At A Glance
Cascading pledges are frequently used in subscription finance to avoid legal impediments, avoid tax implications and mitigate prohibited transaction risk under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”) and Section 4975 of the Internal Revenue Code, as amended (the “Code”), while still providing lenders with collateral rights. This complex, multi-tiered collateral structure is critical to facilitating borrower access to capital. In this Legal Update, we provide an overview of this collateral structure, explain the purpose of cascading pledges in subscription credit facilities and describe the provisions that should be included in a feeder fund limited partnership agreement to adequately document a cascading pledgeCascading pledges are frequently used in subscription finance to avoid legal impediments, avoid tax implications and mitigate prohibited transaction risk under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”) and Section 4975 of the Internal Revenue Code, as amended (the “Code”), while still providing lenders with collateral rights. This complex, multi-tiered collateral structure is critical to facilitating borrower access to capital. In this Legal Update, we provide an overview of this collateral structure, explain the purpose of cascading pledges in subscription credit facilities and describe the provisions that should be included in a feeder fund limited partnership agreement to adequately document a cascading pledge.
Background
Private investment funds often use feeder funds – investment vehicles that accept capital contributions from investors and subsequently invest that capital into a separate “master fund” – to pool investment capital, create separate categories of investors, and avoid the complexities of multiple share classes while offering investors customized investment options.A master-feeder structure includes at least two funds, including one or more downstream master funds and one or more upstream feeder funds. Third-party investors may subscribe to the master fund and/or feeders funds as...