Investment Funds 2021 Comparisons

Last Updated February 09, 2021

Law and Practice

Authors



Machado Meyer Advogados has an investment funds practice that is vastly experienced in handling matters relating to all kinds of funds, such as private equity funds (FIPs), asset-backed securities investment funds (FIDCs), infrastructure private equity funds (FIP-IEs) and real estate investment funds (FIIs). The firm handles the structuring of the funds and fund formation, the offering of fund's quotas (public offerings and limited efforts public offerings) and the setting up of credit assignment frameworks under FIDC structures, as well as advising on funds governance and intricate regulatory matters. Machado Meyer's funds practice is enhanced by the expertise of the firm's partners and associates in other areas, and its impressive clientele includes banks, national and international funds, investment banks, hedge funds, fund managers and private equity funds.

The investment funds market in Brazil is very active and has become more sophisticated in the last decade, but it is still a developing market. With the recent historic decrease in interest rates from a peak of 14.25% in 2016 to the current threshold of 2%, investment alternatives other than those offering a fixed income have become more attractive to investors, including investment funds. In this regard, for the last couple of years, investors have shown special interest in funds as they may offer more attractive returns, more diversification and, in some cases, tax benefits, such as infrastructure investment funds (FIP-IE) and real estate funds (FII).

According to publicly available data published by the Brazilian Financial and Capital Markets Association (ANBIMA), the consolidated net equity of investments funds amounted to BRL5,969,406.87 billion as of 30 December 2020, representing an increase of 9.52% in the last 12 months.

Federal Law No 13,874 of 30 September 2019 (Law No 13,874/19) promoted material changes in the rules applicable to investment funds that had long been demanded by the industry. Before the enactment of said law, investment funds lacked a legal statute setting forth basic principles and rules to govern the whole industry and eliminate insecurity. In this regard, and with few exceptions (eg, real estate funds, which were regulated by a specific law), investment funds did not provide for a limitation of liability for investors or otherwise, as separate classes of shares tracked only certain assets of the fund portfolio. Such new rules now provide for the limitation of the liability of investors (up to the limit of the value of their quotas) and service providers (if such limitation is expressly provided for in the fund’s by-laws), the creation of different classes of quotas that may track specified assets of the portfolio, and the application of insolvency rules provided for legal entities in general (ie, investment funds are directly responsible for their legal and contractual obligations). Nevertheless, such improvements still need to be regulated and reflected in rulings still to be enacted by the Brazilian Securities Commission (CVM) in order to become effective. CVM recently submitted to public hearing a draft ruling to modernise the investment funds regulation, reflecting the legal innovations produced by Law No 13,874/19.

In view of the above and considering the booming market for investment funds in Brazil, the changes brought by Law No 13,874/19 represent an important milestone for the evolution of the fund industry in Brazil, with a view to reducing bureaucracy and costs and increasing security for investors, bringing the industry closer to practices adopted in other jurisdictions.

Investments funds in Brazil are regulated by CVM under federal laws No 6,385 of 7 December 1976 (Securities Law) and the Brazilian Civil Code. CVM is a governmental agency of the Ministry of Economy and is responsible, inter alia, for monitoring the investment fund industry and issuing regulations regarding the registration and operational requirements for such industry, the disclosure of information and the imposition of penalties. CVM Instruction No 555 of 17 December 2014 (CVM Instruction 555) contains general rules applicable to the formation, management, functioning and disclosure of information of investment funds.

Brazilian investment funds are organised as a condominium – ie, a pool of financial assets jointly owned by the holders of interests in the fund, called “quotas”, under the structure of a co-ownership. The funds can be organised in two ways:

  • as a closed-ended condominium – ie, no redemption of quotas is permitted until the end of the fund's term of duration or in the case of its early liquidation; or
  • as an open-ended condominium, whereby investors can require the redemption of their quotas during the fund's term of duration, subject to provisions of each fund’s by-laws. Alternative funds are generally set up as closed-ended condominiums.

Common alternative investment funds in Brazil, also known as structured funds, such as private equity funds, asset-backed securities funds and real estate funds, are also governed by other specific regulations issued by CVM, as described below.

Private Equity Funds (FIPs)

Regulated by CVM Instruction No 578, of 30 August 2016 (CVM Instruction 578), FIPs are organised in the form of a closed-ended condominium restricted to qualified and/or professional investors. FIPs are allowed to invest in shares, debentures, warrants and convertible debt securities issued by listed and unlisted companies operating in many segments. FIPs shall participate in the decision-making process of invested companies and have effective influence in the definition of their strategic polices and management, which may occur by the holding of a controlling stake in the invested company, by appointing members to the board of directors or by entering into shareholders’ agreement or any other agreement that assures the effective influence of the FIP in the strategic polices and management of the invested companies (Influence Test). FIPs are classified into the following categories.

  • Seed Capital FIPs are allowed to invest in companies with gross revenue of up to BRL16 million in the fiscal year prior to the fund’s investment;
  • Emerging Companies FIPs are allowed to invest in companies with gross revenue of up to BRL300 million in the fiscal year prior to the fund’s investment;
  • Infrastructure (FIP-IE) and Intensive Economic Production in Research, Development and Innovation (FIP-PD&I) FIPs are allowed to invest in corporations that develop new infrastructure or intensive economic production in research projects in the following sectors: energy, transportation, water and sanitation, irrigation and other priority areas as determined by the federal government. Brazilian regulation defines “new projects” as those implemented after 22 January 2007 and expansions of existing or implemented projects, or projects in the process of implementation, provided that the investments and results of the expansion are segregated by means of the formation of a specific purpose company. FIP-IE and FIP-PD&I shall have at least five quotaholders, each of whom may not hold more than 40% of the quotas issued by the fund nor have the right to earn income exceeding 40% of the total income of the fund; and
  • Multi-Strategy FIPs are the most common form used in the Brazilian market and may invest in different types and sizes of companies. The Multi-Strategy FIP targeted at professional investors may invest up to 100% of its subscribed capital in foreign assets.

Quotas of FIPs correspond to ideal fractions of the FIP’s net equity and confer equal rights and duties to its quotaholders. The FIP’s bylaws may create classes of quotas with different economic and financial rights exclusively relating to:

  • the administration and management fees owed to the administrator and the manager of the fund; and
  • the order of preference for the payment of income, amortisation or liquidation balance of the fund.

FIPs exclusively designed for professional investors or that have development entities as investors may confer different economic and financial rights to one or more classes of quotas, in addition to those indicated above. The FIP’s by-laws may also determine special political rights for one or more classes of quotas. However, with the enactment of Law No 13,874/19, which is still pending further regulation by CVM, different classes of quotas will be entitled to “track” specified assets of the portfolio of the FIP.

Asset-Backed Securities Funds (FIDCs)

Regulated by CVM Instruction No 356 of 17 December 2001 and CVM Instruction No 444 of 8 December 2006 (CVM Instruction 444, regarding non-standard asset-backed securities funds – FIDC-NP), FIDCs may be organised as open-ended or closed-ended condominiums and are also restricted to qualified investors (FIDC) and/or professional investors (FIDC-NP). FIDCs may invest in receivables such as credit rights and underlying instruments originating from transactions in the financial, commercial, industrial, real estate, mortgage, leasing and service segments. An FIDC-NP may also invest in receivables such as litigated claims, government bonds and overdue receivables. FIDCs may have different classes of quotas (senior and subordinated). Senior quotas have priority in the amortisation and redemption of quotas, while the other classes of quotas will be subordinated to the senior quotas for the amortisation and redemption of quotas.

Real Estate Funds (FIIs)

Regulated by CVM Instruction No 472 of 31 October 2008, FIIs are organised in the form of a closed-ended condominium and invest in real estate developments. FIIs may be targeted at general investors (retail) or at qualified or professional investors. The investments of the FII in real estate enterprises may comprise the following assets:

  • any in rem rights on real estate properties;
  • shares, debentures, warrants, its coupons, rights, subscription receipts and certificates of developments, certificates of deposit of securities, debentures notes, quotas issued by investment funds, promissory notes and any other securities, provided that the issuers have been registered by CVM and their main activities are permitted to FIIs;
  • shares or quotas issued by companies whose sole purpose qualifies as activities permitted to FIIs;
  • quotas issued by FIPs whose investment policy covers activities exclusively permitted to FIIs or stock investment funds that invest exclusively in civil construction or in the real estate market;
  • certificates of additional potential of construction (CEPACs) issued according to CVM Instruction No 401, of 29 December 2003;
  • quotas issued by other FIIs;
  • real estate receivables certificates and quotas issued by FIDCs whose investment policy covers the performance of activities exclusively permitted to FIIs, provided that such certificates and quotas have been subject to a public offering registered with CVM, or that the registration of which has been waived pursuant to applicable regulations;
  • mortgage bills;
  • real estate credit bonds; and
  • guaranteed real estate bills.

An FII may use its resources for the acquisition of rural or urban properties, both constructed and under construction, for commercial or residential purposes. The FII will obtain income from the lease, sale or rental of real estate properties, following such acquisition.

Quotas of FIIs may be divided into series, with the specific purpose of establishing different dates for the payment of the quotas by the holders of each series of quotas. Quotas of FIIs designed for qualified investors may be divided into different classes with respect to:

  • the priority order for the receipt of distributions or of the balance of the net assets of the fund in the case of liquidation; and/or
  • different criteria for the payment of administration and performance fees.

All Brazilian investment funds must be registered with CVM, regardless of whether their quotas are subject to a public or private offer, or if they are open-ended or closed-ended condominiums.

In order to set up alternative investment funds in Brazil, the administrator of the fund shall deliberate on and approve the formation of the fund and the fund’s by-laws (which is the main constitutive document of the fund). A minimum set of documents shall be filed with CVM for the registration of the fund, as follows:

  • the incorporation act and the fund’s by-laws;
  • a statement from the fund’s manager attesting that the by-laws comply with applicable laws;
  • a statement from the fund’s manager attesting the execution of certain contracts, distribution and custody agreements, quotas bookkeeping, portfolio management, etc;
  • the name of the independent accounting firm that will be responsible for auditing the financial statements of the fund;
  • the enrolment of the fund on the Federal Revenue Office taxpayer’s register;
  • information with respect to the number of quotas (minimum and maximum) to be distributed, and the price, costs and other relevant information and marketing documents, including a prospectus if applicable; and
  • an essential information sheet, in the case of an open-ended investment fund that is not distributed exclusively to qualified investors.

The registration of the fund will be granted automatically by CVM within up to five business days after the filing of the required documents with CVM for FIDCs, up to ten business days for FIPs and FIIs, or up to 20 business days for FIDC-NPs.

The placement of quotas requires intermediation by a company pertaining to the so-called Brazilian Securities Distribution System. In the case of closed-ended investment funds, such placement must also be registered with CVM, except in cases where a registration waiver applies or where the placement efforts target a limited number of investors (a Limited Offering, as described below).

Such registration shall be effected pursuant to the Securities Law and CVM Instruction No 400 of 29 December 2003 (CVM Instruction 400), which are the legal statutes that regulate public offerings in Brazil. Note that public offerings in Brazil follow the definition found in other jurisdictions – ie, a public offering takes place whenever it is directed to an undetermined group of people. The registration process with CVM may take from four to six months on average. In addition, public offerings are subject to several other requirements including (but not limited to):

  • the preparation and publication of offering announcements;
  • the payment of a supervisory fee to CVM;
  • adherence to conduct rules set forth in CVM Instruction 400 (such as silence period rules, full and proper disclosure); and
  • the preparation of a prospectus.

The placement of quotas of closed-ended investment funds may also occur under a limited effort public offering pursuant to CVM Instruction No 476, enacted on 16 January 2009 (CVM Instruction 476) (Limited Offerings). Limited Offerings are not subject to registration with CVM and shall be directed exclusively to professional investors. In addition, Limited Offerings shall observe the following rules:

  • a maximum of 75 professional investors may be assessed;
  • the quotas of the investment fund may only be effectively purchased by 50 different professional investors;
  • the quotas of the investment fund may only be subsequently traded to qualified investors after a lock-up period of 90 days has elapsed; and
  • no new Limited Offering by the same offeror may occur prior to the elapse of a four-month period, counted from the termination of the preceding Limited Offering (unless the subsequent offering is conducted as a registered offering).

As no registration with CVM is required for a Limited Offering, no registration fee is due to CVM, and no prospectus or publication of offering announcements is required.

Until the enactment of Law No 13,874/19, and given the legal nature of investment funds, quotaholders were liable for any negative equity of the fund, meaning they could be called to invest in the fund more than their original committed capital. There was an exception to such rule for FIIs, which were regulated by Law No 8,668/93, which limited the liability to the committed capital of each investor.

With the enactment of Law No 13,874/19, a new legal nature was set forth for investment funds, which are now considered as a condominium of a special nature, where liability is limited to the value of the quotas held by each investor, provided that such limitation is expressly provided in the fund’s by-laws. However, this limitation of liability is still subject to CVM regulation, which means that quotaholders will remain liable for any negative equity of the fund until CVM Instruction 555 and other CVM regulations are amended accordingly.

As mentioned above, CVM recently submitted to public hearing a draft ruling to reflect some of the legal innovations of Law No 13,874/19, including the segregation of fund assets by different classes of quotas, the application to investment funds of the bankruptcy rules applicable to legal entities, and the limitation of liability of quotaholders to the value of their quotas.

The draft ruling provides that the investment fund by-laws shall expressly define whether the quotaholders' liability is limited to the value of their quotas. The limitation of liability shall be applicable to all quotaholders, regardless of the class of their quotas, unless the fund has only one quotaholder, in which case the liability limitation is not applicable.

In line with protecting investors and limiting their liability with respect to the obligations of the investment fund, Law No 13,874/19 innovated by providing that a fund's by-laws may provide for a limitation of the liability of investors to the value of their quotas, thereby protecting investors from obligations that exceed their interest in the fund.

Until the amendment of CVM’s regulation is concluded and the liability limitation is included in funds' by-laws, quotaholders will be liable for the fund's obligations regarding facts that occurred prior to the amendment of the by-laws, pro rata to the value of their quotas.

Pursuant to CVM regulations, investment funds must disclose a variety of information to CVM, the market or the quotaholders.

Any disclosure of information to quotaholders must be comprehensive, equitable and simultaneous, and the following materials must be made available on electronic channels and on the website of the administrator, the distributor (while the distribution is in progress) and, if applicable, the managing entity of the organised market where the quotas are admitted for trading:

  • the updated fund by-laws;
  • an updated essential information sheet (lâmina), if any;
  • performance history;
  • the voting policy; and
  • a description of the applicable taxation.

This information and any marketing materials and other information provided to investors in public or Limited Offerings (including the prospectus) must be true, complete, consistent and not misleading, written in simple, clear, objective and concise language, and useful for investment evaluation. The information cannot guarantee or suggest the existence of a guarantee of future results or risk exemption for the investor. Factual information must be accompanied by an indication of sources and differentiated from interpretations, opinions, projections and estimates.

The administrator of the fund is responsible for disclosing the following:

  • the value per quota and the net worth of the open-ended funds (daily or at a frequency compatible with the liquidity of the fund);
  • a statement containing information on the fund and the quotaholder (monthly or other periodicity as provided in the fund’s bylaws) to each quotaholder, including the balance and value of the quotas at the beginning and the end of the period;
  • general information about the fund, including regarding the portfolio; and
  • the performance statement of the fund, pursuant to the requirement of CVM regulations.

The administrator shall also submit the following documents to CVM and, where applicable, to quotaholders and to the organised market where the quotas are admitted for trading:

  • a daily newsletter;
  • a monthly newsletter, referring to:
    1. the trial balance sheet;
    2. the statement of the portfolio composition and diversification;
    3. the monthly profile; and
    4. the essential information sheet, if applicable;
  • quarterly statements with information relating to the portfolio composition and diversification;
  • biannual statements with information relating to the portfolio composition and diversification;
  • the annual accounting statements accompanied by the independent auditor’s opinion; and
  • a standard form with basic information about the fund, whenever there is an amendment to the by-laws.

The administrator shall also immediately disclose to the quotaholders, CVM and the organised market where the quotas are admitted for trading any relevant act or fact that occurred or related to the functioning of the fund or the assets which are part of the portfolio, that might reasonably influence the value of the quotas or the decision of the investors to acquire, sell or keep such quotas.

The historical decrease of the domestic interest rate in the last few years, coupled with certain tax benefits for specific types of investors, has brought attention to alternative investments, especially private equity (including infrastructure funds – FIP-IEs), real estate and asset-backed securities funds (FIDC).

From experience, the following investors can be noted:

  • institutional investors, notably development banks, other financial institutions and pension funds;
  • foreign investors, including sovereign funds and private equity fund of funds, among others;
  • family offices;
  • high net worth individuals (qualified or professional investors), notably interested in FIP-IEs and FIIs due to the tax benefits such funds may offer to individuals, subject to certain requirements being met according to the applicable laws and regulations.

Please see 2.1.1 Fund Structures for the legal structures typically used by alternative fund managers in Brazil.

According to Brazilian law, investment funds shall generally have a fiduciary administrator (principal fund "gatekeeper") and an asset manager (responsible for the investment and divestment decisions, subject to the limitations set out in the fund’s by-laws), both duly authorised by CVM to provide securities portfolio management services.

The fiduciary administrator shall be a legal entity duly organised according to Brazilian law and can be formed as a corporation or a limited liability company. The asset manager can be either an individual or a legal entity. In addition, entities can be registered as “full administrators”, which means that they can act as both fiduciary administrator and asset manager, provided they comply with Chinese wall requirements.

CVM Instruction No 558 of 26 March 2015 (CVM Instruction 558) set forth the minimum criteria that the fiduciary administrator and the asset manager have to meet in order to be authorised to perform asset management activities by CVM, including that they have to be domiciled or have their headquarters in Brazil.

As for FIIs, the administrator (or the outsourced manager) must only be authorised by CVM to perform asset management activities if the FII invests more than 5% of its net worth in securities (as such term is defined by CVM). Otherwise, the FII may be administered by commercial banks, multiple banks with investment portfolio or real estate loan portfolio, investment banks, brokerage companies or securities dealerships, real estate credit companies, savings banks or mortgage companies. The administrator shall be the fiduciary owner of the real estate assets and rights acquired with the FII’s resources.

Investors are divided into three categories in Brazil:

  • professional investors;
  • qualified investors; and
  • non-qualified investors.

According to CVM’s regulation, FIPs and FIDCs are restricted to qualified and/or professional investors. FIIs can also be marketed to non-qualified investors (ie, retail investors).

Pursuant to CVM Instruction No 539 of 13 November 2013 (CVM Instruction 539), the following are considered professional investors:

  • financial institutions and other institutions authorised to operate by the Central Bank of Brazil;
  • insurance companies and capitalisation companies (capitalisation companies are those that offer capitalisation products – ie, products similar to savings with a lottery component);
  • open-ended and closed-ended pension funds;
  • individuals or legal entities that hold financial investments in an aggregate amount exceeding BRL10 million and that, additionally, certify in writing their condition as a professional investor;
  • other investment funds;
  • investment clubs, provided they have a portfolio managed by a securities portfolio manager authorised by CVM;
  • independent investment agents, portfolio managers, analysts and securities consultants authorised by CVM, in relation to their own funds; and
  • non-resident investors.

Qualified investors are also defined by CVM Instruction 539 and include:

  • professional investors;
  • individuals or legal entities that hold financial investments in an aggregate amount exceeding BRL1 million and that, additionally, certify in writing their condition as a qualified investor;
  • individuals approved in exams or holders of certificates accepted by CVM as a requirement for registration as registered representatives, asset managers (individual), analysts and advisers; and
  • investment clubs, provided they have their portfolio managed by one or more quotaholders that are qualified investors.

All investors who are neither professional nor qualified are considered retail investors.

As mentioned in 2.1.2 Common Process for Setting up Investment Funds, quotas of investment funds can be publicly offered to investors pursuant to the regular procedure set forth in CVM Instruction 400, or the restricted efforts procedure set forth in CVM Instruction 476.

A public offering of quotas of FIPs or FIDCs, pursuant to CVM Instruction 400, shall be directed only to qualified or professional investors pursuant to the regulations applicable to FIPs and FIDCs. In case of FIIs, quotas may also be offered to retail investors, pursuant to CVM Instruction 400, as there is no pertinent restriction in the regulations applicable to FIIs.

Conversely, pursuant to CVM Instruction 476, Limited Offerings shall be directed only to professional investors, regardless of the type of investment fund.

For more information on the regulatory regime applying to alternative funds in Brazil, please see 2.1.1 Fund Structures.

ANBIMA, which is a private and voluntary self-regulatory association that covers a great part of the investment fund management sector, establishes rules by and for the market for enforcement and control, as well as codes of best practice for its members, including asset managers, banks, brokers, securities dealers and investment advisers. ANBIMA monitors the application of such codes and issues penalties in case of non-compliance.

Brazilian regulations set forth rules regarding the composition of the portfolio of alternative funds and certain limitations, as summarised below.

FIP

A FIP must maintain at least 90% of its net assets invested in securities (90% Rule). The 90% Rule will not apply during the term set forth in the by-laws for the FIP to consummate an investment after a capital call. For purposes of the 90% Rule, the following amounts shall be added to the net assets invested in securities:

  • funds for the payment of the FIP’s expenses (limited to 5% of the committed capital);
  • funds deriving from a divestment, provided that:
    1. the FIP reinvests the divestment proceeds before the last business day of the second month following the month in which the divestment took place;
    2. if no reinvestment is to take place, the FIP distributes the divestment proceeds no later than the last business day of the month following the month in which the divestment took place; or
    3. proceeds are withheld as collateral (eg, escrow) regarding such divestment;
  • receivables deriving from a forward sale of the FIP’s assets; and
  • net assets invested in public securities posted as collateral to infrastructure project financing.

If the issuer of the securities targeted by the FIP is a privately held company, certain governance requirements must be observed by such issuer, such as:

  • there shall be a statutory prohibition on issuing founder shares;
  • adhesion to arbitration;
  • financial statements being reviewed by an independent audit company accredited by CVM;
  • unified term of office for the board of directors (if existent) of up to two years;
  • disclosure to shareholders of agreements with related parties and stock options; and
  • adhesion to special trading segment of the stock exchange assuring compliance with the above.

According to applicable law, there is no maximum or minimum number of companies in which a FIP may invest, nor is there a minimum or maximum percentage of shares (ie, equity interest) that a FIP must hold in an invested company, provided in any case that the Influence Test is met and subject to certain concentration limits, as described below.

FIPs shall invest up to 20% of their subscribed capital in foreign assets (securities), unless the fund is targeted at professional investors, in which case the FIP will be allowed to invest up to 100% of its subscribed capital in foreign assets. An asset is considered a foreign asset when the issuer is not domiciled in Brazil or is domiciled in Brazil but has 50% or more of its assets located abroad. If an issuer is domiciled abroad but has assets in Brazil corresponding to 90% or more of its total assets, then the assets of such issuer will not be considered a foreign asset.

FIPs may invest in quotas of other FIPs or of equity funds. FIPs may not invest in real estate, credit rights – except for debt instruments allowed by CVM Instruction 578 or if such credit rights are issued by invested companies of the fund – or their own quotas.

As for non-convertible debentures, FIPs may invest up to 33% of their subscribed capital in non-convertible debentures, except for FIP-IEs, which may invest up to 100% in such debt instruments.

FIDC

FIDCs may acquire credit rights and other assets of the same debtor, or of co-obligation of the same person or entity, within the limit of 20% of its net equity. The fund may not acquire credit rights originated or assigned by the administrator, manager, custodian and specialised consultant or parties related to them. Other rules regarding the composition of the portfolio and limitation on investment by issuer and by type of investment can also be included in the fund’s by-laws.

FII

The properties, assets and use rights to be acquired by FIIs must be subject to prior evaluation by the administrator, the manager or an independent third party, subject to the requirements set out in the regulations. FIIs that invest predominantly in securities must respect the limits of application by issuer and by type of financial assets established in the general rules on investment funds. Such limits do not apply to investments by FIIs in quotas of FIPs, FIIs and certificates of real estate receivables and quotas of FIDCs. Once the quotas subject to a public offering have been paid in, the portion of the FII's equity that, temporarily, due to the physical-financial schedule of the works contained in the prospectus, is not applied in real estate projects, should be applied in:

  • quotas of investment funds or fixed income securities, public or private, with liquidity compatible with the fund’s needs; and
  • derivatives, exclusively for the purpose of asset protection, whose exposure should be, at most, the value of the fund’s net equity and provided that it is set forth in the investment policy of the FII.

The FII can maintain a portion of its assets permanently invested in investment funds or fixed income securities, public or private, to meet its liquidity needs.

The main service providers, such as the fiduciary administrators, asset managers, custodians and bookkeepers, have to be established in Brazil, so no non-local service providers can be engaged for such functions.

Also, all service providers shall be qualified for the development of their respective activities, with experience and a good reputation, and be duly authorised by CVM (with the exceptions applicable to FIIs) or by a recognised local authority.

Finally, portfolio asset managers must comply with the requirements of CVM Instruction 558, as explained in 2.2.2 Legal Structures Used by Fund Managers.

Please see 2.3.2 Requirements for Non-local Service Providers.

Please see 2.1.2 Common Process for Setting up Investment Funds.

The marketing and distribution of quotas of investment funds in Brazil shall be made by members of the Distribution System.

Under the applicable regulation, the asset manager may act as the distributor of quotas of the funds under its investment management or administration, subject to the appointment of an officer responsible for such activity and the adoption of some procedures and policies applicable to distributors.

All marketing materials of investment funds have to be clear and concise, contain specific disclaimers and information regarding the fund’s by-laws, and alert the investors of the investment risks. Conduct rules set forth in CVM Instruction 400 also apply (such as silence period rules, full and proper disclosure, etc).

Pursuant to CVM Instruction 476, marketing under a Limited Offering shall be limited to at most 75 Brazilian professional investors, and subscriptions must be limited to at most 50 Brazilian professional investors. Also, instruments typically related to a public offering (disclosure in a high-circulation newspaper and on the internet, sale through retail outlets or other locations easily accessible by the public in general, as set forth in CVM Instruction 400) should be avoided in order to mitigate any risks of CVM deeming that any activity in respect of such Limited Offering falls within the definition of a public offering of securities.

Marketing of non-Brazilian alternative funds or other securities to Brazilian residents through solicitation activities in Brazil by foreign intermediaries shall entail the registration of the foreign intermediary with CVM as a member of the Brazilian securities distribution system (and registration of the intermediaries with the Brazilian Central Bank, depending on the case) or the engagement of a member of the Distribution System to perform such intermediation in Brazil.

The advertising of marketing materials of investment funds is subject to the following rules:

  • marketing materials must be expressly identified as such, drawn up in language that is calm and moderate, warns the readers of the investment risks and recommends, in letters notably greater than those used in the rest of the text, a careful reading of the Prospectus, if applicable, before acceptance of the offer;
  • marketing materials must indicate the places where the documents of the offer are available, such as the CVM website, intermediate institution and the fund administrator, with the explanation, step by step, of how gain such access;
  • when the marketing materials refer to the target yield, it should be indicated that it does not represent and should not be considered, under any circumstances, as a promise, profitability guarantee or suggestion;
  • letters, emails and any other means that serve to forward any material to potential investors are also considered marketing materials; and
  • the use of marketing materials on social networks, allowing comments that cannot be controlled by the offerors and that could eventually mislead investors, is not permitted.

In the case of open-ended investment funds that are not distributed exclusively to qualified investors, the administrator must prepare an essential information sheet (lâmina) according to the template attached to CVM Instruction 555, including the following information, among others:

  • the target investors;
  • the fund’s purpose;
  • the investment policy;
  • the investment conditions;
  • the portfolio composition;
  • risk; and
  • profitability.

Please see 2.2.3 Restrictions on Investors for more information on the investors to whom alternative funds can be marketed in Brazil.

Please see 2.2.3 Restrictions on Investors for more information on the restrictions relating to certain categories of investors in certain types of alternative investment funds.

The administrator and the manager of investment funds have fiduciary duties towards the fund and its quotaholders, and shall be liable for any damages caused to the quotaholders in case of non-compliance with the fund’s by-laws or the applicable laws and regulations, including violation of its obligations regarding disclosure requirements. Please see 2.1.4 Disclosure Requirements for more information on regulatory reporting requirements.

As the regulatory agency responsible for the oversight of the investment funds in Brazil, CVM has the power to apply penalties to service providers of the fund for any violation of the fund’s by-laws or the applicable laws and regulations, including fines, suspension of authorisation or registration for the exercise of the administration and/or management activities or temporary disqualification to carry out such activities, up to a maximum of 20 years.

CVM usually responds to day-to-day questions by e-mail within a reasonable timeframe and is also open to telephone discussions and face-to-face meetings, which may be required online through CVM’s website. Complex queries and situations shall be submitted to CVM by means of a formal consultation, which may take longer for CVM to respond (usually 15-20 days). Filings of registration processes are all done electronically through CVM’s website.

Each alternative fund is allowed to invest in certain types of assets, as provided by its specific regulation. For types of investments and the applicable regulation for each alternative fund, please see 2.1.1 Fund Structures and 2.3.1 Regulatory Regime for Alternative Funds.

Pursuant to Brazilian regulations, investments funds must engage a custodian, which shall be an entity duly authorised by CVM and is responsible for managing the bookkeeping of the investment fund’s assets. For FIIs, the custody service is not required for financial assets that represent up to 5% of the fund’s net equity, provided that such assets are admitted to trading on a stock exchange or organised over-the-counter market or registered in a registration or financial settlement system authorised by the Central Bank of Brazil or CVM.

CVM Instruction 555 set up the main regulations regarding risk, borrowing restrictions, and the valuation and pricing of the assets held by investment funds, as described in 3.4 Operational Requirements for Retail Funds.

In addition to the general rules, CVM Instruction 578 provides that FIPs that obtain direct financial support from development agencies are authorised to contract loans directly from such development agencies, limited to an amount corresponding to 30% of the FIP's assets. In addition, the FIP’s administrator and asset manager may contract a loan on behalf of the fund only in cases authorised by CVM (in practice, a consultation should be submitted to CVM requesting authorisation for such borrowing) or to cover the default of quotaholders who have not paid their subscribed quotas.

As for FIDCs, the administrator may not borrow or grant loans on behalf of the fund, which only allows the granting of loans and the assumption of debts as a result of transactions carried out in the derivative market.

FIIs are not allowed to borrow or grant loans. They may borrow their equities and securities, provided that such loans are processed exclusively through services authorised by the Brazilian Central Bank or CVM, or to provide guarantees for their own operations.

Also, for each type of alternative fund, CVM regulates the accounting standards for assets and liabilities recognition, classification and measurement, as well as those for valuation, pricing and revenue recognition, the appropriation of expenses and the disclosure of information in the financial statements for each investment fund, which are expressly provided by the following:

  • CVM Instruction No 579, of 30 August 2016, for FIP;
  • CVM Instruction No 489, of 14 January 2011, for FIDC; and
  • CVM Instruction No 516, of 29 December 2011, for FII.

According to Brazilian law, insider dealing and market abuse are illegal conducts subject to administrative, civil and criminal sanctions. CVM penalties for these conducts include warnings, fines and suspension or even prohibition from trading in the capital markets.

Please see 2.4 Operational Requirements for Alternative Investment Funds.

Based on the fact that an investment fund does not present a formal corporate existence, being classified only as a flow-through entity in Brazil, it is not considered a legal entity for Brazilian tax purposes and is subject to a special income tax treatment.

In this context, an investment fund can invest in different assets and sell the investments with gains, and those gains will not be subject to Brazilian taxes at the level of the investment fund, but they may be taxed upon their distribution to investors.

FIP

As a general rule, gains and earnings obtained by the investors of a FIP are subject to the imposition of withholding income tax (WHT) at a 15% rate, pursuant to section 2 of Law No 11,312, dated 27 June 2006 (Law 11,312). Such tax treatment is conditioned upon the fulfilment of the following requirements:

  • at least 67% of the FIP’s portfolio must be represented by shares of corporations (SA), convertible debentures or warrants; and
  • the investment limits and rules provided for in CVM Instruction 578 must be observed (for example, the 90% Rule).

Notwithstanding the general WHT taxation outlined above, Law 11,312 established a specific tax treatment applicable to foreign investors not located in low tax jurisdictions (LTJs) that invest in the FIP by means of the mechanisms provided for by Resolution 4,373 issued on 29 September 2014 by the National Monetary Council (Resolution 4,373), provided that some requirements are met. Under the specific tax treatment, gains and earnings recognised by foreign investors as a result of the amortisation or redemption (upon liquidation of the fund) of quotas of the FIP or gains of the foreign investors upon sale of the quotas of the FIP are subject to the imposition of WHT at a 0% rate. Such special treatment is conditional upon the following requirements:

  • the foreign investor must hold directly or via related parties less than 40% of the quotas of the FIP or must be entitled to receive less than 40% of the FIP earnings (40% Test);
  • the FIP cannot have, at any time, debt bonds equal to or higher than 5% of its net assets (not including public bonds or convertible securities); and
  • the foreign investor must not be domiciled or resident in a country that does not tax income or that taxes it at a maximum rate lower than 20% (LTJ Test). For the purpose of the 40% Test, "related party" refers – in respect of an investor who is a legal entity – to any person holding control of the investor or who is controlled by the investor or under common control with the investor. Such requirements are cumulative with the 90% Rule. If those requirements are not met, gains and earnings recognised by FIP foreign investors will be subject to WHT at a 15% rate.

FIP-IE

In order to stimulate private long-term financing of investments, in particular infrastructure, the Federal Government enacted Law No 11,478 of 29 May 2007, which provides that any income (including capital gains) derived by Brazilian individuals upon the FIP-IE investment benefits from 0% WHT, provided that the general legal requirements for 0% benefits are met, as described below:

  • there must be at least five quotaholders;
  • the FIP-IE must invest in new infrastructure projects (those implemented after 22 January 2007), like energy, transport, water and sanitation or other infrastructure areas that the government determined as priority; and
  • in 180 days, the FIP-IE must have a minimum investment of 90% in shares, bonds and other securities from infrastructure special purpose companies.

Legal entity quotaholders of a FIP-IE are subject to WHT at a 15% rate on the income earned upon the redemption and amortisation of quotas, and in the case of liquidation of the fund or the sale of the quotas. Foreign investors that are not located in LTJs and invest in the FIP-IE by means of the mechanisms provided for by Resolution 4,373 are subject to specific tax treatment, as follows:

  • the income earned on the redemption, amortisation and liquidation of the fund is subject to WHT at a 15% rate; and
  • gains earned on the sale of quotas are exempt from WHT on transactions carried out on the stock market or outside the stock market.

FIDC

There is a difference in taxation concerning Brazilian individuals, legal entities and non-resident investors. Legal entities should consider WHT as an anticipation to corporate income tax (IRPJ). For individuals and non-resident investors, on the other hand, WHT is definitive. The WHT applicable is regressive depending on whether the fund is qualified as long-term (if the FIDC portfolio has a term of more than 365 days) or short-term investment (if the FIDC portfolio has a term of less than 365 days), as follows.

  • Long-term investment (closed-ended condominium):
    1. 22.5% rate – investments due up to 180 days;
    2. 20% rate – investments due from 181 days up to 360 days;
    3. 17.5% rate – investments due from 361 days up to 720 days; and
    4. 15% rate – investments due over 720 days.
  • Short-term investment (closed-ended condominium):
    1. 22.5% rate – investments due up to 180 days; and
    2. 20% rate – investments due over 180 days.
  • Long-term investment (open-ended condominium): “quota eating” modality of taxation at a 15% rate in May and November of each year, or at the redemption of the quotas, if it occurs first.
  • Short-term investment (open-ended condominium): “quota eating” modality of taxation at a 20% rate in May and November of each year, or at the redemption of the quotas, if it occurs first.

In addition to WHT for the investor, for open-ended funds there is also the tax on financial transactions (IOF/Títulos) should the redemption occur before the 30th day of investment, on a regressive-rate basis.

FII

All income and capital gains earned by the portfolio of the FII are not subject to taxes, as a general rule. Taxation of an FII’s accrued gains only occurs at the level of the investors, and the respective treatment will depend on the location of the investor. There is one exception to said rule, as Law No 8,668/93 establishes that the FII that invests in any real estate enterprise that has a quotaholder holding (individually or jointly with an affiliate) more than 25% of the quotas of the FII as developer, constructor or partner will be taxed as a legal entity. Under Law No 8,668/93, the FII will be obliged to distribute its results to the quotaholders twice a year. The gains on distributions by the FII and the gains derived on the sale of the FII’s quotas are generally subject to WHT at a 20% rate. Nevertheless, gains on distributions made to and gains derived on the sale of the quotas by beneficiaries not located in LTJs that invest in Brazil via the mechanics of Resolution 4,373 are subject to WHT at a 15% rate. If, however, the FII is listed and the quotas are sold within the stock exchange, gains earned by foreign investors not located in LTJs would be subject to WHT at a 0% rate. The application of the 0% WHT to a sale performed within the over-the-counter market is controversial. Additionally, gains on distributions made to individuals are exempt when the quotaholder holds less than 10% of the fund’s quotas or right to receive income not exceeding 10% of the fund’s total income, and when the FII has at least 50 quotaholders and quotas exclusively traded on the stock exchange or organised over-the-counter market.

Brazilian retail funds are also organised as condominiums (pool of assets) and can be organised as closed-ended or open-ended funds, as mentioned in 2.1.1 Fund Structures.

Retail funds are regulated mainly by CVM Instruction 555 and are classified as follows:

  • the fixed income fund must have as its portfolio's main risk factor the variation of the interest rate or of the price index, or both. Such funds must have at least 80% of their portfolio in assets directly related, or synthesised via derivatives, to the risk factor that names this class of funds;
  • the equity fund must have as its portfolio's main risk factor the variation of the prices of shares admitted for trading in the organised market. At least 67% of the equity fund’s net worth must be represented by:
    1. shares admitted for trading in the organised market;
    2. warrants or subscription receipts and depositary certificates of shares admitted for trading in the organised market;
    3. equity funds’ quotas and quotas of share-based index funds; and
    4. Brazilian Depositary Receipts – BDR, classified as level II and III;
  • the foreign exchange fund must have as its main portfolio risk factor the variation of foreign currency prices or the variation of the exchange rate coupon. Such funds must have at least 80% of their portfolio assets directly related, or synthesised via derivatives, to the risk factor that names this class of funds; and
  • the multimarket fund must have investment policies involving several risk factors, without the commitment to concentrate on any particular factor or on factors different from the other classes of funds mentioned above.

FIIs (as described in 2.1.1 Fund Structures) may also be targeted at retail investors, as they are not restricted to qualified and/or professional investors.

The process for setting up the common structures used for retail funds in Brazil is similar to the process for alternative investment funds; please see 2.1.2 Common Process for Setting up Investment Funds.

Retail funds are considered automatically registered with CVM as of the filing of the requested set of documents.

The rules regarding the limited liability of retail funds’ investors are the same as apply to alternative investment funds’ investors; please see 2.1.3 Limited Liability of Investors.

The disclosure requirements for retail funds are the same as provided for alternative investment funds; please see 2.1.4 Disclosure Requirements.

Please see 1.1 State of the Investment Funds Market and 2.2.1 Types of Investors in Alternative Funds.

Please see 3.1.1 Retail Fund Structures for more information on the legal structures used by retail fund managers in Brazil.

There is no legal requirement regarding the type of investor to which retail funds can be marketed in Brazil. The fund’s manager may choose if the retail fund will be marketed only to qualified or professional investors, or to non-qualified investors.

Please see 3.1.1 Retail Fund Structures for more information on the regulatory regime applying to retail funds.

Limitations on the Composition of the Portfolio

The retail fund must invest its equity in financial assets that are registered in a registration system, or are the object of custody or central deposit, in all cases with institutions duly authorised by the Central Bank of Brazil or by CVM to perform such activities, in their respective areas of competence. This is not applicable to quotas of open-ended investment funds duly registered with CVM. The retail fund may not invest in quotas of funds that hold an interest in such retail fund.

Foreign assets

Retail funds are subject to the following concentration limits when investing in financial assets abroad:

  • no limits for:
    1. funds classified as “Fixed Income – External Debt”;
    2. funds exclusively targeted at professional investors that include the suffix “Investment abroad”; and
    3. funds exclusively targeted at qualified investors, provided that the investment policy determines that at least 67% of the net equity is composed of financial assets abroad and other regulatory requirements are met;
  • up to 40% of net equity for funds exclusively targeted at qualified investors that do not fall under the third point above; and
  • up to 20% of net equity for funds targeted at the general public.

Limits per issuer

The general rules regarding concentration limits per issuer for retail funds are as follows:

  • up to 20% of the fund’s net equity when the issuer is a financial institution authorised to operate by the Central Bank of Brazil;
  • up to 10% of the fund’s net equity when the issuer is a publicly held company;
  • up to 10% of the fund’s net equity when the issuer is an investment fund;
  • up to 5% of the fund’s net equity when the issuer is a natural person or a legal entity under private law that is not a publicly held company or financial institution authorised to operate by the Central Bank of Brazil; and
  • no limits when the issuer is the Federal Union.

Limits by type of financial asset

The general rules regarding concentration limits per type of financial asset for retail funds are as follows:

  • up to 20% of the fund’s net equity, for the following assets:
    1. investment fund quotas registered pursuant to CVM Instruction 555;
    2. fund of funds registered pursuant to CVM Instruction 555;
    3. quotas of investment funds targeted exclusively at qualified investors registered pursuant to CVM Instruction 555;
    4. quotas of funds of funds targeted exclusively at qualified investors registered pursuant to CVM Instruction 555;
    5. quotas of FII, FIDC, funds of FIDC and Index Funds admitted to trading on an organised market;
    6. Certificates of Real Estate Receivables – CRI; and
    7. other financial assets;
  • within the 20% threshold limit listed above, up to 5% of the fund’s net equity, for the following assets:
    1. quotas of FIDC-NP and quotas of funds of FIDC-NP;
    2. quotas of investment funds targeted exclusively at professional investors registered pursuant to CVM Instruction 555; and
    3. quotas of investment funds investing in other investment funds (fund of funds) targeted exclusively at professional investors registered pursuant to CVM Instruction 555;
  • there is no concentration limit per type of financial asset for investment in:
    1. federal public securities and repo operations backed by these securities;
    2. gold, provided it is acquired or disposed of in negotiations carried out in an organised market;
    3. the issuance or co-obligation securities of a financial institution authorised to operate by the Central Bank of Brazil;
    4. securities other than those provided for in the first item above (20% threshold), provided that they are subject to a public offering registered with CVM;
    5. promissory notes, debentures and shares, provided they have been issued by publicly held companies and subject to a public offering; and
    6. derivative contracts, except if referenced to the assets listed above.

Retail funds targeted at qualified or investor professionals are exempted from certain concentration limits, as provided for in CVM Instruction 555.       

Please see 2.3.2 Requirements for Non-local Service Providers.

Please see 2.3.3 Local Regulatory Requirements for Non-local Managers.

Please see 3.1.2 Common Process for Setting up Investment Funds.

Please see 2.3.5 Rules Concerning Marketing of Alternative Funds.

Please see 3.2.3 Restrictions on Investors.

Please see 3.2.3 Restrictions on Investors and 2.3.7 Investor Protection Rules.

Please see 2.3.8 Approach of the Regulator.

As described in 3.1.1 Retail Fund Structures, each retail fund is allowed to invest in certain types of assets.

Same as alternative funds, retail funds must also engage a custodian, which shall be an entity duly authorised by CVM.

Pursuant to CVM Instruction 555, upon becoming quotaholders all investors must confirm, through the formalisation of an adhesion and risk acknowledgment term, that they had access to the entire content of the by-laws and the essential information sheet, if applicable, and that they are aware of the following:

  • the risk factors related to the fund;
  • that there is no guarantee against potential patrimonial losses that may be incurred by the fund;
  • that the granting of registration for the sale of fund quotas does not imply, on behalf of CVM, a guarantee of the veracity of the information provided or of the adherence of the fund's by-laws to the legislation in force; and
  • if applicable, that the fund's investment strategies may result in losses surpassing the capital invested and the consequent obligation of the quotaholders to contribute financially in covering the fund's losses.

The administrator and the asset manager are not allowed to borrow or grant loans on behalf of the fund, except in cases authorised by CVM. Investment funds may use their assets to provide guarantees for their own operations, as well as lend and borrow financial assets, provided that such loan operations are processed exclusively through services authorised by the Brazilian Central Bank or CVM.

The fiduciary administrator is required to have a manual regarding its valuation practices for both liquid and illiquid assets available on its website. Also, all investment funds must follow international accounting standards.

According to Brazilian law, insider dealing and market abuse are illegal conducts subject to administrative, civil and criminal sanctions. CVM penalties for these conducts include warnings, fines and suspension, or even prohibition from trading in the capital markets.

Please see 3.4 Operational Requirements for Retail Funds.

As investment funds do not have legal personality and generally are not subject to taxation on income and gains derived from their portfolio transactions, no tax impact arises at the fund level. Therefore, taxation may occur in relation specifically to the investors and not to the fund itself.

There is a difference in taxation concerning Brazilian individuals, legal entities and non-resident investors. Legal entities should consider WHT as an anticipation to its corporate income tax (IRPJ). For individuals and non-resident investors, on the other hand, WHT is definitive. The WHT applicable is regressive depending on whether the fund is qualified as long-term (if the fund portfolio has a term of more than 365 days) or short-term investment (if the fund portfolio has a term of less than 365 days), as follows.

  • Long-term investment (closed-ended condominium):
    1. 22.5% rate – investments due up to 180 days;
    2. 20% rate – investments due from 181 days up to 360 days;
    3. 17.5% rate – investments due from 361 days up to 720 days; and
    4. 15% rate – investments due over 720 days.
  • Short-term investment (closed-ended condominium):
    1. 22.5% rate – investments due up to 180 days; and
    2. 20% rate – investments due over 180 days.
  • Long-term investment (open-ended condominium): “quota eating” modality of taxation at a 15% rate in May and November of each year, or at the redemption of the quotas, if it occurs first.
  • Short-term investment (open-ended condominium): “quota eating” modality of taxation at a 20% rate in May and November of each year, or at the redemption of the quotas, if it occurs first.

In addition to income tax for the investor, for open-ended funds there is also the tax on financial transactions (IOF/Títulos) should the redemption occur before the 30th day of investment, on a regressive-rate basis.

In December 2020, CVM submitted to public hearing a draft ruling to modernise the investment funds regulation, reflecting the legal innovations produced by Law No 13,874/19, as mentioned in 1.1 State of the Investment Funds Market and 2.1.3 Limited Liability of Investors.

The draft ruling also proposes that funds intended for the general public may invest up to the totality of their assets in financial assets abroad.

Additionally, the draft ruling proposes amendments specifically related to FIDC, such as:

  • access by the general public to FIDC quotas, subject to certain characteristics of the fund;
  • more clarity in the separation of liabilities between the fund's service providers, with a significant reduction in the custodian's assignments;
  • mandatory registration of credit rights in a registry entity duly authorised by the Brazilian Central Bank;
  • liability of the asset manager for structuring the fund, contracting the specialised consultant, and verifying the credit rights' substance and eligibility criteria; and
  • the extinction of the "non-standard" FIDC, provided in CVM Instruction 444, and the creation of the "non-standard" credit rights, subject to the restriction of the target public.
Machado Meyer Advogados

Av. Brigadeiro Faria Lima, 3142 – 5º andar
01451-000, São Paulo, SP, Brasil

+55 11 3150 7000

+55 11 3150 7071

machadomeyer@machadomeyer.com.br www.machadomeyer.com
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Law and Practice in Brazil

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Machado Meyer Advogados has an investment funds practice that is vastly experienced in handling matters relating to all kinds of funds, such as private equity funds (FIPs), asset-backed securities investment funds (FIDCs), infrastructure private equity funds (FIP-IEs) and real estate investment funds (FIIs). The firm handles the structuring of the funds and fund formation, the offering of fund's quotas (public offerings and limited efforts public offerings) and the setting up of credit assignment frameworks under FIDC structures, as well as advising on funds governance and intricate regulatory matters. Machado Meyer's funds practice is enhanced by the expertise of the firm's partners and associates in other areas, and its impressive clientele includes banks, national and international funds, investment banks, hedge funds, fund managers and private equity funds.