Yesterday President Obama’s administration proposed the Private Fund Investment Advisers Registration Act of 2009 (the "Act") to the U.S. Congress which, if enacted as proposed, would require SEC registration for investment advisers to private funds with assets under management of $30 million or more. The term "private fund" under the Act means an investment fund (including a hedge fund, private equity fund, and venture capital fund) that:
- would be an investment company as defined in section 3 of the Investment Company Act of 1940, as amended (the "Investment Company Act"), but for section 3(c)(1) or 3(c)(7) of the Investment Company Act; and
- either (i) is organized or otherwise created under the laws of the United States or of a state; or (ii) has 10% or more of its outstanding securities owned by U.S. persons.
Elimination of Private Client Exemption and Commodity Trading Adviser Exemption
Under current law, investment advisers managing client assets of at least $30 million are required under the Investment Advisers Act of 1940, as amended (the "Advisers Act") to register with the SEC, unless an exemption from registration is available. Many advisers to private funds currently rely on the "private client exemption" from registration for advisers with 15 or fewer clients—where the term "clients" is defined in a way that allows each fund to be counted as a single client even where the underlying limited partners may number into the hundreds. The Private Fund Investment Advisers Registration Act of 2009 would eliminate the private client exemption from the Advisers Act.
Notably, the Act does not propose to change the current $30 million required registration threshold, which the Obama Administration's White Paper on Financial Regulatory Reform left uncertain. Under current law, regulation of investment advisers with client assets under $25 million is reserved for the states. Investment advisers with assets under management between $25 million and $30 million may choose to be regulated by either the SEC or their home state securities regulator. Considering recent SEC enforcement fumbles, Congress may have good reason to raise the threshold to avoid spreading the SEC too thin.
In addition to eliminating the private client exemption, the Act would also eliminate the exemption from registration under the Advisers Act for any investment adviser registered with the Commodity Futures Trading Commission as a commodity trading advisor to the extent such investment adviser acts as an adviser to a private fund.
Reports and Records of Private Funds
As discussed in our March 26th and June 24th Alerts, President Obama's regulatory reform also includes identification and greater regulation of investment funds that, due primarily to their size, are seen as having the potential to pose a threat to our overall financial stability. To that end, the Act would authorize the SEC to require investment advisers to private funds to maintain records of, and submit to the SEC, reports and records regarding such private funds, which would include, but not be limited to, the following information:
- amount of assets under management;
- use of leverage (including off-balance sheet leverage);
- counterparty credit risk exposures;
- trading and investment positions;
- trading practices; and
- such other information as the SEC, in consultation with the Federal Reserve, determines necessary or appropriate in the public interest and for the protection of investors or for the assessment of systemic risk.
All records and reports of private funds maintained by an investment adviser under the Act would be subject to examination by the SEC. The SEC would make all records and reports available to the Federal Reserve and the Financial Services Oversight Council as are necessary or appropriate in the public interest and for the assessment of systemic risk or assessing whether a private fund should be designated a Tier 1 financial holding company. All information obtained by the Federal Reserve or the Financial Services Oversight Council from the SEC would be kept confidential.
The Act would require investment advisers to private funds to provide such reports, records and other documents to investors, prospective investors, counterparties, and creditors, of any private fund advised by the investment adviser as the SEC, by rules and regulations, may prescribe as necessary or appropriate in the public interest and for the protection of investors or for the assessment of systemic risk.