Hong Kong’s New Limited Partnership Fund (“LPF”) Law
Author: Dominik Stuiber
An introduction to Hong Kong’s New Limited Partnership Fund (“LPF”) Law for Private Equity and Venture Capital
Hong Kong is currently the second largest private equity (“PE”) centre in Asia after Mainland China. It offers equity financing to predominantly private companies across Asia for local and regional start-ups in Australia, Singapore, India, Korea, Japan, South East Asia and Mainland China. Most of the PE capital that is advised from Hong Kong is sourced from funds domiciled in Delaware, the Cayman Islands, Luxembourg, Jersey and Mainland China. The new LPF looks to address this by providing a more attractive environment for PE funds to domicile in Hong Kong. Hong Kong is well-placed to become a fund domicile for PE funds that have a primary investment focus within Asia. Hong Kong is centrally located within the region and neighbouring Mainland China, the largest Asian PE investment destination in Asia. Hong Kong has the largest single concentration of fund managers and advisers of any Asian city and a deep pool of professional service providers. Being able to consolidate the domicile of the PE fund vehicle and fund manager provides operational efficiency. China’s outbound PE investment capital is growing rapidly with many leading mainland investors developing offshore operations. At the same time the financial market liberalisation in Mainland China is deepening. The Hong Kong stock exchange provides an attractive exit option for PE investors. Hong Kong is the largest offshore Renminbi funding centre for companies to raise Renminbi capital. Hong Kong has a wider network of Double Tax Agreements than offshore fund jurisdictions which are under increasing scrutiny.
The Limited Partnership Fund (“LPF”) Regime
The Limited Partnership Fund Ordinance (Cap. 637) establishes a new limited partnership fund regime to enable private funds to be registered in the form of limited partnerships in Hong Kong. The ordinance came into operation on 31 August 2020.
A LPF is a fund that is structured in the form of a limited partnership for the purpose of managing investments for the benefit of its investors. A fund qualifying for registration under the LPF regime must be constituted by one general partner (GP) who has unlimited liability in respect of the debts and liabilities of the fund, and at least one limited partner (LP) with limited liability.
The LPF regime is a registration scheme administered by the Companies Registry. A fund set up in the form of a limited partnership registered under the Limited Partnerships Ordinance (Cap. 37) may be registered as an LPF if it meets the eligibility requirements under the Ordinance.
In line with industry standards elsewhere, the LPF will have no separate legal personality. The partners in a LPF, have freedom of contract in respect of the operation of the fund. There is no minimum capital requirement and there is no restriction on the investment scope and strategy of the LPF.
The GP will have unlimited liability for all the debts and obligations of the LPF and has ultimate responsibility for the management and control of the LPF. A LP has the right to participate in the income and profits arising from the LPF only without any day-to-day management rights or control over the LPF’s assets. At the same time, a LP will not be liable for debts and obligations of the LPF beyond the amount of its agreed contributions.
The LPF can enjoy exemption from profits tax provided it meets the conditions of the existing funds exemption regime.
For a fund to be eligible to be registered as a LPF, it must:
- be constituted by a limited partnership agreement;
- have one GP and at least one LP:
- a GP can be a natural person, a private Hong Kong company or an overseas company registered as a non-Hong Kong company. A non-Hong Kong limited partnership with or without legal personality is also eligible to be a GP; and
- the LP must be a natural person, a company, a partnership or other entity;
- not have all partners which are corporations in the same group of companies unless certain conditions are met;
- have a registered office in Hong Kong; and
- have an English name, a Chinese name or a name that includes both an English and a Chinese name. The name must include the words ‘Limited Partnership Fund’ or ‘LPF’ or ‘有限合伙基金’ if it has a Chinese name.
Funds registered under the LPF regime will be able to avail exemption from Hong Kong tax under the Unified Fund Exemption regime (“UFE”) in relation to profits from specified transactions.
Specified transactions refer to earnings resulting from dealing in securities, shares in private companies, futures contracts, foreign exchange contracts, deposits other than those made by way of a money-lending business, deposits made with a bank, certificates of deposit, exchange-traded commodities, foreign currencies, or OTC derivatives. The UFE became operative on 1 April 2019 under the Inland Revenue Ordinance. With that Hong Kong has a private equity fund exemption regime which allows funds to fully domicile onshore. Although the profits are tax exempt, compliance and accurate filings must still be adhered to and requires the understanding of the workings of the tax exemption regime by LPFs.
A further benefit of establishing funds with operations fully onshore in Hong Kong is that funds are able to meet substance requirements that overseas jurisdictions typically require in order to grant tax treaty benefits, such as on dividends and capital gains. Hong Kong’s growing list of comprehensive double tax treaties provides some of the lowest treaty rates with major jurisdictions.
Securities and Futures Commission (SFC) Licensing Requirements
A PE firm may be required to be licensed for one or more types of regulated activities depending on the types of business it conducts in Hong Kong.
For a PE fund constituted in the form of a limited partnership, including the new LPF regime, where the GP assumes ultimate responsibility for the management and control of the fund and in return receive management fees, carried interest or other remuneration, it is generally required for the GP to be licensed for ‘type 9’ regulated activity (Asset Management) if it conducts fund management business in Hong Kong. However, a GP would not need to be licensed if all of the asset management functions have been delegated to an appointed investment manager which is a licensed or registered entity to carry on such regulated activity. The LPF can be used as a fund that is managed from anywhere, not just in Hong Kong. Whether or not an entity or a person is required to hold the appropriate SFC license depends on whether that entity or person carries out regulated activities in Hong Kong, rather than the domicile of the LPF.
A type 9 Asset Management license would generally allow incidental activities otherwise regulated under a type 1 license, such as the offering of co-investment opportunities and the marketing activities of the fund to be carried out by the PE firm. Such an exemption would apply insofar as the activities form an integral part of the fundraising by the PE fund to secure capital to invest solely in its underlying assets.
While the term “securities” is given a wide definition in the SFO, investments in securities of private companies are expressly carved out. In applying this carve-out the SFC will consider the composition of the entire investment portfolio including any Special Purpose Vehicle and its underlying assets.
With the LPF regime, Hong Kong follows Singapore’s Variable Capital Company (“VCC”) regime capturing the trend of fund onshoring.