Family offices managing the affairs of high-networth families have become increasingly important to the financial services industry in Hong Kong and most other major financial centres. We have seen a recent surge in activities and developments around this topic in Hong Kong and elsewhere in Asia. This is not only due to the high levels of assets under management controlled by family offices, but also the existing capabilities and services the relevant financial centres offer.
A family office is typically a private company that operates an investment or wealth management business for one or more families. A family office that supports multiple families is referred to as a multi-family office. These family offices can provides a wide range of services including investment advice, tax and estate planning, risk management, succession planning and support, as well as lifestyle management and assistance with philanthropic endeavours and other special interests.
At the outset, a family office may be established with an inital focus on certain "core" assets such as real estate. Over time, the profits generated from these core activities are often reinvested into new and more varied opportunities including through private equity and venture capital platforms. At the same time, family offices are becoming more active in using their networks to make direct investments or to establish their own alternative investment vehicles. Some family offices, however, remain passive investors and only allocate funds to outside asset managers.
This article briefly summarises certain recent commercial developments and governmental and legislative initiatives before discussing the current regulatory regime applicable to family offices operating in Hong Kong.
The Hong Kong Advantage
The growth of family offices has been a global phenomenon but in Asia it has outpaced the rest of the world. Hong Kong possesses the main attributes to serve as an effective hub for family offices in Asia: its financial markets are mature and sophisticated; its close proximity and ties with Mainland China provides a gateway for investment activity into and out of the Mainland; and the strong professional services and abundant supply of skilled employees in Hong Kong provides a sound platform for the basic needs of a family office.
These advantages make Hong Kong a natural choice for family offices looking to establish a presence in the Asia-Pacific region. That said, other jurisdictions, recognising the value that family offices can bring to their economies, have become increasingly competitive in this space.
Recent Commercial Developments
RISE OF "NEW MONEY" FAMILY OFFICES
We have recently seen an increase in new money family offices and a related shift in behaviour, mentality, and risk appetite when compared to "old", more traditional sources of wealth. This, in part, has led to:
- More diversified and direct investments, e.g., private equity, venture capital and other alternative investments, instead of fixed income, listed equities, etc.;
- A greater focus on wealth growth instead of wealth preservation;
- Increased investment in sectors such as technology and cryptocurrency; and
- A focus on ESG (environmental, social, governance) issues and related sustainabil-ity and impact investments.
GROWTH OF CO-INVESTMENT
At the same time, there has been a marked increase of co-investment activities by and across family offices and their networks:
- Single family offices are collaborating more and sharing resources to generate more stable investment returns; and
- More formal "partnering" of families through a multi-family office platform.
This, in turn, is leading to increased regulatory oversight (see below for more details on the regulation of family offices in Hong Kong).
THE GREATER BAY AREA WEALTH MANAGEMENT CONNECT
In addition to various efforts to design and build a family office hub in Hong Kong, there is a parallel effort to tap more regional wealth management opportunities:
- The Greater Bay Area is one of the most affluent regions in China, boasting a combined GDP of US$1.6 trillion, greater than some G20 economies. It is noteworthy that 20% of China's high-net-worth families those with assets valued at RMB10 million or more reside there1;
- Earlier this year, the Hong Kong Monetary Authority, the People's Bank of China, and the Monetary Authority of Macao announced the launch of a cross-boundary wealth management connect pilot scheme in the Greater Bay Area to promote the development and cross-boundary sales of wealth management products through banks in the region; and
- This initiative, known as "Wealth Management Connect", should create more investment opportunities for family office operators in Hong Kong. It is understood that this pilot scheme will take an incremental approach so as to ensure a smooth launch. It will initially target retail investors (while applying an individual investment quota) and cover certain basic products; as the scheme matures, enhancements are likely to be made to the scheme both in terms of investment quota and the types of products it covers.
A Flurry of Initiatives
The Hong Kong government and business community promotes and supports the establishment of family offices, for example:
- InvestHK2, a government entity, provides a wide range of services, free of charge, to support the setting up of family offices, including planning, set-up, launch and expansion; and
- The Family Office Association Hong Kong, founded and launched on 18 November 2020 with the support of the Hong Kong government, aims to help bridge conversations and cooperation between the family office industry and government to foster the development of Hong Kong's family office industry. The Family Office Association Hong Kong made the following statement:
There has been robust growth in the family office industry in Hong Kong in recent years, fueled by increasing wealth and a rising population of ultra-wealthy families in the city. According to the World Ultra Wealth Report 20193, Hong Kong has by far the highest density of ultra-wealthy individuals at 1,364 for every million adults, higher than the international financial hubs such as Switzerland, Luxembourg, Singapore and the United States. The growing need for family office support around the management of financial affairs presents promising growth opportunities for family office operators in Hong Kong.
The Securities and Futures Commission (SFC) the key regulator of the securities industry and related financial products in Hong Kong recently clarified the licensing requirements for family offices, which should attract more family office operators given Hong Kong's vibrant capital market. While a single family office established to serve the genuine investment needs of a single family and not being run as a business may not be subject to the SFC's regulatory oversight, other family office operations may be subject to its licensing regime (see below for more details on the regulation of family offices in Hong Kong).
Recent updates to relevant legislation have also been designed to provides for a more market-friendly operating environment for investors and fund managers:
- The Inland Revenue (Profits Tax Exemption for Funds) (Amendment) Ordinance 2019 (Unified Fund Exemption)
- The Unified Fund Exemption regime provides a profits tax exemption on qualifying gains on the sale of securities for privately offered funds operating in Hong Kong irrespective of domicile, structure, size or purpose.
- Combined with the recently-enacted Limited Partnership Fund Ordinance 2020 (see below), the Unified Fund Exemption regime allows Hong Kong to capitalise on the global offshore-onshore shift and encourages family offices to set up in Hong Kong.
- The Limited Partnership Fund Ordinance 2020 (LPF Ordinance)
- The LPF Ordinance provides a new limited partnership fund regime to attract more private capital (including from family offices) and to facilitate and accelerate the development of the asset management industry in Hong Kong.
- The regime under the LPF Ordinance is comparable to other commonly used jurisdictions such as the Cayman Islands and Singapore, particularly as regards contractual freedom and allocation of liabilities, and it provides greater flexibility and legal certainty in Hong Kong (see our related legal update on this topic: "Hong Kong Increases Competitiveness with the Limited Partnership Fund Bill").
The asset management industry in Hong Kong is expecting some attractive tax concessions on carried interest to complement the Unified Fund Exemption and LPF Ordinance as part of the evolving regulatory landscape in Hong Kong and the continuing efforts to promote Hong Kong as a hub for regional asset management activities and an attractive platform for family offices.
Current Regulation of Family Offices in Hong Kong
Against the background of family offices becoming one of the fastest-growing types of investor in Asia, the SFC issued a circular in January 2020 (2020 Circular) to clarify its regulatory position, particularly as regards (i) general licensing requirements, (ii) single family offices and (iii) multi-family offices under the Securities and Futures Ordinance (SFO). The SFC then issued a series of FAQs in September 2020 (2020 FAQs) to provides more clarification on this topic.
Hong Kong has no specific licensing regime for family offices and it is noteworthy that the SFO does not seek to define what constitutes a "family office". Any licensing requirements would be determined by reference to the operations and activities undertaken by a family office but not by the nature of the recipient of those services (i.e., it is not relevant whether it is a member of family or not). In particular, the SFC confirmed in the 2020 FAQs that it will not seek to define what relationships of blood or of law will constitute "family".
Single Family Office vs Multi-family Office
As noted above, a family office that serves more than one high-net-worth family is commonly known as a multi-family office. We have noted below a few relevant points that flow from this distinction from a regulatory perspective.
SINGLE FAMILY OFFICE
Under the 2020 Circular, the SFC provided the following illustrative scenarios under which single family offices are not subject to licensing requirements:
- Where a trustee is appointed to hold assets on behalf of a family and the trustee operates as an internal unit to manage the trust assets;
- Where the family office is established as a separate legal entity wholly-owned by a trustee or a company that holds the assets of the family; or
- Where the family office provides asset management services solely to related entities and their own assets (and not their client's assets). Related entities are defined as its (i) wholly-owned subsidiaries, (ii) its holding company which holds all its issued shares or (iii) that holding company's other wholly-owned subsidiaries.
The 2020 FAQs clarified this further, setting out a bright-line test as to the necessary elements for a licensing obligation under the SFO to arise:
- The services the family office provides constitute one or more regulated activity as defined under the SFO;
- The family office is carrying on a business in the provision of such services; and
- The business is carried on in Hong Kong.
What amounts to "carrying on a business" will be determined by reference to the facts of each case, including whether (i) the person is performing an occupation or a duty which requires attention, (ii) the activity involves continuity, (iii) the activity is capable of making profit, and (iv) the activity was carried out for the purpose of making profit. That said, the SFC does not intend to regulate single family offices established to serve the genuine investment needs of members of a single family, and not to be run as a profit-making venture.
The bright-line test set out above applies equally to multi-family offices, which are more likely to be established and run as commercial ventures. The issue of whether the activities of a multi-family office amount to "carrying on a business" therefore seems to be more nuanced and require a fact-specific analysis. The SFC takes the view that the sharing of office premises or administrative infrastructure by two or more family offices would not trigger licensing obligations automatically. However, where two or more single family offices make arrangements for the sharing of human resources involved in investment-related matters, such as investment research or the actual investment process, this may be regarded as a multi-family office structure. In such circumstances, there is an increased likelihood that these activities would constitute "carrying on a business" and that the SFC's licensing requirements would apply.
Under the 2020 Circular, the SFC provided the following illustrative scenarios under which multi-family offices may be subject to licensing requirements:
- Where a multi-family office provides services to clients who are not related entities in the same ways as those for single family offices described above;
- Where a multi-family office is granted full discretionary investment authority; or
- Where a multi-family office is not granted full discretionary investment authority but provides securities investment advice and executes securities transactions.
Actions To Consider
The SFC's regulatory position on family offices appears to be underpinned by an analysis of the activities conducted by the family office and whether or not it has a business objective. As mentioned above, what amounts to "carrying on a business" is a question of facts and circumstances and will likely evolve as these platforms continue to grow and become more active in the securities and investment markets in Hong Kong. In the meantime, potential family office establishments should seek professional advice early on as to whether its activities will trigger SFC licensing requirements.