Ireland was the first European Union (" EU ") member state to introduce a specific regulatory framework for loan origination funds (" LO Funds "), Ireland's direct-lending fund structure which benefits from the EU-wide marketing passport under the Alternative Investment Fund Managers Directive (" AIFMD ").
A LO Fund may be established as a sub-fund of a QIAIF umbrella fund structure without restricting the ability of the umbrella fund to have other sub-funds which are not LO Funds. In a significant further enhancement on 3 January 2017, the Central Bank of Ireland (the " Central Bank ") extended the scope of activities of LO Funds to include investing in debt and equity securities of borrowers, and other entities in certain circumstances.
In addition to the general rules applicable to QIAIFs and Alternative Investment Fund Managers (" AIFMs ") pursuant to AIFMD and the Central Bank's AIF Rulebook, LO Funds must comply with the following regulatory requirements which are set out in detail in the Central Bank's AIF Rulebook:
Scope of Activities
A LO Fund must limit its operations to the business of issuing loans, participating in loans, participations in lending and to related operations including investing in debt and equity securities of entities or groups to which the LO Fund lends or which are held for treasury, cash management or hedging purposes.
Credit Granting, Monitoring and Management
A LO Fund is required to implement and maintain appropriate policies and procedures in relation to the assessment, pricing and granting of credit, the management of concentration risk and credit risk and the diversification of credit positions.
Investor Due Diligence
Where an AIFM intends to provide access to its records and staff to potential investors for due diligence purposes (and it is worth noting that an AIFM is not required to do so), the AIFM must ensure that such access has been made available on a non-discriminatory basis to all potential investors and that all information reasonably considered to be 'material' is disclosed to such investors.
Diversification Requirements
A LO Fund is required to disclose, in its offering document, a risk diversification strategy which would limit exposure to any one issuer or group to 25% of net assets within a specified timeframe. Failure to achieve such a risk diversification strategy will require shareholder approval in order to alter, or continue with, such strategy. Furthermore, if shareholder approval is not forthcoming, the LO Fund must terminate.
Eligibility Requirements
A LO Fund is prohibited from originating loans to natural persons, other collective investment schemes, certain connected parties, persons intending to invest in equities or other traded investments or commodities and in certain circumstances, to financial institutions. It is therefore important to consider the specific loans contemplated in advance of any such LO Fund being established
Interconnectedness with the Banking Sector
LO Funds are restricted from purchasing existing loans from credit institutions in certain circumstances. However, these restrictions are not applicable where the loan has been offered to multiple parties and is acquired on an arm's length basis.
Stress Testing
A LO Fund must implement a comprehensive stress testing programme and on at least a quarterly basis, report to the AIFM in respect of such stress testing.
Liquidity and Distribution
A LO Fund must be established for a finite period of time and be closed-ended in nature, however limited redemption and distribution rights may be offered to shareholders. In the context of redemptions, unless the assets of the LO Fund are valued by reference to prevailing market prices, any redemption will require shareholder approval.
Leverage
A LO Fund must not have gross assets of more than 200% of its net asset value (with a level of discretion afforded to the Central Bank to increase this amount) and should the LO Fund exceed this limit, it must secure the approval of the Central Bank within 30 days in respect of a formal plan to re-align its leverage ratio.
Investor Disclosure
All sales and marketing material (including the LO Fund's offering document) must disclose certain prominent risk warnings and information in relation to items such as, its proposed concentrations and its credit assessment and monitoring process.
Reporting
In addition to the reporting requirements imposed on LO Funds pursuant to the Central Bank's AIF Rulebook (and on its AIFM pursuant to AIFMD), a LO Fund is required to issue periodic reports to its investors, with more detailed reports to be provided to the Central Bank. Such reports must include, for instance, breakdowns of the originated loans, information concerning non-performing exposures, undrawn committed credit lines, exposures subject to forbearance activities and material changes to the LO Fund's credit assessment and monitoring procedures.
Conclusion
Ireland was the first European Union ("EU") member state to introduce a specific regulatory framework for loan origination funds ("LO Funds"), Ireland's direct-lending fund structure which benefits from the EU-wide marketing passport under the Alternative Investment Fund Managers Directive ("AIFMD").
A LO Fund may be established as a sub-fund of a QIAIF umbrella fund structure without restricting the ability of the umbrella fund to have other sub-funds which are not LO Funds. In a significant further enhancement on 3 January 2017, the Central Bank of Ireland (the "Central Bank") extended the scope of activities of LO Funds to include investing in debt and equity securities of borrowers, and other entities in certain circumstances.
In addition to the general rules applicable to QIAIFs and Alternative Investment Fund Managers ("AIFMs") pursuant to AIFMD and the Central Bank's AIF Rulebook, LO Funds must comply with the following regulatory requirements which are set out in detail in the Central Bank's AIF Rulebook:
Scope of Activities
A LO Fund must limit its operations to the business of issuing loans, participating in loans, participations in lending and to related operations including investing in debt and equity securities of entities or groups to which the LO Fund lends or which are held for treasury, cash management or hedging purposes.
Credit Granting, Monitoring and Management
A LO Fund is required to implement and maintain appropriate policies and procedures in relation to the assessment, pricing and granting of credit, the management of concentration risk and credit risk and the diversification of credit positions.
Investor Due Diligence
Where an AIFM intends to provide access to its records and staff to potential investors for due diligence purposes (and it is worth noting that an AIFM is not required to do so), the AIFM must ensure that such access has been made available on a non-discriminatory basis to all potential investors and that all information reasonably considered to be 'material' is disclosed to such investors.
Diversification Requirements
A LO Fund is required to disclose, in its offering document, a risk diversification strategy which would limit exposure to any one issuer or group to 25% of net assets within a specified timeframe. Failure to achieve such a risk diversification strategy will require shareholder approval in order to alter, or continue with, such strategy. Furthermore, if shareholder approval is not forthcoming, the LO Fund must terminate.
Eligibility Requirements
A LO Fund is prohibited from originating loans to natural persons, other collective investment schemes, certain connected parties, persons intending to invest in equities or other traded investments or commodities and in certain circumstances, to financial institutions. It is therefore important to consider the specific loans contemplated in advance of any such LO Fund being established
Interconnectedness with the Banking Sector
LO Funds are restricted from purchasing existing loans from credit institutions in certain circumstances. However, these restrictions are not applicable where the loan has been offered to multiple parties and is acquired on an arm's length basis.
Stress Testing
A LO Fund must implement a comprehensive stress testing programme and on at least a quarterly basis, report to the AIFM in respect of such stress testing.
Liquidity and Distribution
A LO Fund must be established for a finite period of time and be closed-ended in nature, however limited redemption and distribution rights may be offered to shareholders. In the context of redemptions, unless the assets of the LO Fund are valued by reference to prevailing market prices, any redemption will require shareholder approval.
Leverage
A LO Fund must not have gross assets of more than 200% of its net asset value (with a level of discretion afforded to the Central Bank to increase this amount) and should the LO Fund exceed this limit, it must secure the approval of the Central Bank within 30 days in respect of a formal plan to re-align its leverage ratio.
Investor Disclosure
All sales and marketing material (including the LO Fund's offering document) must disclose certain prominent risk warnings and information in relation to items such as, its proposed concentrations and its credit assessment and monitoring process.
Reporting
In addition to the reporting requirements imposed on LO Funds pursuant to the Central Bank's AIF Rulebook (and on its AIFM pursuant to AIFMD), a LO Fund is required to issue periodic reports to its investors, with more detailed reports to be provided to the Central Bank. Such reports must include, for instance, breakdowns of the originated loans, information concerning non-performing exposures, undrawn committed credit lines, exposures subject to forbearance activities and material changes to the LO Fund's credit assessment and monitoring procedures.
Conclusion
The additional flexibilities introduced earlier this year permitting investment by LO Funds in debt and equity securities are a welcome development and have The additional flexibilities introduced earlier this year permitting investment by LO Funds in debt and equity securities are a welcome development and have generated additional interest in the establishment of LO Funds.
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