In November 2008, the Securities and Exchange Commission (the “SEC”) approved new rules that apply to mutual fund prospectuses that will (i) require key information to appear in plain English in a standardized order at the front of the prospectus, and (ii) permit a fund to satisfy its prospectus delivery obligations using a short form “summary prospectus,” as long as the full prospectus is available on the Internet and in paper upon request.[1] While the SEC has not yet published an adopting release for the new rules (the “Adopting Release”), we wanted to go ahead and summarize the proposed amendments as they represent one of the most significant legal development for mutual funds in 2008. The amendments are designed to provide investors with information that is easier to use and more readily accessible, while retaining the comprehensive information that is currently available for those who desire it.

New Summary Section for Statutory Prospectus. As noted above, the amendments will implement a new summary section (the “Summary Section”) for the beginning of mutual fund prospectuses. The SEC has not yet published the Adopting Release for the new rules, so we do not know what changes, if any, have been made to the rules since the proposal.[2] However, assuming that the final rules are substantially similar to the proposed rules, the Summary Section will address the following topics in the following order:

  • Investment Objectives and Goals – The summary information will begin with the fund’s investment objectives and goals, similar to a fund’s current risk/return summary section of its prospectus.
  • Costs (Fee Table) – This information will be similar to a fund’s current fee table, but with several modifications. Funds offering breakpoint discounts will be required to include a brief narrative disclosure to alert investors to the availability of such discounts. The “Annual Fund Operating Expenses” section will also be revised to reflect plain English. Additionally, funds other than money market funds will have to include information on turnover rate and the effect it has on transaction costs and performance. Finally, funds will need to disclose gross operating expenses that do not reflect the effect of expense reimbursement or fee waiver arrangements.
  • Investments, Risks, and Performance – This information will be the same as that provided in a fund’s current risk/return summary, including the risk/return bar chart and the table illustrating the variability of returns and past performance.
  • Portfolio Holdings - This section will disclose the fund’s 10 largest issues in its portfolio, with the percentage of net assets represented by each, as of the end of the most recent calendar quarter. Management – The fund will name each investment adviser and sub-adviser, in addition to the name, title, and length of service of each of the fund’s portfolio managers.
  • Purchase and Sale of Fund Shares – This section will describe the fund’s minimum initial and subsequent investment requirements, as well as the procedure for redeeming shares.
  • Tax Information – The fund will state whether it intends to make distributions that will have ordinary income or capital gains treatment, or if it intends to distribute tax-exempt income. Financial Intermediary Compensation – The fund will include a statement regarding the possibility that the fund will pay intermediaries such as broker-dealers for the sale of fund shares and related services.

New Prospectus Delivery Options. As noted above, the SEC has not yet published the Adopting Release, but assuming that the final rules are substantially similar to the proposed rules, a mutual fund will be able to satisfy its obligation to deliver a statutory prospectus to investors under Section 5(b)(2) of the Securities Act of 1933 by delivering a “summary prospectus” at or before the time the fund sells a security. [3] A summary prospectus will contain the fund’s name and the share classes to which the summary prospectus relates; a statement identifying the document as a “summary prospectus”; and the approximate date of the summary prospectus’s first use, and will be required to include the same information in the same order as the Summary Section from the statutory prospectus. The summary prospectus must also provide a legend advising readers of the availability of further information, and the internet address, the toll-free or collect telephone number, and email address where the reader can obtain such information. While there are no page limits, the proposing release suggested the summary would cover 3-4 pages per fund. If any other materials accompany the summary prospectus, they cannot be bound with it, and they will not be permitted to be more prominent than the summary prospectus. Finally, delivery of the summary prospectus alone will not satisfy the requirements; funds will also be required to (i) make the statutory prospectus available on the Internet;[4] and (ii) send paper and electronic copies of the statutory prospectus and certain other information to any investor upon request.

The Press Release indicated that the new rules will be effective as of February 28, 2009. However, it also indicated that funds will have until January 1, 2010 to begin complying with changes to Form N-1A.

As discussed above, the information in this Legal Alert is based on the Press Release and the proposing release for the new rules, since the Adopting Release has not yet been made available. We will update you further when the SEC publishes the Adopting Release.