In November 2019, Bermuda enacted the Incorporated Segregated Accounts Companies Act 2019 (the ISAC Act), a testament to the jurisdiction's commitment to providing pragmatic solutions to address industry's evolving needs.
The ISAC Act provides an alternative model for corporate structures, offering promoters of, and investors, in Bermuda entities an even greater choice in individualized corporate structuring.
The ISAC Act brings together the benefits of separate legal personality of a traditional limited company with the efficiencies of a segregated accounts company, merging the two concepts to produce a company (an ISAC) that can create an unlimited number of incorporated segregated accounts (each an ISA), each with its own separate legal personality.
Bermuda was a pioneer in developing ring-fenced cell or "segregated account" structures, which were initially created by means of private acts in the 1990s and later, given increased demand, by registration pursuant to the Segregated Accounts Companies Act 2000 (the SAC Act).
The SAC Act has served industry well and the robustness of the statutory ring-fencing of assets and liabilities linked to a segregated account (SA) of an SAC has been upheld by the Bermuda courts. However, despite favourable decisions of the Bermuda courts and the growing familiarity with cellular structures in many jurisdictions outside Bermuda, the cellular concept still remains untested in some jurisdictions and unknown in others.
While the ISAC Act was enacted primarily for companies in the insurance/reinsurance and investment fund industries, companies in other industries can also be registered as an ISAC with the approval of the Minister of Finance (Minister). It is expected that ISAC structures will be used by insurance and reinsurance companies, investment funds, private equity funds, hedge funds, mutual funds (in particular, umbrella, multi-class funds, multi-strategy and master feeder fund structures), investment holding companies, asset holding companies (where assets, such as aircraft and ships, can be held by different in ISAs), pension trustees and family offices.
3 Benefits of incorporated status of an ISA over an SA
SACs and ISACs share a similar structural framework. Both may create an unlimited number of segregated accounts to which assets and liabilities of the SAC or the ISAC may be linked, with the result that the assets and liabilities linked to an SA or ISA are statutorily segregated from the assets and liabilities of every other SA or ISA of the respective SAC or ISAC and of the SAC or ISAC itself.
Although they may look very similar, the key distinction between the two is that an ISA has separate legal personality with, unless its memorandum states otherwise, the capacity, rights, powers and privileges of a natural person. From this fact alone derives the fundamental difference between an SA and an ISA.
As a separate legal person, an ISA can own property in its own right and sue and be sued in its own name. An ISA can enter into contracts, issue securities to raise capital, grant and register charges over its assets and obtain a tax election and hold licenses in its own name. An ISA has its own memorandum of association, bye-laws and its own Board of Directors. An SA, not being a separate legal person, has none of the foregoing powers or attributes. Some of the advantages offered by an ISA's separate legal personality are addressed in greater detail below.
3.1 Certainty of separation of assets
Any uncertainty as to how a foreign court would interpret the statutory segregation of assets of an SAC is substantially diminished when using an ISA as an ISA is a body corporate with separate legal personality. As the separate legal personality of a body corporate has been recognized since the early 1800s, an ISA can minimise any risk (that might otherwise have arisen) of failure of the segregation of assets and liabilities, in particular, in insolvent situations where assets are located in jurisdictions lacking familiarity with, or recognition of, an unincorporated segregated account regime. Employing an ISAC structure is, thus, likely to increase investors' confidence in holding assets outside of Bermuda, thereby increasing available investment opportunities.
3.2 Contracts generally and internal transactions
As an SA cannot enter into contracts in right of itself, an SAC must enter into contracts and then link them to its SAs to achieve statutory segregation. While it is imperative that contracts involving an SA clearly evidence on their face that the SAC is executing on behalf of the relevant SA, such formalities are not necessary with an ISA as a counterparty. Any risks (that might otherwise have arisen) in the event of failure to observe such a technicality are eliminated when the counter party is an ISA.
While there is specific statutory provision in the SAC Act that "internal transactions" are valid, notwithstanding that they technically involve the SAC contracting with itself, such transactions may cause confusion, particularly in jurisdictions that are not familiar with cellular structures. The concept of two ISAs of an ISAC, each party being an entity with separate legal personality, contracting with each other may be more readily understood across a wider range of jurisdictions.
3.3 Board of Directors
Each ISA has its own Board of Directors, which provides certain benefits not available to SAs, which are managed by the Board of Directors of the SAC.
The Board of Directors of an ISA can be composed of the same persons appointed to the Board of Directors of its ISAC, or of other persons entirely. This enables an ISA to be directed by a Board of Directors with expertise appropriate for the business of that ISA.
Whereas the Board of Directors of an SAC is tasked with oversight of the SAC and each of its SAs, the respective Boards of Directors for the ISAs of an ISAC should result in increased management efficiencies (such as an ability to act quickly on investment opportunities) and improved oversight.
It should be noted, however, that directors serving both on the board of an ISA and its ISAC will need to be particularly mindful of their duties to the respective corporate body and must avoid conflicts of interest.
3.4 Corporate reorganizations, transfers and conversions
One of the greatest advantages of ISACs over SACs, which will make ISACs very attractive to businesses interested in the aggregation of entities, such as insurance runoff acquirers, is their versatility when it comes to corporate reorganisation, transfer and conversion.
The ISAC Act provides a statutory procedure for the transfer of an ISA to another ISAC, the conversion of a company limited by shares into an ISA or an ISAC, the amalgamation or merger of two or more ISAs of the same ISAC and the registration of an ISA as a company limited by shares. None of the foregoing procedures is available to SACs.
3.5 Restructuring and liquidation
The ISAC Act offers the best of both worlds, in terms of the law relating to companies and the law relating to SAs, when it comes to restructuring and liquidation processes that apply to ISAs in the event of insolvency or distress.
A substantial superiority of an ISA over an SA is that an ISA may be wound up in broadly the same way that a company may be wound up under the Companies Act 1981 (the Companies Act), providing a creditor with more options in the event of insolvency.
While an ISA may be wound up by the court (compulsorily) or voluntarily pursuant to the provisions of its byelaws, or may be subject to a receivership order, the only process available to a creditor of an SA that is "not solvent" is to appoint a receiver. While receiverships give creditors a lot of control, in that they displace the authority of the Board of Directors of the SAC in respect of the SA and allow the receiver authority to run off or liquidate the affairs and/or property linked to the SA, they do not engage the type of statutory provisions that apply in a winding up relating to the reversal of fraudulent preferences and preferential floating charges, for example, and the powers of a receiver are not as wide as those of a liquidator.
A trade-off to some in using an ISAC structure may be that the winding up priorities prescribed in the Companies Act (and any other applicable statutes) will apply to an ISA, whereas the winding up priorities contractually agreed in an SA's governing instrument will apply to the SA.
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The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. Kennedys operates in Bermuda in association with Kennedys Chudleigh Ltd.