The U.S. Commerce Department’s Bureau of Economic Analysis (BEA) has proposed a change to its direct foreign investment surveys to lessen the reporting burden on certain private funds. Under the new policy, inbound or outbound investments in private funds that do not own 10% or more of the voting interest in any operating companies would not have to be reported to the BEA. Rather, investments in private funds that only hold less than a 10% voting interest in operating companies would be considered “portfolio investments” reportable on the Treasury International Capital (TIC) reports instead. This change would not affect the BEA reporting requirements for investments in operating companies or investments through private funds that control operating companies if the reporting criteria are otherwise met. BEA plans to formally publish this rule change for public comment in Summer 2016, to become effective in 2017. We summarize below the main aspects of the proposed rule change, as well as key takeaways.
Private Funds Reporting Change
Under current BEA rules and practice, investments by U.S. entities with a 10% or greater voting interest in a foreign private fund, as well as investments by foreign entities with a 10% or greater voting interest in a U.S. private fund, are considered “direct” foreign investments reportable in various BEA surveys. This is true regardless of whether the private funds’ investments are only in holding companies or whether the funds do not take any voting interest in their investments. BEA considers general partners to hold 100% of the voting interest in limited partnerships and managing members to hold 100% of the voting interest in limited liability companies, while limited partners and non-managing members hold zero voting interest. Under current practice, reporting is required in BEA’s “direct” investment surveys even though the investment scheme may actually be closer in substance to a “portfolio” investment, which is an investment of less than 10% voting interest and which is reportable on TIC forms instead.
BEA’s new policy seeks to more clearly distinguish between direct and portfolio investments, and to remove from BEA reporting jurisdiction those investments in private funds that exhibit substantive characteristics of portfolio investments. Accordingly, the following investments will no longer require BEA reporting:
- U.S. entity’s investment with a 10% or more voting interest in a foreign private fund that only makes portfolio investments.
- Foreign entity’s investment with a 10% or more voting interest in a U.S. private fund that only makes portfolio investments.
For purposes of this rule, portfolio investments are those in other private funds, holding companies, or investments with less than a 10% voting interest in an operating company. These changes will primarily benefit parties investing in hedge funds that only acquire less than 10% voting interest in operating companies, and parties investing in private equity funds that invest exclusively in other private funds or those that hold less than a 10% voting interest in operating companies (including limited partner interests). The change will not affect BEA reporting of investments, directly or indirectly, of 10% or more voting interest in any operating companies through a private fund. The BEA rule change will apply both to quarterly, annual, and benchmark outbound investment surveys (BE-10, BE-11, and BE-577) and inbound investment surveys (BE-12, BE-15, BE-605, and BE-13).
BEA plans to provide interactive flowcharts that will walk U.S. reporters through a series of questions to determine whether a particular investment is a direct investment covered by BEA surveys. Drafts of these flowcharts are available now on BEA’s website.
BEA plans to publish this rule change for public comment in Summer 2016. It will notify potentially affected U.S. reporters of the final rule change in December 2016, since there will be a process for a reporter to notify BEA that it is no longer subject to BEA’s foreign direct investment surveys. When the final rule change goes into effect, it will apply beginning with surveys due in 2017. Even prior to formal publication of the rule change, BEA has asked for feedback via email from private funds on the reporting change and draft flowcharts.
This proposed rule change may potentially decrease the BEA reporting burden on certain private funds, especially hedge funds. While portfolio investments may need to be reported on TIC forms instead, many asset managers already file both BEA surveys and TIC forms. Since BEA’s inbound and outbound investment surveys have broad application, many private funds may still have to file multiple BEA surveys. However, given the recent proliferation of BEA reporting requirements, it is worthwhile for private funds to consider whether this proposed reporting change may apply to their operations.