CFM Fund Structuring & Legal Frameworks 2 — Questions and Answers
Question 1: A fund manager wants to establish a vehicle where investors have limited liability but the fund can be treated as a partnership for U.S. tax purposes. Which structure best satisfies both requirements?
- C Corporation
- Limited Liability Company (LLC) electing partnership taxation (Correct answer)
- S Corporation
- Business Development Company (BDC)
Correct answer: Limited Liability Company (LLC) electing partnership taxation
An LLC electing pass-through partnership taxation provides limited liability to all members while avoiding entity-level taxation.
Question 2: Under the Investment Company Act of 1940, a fund relying on Section 3(c)(1) is limited to how many beneficial owners?
- 250
- 500
- 100 (Correct answer)
- 2,000
Correct answer: 100
Section 3(c)(1) exempts funds with no more than 100 beneficial owners from registering as investment companies.
Question 3: Which document in a limited partnership fund structure governs the rights and obligations of the general partner and limited partners?
- Subscription Agreement
- Private Placement Memorandum
- Limited Partnership Agreement (LPA) (Correct answer)
- Side Letter
Correct answer: Limited Partnership Agreement (LPA)
The LPA is the binding legal contract that sets out management authority, economics, distributions, and partner rights.
Question 4: A Cayman Islands exempted limited partnership (ELP) is commonly used for offshore funds primarily because:
- It is subject to Cayman Islands corporate income tax at 0% (Correct answer)
- It requires mandatory annual audits filed with a public registry
- It can elect to be treated as a U.S. corporation for IRS purposes
- It prohibits non-U.S. investors from participating
Correct answer: It is subject to Cayman Islands corporate income tax at 0%
Cayman ELPs benefit from a zero-tax environment, making them attractive for offshore fund structuring.
Question 5: What is the principal purpose of a 'master-feeder' fund structure?
- To allow retail investors to access hedge fund strategies directly
- To pool capital from multiple feeder funds into one investment vehicle for efficiency (Correct answer)
- To ensure each investor class files separate tax returns
- To segregate illiquid assets from liquid assets
Correct answer: To pool capital from multiple feeder funds into one investment vehicle for efficiency
Master-feeder structures aggregate capital from onshore and offshore feeder funds into a single master fund to achieve economies of scale.
Question 6: A fund's 'side pocket' mechanism is used to:
- Hold a reserve of cash for manager compensation
- Segregate illiquid or hard-to-value investments from the main portfolio (Correct answer)
- Pay regulatory filing fees separately from fund expenses
- Provide leveraged exposure to a single security
Correct answer: Segregate illiquid or hard-to-value investments from the main portfolio
Side pockets isolate illiquid investments so redemptions and subscriptions are based only on the liquid portfolio.
Question 7: Under U.S. securities law, Regulation D Rule 506(b) permits a private fund to sell securities to up to how many non-accredited but sophisticated investors?
- 0
- 35 (Correct answer)
- 100
- Unlimited
Correct answer: 35
Rule 506(b) allows sales to up to 35 non-accredited investors who meet a sophistication standard, alongside unlimited accredited investors.
CFM Fund Structuring & Legal Frameworks 2
A fund manager wants to establish a vehicle where investors have limited liability but the fund can be treated as a partnership for U.S. tax purposes.
Which structure best satisfies both requirements?