Offshore Hedge Funds vs. Onshore Hedge Funds

by Geri Terzo

One of the key differentiators between offshore hedge funds and onshore hedge funds is the tax structure under which each operates. The tax laws are much more relaxed in offshore jurisdictions, and contradict some of the tax requirements for investors who are onshore residents. Offshore hedge funds do not tax the money that investors earn, while in major onshore companies in the U.S., those profits are taxable.

Identification

A hedge fund is an investment vehicle that is managed by a professional trader. A hedge fund manager remains subject to less regulation than other, more traditional investment fund managers, and often uses risky trading strategies to create profits. An offshore hedge fund is located in an offshore jurisdiction with political and regional ties to a resident country, but with a more lenient tax structure. On shore funds are based domestically in countries where tighter tax laws apply.

Size

According to Reuters, the size of the hedge fund industry was $1.9 trillion in the fourth quarter in 2010. A separate report published by "The Hedge Fund Journal" provided further detail to the hedge fund landscape. In 2008, 50 percent of all hedge funds were registered onshore, with the remaining funds based offshore. The Cayman Islands dominated the offshore registrations, while the U.S. led with more than two-thirds of onshore hedge funds registering in the country.

Eligibility

According to a 2011 article in "Forbes," the U.S. Securities and Exchange Commission seeks to tighten the standards for onshore hedge fund investors. Investors may need to oversee a minimum of $1 million in assets or have a net worth of $2 million or more. The value of an investor's main residence does not count towards either threshold. Investors must have assets in offshore accounts to invest in offshore hedge funds. A white paper by Fund Associates states that U.S. investors are prohibited from investing directly in offshore funds for tax purposes.

Regulation

After the financial crisis of 2008 when hedge funds lost large sums of money, new regulation began forming both in the U.S. and throughout Europe to more closely monitor these opaque investment vehicles. The new rules were largely expected to benefit onshore funds as investors who experienced financial losses fled to safety. According to "Hedge Funds Review," however, the response was startlingly different. In 2010, the Cayman Islands, which is an offshore jurisdiction, became the headquarters for hundreds of newly launched hedge funds, while just a few fund managers relocated from offshore to onshore.

About the Author

Geri Terzo is a business writer with more than 15 years of experience on Wall Street. Throughout her career, she has contributed to the two major cable business networks in segment production and chief-booking capacities and has reported for several major trade publications including "IDD Magazine," "Infrastructure Investor" and MandateWire of the "Financial Times." She works as a journalist who has contributed to The Motley Fool and InvestorPlace. Terzo is a graduate of Campbell University, where she earned a Bachelor of Arts in mass communication.