Anti-Money Laundering Compliance Structure for VCC, Singapore

 The Variable Capital Company of Singapore (“VCC”) is an on-shore Singapore domiciled investment fund product set up under the eponymous Act. A VCC is required to comply with Anti-Money Laundering and Combating Financing of Terrorism (AML&CFT) regime of Singapore. The relevant regulatory provisions including the outsourcing structure to comply with AML&CFT requirements are provided in Monetary Authority of Singapore (the “MAS”) Notice VCC-01 dated 14 January 2021 (the “Notice”), the Guidelines to MAS Notice VCC-01 dated 4 December 2020 (the “Guidelines”) and Response to the Feedback Received for Proposed AML/CFT requirements for Variable Capital Companies dated 15 January 2020 issued by MAS (the “Feedback”) (all together the “VCC AML Regime”).

This post has been made specifically to bring out the differences between the regulatory provisions w.r.t AML&CFT for Cayman Islands domiciled funds vis-à-vis the VCCs. Since VCC is relatively new fund product, its outsourcing requirements are also generally thought to be the same as for Cayman Islands domiciled funds. However, the requirements to comply with the outsourcing of AML&CFT functions as per VCC AML Regime are unique and different from the similar obligations on Cayman Islands domiciled funds. Appreciation of such nuanced differences between Cayman Islands domiciled funds and Singapore domiciled VCC fund structure cannot be overemphasised to remain compliant with VCC AML Regime.

As per the Notice, though a VCC is allowed to outsource its AML&CFT function but it can do so only to an eligible financial institution (“EFI”). The list of EFIs is provided in Appendix 2 to the Notice and comprises institutions which are licensed or supervised by MAS. Generally, for a VCC the suitable EFI will be its fund manager which will be a holder of a capital markets services licence under the relevant regulatory provision of Singapore. It is pertinent to note that a VCC is not allowed to directly outsource its AML&CFT function to its fund administrator as part of the fund administration agreement which is the general practice for Cayman Islands domiciled funds.  

Further, it is mandatory for a VCC to execute a contract with its EFI to formalize the outsourcing arrangement for AML&CFT function. In addition, it is necessary that this contract must provide details of the AML&CFT policies and procedures that the EFI is expected to perform on the VCC’s behalf.  This contract can be a composite contract covering both fund management function and the AML&CFT function.  

This means that a VCC must have its own AML&CFT policy. A VCC cannot rely on the AML&CFT policy either of its fund manager or its fund administrator. It has been clarified by MAS in the Feedback that both the VCC and its fund manager must have separate and distinct AML&CFT policy though there can be similarities between the two. In case, a fund manager operates multiple VCCs, even then, each VCC must have its own separate AML&CFT policy.

The difference between the concept of ‘outsourcing’ and ‘reliance’ also distinguishes the VCC’s AML&CFT obligations from those of Cayman Islands domiciled funds. In case of reliance, an entity on whom reliance is placed would apply its own procedures to perform the function in question (and this is generally followed for Cayman Islands domiciled funds when a fund relies on the AML&CFT procedures of its fund administrator). In contrast, in case of outsourcing, the outsourced service provider would perform the function in accordance with the VCC’s AML&CFT policy as clearly highlighted in the Guidelines and the Feedback. However, there is no restriction for an EFI to further outsource a VCC’s AML&CFT function to the fund administrator by entering in a separate contract.

Due to the ubiquitous nature of Cayman Islands domiciled funds, the fund managers and their service providers are inclined to treat Cayman Islands’ AML&CFT process practices as global standard. But such an approach can have serious pitfalls specially when new on-shore investment fund products are on offer both in Singapore and Hong Kong. It is necessary to distinguish the regulatory provisions of each private fund product and accordingly define the business processes and contract requirements.

My experience in dealing with clients brought this into my sharp focus that both the fund managers and their advisors were not ready to accept the fact that VCC is mandated to outsource its AML&CFT function only to EFI and is required to comply with other provisions as highlighted above. Initially as part of our services and to ensure that our clients’ VCC remain compliant, we had to provide explanations and evidence to convince the fund managers and their advisors on the necessity to follow the approach as detailed above. Our efforts have started showing results and now fewer such questions get asked.  

Where There is a 'Will' There's a Contest

 It is a frequent question whether a Will is a robust tool to pass on the assets of the testator to the heirs.  Effectiveness of a Will, which comes into effect after the death of the testator, depends on testator’s situation. This note will analyse the factors that have an impact on the efficacy of a Will.

 A Will can be an effective succession planning tool when the testator very carefully chooses the time, the beneficiaries and asset to be distributed.  These critical issues if handled judiciously leaves no scope for ambiguity and thus ensures no need for another Will in the future. However, a Will’s effectiveness may be compromised when the testator makes multiple Wills at different points of time. Multiple Wills by a testator introduce an element of doubt about which Will, amongst many, is genuine and would take effect.  In such a situation, the possibility of challenge by a disgruntled heir is heightened because different Wills may have different beneficiaries, or same beneficiaries but with different inheritance provided in the Will. An heir who has either been left out or is disadvantaged gets sufficient incentive to challenge the Will on the grounds of genuineness, capacity, coercion, fraud etc. Any challenge introduces delay in the distribution of the assets and this may compel other heirs to agree on some compromise.

Further, a Will takes effect through a legal process leading to the issuance of a probate. Once a probate is issued by the court, it is not possible to challenge the Will and the assets are to devolve as per the probate. When the testator owns assets in a single jurisdiction (thus the probate process to be completed in a single jurisdiction) a Will again may prove to be useful.  However, when a person holds assets in multiple jurisdictions, in addition to take the probate in the primary residential jurisdiction of the testator, certain legal process (resealing of the probate) must be completed in each of the jurisdiction where the testator’s assets are situated. If the resealing is not done, then the distribution of assets situated in that jurisdiction can be challenged by any other heir left out from that asset.  The process of resealing can be lengthy as well as expensive as it depends on the law of each relevant jurisdiction where the assets are situated leading to delay in distribution of assets. So, the jurisdictional distribution of assets becomes a material factor in the effectiveness of a Will as a succession planning tool.

A Will can be used as a succession plan tool only for those assets which are held in the single name of the testator since as a legal owner he can pass on the assets as per his wish. In case, the assets are held in joint name with the right of survivorship, such an asset cannot be bequeathed by a Will. The reason is that such asset will anyway devolve on the surviving joint owner. 

When a testator desires to provide for the guardianship of a minor child after the demise of the testator, a Will can again be a good resource to safeguard the interests of the minor child.  The testator can ‘will’ a trusted person as the guardian to the minor child to ensure safe custody of the inheritance during the minority of the child and then to be bequeathed to the beneficiary on attaining adulthood. In case the testator does not appoint a guardian for the inheritance of the minor child, then court will get involved to appoint a guardian which may introduce uncertainties.

There are some situations when a Will is unlikely to be an effective succession plan. For example, when a testator has step-children from multiple marriages. In such circumstance, the possibility of dispute arising among the heirs is quite common and therefore likelihood of a challenge to the Will is high. This situation will be further exacerbated if the testator has made multiple Wills during his life time and / or holds assets in multiple jurisdictions. Further, a Will made when the testator suffers from severe illness might not serve the purpose. In such a situation, it becomes easy to challenge the validity of the Will on the basis of mental capacity (soundness of mind) of the testator and/ or coercion.   

As mentioned above, a Will requires certain legal process to be completed to get the probate and make it executable.  The issuance of a probate is a judicial process and, hence, open to public. This means that the contents of the Will will not remain private once the legal process is commenced. So, a Will is not suitable for those people who have an overriding objective to keep their succession plan private and do not want the heirs to go through the juridical process to get access to testator’s assets.

Investment Methods, Individual and Estate Planning

 Making financial investments by an individual requires careful consideration of the method used to make the investment. The method of investment is as important and critical as the selection of the investment itself. Though not much thought is given to the method of investment and all efforts go only towards the selection of the investment. A good investment selection can be rendered difficult to realise its benefits when the method of investment is not optimal.

The common methods of investment available to an individual investor (the “Investor”) are ‘in the name of the Investor’, ‘joint name of two or more Investors’, ‘a private investment company’ whose shares are held by the Investor (the “PIC”), a ‘trust’ whose settlor is the Investor and the beneficiaries the Investor and other persons.

To analyse which of the above method of investment is an optimal investment method, it is necessary to understand the expectation of an Investor either at the time of exit from the investment or to pass on the investment to heirs. In either case, the main factors would be to minimize capital gains tax, if any, (i.e. tax efficiency), immediate availability of the money realised from the sale of the investment; no or minimum cost to get back the money or the investment; and smooth transfer of the investment to heir in cases of the Investor’s demise.

Let us analyse the impact of each method of investment vis-à-vis main factors as a function of uncertainties of life.

If the Investor is alive at the time of exiting the investment except for the tax efficiency the other three factors may not be relevant. However, all the other main factors become relevant if the Investor is hit by uncertainties of life and is no more alive. In such a situation, neither the money will be immediately available nor will there be a smooth transfer of the investment to heir(s) till the inheritance process is completed which may take months to years. Further, the inheritance process itself may lead to substantial costs which may vary from 2% to 10% of the estate of the Investor depending on the domicile of the Investor and whether the investment holdings are multi-jurisdictional or not.

When the investment is held through a PIC and the Investor is alive at the time of exiting the investment the main factors may not be relevant including the tax efficiency since the PIC must have been set-up for tax efficiency. However, all the other main factors become relevant as in the case when investment is held in the name of the Investor if the Investor is subject to the uncertainties of life and is no more alive. Though at the first level i.e. the PIC there is no adverse impact since the investment continues to remain in the name of the PIC. However, the heir cannot be paid dividend by the PIC if the PIC exit the investment. The reason is that the shares of the PIC held in the name of the Investor are to be transmitted in the name of the heir(s). For the transmission to happen successfully the full succession related process has to be completed before the shares can be re-designated in the name of the heir(s). Consequently, there will be delay, cost and a succession process to be followed for the heir to get the money i.e. the similar adverse situation when the investment is held in the name of the Investor.

What is the situation when the investment is held through a trust? A trust is a contractual relationship with three distinct parties i.e. the settlor, the trustee and the beneficiaries. These three parties can be the same person or different persons. The critical difference for the trust is that the trust continues to remain in existence even if any of the three parties die and there is a predefined understanding to replace the trustee which ensures continuity of decision making for the trust. Assuming the Investor invests through a trust whose settlor is the Investor, trustee is a professional trustee company and the Investor is also a co-beneficiary with other persons (heir(s)). Let us analyse the impact on main factors if the Investor dies. On the death of the Investor, the investment will be continued to be held in the name of the trust. At the time of setting up the trust, the Investor would have chose a trust law and trust administration place to give it tax efficiency. Nothing changes on the demise of the Investor and the trust continues to have the tax efficiency. After the death of the Investor, if the trustee desires to sell a part of the investment and distribute it to the beneficiaries, the trustee can sell some investment and distribute the money to the beneficiaries within the normal timeline without incurring any additional costs. Finally, there is no need to follow any succession related process since the investment continues to remain in the name of the trust and the trustee will distribute the money to the beneficiaries as per the terms of the trust deed. Further, there is no adverse impact of having investments in multiple jurisdictions. In short, the trust method of investment is highly efficient on all the main factors.

The investment and its management through a trust is highly flexible and can be customised to meet specific needs and requirements of each Investor by use of revocable or irrevocable trust, discretionary or non-discretionary trust, having a provision for protector, having different categories of beneficiaries like primary and secondary etc. Certain trust structures can provide the added benefit of protection of the trust asset from creditors and bankruptcy proceedings which is not available for any other type of holding i.e. individual, joint holding or PIC.

How does the above methods of holding compare with the ownership in the joint name i.e. joint tenancy. The joint tenancy does eliminate some of the issues associated with ownership in individual name or through PIC but this also add some other complications. If all the joint owners die together then all the drawbacks associated with holding in an individual’s name will be encountered. Further, whenever the last joint holder of the investment dies, again all the drawbacks associated with holding in an individual’s name will resurface. The additional complication which is unique to this case is that the creditors of all the joint holders can make separate claims for whole of the investment. So, joint tenancy is at best a stop gap arrangement but not an effective solution.  

The above described scenarios are agnostic to the investment type i.e. financial assets or real estate or other valuables. Further, the uncertainty of life is not confined to the death but any situation which incapacitates the Investor’s decision-making abilities. The problem of delay and costs get exacerbated when the investments are held in multiple jurisdictions requiring separate succession process in each jurisdiction.