1. Background to ELTIF 2.0

The initial ELTIF Regulation entered into force on 19 May 2015 with the objective of boosting European long-term investments in the real economy, in line with the EU wider objective of smart, sustainable and inclusive growth. Albeit receiving a lot of attention, especially given the introduction of a marketing passport for “retail investors”, it became clear, over time, that the ELTIF regulation did not scale up as expected.

As per October 2021, only 57 ELTIFs had been launched with a mere EUR 2.4 billion raised and ELTIFs had for the largest part only been domiciled in four Member States (Luxembourg, France, Italy and Spain). This is extremely low compared to the total number of Luxembourg alternative investment funds that have been established since the inception of the initial ELTIF Regulation.

Further to the initial ELTIF Regulation’s review clause, the European Commission identified a number of shortcomings that have been addressed in ELTIF 2.0 to serve as an impetus for its use.

We have summarised the key changes introduced by the Regulation which will be relevant for Alternative Investment Fund Managers (AIFMs).

2. Broader Scope of Eligible Assets & Investments

ELTIF 2.0 significantly widens the scope of eligible investment assets.

In the first place, promoters may thus under ELTIF 2.0 pursue a global investment strategy, as the regulation allows (a majority of) eligible assets and investments to be located in third countries.

Another change widely applauded by the industry is that the definition of “real asset” is revised. The revised definition captures any asset that has intrinsic value due to their substance and properties. The purpose of this revision is to broaden the scope of the real asset investment strategies that ELTIF managers can pursue. Furthermore, ELTIF 2.0 abolishes the minimum investment threshold of EUR 10M and it is also no longer required that real assets are owned directly or via “indirect holding via qualifying portfolio undertakings”.

The scope of eligible assets for ELTIFs is, in addition, extended with certain securitised assets with a “STS-label” under Regulation (EU) 2017/2402 and green bonds that are issued by “qualifying portfolio undertakings” under the EU legislation on environmentally sustainable bonds.

Furthermore, the market  capitalisation threshold for listed “qualifying portfolio undertakings” has been raised from EUR 500 million to EUR 1.5 billion to provide ELTIFs with a better liquidity profile.

Lastly, the lowering of the eligible investment asset threshold from 70% of its capital down to 55% of its net asset value enables ELTIF managers to better manage the liquidity of ELTIFs and makes the ELTIF regulatory framework more appealing for both asset managers and investors.

3. More attractive for Professional Investors

To date, the ELTIF framework has been too rigid for AIFs that are only marketed to professional investors. ELTIF 2.0 has been made more attractive for professional investors by disapplying portfolio composition, diversification and concentration rules altogether for ELTIFs that are only marketed to professional investors.

The leverage limitation in the original regulation was 30% of the fund’s capital, whereas it has now been raised to 100% for ELTIFs marketed solely to professional investors. In addition, lending ELTIFs are under the revised version of the regulation also allowed to use leverage to finance loans.

Conflict of interest rules have also been softened. In particular, the ban on (minority) co-investments has been levied. ELTIF 2.0 now allows AIFMs managing ELTIFs and other funds to co-invest so long as any conflicts are identified and appropriately managed.

4. Lighter Retail Investor Requirements

In line with the retailisation trend, ELTIF 2.0 also contains a number of amendments that are very favourable for retail investors. Not only has the scope of eligible assets and investments been widened, but also the diversification, concentration and borrowing rules have been made more flexible for retail ELTIFs. Borrowing limits have been raised up to 50% of the ELTIF’s net asset value. The raising of the diversification requirement from, for example, 10% to 20% allows also for greater flexibility, as the previous requirement meant that an ELTIF had to hold, at least, seven equally sized investments alongside a liquidity pocket. This was challenging in practice.

Other welcome developments, particularly, concern the distribution of retail ELTIFs. The mandatory investment advice to be obtained prior to investing in an ELTIF has been abolished that, in practice, means that AIFMs directly marketing ELTIFs to retail investors do not need a “MiFID II top-up” anymore. In line with this, the 10% cap on a portfolio’s exposure to the ELTIF for retail investors with a total portfolio smaller than EUR 500,000, as well as the minimum entry ticket of EUR 10,000 have been abolished. Lastly, the alignment with the MiFID II requirements in terms of product governance and the suitability test also means that relationships between AIFMs and distributors in the ELTIF domain are expected to be smoother in the future.

5. ELTIF Master-Feeder & Fund-of-Funds

ELTIF 2.0 also introduces master-feeder structures and a flexible legal framework for fund-of-fund structures (FoF ELTIFs). FoF ELTIFs may now invest in target funds that are not restricted to only ELTIFs, EuSEFs or EuVECAs, which are rare occurrences in the market anyway, but also, under certain conditions, in other AIFs.

The FoF ELTIF changes are widely applauded in the industry and allow sponsors to grant retail investors indirect exposure to (a number of) funds that were previously only reserved to professionals or not available at all in the EU market. Unlike FoF ELTIFs, master-feeder structures are restricted to “master ELTIFs” only and are not expected to gain as much traction as FoF ELTIFs.

6. Open-ended ELTIFs

Under ELTIF 2.0, ELTIFs can only be structured as limited-duration funds and, therefore, they cannot be “true” evergreen funds. Despite this, ELTIFs can be structured as “de facto” open-ended funds. In this respect, ELTIF 2.0 has eased the “redemption regime” for ELTIFs. So far, investors were mandatorily locked-up until the end of the ELTIF ramp-up period. Under ELTIF 2.0, the lock-up may be decoupled from the ramp-up period. Furthermore, investors may under ELTIF 2.0 not request the winding down of an ELTIF anymore if their redemption requests have not been satisfied within one year. However, ELTIF 2.0 contains a provision in which ESMA is requested to develop regulatory technical standards that will specify ELTIF redemption policies in more detail, which causes uncertainty in the market.

For closed-ended ELTIFs, ELTIF 2.0 provides for a mechanism to allow investors to dispose of their shares in a ELTIF before the end of the fund’s life on a “matched” secondary market basis to promote the secondary trading of ELTIF units/shares. It is, however, not entirely clear how this mechanism will work in practice in a retail context, although potentially distributors could have a role to play in generating this sort of secondary market.

7. Application and Transitional Phase

ELTIF 2.0 will enter into force nine months after its publication in the Official Journal of the European Union. In addition, ELTIF 2.0 provides for a layered transitional regime.

Open-ended and closed-ended ELTIFs that are still being marketed are required to comply within five years after it has officially entered into force with ELTIF 2.0.

Closed-ended ELTIFs that do not raise additional capital are not required to comply with the ELTIF 2.0 amendments.

Finally, ELTIFs authorised before the date of application may, however, voluntarily chose to comply with ELTIF 2.0, provided that the relevant competent authority is notified thereof.

8. Outlook: Boost for Luxembourg as a Hub for Retail Private Funds?

Currently, more than 50% of all ELTIFs have been registered in Luxembourg. In the past years, the Luxembourg regulator, fund sponsors, as well as the Luxembourg fund industry have, therefore, already gained significant experience in setting up ELTIFs. Also, Luxembourg fund vehicles, in particular Part 2 UCIs (whether or not launched as ELTIFs), have in recent past experienced a significant interest, mainly from US managers, and already been widely tested in this context. Considering this and the new impetus reflected in the recent 30% increase of ELTIFs within once year since the announcement of the ELTIF 2.0 and the Luxembourg market share thereof, Luxembourg’s attractiveness as pan-European hub for retail alternative investment funds will undoubtedly be further strengthened.

For additional information, please see ELTIF 2.0. If you have any further questions, please contact your trusted Loyens & Loeff adviser.