BREAKING [CROSS] BORDERS: HOW INTERNATIONAL SPONSORS CAN TAP INTO US INVESTMENT MARKETS.

Why business owners doing cross border business should care about this stuff.

If you own a business and you are a non US person using a private investment fund to raise capital from US investors you have to overcome the perception of higher compliance risk that US investors and their compliance teams have of non US structures and opportunities.? As always we are not talking about cross border arrangements of multinational corporations. ? You will need two investment funds. A US investment fund for US investors and a non US investment fund for non US investors to invest in.? A non US Sponsor should not generally not be the fund manager of the US investment fund.? US investors, their advisors, trustees and compliance departments will see less compliance risk if there is a SEC regulated US Sponsor.

Why is it so difficult to find a US regulated Co Sponsor if you are a non US Sponsor raising less than US$150M?

A US regulated Sponsor is going to be a Registered Investment Advisor. Registered Investment Advisors can be registered with the State or they can be SEC registered. A foreign Private advisor can be SEC registered, but without a presence in the US, the cross border arrangements run the risk of becoming mired in inertia due to perceived higher compliance risk.

It is difficult to find a US SEC Registered Investment Advisor who will work with a Cross Border investment fund raising capital for a non US located project.? The US RIA Sponsor will have to do a lot of due diligence in line with their regulatory obligations.? Many US service providers are extremely busy raising capital for and advising clients in the USA.? Unless there is a pipeline of deal flow, it will look to the US Sponsor like a loot of extra risk and work for not much return.? The fund may only be raising US50M or less.? If that is the case then fees on serving as RIA to a fund with an initially low AUM and NAV is not exciting.

How Closed end vs Open end, Hybrid funds, relate to liquidity.

Closed end funds offer investors investment opportunities but money remains committed for a minimum term. No withdrawals in that term. A closed end fund might be used if s Sponsor is using the fund to build a business like an oil & gas field or a Fintech.? An Open Ended fund, allows investors to withdraw their capital from the fund.? At the time of withdraw the Sponsor has to calculate the Net Asset Value.? In the fundraising business a Fintech or oil & gas company would be classified as illiquid as compared to an investment fund that invested in a few thousand securities that are tradeable on securities markets.? A Hybrid fund is an Open Ended fund that has a range of terms for withdrawing. So there are some restrictions that have to be met before investors can withdraw capital.

Why you need to build real Trust with US investors?

Because it is cross border.? There is immediate apprehension.

The potential for fraud with Cross border Open or closed end Private Investment Funds.

Depending on which fund structure is chosen will trigger the perception of the risk of fraud.? But let us look at this in the context of cross border investment funds and Non US Sponsors. A closed end fund for cross border fundraising is good as it reduces the perception of fraud, as the need for NAV calculations are reduced. Liquidity however is reduced and US investors still perceive cross border investment funds as high compliance risk and more susceptible to fraud.? I spend a lot of time talking to US accredited investors in Miami Beach and one recurring question I get is why should I invest outside the USA? Non US Sponsors have their work cut out for them.? Some points that influence the perception of fraud;

• Open or Closed end funds and the risk of calculating NAV
• If the fund has an illiquid investment like an OpCo that is an active business - may be difficult to value..
• impossibility of setting a precise valuation for illiquid fund assets raises the risk of fraud
• Performance fees, management fees, and the desire to increase NAV
• valuation agents and methodologies, raising the cost of an audit

This takes us back to nonUS Sponsors seeing a US Sponsor and US based fund as necessary.? Many foreign private advisers or fund managers with SEC exemption operate in US, marketing to US accredited investors but? cross border custodying of wealth in a Swiss private bank, for jurisdictional diversification is a different rationale.

Hybrid Open ended funds and digital securities.

The emergence of regulated digital securities trading platforms may transform cross border private investment fund liquidity and reduce risk from point of view of US investors:

• Secondary market trading capabilities
• Enhanced transparency
• Improved price discovery
• Increased market efficiency

One of my clients who is a wealth manager explains to me that there are ten levels of price discovery if you are a retail stock market investors.? The introduction of private digital securities issued and able to be traded on regulated digital platforms could simplify the two fund cross border situation.

Currently, with Open ended funds, that are Private investment Funds, that have regulated fund managers. These funds are not publicly listed.? When the investor wants to exert it is the Fund that has to buy the shares back from the investor and return their capital pro rata.

When regulated digital secondary trading platforms come onstream, regulated private investment funds will be able to issue digital securities. Accredited investors will then be able to trade those digital securities using the secondary trading platform with other accredited investors who are registered with that platform.? This will make Open Ended or closed end funds much more liquid. These digital platforms and digital securities will therefore attract more capital to private securities markets.

The use of two investment funds drives International tax issues.

The use of two cross border investment funds to raise capital in US from US investors means from the start there is a host of international tax issues that need to be taken into account. In order to raise funds from US investors all profits earned outside the US don’t need to be subject to the full extent of US tax laws. THe international tax issues are therefore;

1?? Transfer pricing

2?? Income taxation of digital assets

3?? Withholding taxes

4?? Corporate taxation

Transfer pricing.

Transfer pricing has become increasingly critical in cross-border investment structures, particularly under US tax code section 482 and related regulations. These rules give the IRS broad authority to adjust pricing between related parties to prevent tax avoidance and ensure arm's length transactions.

Key aspects of transfer pricing in cross-border investment structures:

1. Intellectual Property Valuation
2. Related party transactions between cross border funds will include

Two cross border investment funds are often going to be related parties. US transfer pricing is thus possibly impacting the way the arrangements are run.

Quite often cross border fintechs are bought by banks they have partnered and worked with in fairly sizeable transactions. If the investment fund owns a Fintech business then there will be IP located outside the US.? If however there are significant US investors and owners, the US tax code has strong attribution and transfer pricing rules that could attract taxation of the profits and value created to the USA jurisdiction.?

The use of a US blocker, and US investors brings US tax law into effect. THe two funds need to be structured so that the tax implications of US tax law are tax neutral upon the investment or business underlying the non US? investment fund.

The interplay between US tax regulations, international tax considerations, and cross border business objectives requires careful balancing.

Income taxation of digital assets

The emergence of digital assets has added new complexity to international tax planning:

1. Digital Asset Situs impacts tax law in a number of areas including;

Sourcing rules are particularly important when it comes to US tax law. In a cross border investment fund that has digital assets that are actually US situs, the income generated from staking, staking or using those assets as collateral may be subject to US taxation.

If the investment fund is utilizing digital assets, for example using restaked assets as collateral, and the situs of the digital assets is not properly established outside the US. Profits from income generated by digital assets should remain subject to taxation outside the US likely in a low tax jurisdiction selected by the Sponsor.

In conclusion.

So do your research ahead of time and depending on the nature of the cross border investment fund, make sure you do your diligence, find your US co-sponsor and negotiate your deal structure well ahead of time.