On 18 March 2016, the UCITS V Implementation Act entered into force. It introduces important innovations. It allows funds to issue loans (directly). The law formalises administrative practices on the part of the German Federal Financial Supervisory Authority (BaFin) that have existed since May 2015. The BaFin had already allowed funds regulated according to the Kapitalanlagegesetzbuch [Capital Investment Code] (KAGB) to issue loans.1 The issuing of credits by non-banks is a turning point in German supervisory law that has far-reaching consequences for the credit market.
Credit issuing options for German investment funds
According to §20 para. 9 sentence 1 KAGB, the issuing of credits is now covered by a capital management company’s [Kapitalverwaltungsge sellschaft] (KVG) authorisation for collective asset management. For the issuing of credits, additional KAGB provisions apply. As per § 20 para. 9 sentence 2 KAGB, changes that occur after the granting of loans – for example, the prolongation or restructuring of loans – are also permitted. This regulation allows funds to rearrange loans obtained from them. For these types of changes to loan conditions, no additional KAGB provisions apply. The KAGB is a lex specialis to the Kreditwesengesetz [Banking Act] (KWG); the issuing of loans by a capital management company in accordance with § 2 para. 1 no. 3b) KWG is excluded from the KWG’s scope of application.
Not all types of funds can profit from this new opportunity to issue and restructure loans. The respective fund type must allow loans as investment assets, and the capital management company’s organisational structure and authorisation must cover loans as investment assets.
1. Requirements for credit funds
Only closed-ended special AIFs are permitted according to § 285 para. 2 KAGB to hand out loans (that are not shareholder loans). The following restrictions apply: (i) Restriction of leverage at the level of the special AIFs, (ii) no issuing of loans to consumers, and (iii) no more than 20 % of the equity capital available to the fund after the deduction of costs may be issued to a single borrower. All other fund types – in particular, open-ended special AIFs - are permitted to only acquire existing loans, but nevertheless may restructure or prolongate them.
(Open-ended and closed-ended) special AIFs and closed-ended public AIFs are permitted – under certain further restrictions – to issue shareholder loans up to the level of 50% or 30% respectively of their investment capital.
In accordance with the product regulations of the KAGB, open- ended public AIFs may not issue any loans (including shareholder loans). Exceptions apply for real estate AIFs, which, under certain circumstances, are permitted to grant shareholder loans.
2. Requirements for a capital management company
A capital management company that manage credit funds must fulfil additional requirements: Thus, as per § 29 para. 5a sentence 1 KAGB, the capital management company must fulfil minimum requirements regarding risk management and, in accordance with § 14 KWG / § 34 para. 6 KAGB, must comply with procedures for large exposure credits intended for banks and financial service providers.
Options for foreign investment funds
The UCITS V Implementation Act also holds significance for foreign credit funds. It makes it easier for loans to be issued in Germany. Previously, authorisation was necessary in accordance with the KWG. The KWG was applicable to the issuing of credits by foreign companies if the latter specifically targeted the German market and issued loans to borrowers residing in Germany.
This has been changed. With the UCITS V Implementation Act, § 2 para. 1 no. 3 c) and d) KWG were newly incorporated into the KWG. These norms stipulate that a direct issue of loans by EU funds that are managed by EU management companies do not (any longer) trigger any authorisation requirement according to the KWG. Non-EU funds may issue loans in Germany only under additional preconditions (§ 2 para. 1 no. 3 c) and d) KWG). The precondition in this respect is the approval of the respective fund for distribution in Germany and that this approval is not restricted to distribution to professional investors as per § 330 KAGB. An approval for distribution to private investors is required, which is intensively reviewed by the BaFin.
This provision is intended to protect domestic borrowers, since the BaFin ensures comparable oversight by means of these distribution approvals.
This provision for foreign funds leads - currently – to advantages for foreign credit funds. This is because, if applicable, they are not subject to the restrictions described above and, without adhering to these restrictions, they can invoke the KWG’s exemption. To create a harmonised framework for loan funds, the European Securities and Markets Authority has, at the European level, published a statement dated 11 April 2016 regarding uniform European framework conditions for credit funds. These are essentially reflected by the German regulations. But until they are implemented at the national level and result in binding requirements, the higher flexibility of foreign loan funds will remain.
