Round-Tripping: Offshore Tax Considerations for Fund Managers

At a Glance

• Round-tripping refers to moving U.S.-sourced funds offshore and then reinvesting them in U.S. assets to benefit from foreign tax treatment.

• Certain round-tripping structures can constitute tax evasion, particularly when they are designed to conceal the true origin or ownership of funds.

• U.S. fund managers with foreign LPs should be attentive to offshore vehicles, tax haven jurisdictions, and source-of-funds questions as part of their diligence.

• Robust KYC, AML procedures, documentation, and recordkeeping help managers respond to regulatory inquiries and reduce exposure to illicit activity.

• Sydecar’s platform supports managers with built-in KYC workflows, standardized fund documents, and transaction records, providing a stronger compliance foundation.

What Is Round-Tripping?

In a venture context, round-tripping describes a pattern in which:

1. Money is earned or generated in the United States.

2. Those funds are moved offshore, often through entities in low-tax or no-tax jurisdictions.

3. The capital is then reinvested back into U.S. assets and presented as “foreign” capital.

The goal in abusive cases is to:

• Mask the true origin of funds, and/or

• Obtain preferential tax treatment or reduced scrutiny by routing investments through foreign entities.

Some jurisdictions commonly associated with these structures are tax havens or low-tax jurisdictions, such as the Cayman Islands or the British Virgin Islands. Not all activity involving these jurisdictions is problematic; many legitimate international investment structures use them, but round-tripping schemes can originate there.

Purpose and Risk: Why Round-Tripping Happens

Certain investors may attempt to use round-tripping structures to:

• Hide income or gains from U.S. tax authorities.

• Recharacterize investments as foreign-sourced to access different tax regimes.

• Reduce transparency around ultimate beneficial ownership.

When structures are designed to mislead tax authorities or conceal income or beneficial owners, they can cross the line into tax evasion, which is illegal.

By contrast, there are also legitimate cross-border structures that involve foreign entities for reasons such as:

• Regulatory requirements in the investor’s home jurisdiction.

• Treaty-based planning or tax efficiency that complies with applicable laws.

• Participation in multi-jurisdictional funds or platforms organized in neutral jurisdictions.

The challenge for fund managers is to distinguish between legitimate tax planning and structuring versus abusive or deceptive schemes.

Tax Evasion vs. Tax Avoidance

A key distinction:

• Tax evasion – Illegal. Involves concealing income, misrepresenting facts, or using structures designed to hide funds from tax authorities.

• Tax avoidance – Legal. Involves using the law, as written, to minimize tax obligations (for example, claiming lawful deductions, credits, or using recognized structures disclosed to authorities).

Round-tripping can appear in both contexts:

• In some cases, routing through a tax-favorable jurisdiction is disclosed, documented, and compliant.

• In abusive cases, the structure is set up primarily to obscure the origin or ownership of funds and evade U.S. tax.

Because the line can be nuanced and fact-specific, managers should involve international tax counsel when they encounter unfamiliar or complex offshore structures.

Why Round-Tripping Matters for U.S. Fund Managers

If you are raising a U.S. fund with foreign LPs or capital coming through offshore entities, regulators may look to you for information if there are concerns about:

• The source of funds used for subscriptions.

• The beneficial owners behind entities in tax haven jurisdictions.

• Potential money laundering or sanctions violations.

The IRS, Department of Justice, and other regulators can request information about fund investors or transactions. Failure to maintain appropriate records or respond appropriately can create civil or criminal exposure, even if the manager was not involved in the underlying scheme.

Because round-tripping can be difficult to detect, the most practical approach for managers is to adopt high compliance standards and robust documentation.

Practical Guidelines for Fund Managers

To reduce risk and demonstrate good faith compliance, managers should consider the following practices:

1. Robust KYC and AML

• Run Know Your Customer (KYC) checks on investors, including beneficial ownership for entities.

• Screen investors against relevant sanctions lists and high-risk jurisdiction lists.

• Request clear documentation for source of funds and, when appropriate, source of wealth.

2. Accurate and Complete Records

Maintain:

• Detailed records of subscription documents, identity verification, and beneficial ownership.

• Clear documentation of capital contributions, transfers, and distributions.

• Logs of any red flags identified and how they were resolved.

Good recordkeeping supports your position if regulators request information about suspected activity.

3. Standardized Agreement Language

Ensure your fund and subscription documents include:

• Representations and warranties regarding lawful source of funds.

• Investor covenants related to compliance with tax, anti-money laundering, and sanctions laws.

• Rights to request additional information and to decline or unwind investments if compliance concerns arise.

4. Escalation and Reporting

If you identify potential indicators of abusive round-tripping or other illicit activity:

• Consult with experienced tax and regulatory counsel promptly.

• Follow applicable reporting obligations (for example, suspicious activity reporting where required).

• Consider whether to decline or redeem an investor if risks cannot be adequately mitigated.

5. Avoid Unfamiliar Structures Without Advice

If you do not fully understand:

• An investor’s offshore structure,

• The regulatory regime in the relevant jurisdiction, or

• The tax consequences of a proposed arrangement,

it is prudent to pause, seek advice, or decline participation, rather than assume the risk.

How Sydecar Helps Support Compliance

Working with a platform that embeds compliance into core workflows can reduce the day-to-day burden on emerging managers.

Sydecar makes it simple and efficient for venture fund and syndicate managers to form SPVs and funds by automating banking, compliance, contracts, and reporting. In the context of round-tripping and offshore risk, Sydecar:

• Runs KYC on investors as part of the onboarding process.

• Uses standardized subscription and fund documents that include key representations about source of funds.

• Maintains transaction and investor records in a centralized system of record.

This infrastructure does not replace legal or tax advice, but it helps managers:

• Demonstrate that they are taking reasonable steps to know their investors.

• Respond more efficiently to requests from regulators or service providers.

• Focus more time on investing and supporting founders, rather than building compliance processes from scratch.

Key Takeaways

For U.S. fund managers working with foreign investors:

1. Recognize the concept of round-tripping and why certain patterns of offshore reinvestment can raise regulatory concerns.

2. Distinguish between legal structuring and abusive schemes, and rely on qualified advisors for gray areas.

3. Implement strong KYC, AML, and documentation practices as a baseline, not an afterthought.

4. Use standardized documents and workflows to capture origin-of-funds representations and support recordkeeping.

5. Engage tax and legal counsel early when offshore structures or high-risk jurisdictions are involved.

By combining sound process, the right advisors, and infrastructure like Sydecar’s platform, emerging managers can better manage offshore risk and keep their focus on building strong portfolios and LP relationships.