The Securities and Exchange Commission (SEC) has adopted rules under the Dodd-Frank Wall Street Reform and Consumer Protection Act that subject advisers to hedge funds and private equity funds to regulatory oversight, examination, and reporting requirements.
Advisers to venture capital funds, or to private funds that have less than $150 million in assets, are exempt from the registration requirement but will still be subject to reporting requirements. The rules also provide guidance to “mid-sized advisers” regarding transitions between SEC and state registration.
Under the Dodd-Frank Act, hedge fund and private equity fund advisers who were previously exempt from registration requirements will now be required to register with the SEC under the Investment Advisers Act of 1940. Although the Dodd-Frank Act becomes effective July 21, 2011, the new rules extend the registration deadline to March 30, 2012.
Newly registered advisers will become subject to recordkeeping, disclosure, and other regulatory requirements imposed under the Advisers Act, including limitations on receipt of compensation based on a share of capital gains or capital appreciation realized on client funds. Once registered, advisers to private funds will be required to file annual reports that do the following:
- Provide organization and operational information about each fund they manage
- Identify “gatekeepers” (i.e. auditors, prime brokers, custodians, marketers, and administrators) who perform critical roles for them and their private funds
- Supply information about their advisory business, including the types of clients they advise, their employees, and their advisory activities
- Detail potential conflicts of interest, their non-advisory activities, and their financial industry affiliations
Exemptions from registration are available for entities that provide advice solely to venture capital funds or to private funds with less than $150 million in assets. The term “venture capital fund” is defined in the rules as a private fund for which the following is true:
- Invests primarily in “qualifying investments” (generally equity securities acquired from private operating companies that do not borrow in connection with the fund’s investment in the company)
- Is not leveraged, except for a minimal amount on a short-term basis
- Does not offer redemption rights to its investors
- Represents itself to investors as pursuing a venture capital strategy
- Is not a registered investment company and has not elected to be treated as a business development company
Even though exempt from registration, venture capital fund advisers and advisers to private funds with less than $150 million in assets under management will still be required to file annual reports with the SEC regarding their advisory activities and the funds they manage. An exemption from registration is also available to foreign advisers without a U.S. place of business and less than $25 million in aggregate client assets from fewer than 15 U.S. clients and private fund investors.
Before passage of the Dodd-Frank Act, advisers could not register with the SEC unless they managed at least $25 million for their clients. The Dodd-Frank Act establishes a new category of “mid-sized advisers” that manage between $25 million and $100 million for clients. A mid-sized adviser subject to registration in the state where it maintains its office may not register with the SEC but rather must register with the state securities regulator. The SEC estimates that 3,200 mid-sized advisers will be required to switch from SEC registration to state registration. The new rules provide guidance on calculation of assets under management for these purposes and establish June 28, 2012, as the registration compliance date.