Despite the growing popularity of segregated account companies in general and rent-a-captives in particular, there is currently no public legislation in Bermuda that specifically enables companies to structure legally segregated accounts. This situation is about to change.
The Bermuda International Business Association in conjunction with several of the island's law firms has drafted and submitted the proposed Segregated Account Companies Act 2000 to the Minister of Finance with the expectation that it will be debated in the House of Assembly in the 2000 summer session.
So far, companies have obtained segregation of accounts within a single corporate vehicle either through a private act or by the accounts' owners agreeing among themselves to segregate the various accounts contractually. However, some liquidation specialists are concerned that the present methods of segregating accounts may be ineffective in the event of the insolvency of one or more of the accounts.
As segregated account companies became more common in Bermuda (indeed, as of January 1999 there were 101 such companies incorporated by private act), public legislation was seen as increasingly necessary, not only to address the insolvency issue but also to make the process of achieving segregation quicker and simpler.
Definition of segregated accounts
A segregated account allows for the creation of so-called “protected cell vehicles” in which the liability of one account, or cell, cannot be satisfied from the assets credited to another account, so achieving a bankruptcy remote structure in respect of each other cell. The assets and liabilities credited to each account will effectively have a firewall around them, thus protecting that cell from every other account, therefore “segregating” the accounts as a matter of law.
The concept of legally segregated accounts initially grew out of the insurance industry, where Bermuda and many other jurisdictions have for many years segregated general insurance business from long-term business. However, proponents of the new act feel that this type of structure could have application in many other industries, such as mutual funds, shipping and mining.
Concerns with current private legislation
Some liquidation specialists are concerned that the current form of private legislation may not achieve the desired effect of full legal segregation in all circumstances, particularly in the event of the insolvency of one or more of the segregated accounts. This concern remains, as private legislation typically attempts to limit procedurally what a liquidator may or may not do in regard to segregated accounts in liquidation, and unfortunately such limiting provisions remain untested in Bermuda or any foreign court.
To mitigate the uncertainty of the courts' approach to a structure which is intended to displace the time-honoured equal or pari passu treatment of unsecured creditors, companies typically include provisions in their contractual documents relating to separate accounts, which strengthen the segregation in regard to other accounts. Such provisions either impose a “limited recourse” effect, or operate to abate creditors' rights, to the extent that the assets credited to a particular account are insufficient to satisfy all claims.
Although it is possible to avoid uncertainty with contractual drafting, it seems undesirable that segregated account structures which result from private legislation should require the addition of special contract provisions to achieve the intended result. The new act should remove the uncertainties referred to above, as it will be clear that the Bermuda legislature has considered the impact of such arrangements on third parties, and is satisfied as to the viability of the concept.
Rationale behind the proposed legislation
There are essentially five reasons for the drafting of the new act, which are to:
Currently, it is possible to segregate the assets and liabilities related to different ventures or transactions with the use of multiple individual limited liability vehicles. This is commonly done by ship and aircraft companies, for example. Segregating these assets within a single company provides substantial efficiencies in that one corporate administration structure can support multiple ventures.
Advantages of the act over traditional routes
Using the act has numerous advantages over incorporating by private act for creating legal division between accounts, for example:
Securing a private act can cost thousands of dollars. Registration under the Segregated Account Companies Act will reduce the cost to a few hundred dollars. It can take up to six months to secure a private act, particularly if the legislature is not in session, but only 30 days under the new act.
Some companies will, however, have such specialised requirements in their business plan that make a private act the only sensible method to use - for example, for certain types of insurance companies that are dealing in specific life products. Similarly, when tax deductibility of premiums and fronting arrangements are paramount, a company may choose not to segregate legally their accounts.
Money laundering regulations
Opponents of the new act have suggested that segregated accounts will facilitate money laundering. To address this concern, segregated account companies that register under the act, which are not otherwise regulated by the Proceeds of Crime (Money Laundering) Regulations 1998, will be designated a “regulated institution” for the purposes of the regulations.
Under the money laundering regulations, regulated institutions are under a higher duty to properly identify and vet the owners of each account. The directors of the segregated account company will be required to: appoint a compliance officer; establish procedures for identification of the parties for whom the segregated accounts are established; monitor transactions for suspicious activities; keep appropriate records, and provide the employees with appropriate training.
Key sections of the legislation
The act makes it clear that a segregated account is not itself a separate body corporate.
Existing private act companies operating segregated accounts can elect to register under the act, although there is no requirement to do so. Once these companies are registered, however, provisions of the act will take precedence over any unique provisions of the private act, but “special” private act rights and powers are allowed to continue if they do not conflict with the new act. There are transitional procedures in place to deal with the rights relating to existing contracts at the date of registration. In addition, all companies which operate segregated accounts by virtue of private act must notify the Registrar of Companies.
There is statutory identification of the relationship between a segregated account company and its clients. The act classifies transactions into two types: those that determine the relationship between different beneficial owners and between the beneficial owner and the company, and those transactions of a more commercial nature. The documents for these transactions (called governing instruments) must set out in writing sufficient particulars to enable assets and liabilities to be tracked, and, in the case of a governing instrument going to the beneficial ownership of a segregated account, should expressly provide that the transaction is governed by Bermuda law.
The act establishes a statutory trust over the assets of the accounts, which are held by the segregated account company exclusively for the benefit of the beneficial owners of that account. However, no other fiduciary responsibilities are imposed on the segregated account company itself. It is clear from the act that a segregated account company is not a trust but, rather, a business trust having corporate personality. As is the case in private acts, tracing is allowed where there is co-mingling of property.
Typically, segregated account companies issue shares which track the performance of a particular account. The act broadens the scope for issuance of securities and the making of distributions, so as to embrace the activities of a mutual fund or other financial structures.
Finally, there is a section within the act that is intended to be the equivalent of section 56 of the Bermuda Insurance Act 1978, which provides that an existing segregated account company may obtain a direction from the Minister of Finance modifying certain provisions of the act.
All of us who have been involved with this new legislation hope that it will serve to enhance Bermuda's reputation as a legitimate, business conscious, offshore financial services centre.