The Canadian Securities Administrators (CSA) recently announced amendments to National Instrument 45-106 Prospectus and Registration Exemptions (NI 45-106) which are expected to come into force on May 5, 2015. The following changes to the prospectus exemption regime will be of particular interest to participants in the investment funds and asset management industry:
- The “managed account” category of accredited investor is now available in Ontario, harmonizing this exemption across Canada. This means that all discretionary accounts managed by a registered portfolio manager or adviser in Ontario may purchase exempt market securities, including private investment funds, regardless of whether the beneficial account holder qualifies for a prospectus exemption. In making this change, the Ontario Securities Commission recognizes that registered advisers have sufficient financial expertise and familiarity with their clients’ circumstances to invest in exempt market securities on behalf of their clients. As a practical matter, advisers will no longer be required to present subscription documents to their Ontario clients for completion when investing in exempt market securities, including investment funds.
- A new Risk Acknowledgement Form (RAF) has been introduced, which must be signed by most individual accredited investors at the time they purchase securities in reliance on the exemption. Signed RAFs must be kept by the issuer or dealer of the securities purchased in reliance on the exemption for eight years after the trade. The RAF describes, in plain language, the categories of individual accredited investors and identifies key risks associated with purchasing exempt market securities. The RAF is not required for individuals who have at least $5 million in pre-tax net financial assets, a new category of accredited investor which matches up with the “permitted client” definition in National Instrument 31-103 Registrant Regulation, Exemptions and Ongoing Registrant Obligations (NI 31-103). Permitted clients are entitled to waive their rights to know-your-client and suitability analyses which advisers and dealers are otherwise required to complete under NI 31-103 prior to selling or recommending securities to their clients.
- The Companion Policy to NI 45-106 now clarifies that when distributing securities under the accredited investor exemption, a dealer or adviser may not simply rely on a purchaser’s representation in its subscription documents. Rather, the dealer or adviser must take reasonable steps to verify that each purchaser qualifies as an accredited investor. This includes providing detailed information to a purchaser regarding the different categories of accredited investor, for example explaining how the income and asset tests are applied, eliciting details regarding a purchaser’s financial circumstances and, if concerns about eligibility remain, requesting independent documentation to confirm the purchaser’s representations.
- The “minimum amount” exemption may no longer be used to distribute exempt market securities to individuals. The minimum amount exemption allows purchases of securities with an acquisition cost of not less than $150,000 cash to be made without a prospectus. However, when used by individual, this exemption raised concerns that investors who lack sufficient financial sophistication or net worth (and therefore do not qualify as accredited investors) could invest an inappropriate proportion of their assets in exempt market securities without understanding the associated risks.
NI 45-106 has also been amended to introduce short-term debt and short-term securitized products prospectus exemptions and to make the friends, family and business associates exemption available in Ontario, but not to distributions of investment funds.
Dealers and advisers that recommend or sell exempt market securities, including private investment funds, will likely need to update their documentation to reflect these amendments prior to the May 5, 2015 implementation date. For example, Accredited Investor Certificates in subscription agreements and account-opening packages should be amended. Offering Memoranda should be reviewed to confirm the accuracy of disclosure regarding prospectus exemptions. In addition, registrants will likely need to update their policies and procedures to incorporate the collection of RAFs, if applicable, and the new due diligence steps required to confirm accredited investor status.