In 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) created a new classification called “exempt reporting advisers” (ERAs) for advisers who are exempt from investment adviser registration as venture capital advisers under section 203(l) of the Investment Advisers Act of 1940 (the Advisers Act) and private fund advisers under section 203(m) of the Advisers Act (including foreign private fund advisers).
ERAs are not required to register as investment advisers with the U.S. Securities and Exchange Commission (SEC), adopt comprehensive compliance programs or appoint chief compliance officers. ERAs , however, are subject to certain reporting and regulatory obligations. Below is a brief summary of those requirements and suggested best practices that apply to all investment advisers.
Advisers who are exempt from investment adviser registration with the SEC must still comply with applicable state law. Many states have adopted exemptions for venture capital advisers and private fund advisers that are similar to the federal exemption. It is important to check with the state in which the adviser conducts investment advisory activities to determine whether there is a state exemption and what, if any, compliance requirements exist at that level.
An ERA must complete and file certain portions of Part 1 of Form ADV within 60 days of relying on the exemption from registration under section 203(l) of the Advisers Act or section 203(m) of the Advisers Act. Form ADV is filed through the Investment Advisory Registration Depository system maintained by the Financial Industry Regulatory Authority (FINRA).
After an ERA’s initial filing, the ERA must file an annual update within 90 days after the end of its fiscal year (March 30, 2016 for ERAs with a December 31 fiscal year end). When submitting the annual updating amendment, ERAs must update responses to all required items, including corresponding sections of Schedules A, B, C and D.
Additional Compliance Obligations For ERAs
All investment advisers, whether registered or not, are subject to anti-fraud rules under the Advisers Act. In addition, ERAs must comply with the SEC’s “pay-to-play” rule with respect to political contributions and adopt policies and procedures designed to prevent the misuse of material, nonpublic information. ERAs are also subject to the SEC’s enforcement authority and may be the subject to examination.
General Compliance Obligations for All Advisers to Private Funds
There are a number of compliance obligations that all investment advisers should review on a periodic basis and incorporate into their compliance calendars if applicable:
Certain investment advisers will be subject to periodic reporting under Section 13 of the Securities Act of 1933, as amended and filings with the National Futures Association. See 2016 Annual Compliance Dates SEC-Registered Investment Advisers To Private Funds for more information about these deadlines.
Advisers to funds engaged in open or continuous offerings should consider their on-going obligations, including:
- Annual amendments to SEC Form D on or before anniversary of initial Form D filing or most recent amendment. In addition, Form D must be amended as soon as practicable if there are any material mistakes of fact, errors or to reflect a change in the information provided in the previously filed notice.
- Many states require annual renewal of state blue sky notice filings (typically Form D). In addition, updates to a blue sky filing may be required if there are material changes to information in the filing (e.g., name or address).
- Funds, their general partners, investment advisers and placement agents should obtain updated certifications and review their obligations under the Bad Actor Rule (Rule 506(d) of Regulation D) at least on an annual basis, if not more frequently.
In addition to the compliance obligations referenced above, advisers should consider the following at least on an annual basis:
- Review disclosures in marketing materials, partnership agreements, offering memoranda and side letters for any certifications, notices and reporting obligations. Ensure that disclosures in Form ADV and offering documents are consistent and representative of the adviser’s business. Confirm fee and expense allocations conform with offering documents, internal policies and procedures and investor communications.
- Confirm ongoing monitoring of the ERISA plan asset threshold. Send VCOC or REOC certifications to investors if the adviser has agreed to provide these.
- Consider seeking an annual representation from all fund investors as to any changes in their eligibility to participate in profits and losses from new issues.
- Review state and local lobbyist filings and monitor required obligations.
- Perform diligence on key service providers. Are there any material service level issues that need to be addressed? Distribute questionnaires, conduct on-site visits and background checks as necessary.
- ERAs also should consider adopting cybersecurity policies and procedures to protect the personally identifiable information of their clients and investors.
- Review recent guidance issued by the SEC concerning activities that do and do not qualify as “general solicitation” for purposes of offerings under Regulation D. Review fundraising and marketing activities to ensure they are in line with the recent guidance and take appropriate steps to comply moving forward.
Future Considerations in 2016
With an eye on the regulators’ agendas for 2016, the following is a brief snapshot of the pending proposals that ERAs should keep in mind:
- On January 29, 2016, the Institutional Limited Partners Association published its fee reporting template in an effort to standardize the presentation of fees, expenses and carried interest information by fund managers to their limited partners.
- The SEC recently published and is reviewing a report and recommendations concerning changes to the definition of “accredited investor.”Recommendations in the report include, among others, revising the income and net worth thresholds for natural persons, revising the list-based approach for entities to qualify as accredited investors and allowing individuals to demonstrate adequate sophistication in ways other than meeting financial thresholds.
- On May 20, 2015, the SEC issued a rulemaking proposal regarding proposed amendments to Form ADV that requires different or additional information than advisers have provided in the past. The proposed amendments also provide an “umbrella registration” mechanism for private fund advisers and include certain clarifying amendments.
- The Bipartisan Budget Act of 2015 repealed certain sections of the Internal Revenue Code 1986 applicable to partnerships and limited liability companies taxed as partnerships and replacing them with new rules. The new rules provide the potential for partnership level (instead of investor level) tax adjustment and require funds to consider certain elections prior to January 1, 2018.
- Funds based in the Cayman Islands will be required to obtain self-certification forms containing tax-related information from new (after January 1, 2016) and pre-existing investors. The exact timeline for obtaining the self-certifications will be based on date of subscription and account size.