There are seemingly an infinite number of ways for a hedge fund to be structured. Both hedge fund managers and their hedge fund service providers have devised many innovative structures in order to meet the specific regulatory and tax needs of the manager. This article will detail some of the most common hedge fund structures.
Domestic Hedge Fund
The domestic hedge fund is a very basic structure. The fund is typically organized as a limited liability company or a limited partnership (so that it will not be taxed as a corporation subject to double taxation) with a management company (typically structured as a limited liability company). In the domestic hedge fund structure the management company may need to be registered as an investment advisor in the manager's home state.
Offshore Hedge Fund
The offshore hedge fund is a mysterious sounding vehicle, but it is quite common. It is typically structured as an offshore business company. These business companies are basically like a domestic corporation with directors and shareholders. The offshore hedge fund will enter into a management contract with a management company which may be U.S. based or non-U.S. based. The management company will oversee the investing activities of the fund and will be subject to the supervision of the fund's directors.
Offshore Master-Feeder Structure
The offshore master-feeder structure is a more intricate structure. It is designed for many reasons, mostly to allow non-U.S. investors to have access to an investment strategy without subjecting those investors to (most) U.S. taxes. The structure is composed of three entities - two feeder hedge funds (one U.S. based and one offshore based) and one master fund (offshore based). Like the regular offshore fund described above, the master-feeder is managed by one manager. Sometimes, based on a manager's situation, there will be more than one management company. There are many variations within this structure.
Side by Side Offshore Hedge Fund
The side by side offshore hedge fund structure is a combination of the domestic hedge fund and the offshore hedge fund. In essence a single management company runs two distinct funds, the offshore and the domestic, in exactly the same manner. This is not always the best structure if the manager does a lot of trading because the trade tickets will need to be split which can creates additional back office work for the manager.
Deciding Upon a Structure
Whether one of the above, or a different, structure is best for a certain hedge fund manager will depend on a manager's specific situation. The items which will influence the structure are generally the investment strategy, the tax needs of the anticipated investors, and the amount of money the manager has allocated to hedge fund formation. An experienced hedge fund attorney will be able to help a manager think through these issues and develop a plan for starting the fund.
Conclusion
The structures above are the most common hedge fund structures. There are other structures as well (such as a Delaware series LLC and an offshore segregated portfolio company), but these four have been used most extensively.
Mr. Mallon is a hedge fund attorney with a practice devoted to hedge fund start up managers.
Tags: infinite number, limited liability company, business companies, hedge funds, shareholders, management company, investment strategy, limited partnership, business company, feeder, offshore business