Central Bank.

QIF

1. QIFs are for qualifying investors, typically institutional investors or sophisticated high net worth individuals in one of the following categories:

(i) an investor who is a professional client within the meaning of Annex II of MiFID;

(ii) an investor who receives an appraisal from an EU bank, a MiFID firm or a UCITS management company that the investor has the appropriate expertise, experience and knowledge to understand adequately the investment in the fund; or

(iii) an investor who certifies that it is an informed investor by providing certain information on its investment experience.

2. A minimum initial subscription of €100,000 applies.

3. All investment and borrowing restrictions which normally apply to non-UCITS are automatically disapplied in the case of a QIF.

Retail non-UCITS and PIFs are subject to detailed investment restrictions in respect of derivatives. These restrictions focus on the nature of the derivative in issue, the netting of positions, OTC derivatives, repo contracts and stock lending, protection against exchange rate risk and general conditions. PIFs and QIFs often enter into prime brokerage arrangements. The Central Bank's prime broker guidance note provides that a prime broker may pledge, lend, rehypothecate or otherwise use for its own purposes, fund assets. In the case of PIFs, this ability to re-use fund assets is limited to 140% of the fund's indebtedness to the prime broker. In the case of QIFs, this is not subject to any prescribed limit subject to prospectus disclosure of the extent to which assets are available to the prime broker. Assets held by the prime broker other than in this manner, must be held by the prime broker as a sub-custodian.

Legal Forms of Funds (UCITS and non-UCITS)

The forms which both categories of Irish fund can take are broadly as follows:

UCITS

Non-UCITS

1. Unit Trusts

1. Unit Trusts - Unit Trusts Act, 1990

2. Investment Companies

2. Investment Companies - Part XIII of the Companies Act, 1990

3. Common Contractual Funds ("CCF")

3. Common Contractual Funds - Investment Funds, Companies and Miscellaneous Provisions Act, 2005

4. Investment Limited Partnerships - Investment Limited Partnership Act 1994

Key Characteristics of Unit Trusts and Investment Companies

A unit trust (UCITS or Non-UCITS) is constituted by a trust deed entered into between a management company and a trustee and does not have a legal personality separate from the trustee and the management company. Usually its Irish domiciled management company (or the investment manager, as its delegate) is the contracting party on its behalf to derivative contracts, though the trustee's input may be required where collateral or security is being provided. In this case the key constitutive documents are usually the trust deed, the management agreement and the memorandum and articles of association of the management company (and the investment management agreement, where relevant).

In the case of an investment company (UCITS or Non- UCITS) either the fund, which has separate corporate existence and/or its investment manager is the contracting party, though again, the custodian's input may be required where collateral or security is being provided. In this case the key constitutive documents are usually the memorandum and articles of the fund, the custodian agreement, the investment management agreement and the memorandum and articles of association of the investment manager.

Documenting Derivatives with Funds: Key issues

In documenting derivatives with Irish regulated funds the category and form of the particular fund has a material bearing on the detail and nature of the document and assessment of legal risk. The primary task lies in identifying the correct parties to contract on behalf of the fund and ensuring that those parties and their respective obligations are described accurately. Below we detail some key issues arising in this respect.

It is important to review the constitutive documents of Irish regulated funds in particular to determine:

1. The nature of the entity, who should be a party to the contract and applicable regulation.

Investment Company

Unit Trust

Fund itself / Custodian / Investment Manager

Trustee / Management Company / Investment Manager

2. How they should be described and any legal requirements in this regard.

The appropriate contracting party must be identified and its nexus to the fund must be accurately described. In the case of an umbrella fund, the fact of segregation of liability between sub-funds should be included in the description. This is critical where an ISDA is entered into by a counterparty and umbrella fund acting on behalf of a number of sub-finds and separate ISDA Master Agreements are deemed to exist in respect of each sub-fund.

3. Consider if the definition of "Party" or construction provisions in your contract require amendment, or if any additional provisions are required for regulatory compliance purposes.

4. Establish the respective liabilities of the parties.

Investment Company

Unit Trust

Where a non-UCITS Irish fund is established as an umbrella fund with one or more sub-funds, Part XIII of the Companies Act 1990 provides for segregated liability between such sub-funds. It is best practice to also include contractual limited recourse provisions in the ISDA Schedule.

Statutory segregation does not apply to the sub-funds of a unit trust and segregation should be achieved by the trust deed itself together with contractual limited recourse provisions set out in the ISDA Schedule.

5. Consider what additional representations and warranties or termination events may be required.

Representations

1. A representation on eligibility should be obtained from the counterparty.

2. The counterparty should seek a representation that it is entitled to rely conclusively on any instruction, request, certificate or representation from the investment advisor or manager of the fund as if given by the fund.

3. The counterparty should seek a representation that the fund is permitted to enter into the agreement and each transaction contemplated by the agreement under the terms of its prospectus and constitutive documents and the requirements of the Central Bank (including, without limitation, any diversification, global exposure, counterparty exposure or leverage limits).

Additional Termination Events ("ATE")

1. ATE linked to the net asset value ("NAV") / maintaining minimum levels.

2. ATE linked to the suspension of dealings in the fund and/or the fund's NAV.

3. ATE linked to key personnel e.g. the removal or reorganisation of the investment manager.

4. The fund counterparty should request the right to terminate if the constitutional documents or the disclosure documents of the fund were altered in a material way without the prior consent of the counterparty.

6. Consider if any additional provisions are required under the UCITS and Non UCITS Notices.

Eligible counterparties

The UCITS Notices (10.6) and NU Notices (16.10) set out a list of eligible OTC counterparties which in the case of UCITS, broadly speaking, are credit institutions, MiFID investment firms, Consolidated Supervised Entities regulated by the US SEC and, in the case of retail or PIF non-UCITS, are entities having, deemed to have or guaranteed or indemnified by an entity having an A-2 credit rating or equivalent. In the case of a QIF, if the counterparty can re-use collateral for its own purposes, it must have, or be deemed to have, the A-2 rating or its equivalent. In the case of prime brokers to PIFs or QIFs, the prime broker must be regulated to provide prime broker services by a recognised regulatory authority and it, or its parent company, must have shareholders' funds in excess of €200 million. In addition, the prime broker or its parent company must have a minimum credit rating of A-1 or equivalent.

Ability to terminate

UCITS and PIFs must have the ability to close out transactions at any time at fair value, described as the amount for which an asset could be exchanged or a liability settled between knowledgeable, willing parties in an arm's length transaction.

Daily Valuations

UCITS and PIFs must obtain agreement from a counterparty to provide mark-to-market valuations of transactions on request.

Regulation

The Central Bank of Ireland is the relevant regulator in Ireland for funds establishes as UCITS or non-UCITS in Ireland. It has issued UCITS Notices which apply to UCITS. Copies are available at:

www.centralbank.ie/regulation/industry-sectors/funds/ucits/Documents/UCITSNotice.pdf .

The corresponding Non-UCITS Notices for non-UCITS funds can be found at:

www.centralbank.ie/regulation/industry-sectors/funds/non-cits/Documents/NonUCITSNotices.pdf .

There are also certain Guidance Notes issued by the Central Bank which are relevant to this area, in particular, Guidance Note 3/03 on the use by UCITS of financial derivative instruments and the Guidance Note on prime brokers. These can be found at:

www.centralbank.ie/REGULATION/INDUSTRY-SECTORS/FUNDS/UCITS/Pages/requirements-guidance.asp.

Netting

A favourable regime for netting exists in Ireland for netting in the context of Irish regulated funds.

This article contains a general summary of developments and is not a complete or definitive statement of the law. Specific legal advice should be obtained where appropriate.