Key Notes:

  • As an alternative to adding new share classes, mutual funds can offer sales load variations for different intermediaries.
  • Form N-1A requires disclosure regarding the arrangement for a class of individuals, not share classes, who receive a sales load variation from a particular intermediary.
  • SEC encourages funds making changes to sales loads and/or creating new share classes to request selective review of registration statement filings.

The U.S. Securities and Exchange Commission (SEC) recently offered guidance to mutual funds that are considering variations in sales loads and new share classes in response to a Department of Labor (DOL) rule designed to address conflicts of interest with respect to retirement advice. The SEC provided specific guidelines to ensure that mutual funds comply with disclosure requirements and reminded them of certain administrative procedures that expedite the review of registration statement filings.

DOL Rule

An April 2016 DOL conflict of interest rule requires investment advisers to treat retirement investment advice as fiduciary advice. The rule affects investment advice regarding 401(k) plans, IRAs and every retirement plan rollover or distribution, and changes the way investment advisers and broker-dealers receive compensation.

As a result of changing compensation structures, many mutual funds are considering streamlined sales loads that apply uniformly to investors who purchase shares through a single intermediary. Certain mutual funds are also considering offering new share classes with varying sales loads, transaction charges and ongoing expenses. The SEC highlighted certain disclosure issues and procedural requirements to facilitate compliance with all applicable rules and regulations relating to changes in mutual fund offerings resulting from the DOL rule.

Sales Load Disclosure Requirements

The SEC guidance indicates that investors who purchase fund shares through a designated intermediary are a “class” under Item 12(a)(2) of Form N-1A. Thus, class refers to a category of investors, not a category of shares, for purposes of Form N-1A disclosures. Mutual funds selling shares with variations in sales loads must disclose in their prospectuses each intermediary whose investors receive a sales load variation. This disclosure must be presented in a clear, concise and understandable manner to make it easier for investors to find information about sales loads that differ by intermediary, and it should include sufficient information to allow investors who purchase fund shares through a specific intermediary to determine which scheduled variation applies to their investments. Mutual funds can make sales load disclosures for multiple intermediaries in an appendix to the statutory prospectus, which can be provided as a standalone document as long as it is incorporated into the prospectus and the prospectus states that information about sales load variations is in a separate document.

The SEC reminds mutual funds seeking to disclose sales load variations to file an amendment to their registration statements under Rule 485(a) and urges them to seek selective review of the filing. Selective review is particularly appropriate for a Rule 485(a) filing that reflects a sales load variation expected to be introduced for other funds later. If a mutual fund plans to make substantially identical changes to multiple funds simultaneously, the SEC recommends filing a single amendment and requesting template filing relief, which indicates to the SEC that class-specific information is substantially identical across the funds.

The SEC also reminds mutual funds seeking to offer new share classes to file a Rule 485(a) amendment, which it will review for disclosures regarding fund fees, performance and distribution arrangements. If the mutual fund is only seeking to add a new share class, the SEC encourages the fund to seek selective review. If identical changes are being sought across multiple funds, the SEC recommends seeking template filing relief.

Impact

The SEC’s guidance demonstrates that instead of adding new share classes, mutual funds can provide different sales loads for different intermediaries. Funds contemplating changes to sales load structures and/or adding new share classes should consider requesting selective or template review by the SEC where appropriate.