Key takeaways
- The Single Market in Europe is based on a set of fundamental freedoms. The freedom of movement of goods, capital and people as well as the freedom of establishment and provisions of services.
- Relative to the subset of financial services, freedom of movement across Europe is the result of the combination of freedom of movement of capital and goods as well as freedom of establishment and provision of services.
- Contrary to what conventional wisdom suggests at the other side of the Atlantic, based on a more literal interpretation of the notion of freedom, European investment funds can be freely offered and sold across Europe, subject to certain formalities.
European passporting and freedom of movement of financial goods and services
The Single Market in Europe is based on a set of fundamental freedoms. The freedom of movement of goods, capital and people as well as the freedom of establishment and provisions of services. Relative to the subset of financial services, freedom of movement across Europe is the result of the combination of freedom of movement of capital and goods as well as freedom of establishment and provision of services1.
Contrary to what conventional wisdom suggests at the other side of the Atlantic, likely based on a more literal interpretation of the notion of freedom, European investment funds can be freely offered and sold across Europe, subject to certain formalities. European passporting is the mechanism to exercise the freedom for financial products, services and activities to move throughout the single market in Europe.
At the core of European passporting there lie principles of mutual recognition and cooperation amongst competent authorities of European member states. These principles make it possible for an investment product or service to be sold in a member state other than the one where it is originally established and authorized whilst ensuring simultaneously investor protection.
UCITS Marketing Passport
Before we go on to discuss the topic in more detail, it is noteworthy to mention that freedom of movement via European passporting is exercised mostly outwards. Product manufacturers and investment firms usually make use of European passporting to reach investors in the markets of other member states of the Union, other than the ones where they were originally established and authorized in Europe. It is more infrequent for investors themselves in Europe to go across the border to seek specific investment services and products in other member states.
For it to be truly a single market for financial services and products, the entire regulatory infrastructure of the sector contains provisions for European passporting. The first and most notable example remains the UCITS directive. Dating back to 1985, the UCITS directive is a cornerstone of the single market. European passporting starts there and then. The premise of the marketing passport under the UCITS directive is simple. As opposed to having to establish an investment fund or vehicle in each host member state where investors are domiciled or resident, the same investment fund can move freely across the borders in Europe and be offered in multiple states. In this context, European passporting takes the form of the so-called UCITS marketing passport. Under the framework established with the UCITS directive, a fund promoter or distributor of an established UCITS can apply via the home state authority of the UCITS for specific sub-funds and their share classes to obtain the passport and be marketed in the specific European domiciles of choice.
Where UCITS were originally conceived with the retail investor in mind and so was its marketing passport, once an authorization for marketing in a specific EU domicile has been obtained, UCITS can be offered to professional investors too in addition to retail investors. The local practice of certain member states in Europe subjects the marketing of UCITS to local professional investors to a less cumbersome regime, but nevertheless requires an initial marketing notification application.
ELTIF Marketing Passport
In European jargon, the UCITS directive is defined as a product directive. Its provisions essentially create a regime for a specific type of investment vehicle that can be offered to a very varied audience of investors. While the success of UCITS is unrivalled so far, also outside European borders, a new type of investment product – and a new acronym alike – has been introduced for over a decade now in Europe. The ELTIF. The European Long-Term Investment Fund (ELTIF) was introduced in 2015 as a regulatory framework aimed at encouraging long-term investment in the EU. Particularly in infrastructure, real estate, and other less liquid assets. The ELTIF regulation is at its second iteration now, following a first decade of existence characterized by very few launches of ELTIFs, mostly concentrated in southern Europe.
ELTIFs were conceived to offer retail investors in Europe exposure to so-called long-term investments. An exposure that so far was exclusive to a more sophisticated audience. The flipside to that was the attempt of the European Commission to create new avenues for funding for European small and medium enterprises. The second iteration of the ELTIF regulation comes at a time when retail investors across Europe seem to have developed a taste for giving up their liquidity for a longer period. Making the ELTIFs a much more appealing and potentially widespread investment proposition. Part of the not so encouraging results achieved with the first iteration of the ELTIFs regulation were due to market perception in our view.
Similar to UCITS, also ELTIFs avail themselves of a marketing passport that allows them to be offered to professional and retail investors across Europe. Whilst the marketing passport for ELTIFs is by and large morphed on the one for the UCITS, there are some noteworthy differences between the two. ELTIFs are not UCITS but AIFs. As such, ELTIFs can be managed only by AIFMs. Where a marketing passport notification for a UCITS is always directed to the home state authority of the UCITS itself, ELTIFs marketing passport notifications are made directly with the competent supervisory authority of the home member state of its AIFM. Also, even though they are AIFs, ELTIFs can be authorized for marketing to retail investors in any European member states by virtue of the one notification made with the home state authorities of its AIFM. Without needing any specific direct retail marketing authorization with the national authorities of the host member state at issue, as is the case normally for so-called retail AIFs.
The second iteration of the ELTIFs regulation removed also certain requirements that would normally apply to marketing of UCITS cross border in Europe, like the appointment of facilities agents. With the ELTIF II regulation there will now also be a new divide between ELTIFs for professional investors and ELTIFs for retail investors. Only the latter will have to produce and submit a PRIIPs KID as part of the marketing passport notification.
AIFMD Marketing Passport
The Alternative Investment Fund Managers Directive (AIFMD) provides the regulatory framework for the management and marketing of Alternative Investment Funds (AIFs) across Europe. In European jargon, the AIFMD is a conduct of business directive, whose aim is to regulate the way managers of alternative investment funds carry out their activities in Europe. At least in its first iteration, it was not a product directive. With the revamp process terminated in 2024, AIFMD II becomes also a product directive exclusively for what concerns loan originating AIFs. This type of AIF now can benefit from a uniform regime applicable to it throughout Europe. Save for this type of AIFs, the directive does not create a specific regime for the products, like the UCITS and ELTIFs, but for the managers as such.
European passporting is narrower in scope for AIFs and their marketing across Europe is by default allowed only to professional investors. The marketing passport is requested directly by the AIFM for the specific AIFs under its purview and the application is made with the home state authority of the AIFM irrespective of where the AIF is established. The different angle to European passporting under AIFMD is that the managers can also seek an authorization to manage AIFs cross border in Europe.
Whilst there exist AIFs for retail investors, their access to retail investors across Europe is not as seamless as it is for UCITS or even ELTIFs. In most European member states, retail AIFs can be marketed to local retail investors only after an additional marketing authorization process is carried out with competent local authorities. This process usually can kick in only after the initial marketing passport under the AIFMD has been obtained and authorization is also subject to local requirements imposed on similar AIFs. The main guiding principle remains that if AIFs can be marketed to retail investors in their home member state, then they can be marketed to the same type of investors also across Europe.
The Ongoing Obligations stemming from European Passporting
Freedom of movement of financial products and services is made possible because of the cooperation and mutual recognition that exists amongst competent authorities in Europe. It is noteworthy to take a closer look at the dynamics in play between the authorities of the member state where a financial product or service is authorized and the ones of the additional domiciles in Europe where these are subsequently offered.
Authorities in the host member states are not responsible for primary supervision of passported financial products and services. They play a complementary role. Yet they can impose additional formalities and requirements on the providers of financial products and services coming from other European member states. When applying for a marketing passport for a UCITS, it is required that certain documentation is submitted with the competent authorities of the host member state via the home state authority in charge of primary supervision of the financial product. The local authorities of host member states are also entitled to request compliance with additional requirements and reporting obligations. The complimentary role played by the national authorities in host member states also explains why European passporting is never a one and done operation. There are significant governance and costs implications for providers of financial products and services to get right the ongoing obligations stemming from European passporting.
Freedom of movement is predicated on the main authorization granted in a member state in Europe and the ensuing supervision carried out by the competent authorities in that domicile. A financial product and/or service must be European for it to be able to move freely within the Union. Whilst Europe is not closed to international business, it does not offer foreign non-European financial products and services a European passport. In a format that is more or less advantageous, depending on the arrangements between that specific non-European country and the Union, foreign financial products and services can access Europe. The caveat is that access is granted by each individual state based on their own rules, unless there are European recognition regimes applicable throughout the Union.
Conclusions – European passporting
It should be clear to anyone looking to enter the European market with pan-European ambitions that utilizing European financial products and services for that makes far more sense than relying on non-European alternatives. The European passporting system offers a seamless and efficient way to distribute financial products and services across the EU. The openness of Europe to international business cannot ensure that non-European financial products and services have the same freedom of movement across the Union.
For those who already have European financial products or services, it is critical to ensure that all obligations related to European passporting are properly understood and met. This includes ensuring that marketing notifications are timely, managing the ongoing obligations that come with European passporting and ensuring compliance with all host state requirements. By doing so, businesses can continue to leverage the full potential of the European market while maintaining a robust and compliant presence across the EU.
About Veneziano and Partners
Veneziano and Partners is an international consulting boutique specialised in the European regulation of cross-border fund distribution. In catering to a selected group of investment managers, hedge fund managers and financial institution worldwide, the firm offers a custom-made service that is unique and allows its clients to gain competitive advantage in an ever increasingly regulated environment for global registration of UCITS and AIFMD funds.