These coasts are clear

Given how many countries are currently reviewing the tax status of private equity, offshore jurisdictions are poised to continue their substantial role in the industry. Here's a review of the states of tax law in some of the more popular offshore destinations for the asset class.

To the general public, ?tax haven? conjures images of the tropical locales and unsavory characters with their shady dealings and suitcases of cash. Yet all that noir glamour doesn't quite jibe with the reality of many of today's offshore jurisdictions that feature an army of sophisticated legal and financial professionals employing structures that grant transparency and rigor to the process of domiciling funds in these geographies.

However, the refuge of any jurisdiction is dependent on its current tax treaties, and those are prone to be renegotiated time and time again. What follows is an update on the more popular destinations for firms to domicile their funds and base their acquisition vehicles, with an eye towards changes expected, or already underway. As the industry stretches further around the globe, so too, do the offshore options, and new havens may emerge as close as Ireland and as far as Cyprus.

Cayman Islands
Steady as can be
Today's Cayman Islands stand as one of the most stable offshore destinations for US private equity firms. Jeffrey Samuels, a partner and co-chair of the tax department of the law firm Paul, Weiss, Rifkind, Wharton & Garrison, explains: ?Cayman offers tremendous flexibility for us to structure funds as we need to, in a remarkably reliable environment,? he says. However, as recently as last year, some concerns about domiciling funds there emerged when the US Congress held hearings into the use of offshore jurisdictions, though no concrete legislation followed. ?There continues to be some trepidation about offshore destinations among investors and legislators, but with regards to the Cayman Islands, it's nowhere near the levels it was in '06,? says David Moldenhauer, a partner at law firm Clifford Chance.

Several attorneys find that the island's popularity among US firms stems from a combination of its geographic proximity, with its minimal time zone difference, and the fact that local support services already have a wealth of experience with alternative assets. ?It becomes a self-perpetuating trend. The more funds domiciled here, the more confidence new firms will have to bring their business here,? explains Ian Ashman, a partner and the head of the private equity funds group in the Cayman office of the law firm Walkers. Samuels said his firm has used Cayman Islands for their China deals since well before 2001, and Ashman reports the islands have long been popular for US funds dedicated to Asia, although for these vehicles, the islands face some competition.

Hong Kong & Singapore
Close enough for comfort
Moldenhauer notes that as more firms are opening local offices in Asia, some may prefer closer offshore options such as Singapore or Hong Kong. ?There's an exempt-funds regime in Singapore and we've see some intermediate vehicles using this lightly regulated regime. Of course the fund needs to secure authorization from local regulators and abstain from making investments in Singapore,? he says.

Moldenhauer also cites a Hong Kong offshore funds regime that offers tax exemption so long as the fund is managed by an entity licensed or registered under the Securities and Futures Ordinance and limits activities inside Hong Kong to certain qualified investment activities. The regime's designed for funds organized outside of the jurisdiction, but with managers based in Hong Kong.

A great place to stay
From South Korea to the US, politicians are decrying the practice of ?offshoring.? They frequently cite the favorable tax treatment of funds domiciled in such jurisdictions, where they have little more than a than a ?brass plate? denoting their presence. Luxembourg offers an easy place to establish offices and conduct business on a regular basis, thereby showing evidence of actual residence in the territory. ?You can hold meetings there, as opposed to the more exotic places you might use,? explains Richard Bronstein, the other co-head of the tax department at Paul Weiss. ?You don't necessarily need to have decision makers there, but offices and employees can go a long way towards meeting a requirement to have substance there.?

The German government has already introduced internal legislation that limits the availability of tax treaty benefits in cases where the foreign investor lacks sufficient substance in its home jurisdiction which oddly enough, was directed at intermediate Luxembourg companies. That said, the Grand Duchy remains popular with funds tapping investors in Germany, as Moldenhauer cites the better regulatory treatment of certain local investors like insurance groups and pension funds if they invest in a Luxembourg vehicle.

Germany is hardly alone in being sensitive on matters pertaining to ?presence? in offshore areas. The public fallout from Lone Star's acquisition of Korea Exchange Bank continues to be fierce. Samuels warns that unless a fund is truly resident in a given jurisdiction, for example as a US, UK or Dutch resident, it's not worth the risk of trying to treaty-shop. ?The advice we've gotten from lawyers in Korea is don't try anything because you'll only risk damaging your reputation,? he says. While Luxembourg may not be sufficient for Korean activity, lawyers tout its viability in Latin America and other parts of Asia. ?Luxembourg's terrific for certain Mexican activity and offers great intermediate vehicles to receive things ? you may need to some complexity to get money out without tax, but you can,? offers Samuels.

The Netherlands
Dutch Coop earns fans
?Without a doubt, the flavor of the week is the Dutch Coop,? says Bronstein. The structure, known as the Dutch Cooperative Association, continues to gain traction among private equity professionals. The structure is similar to a standard private Dutch company, but enjoys an exemption from the Dutch dividend withholding tax allowing for tax free dividend payments in certain cases. ?It's an incredibly simplified structure that offers genuine tax benefits without the multiple layers required of the alternatives,? says Samuels. The Coop is only the latest salvo in the ongoing competition between the Netherlands and Luxembourg to be the EU jurisdiction of choice for investment fund formation. The Netherlands is also proposing to end its capital gains tax, to match Luxembourg's lack of one, though at the moment, lawyers admit the tax in the Netherlands can be avoided with some structural additions to a fund.

The Channel Islands
Friendlier by the day
The islands of Jersey and Guernsey are favored for European, especially UK, private equity firms. Jersey recently revised their laws to offer even greater flexibility for incoming funds. Jersey Finance recently announced the launch of an Unregulated Funds Regime that will no longer require regulatory approval for establishing a fund in the jurisdiction, among other features designed to attract alternative asset vehicles. The regime is set for introduction in early 2008, and will include an Unregulated Eligible Investor Category (UEIC) and an Unregulated Exchange Traded Category (UETC). Funds in either category will not need the approval or authorization of the island's financial regulator, the Jersey Financial Services Commission (JFSC).

Key features of those funds in the UEIC category includes: a minimum investment criteria of $1 million or the need for be a sophisticated investor; applies to both open and closed ended funds and can be structured using companies, unit trusts and limited partnerships; no requirement for a Jersey domiciled administrator, directors or custodians; no audit requirement; open-ended vehicles are permitted to list but only on certain exchanges that allow transfer restrictions.

Funds in the UETC category have a choice of structures using companies, unit trusts and limited partnerships, with no requirement for an audit or a Jersey domiciled administrator, directors or custodian. However, this category is for closed funds only, though it does offer a choice of exchanges on which a listing may be made.

Passage to India (for now)
China stands poised to strike down the tax benefits of its treaty with this island off the coast of Africa, but Mauritius still offers some upside for firms looking to enter India. ?Mauritius is the destination of choice in India, though the tax treaty isn't particularly beneficial, except that it exempts firms from the country's capital gains tax, which is rather stiff at this point,? explains Bronstein. While Mauritius may be the favored entry point for India at the moment, Bronstein and Samuels noted that the Dutch are negotiating a more substantial treaty with the country and Cyprus has a treaty at least the equivalent to Mauritius.

The best of the next
These offshore domiciles are ones to watch as they become ever more private equity-friendly.

While Cyprus is the preferred offshore jurisdiction for funds investing in Russia, the tiny island has its sights on broader horizons such as India. ?Cyprus offers the advantage of Luxembourg with total convenience and a real simplicity, though there's the question of political stability, and it is difficult to have Board meetings there,? says Bronstein. However, he does cite one client with a background of international diplomacy that assures him he's felt comfortable working there. It should be noted though that more than one attorney warned that its current lax requirements for an actual presence in Cyprus may not sit well in certain politically charged climates.

Ireland's benefits as an offshore destination may surprise some, but it offers sophisticated structures that rival Luxembourg and the Netherlands, with favorable tax provisions with the US, along with strong treaties with the Latin America. ?Ireland's a great place to hold certain kinds of assets from Mexico and Brazil,? says Samuels. Most unique to the isle is a particularly favorable tax treaty for offshore entities that hold royalty generating assets where the royalties are coming out of the US, making it the preferred destination for entertainment assets.