John S. Lore, Esq. | Capital Fund Law Group, PC
One of the initial considerations when structuring a hedge fund is whether to form the fund domestically, offshore or both. If a fund sponsor expects to have only U.S. investors, a domestic entity is sufficient. However, if a sponsor anticipates offshore investors or U.S. tax-exempt investors (IRAs, pension plans, endowments, etc.) an appropriate offshore fund will be needed to shield such investors from U.S. tax liability.
Domestic Fund Structures
A domestic-only hedge fund structure is typically comprised of the following entities:
(i) A limited partnership to as the fund entity (although LLCs are becoming increasingly popular). The fund entity is formed in the state of Delaware.
(ii) An LLC to act as the investment manager and general partner (GP) of the fund (managing partner in the case of an LLC). The investment manager/GP entity is formed in the jurisdiction of the fund sponsor. In some cases, the general partner and the investment manager are formed as two separate entities, such as when multiple funds are contemplated.
Investors become limited partners of the fund and all the trading activity of the fund takes place within the fund entity. The management fees and performance compensation are paid to the investment manager/GP (see Hedge Fund Manager Compensation), which is owned by the fund sponsors.
Offshore Fund Structures
When properly structured, an offshore fund structure blocks offshore and tax-exempt U.S. investors from direct US tax liability. The most common offshore fund structures are: the master-feeder structure and the side-by-side structure. The most common offshore jurisdictions are the Cayman Islands and the British Virgin Islands (BVI).
A master feeder structure consists of a domestic feeder fund and an offshore fund (in a tax-free jurisdiction) that feed into a single offshore master fund, where all the trading activity of the fund takes place.
Parallel Fund Structure
A side-by-side structure has a U.S. fund and domestic fund that parallel each other in trading and have the same investment manager but maintain separate investment portfolios.
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Capital Fund Law Group is a boutique investment law firm focused on advising emerging and established investment funds on all aspects of formation and operation. We provide predictable flat-fee services for most of our engagements. Our legal team has extensive experience advising hedge funds, real estate funds and private equity funds throughout the United States in various structures and strategies. We also prepare debt and equity private placement offerings for companies in all major industry sectors.
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