This note is aimed at presenting certain significant changes recently intervened in the Italian regulatory framework, that are intended to have a deep impact on the credit market, also as regards foreign operators. As detailed below, the new rules have eliminated the legal and interpretative uncertainties previously existing with respect to alternative investment funds’ direct lending activities in Italy and have definitely clarified the possibility, for funds, to proceed to these activities. The said changes will allow the Credit Funds, as defined below, to act within a clear regulatory framework.
They could also imply that Credit Funds are destined to play an increasingly significant role in the national industrial context, both by virtue of the overall favorable climate for the disintermediation of bank credit1 or thanks to the importance of small and medium enterprises in our economy, for which the offering of other debt instruments may still result overly sophisticated and expensive.
Legal and regulatory framework
During the last years, the Italian legislator has issued different legislative measures2 aiming at favoring the recourse to alternative sources of financing different from those of the banking channel, through an extension of the subjects entitled to grant direct lending, which are also to include, inter alia, - and within certain limits - undertakings for collective investments (UCIs).
As a consequence, a change of the definition of UCIs has occurred, in order to comprise also those undertakings investing in credits, by specifying that such type of investment, made by the said entities, may correspond not only to the purchase on the secondary market of credits already granted by third parties - already possible for Italian funds - but also to the direct granting of loans out of the UCIs' assets (i.e. direct lending) (the so called Credit Funds)3.
More recently, Law Decree No. 18/2016 (the Decree) has introduced a new Chapter II-quinquies, entitled Credit UCIs, in Part II, Title III of Legislative Decree No. 58/1998 (CLF), comprising artt. from 46-bis to 46-quater4, thus explaining and eliminating some interpretative uncertainties that characterized the firstly introduced pieces of legislation.
The Decree, in particular, has definitely clarified the possibility, for Italian Credit Funds, to invest in credits out of their assets and has extended such faculty also to European Credit Funds (EU AIFs), attributing to the secondary legislation of the Bank of Italy the detailing of some aspects, such as the description of the authorization procedure to be followed by the latter in order to operate in Italy.
As regards the latter point, in July, the Bank of Italy started a consultation process (the Consultation) with reference to the amendments to be made to the Bank of Italy regulation dated 19 January 2015 on collective asset management (BoI Regulation) in order to implement, inter alia, art. 46-ter of the CLF, as said, introduced by the Decree and relating to the possibility for EU AIFs to directly grant credit in Italy5.
Please note that the Consultation ended in September and that on 23 December 2016 the related provision amending the BoI Regulation has been issued. The publication of the Consultation's comments and results followed on 29 December 2016.
Main characteristics of credit funds
Notwithstanding the relative novelty of the provisions and the absence of unequivocal interpretations of certain aspects, which it is reasonable to expect only after a concrete and widespread application of the discipline by the operators of the sector, it is possible to outline the following main characteristics which the Credit Funds shall present in order to be entitled to grant credits.
With reference to the structural aspects:
- For Italian Credit Funds, art. 10, para. 1, of the Decree of the Ministry of Economy and Finance No. 30/2015 (MD 30) states that they shall be established as closed-ended funds every time that the credits investments of the same, also granted out of their assets, are higher than 20%6
- For EU AIFs, para. 1, lett. b) of art. 46-ter of the CLF lists also the closed-ended form amongst the conditions to be fulfilled in order to be entitled to grant credits in Italy
The provision of the closed-ended form requisite shall be linked not only to the traditional connotation of credits as illiquid assets, which is the reason why investments in such assets would not to be compatible with the peculiarities of an open-ended structure, but also to the wish to avoid that the firms' financing channel represented by Credit Funds may be in some way affected by variations, if any, of the investors' confidence degree.
As happens in relation to the other types of funds, the restrictions imposed by the mandatory adoption of the closed-ended form may be partially overcame through the provision, where envisaged by the fund's rules or by-laws, of early units' reimbursement mechanisms in accordance with art. 11 of MD 30, which allows the manager to reimburse units or shares proportionally to all the participants. In this way, the sums deriving from the repayment of the financings could be returned to the participants, without having to wait for the expiration of the fund.
Categories of Investors
For Italian Credit Funds, under the national legislation, no provisions are set forth pursuant to which the marketing of Credit Funds shall exclusively address professional investors, thus admitting that the same may be placed also to retail investors.
The establishment of an Italian Credit Fund, being it reserved or not, implies, by the way, some consequences as regards the applicable regime. More precisely, without prejudice to the fact that in both cases:
- The loans granted may not have a duration which is longer than that of the fund
- Credit Funds may take loans only from banks, financial intermediaries ex art. 106 of the CLF or from other entities duly entitled to grant credit
- The restrictions, if any, may be in any case derogated for a maximum period of six months from the starting of the operations
The BoI Regulation states that:
- Retail Italian Credit Funds shall
- Invest in credits towards a single counterparty for an amount not exceeding the 10% of the assets of the fund
- Use financial derivatives instruments for hedging purposes only
- Assume financings within a maximum limit equal to the 30% of the fund's net aggregate value
- Reserved Italian Credit Funds shall
- Invest in credits towards a single counterparty for an amount not exceeding the 10%7 of the higher between the total assets of the fund and the value of the assets of the fund including the investors commitments
- Have a leverage value not exceeding 1,5
For the sake of completeness, it has to be noted that the BoI Regulation has been amended, for reserved Italian Credit Funds, by introducing a provision pursuant to which the leverage ratio shall be calculated in accordance with art. 8 of delegated regulation (EU) No. 231/2013 (i.e. with the commitment method).
The current legal framework, indeed partially incomplete as specifically regards the financing activities, establishes:
- The prohibition to grant loans in favor of subjects who might qualify as consumers8, as set forth by art. 46-bis and 46-ter of the CLF
- The application to the Credit Funds, Italian or European, in case of direct lending9, of some of the provisions of Title VI of the Consolidated Law on Banking as regards the transparency of the contractual conditions and the relationships with the clients. Art. 46-quater of the CLF, at this regard, almost entirely refers to the overall transparency provisions, except for those related the consumers' credit, payments services and the mandatory adherence to alternative dispute resolution mechanisms
- The obligation to participate to the "Centrale dei Rischi" regime. Such an obligation has been introduced for Italian Credit Funds by the Competitiveness Decree, by para. 1-bis of art. 8 of the CLF; for the EU AIFs the same has been proposed in the context of the Consultation10
Risk Management of Credit Funds
Unlike the provisions set out for insurance companies and for the securitizations vehicles disciplined under Law No. 130/1999 - which provides for an involvement, during the granting of loans process, of banks or financial intermediaries ex art. 106 of the CLF with the function of selecting the borrowers and with an obligation to retain an economic interest in the operation until its termination, at least equal to the 5% of the financing11 - the rules concerning Credit Funds do not impose any involvement of intermediaries specialized in granting credits, and this both in relation to the functioning of the Credit Fund and to the retention mechanisms.
Notwithstanding the possibility to have recourse to forms of outsourcing within the limits set forth by the relevant laws and regulations, the Credit Funds' managers will have to set up autonomous structures and organizational safeguards, dedicated to the selection of the borrowers and to the care of the other credit management process's phases.
At this regard, the BoI Regulation is limited to establishing, in general terms, an obligation for the Credit Funds' managers to define and apply an adequate credit risk management processes, at least regulated comprising the following items: (i) risk measuring and diversification (ii) investigation (iii) granting (iv) on-going monitoring (v) risk positions' classification and related criteria (vi) interventions in case of anomalies (vii) assessment and management of deteriorated positions (See Title V, Chapter III, Section I, para. 5 of BoI Regulation).
From this perspective, a strategic approach shall be adopted by the managers' board of directors, through the adoption of specific procedures, human resources with adequate skills, ad hoc risk management processes, etc., following an in-depth analysis of the relevant legal and operational issues.
As regards the authorization profiles, in case of managers exclusively entitled to manage defined types of UCIs (e.g. real estate AIFs), the BoI Regulation states that the same shall give prior notice to the Bank of Italy of their will to include Credit Funds among their managed UCIs.
Simultaneously, moreover, the same managers shall proceed to the amendment, where needed, of their internal safeguards, also in relation to the relevant procedures, resources and instruments available to the internal audit, risk management and compliance functions (See. Title II, Chapter I, Section VIII of the BoI Regulation)12.
Within 30 days from the receipt of the communication, the Bank of Italy, based on an assessment of the suitability of the risk management system, of the adopted organizational measures and of the potential impact on the financial stability of the involved UCI, might start an administrative ex-officio proceeding, to be concluded within 60 days. Otherwise, the manager is entitled to start the operations of the establishing Credit Fund after the aforesaid 30 days.
As regards EU AIFs, under the Decree, in addition to the above, the same are entitled to perform direct lending activities in Italy provided that:
- They are duly authorized by their home member state's supervisory authority to invest in credits, including those granted out of their assets13, in their home member state
- They have closed-ended form14 and a functioning mechanism, especially as regards the participation modalities, similar to that of the Italian Credit Funds investing in credits
- The EU AIF's home member state's provisions concerning risk containment and fractioning regimes, included leverage thresholds, are equivalent to the provisions set forth for Italian Credit Funds investing in credits. The equivalence with the Italian rules may be assessed also making exclusive reference to the statutory or regulatory provisions of the EU AIF, provided that the home member state's supervisory authority will ensure their effective application.
Whether the EU AIFs' managers are willing to grant financings in Italy, even out of such AIFs assets15, they shall give prior notice of such will to the Bank of Italy, which expresses its denial, if any, within 60 days from the sending of a communication with which the same Bank of Italy communicate to the requesting subject that it has verified the completeness of the documents and information attached to the prior notice submitted for each managed AIF (the Receipt Communication).
Managers are subject to art. 8, para 1 of the CLF16 concerning the reporting supervision of the Bank of Italy and Consob, within their respective powers. As regards EU AIFs, the reporting supervision provisions require the managers to submit to the Bank of Italy the fund management report within 10 days from its approval.
The procedure to be followed in order to grant credit, even as originator, in Italy, as anticipated, envisages a prior notice to which the following items shall be, inter alia, attached: supervisory statements (or copies of the relevant authorization provisions accompanied by certifications of the legal representatives) on the manager and on the fund, as well as on the documents which regulates the functioning of such subjects, declarations and legal opinions in relation to the compliance with the equivalence requisites (or, alternatively, an additional declaration by the supervisory authority on the point), the last annual report or the following semi-annual report, if already published, explicative notes on the functioning of the EU AIF, with reference to the subscription and redemption mechanisms, to the object and to the investment policy of the same, also specifying the conclusion - or the intention to conclude -, if any, of side letters with the EU AIF's investors, describing, in such case, the related contents17.
The documents' production, which had appeared to be quite burdensome during the Consultation, has then been streamlined by the BoI Regulation by establishing, inter alia, the possibility to replace the EU AIFs' home member states' supervisory authorities' statements with legal opinions or with declarations by the legal representatives of the same.
Moreover, a provision has been introduced after the Consultation, pursuant to which in case of establishment of new sub-funds of EU AIFs already authorized to invest in Italy, there will be no need to transmit again the information concerning the manager already submitted when the operations in Italy were initiated.
In case of amendments or changes to the information originally submitted the EU AIFs managers shall promptly inform the Bank of Italy, which shall confirm the receipt of the relevant communication (by means of another receipt communication). Within 30 days from such communication of receipt, the Bank of Italy may start an administrative proceeding in order to deny the performance, by the relevant EU AIF, of direct lending activities in Italy, to be concluded within 60 days.
As an additional remark, on the applicative front, it has to be noted that the Decree does not affect the cross-border marketing procedures applicable to EU AIFs. Nor has the Consultation changed such issue and, for this reason, coordination between the prerogatives respectively attributed to the Bank of Italy and to the Consob18 on the point seems to be necessary.
By way of example, the license required for the marketing in Italy of EU AIFs to retail investors, as set forth in art. 44, para. 5, of the CLF, which, due to the fact that it is not harmonized but still subject to the national authorization procedure, may potentially overlap with process introduced by the Consultation, given that the possibility to establish retail Credit Funds is not expressly excluded.
In case of professional investors, on the contrary, the usual passport regime shall apply, without prejudice to the fact that, in the case in which the EU AIF does not market in Italy, having collected funds exclusively abroad, its activities seem to fall only under the provisions of artt. 46-ter and 46-quater of the CLF.
Indirect taxation on the loan
Under art. 15 of the Presidential Decree 601/1973, loans executed in Italy can be, under certain conditions, subject to a substitute tax (the Substitute Tax) that covers and substitute the ordinary indirect taxation of the loan, that is mainly levied proportionally (depending on the security package) to the amount of the loan. The Substitute Tax covers also the execution, modification and redemption of the same loan, any related guarantee or security, subrogation, replacement, postponement, splitting or cancellation, including the assignment of receivables related to such loans, and the related agreements/formalities, guarantees such as mortgages, pledges or sale of credits connected to the loans. Also the subsequent replacements, subrogation and the assignments of receivables of the loan are covered by substitute tax.
The main conditions requested for the application of the Substitutive Tax are:
- The loan agreement must be granted by an Italian banks (or by an entity carrying on back activity pursuant to the Italian law including now also European AIF), by the Italian branch of foreign European bank or by an European foreign banks not having a permanent establishment in Italy
- The maturity/duration of the loan agreement must be higher than 18 months under the specific clauses provided therein
- The relevant loan agreement must be signed in Italy or executed therein
Exemption on interest payments
A specific exemption is provided19 on interest paid on loans granted to an Italian entity:
- Having a duration higher than 18 months
- Granted by certain institutional investors (among which European AIF) resident/established in a White-Listed Country20 and subject to surveillance activities therein, when the institutional investor can be considered the beneficial owner of the income
For further information please contact the authors.
1 At least since 2013, in Italy, a favorable climate has been noticed for the creation of "credit funds", capable of reducing the credit crunch; See PANETTA, "Il Credito e il Finanziamento alle Imprese", contribution to the conference "Reload banking. La Banca del domani per un nuovo sviluppo dell'Italia", Rome, 21 June 2013; See the contribution of SACCOMANNI at the Ministry of Economy and Finance, Treasury Department, Rome, 16 July 2013, "Credit crunch. Credit funds", published on the Ministry website: «Due to a possible significant reduction of the bank loans, the overall economy's credit needs shall be met by other actors, especially institutional investors, and through new forms of financial intermediation, of which an example are the credit funds, i.e. those funds that provide credit transforming risks, maturities, liquidity. The credit funds, which are relatively uncommon in Europe, intermediated about 80 percent of the credit granted to businesses and families in the United States. These are intermediaries whose operation falls within the shadow banking, the systemic risks of which, arising outside of the regulations' perimeter, are generally feared. In a time when bank credit faces a significant and prolonged crunch, by the way, the role of the shadow banking system could represent a support for the economic recovery. Such a transition will require balanced interventions on the perimeter and on the quality of regulation, which, however, shall not hinder the transition to a growing role of the non-banking intermediation in the economy; an example of this are the new provisions on transactions with "related parties", which regulate in a more transparent way the relationships between banks and privileged partners, which may potentially be, indeed, the credit funds»; See "Credit funds. Cercasi capitali" on "Italia Oggi", 7 April 2014. 2 A first development of the regulation on Credit Funds occurred with the issuance of Law Decree No. 91/2014 (converted into law 11 August 2014, No. 116, the "Competitiveness Decree"), and a subsequent evolution of the same occurred, in a fragmentarily, within the provisions of the regulatory measures issued in order to implement Directive 2011/61/EU - AIFMD - in Italy. 3 Similarly, art. 4, para. 1, let. e) of the Decree of the Ministry of Economy and Finance No. 30/2015 (implementing art. 39 of the CLF and replacing Ministerial Decree No. 228/1999), states that "the assets of an UCI may be invested in … credits and instruments representing credits, included credits granted out of the UCI assets". Moreover, please note that in the context of the hearings made during the analysis of draft law No. 1541, concerning the conversion into law of the Competitiveness Decree, an anticipation has been made, clarifying the possibility, under the same Competitiveness Decree, "to set up the so called credit funds, i.e. undertakings for collective investment entitled not only … to invest in credits granted by third parties, but also to directly grant credits, out of the available assets collected from the fund's investors". 4 Entitled as follows: art. 46-bis - "Direct Lending by Italian AIFs", art. 46-ter - "Direct Lending by EU AIFs in Italy" and art. 46-quater - "Other applicable provisions". 5 In the context of the answers contained in the report on the Consultation, moreover, the Bank of Italy - after specifying that, in any case, the interpretation of the legislative provisions does not fall under its prerogatives - has clarified that it appears consistent with a logic and systematic interpretation of art. 46-ter to make the objective scope of application of such provision coincide with the granting of loans activities set forth under art. 106 of the Consolidated Law on Banking. In this sense, for EU AIFs it would be possible, in addition to direct lending activities and provided that the relevant authorization has been obtained, to invest in credits through purchases of the same for consideration, already possible for Italian funds. 6 Art. 10 of MD 30, in particular, states that "The Italian AIFs whose assets are invested … in the assets mentioned by art. 4, para. 1, let. e) [i.e. credits and instruments representing credits, included credits granted out of the UCI assets] for an amount higher than 20% shall be established in a closed-ended form". 7 At this regard, the position of some authors shall be highlighted, pursuant to which, based on the purposes of the concentration limits, which are to "reduce the overall risk of the portfolio of investments made by an UCI and, consequently, the risk of the investment made by the subscriber", an increase of the said restrictions should have been envisaged in case of reserved Credit Funds, with the view to diversify the investment restrictions of Credit Fund based on the subscribers' nature; See "I fondi di credito", E. GUFFANTI and P. SANNA, on Le Società 7/2016, p. 860 ff. 8 At this regard, in lack of an ad hoc definition, reference may be made to art. 3, para. 1, of Legislative Decree 206/2005 (so called Consumer's Code), in accordance to which a consumer shall be considered "the natural person who is acting for purposes which are outside those related to his trade, business, craft or profession". 9 In particular, art. 46-quater of the CLF states that "to the credits granted in Italy by Italian and EU AIFs, out of their assets, the provisions on the transparency of the contractual conditions and of the relationships with customers set forth in Title VI, Chapters I and III [of the CLF], except for art. 128-bis, and the provisions on administrative sanctions set forth in Title VIII, Chapters V and VI [of the CLF] shall apply". The wording of such provision exclusively refer to direct lending and does not seem to include, in this sense, the case of investments in credits through the purchase of the same for consideration, which, even if included in the financing activities, does not constitute the "granting" of loans. 10 It has to be specified that neither the amendments to the BoI Regulation nor the answers given in the report on the Consultation provide indications at this regard, with the consequences that, as of today, the participation of EU AIFs to the "Centrale dei Rischi" regime seems to be excluded. 11 See art. 1, para. 1-ter of Law No. 130/1999 and art. 38, para. 2 of Legislative Decree No. 209/2005, respectively for the securitization vehicles disciplined under Law No. 130/1999 and for insurance companies. 12 To this end, the manager shall present, inter alia, a new report on the organizational structure compliant with Annex IV.4.1 of the BoI Regulation. 13 With reference to such wording, it has to be highlighted that the distinction between AIFs acting on secondary markets investing in credits (or instruments representing credits) already existing and granted by third parties and AIFs investing in credits through direct lending activities (so called, Direct Lending Funds) becomes relevant. According to some authors, the provisions of the Decree, in light of the wording of the same (as regards, specifically, the titles of the articles), shall exclusively apply to Direct Lending Funds. Against such position, additional and different elements can be identified, such as (i) the lack of consistency between the text of the articles with the respective titles; (ii) the commented provision, which requires an authorization from "the home member state supervisory authority to invest in credits, including those granted out of the assets, in the home member state". According to "I fondi di credito" of E. GUFFANTI and P. SANNA, on Le Società 7/2016, p. 860 ff. "It is reasonable to assume that such condition (i.e. to be authorized to grant direct lending in the home member state) is required in order to allow the performance of the same activity also in Italy, whilst it will appear at least curious whether deemed to be necessary also for EU AIFs not willing to perform direct lending in our country". 14 At this regard, in particular, some authors have highlighted that the changes of the definition of open-ended fund, after the AIFMD, could have allowed a different regulatory option, but also that "the main reason upon which the choice of our legislator is based, presents a strategic connotation, attributable to the wish to avoid (as far as possible) the pro-cyclicality [in case of open-ended funds] of such new source of credit". See "I fondi di credito" of E. GUFFANTI and P. SANNA, on Le Società 7/2016, p. 860 ff. 15 See note No. 5 and No. 13. 16 For the sake of completeness, please note that the said provision is in turn object of a consultation procedure - and it has not been already redrafted - in the context of the implementation of MiFID II and of Regulation (EU) No. 909/2014 of the European Parliament and of the Council, of the 23 July 2014 on improving securities settlement in the European Union and on central securities depositories, and for the completion of the implementation in the national laws and regulations of the provisions of Regulation (EU) No. 648/2012 of the European Parliament and of the Council, of the 4 July 2012, on OTC derivatives, central counterparties and trade repositories as well as for the implementation of Directive No 98/26/EC of the European Parliament and of the Council, of the 19 May 1998, on settlement finality in payment and securities settlement systems, as modified by Regulation (EU) No. 648/2012 and No. 909/2014. 17 Pursuant to the answers given in the report on the Consultation, moreover, "the information concerning the side letters shall exclusively regard the possibility to reimburse the units in advance and/or, potential preferential treatments, if any, in favor to some investors (with an indication of the conditions upon which such treatments are granted)". 18 Art. 43 and 44 of the CLF. 19 Art. 26 Presidential Decree no. 600/1973. 20 All EU Member States are included in the White List.