Family offices or high net worth clients often create investment funds to manage commingled family assets. Recent regulatory changes caused by amendments to the Commodity Exchange Act of 1936 (“CEA”) by the Dodd-Frank Act1 may force family offices that have created any pooled investment vehicle falling within the definition of a “commodity pool”2 to consider whether or not they are required to register, or file a notice for exemption from registration, as a commodity pool operator (“CPO”). The Commodity Futures Trading Commission (“CFTC”), which regulates commodity pools, has adopted, amended or rescinded various rules; this includes the rescission of CEA Rule 4.13(a)(4), which used to exempt from CPO registration certain institutional entities such as investment partnerships and other pooled vehicles sponsored and managed by single family offices.3
The CFTC is considering whether to exempt family offices from the CPO definition, but no such exemption is currently in effect.4 For pools existing prior to April 24, 2012, pools managed and sponsored by single family offices that relied on Rule 4.13(a)(4) for exemption from CPO registration by filing the required notice may continue to so rely until December 31, 2012. They must register as a CPO after that date, unless otherwise exempted.
Generally speaking, any pooled investment vehicle that invests directly or indirectly (e.g., when it invests in another pooled investment vehicle that is also a commodity pool) in commodity interests will be deemed a commodity pool. Commodity5 interests have long included traditional futures contracts. However, the Dodd-Frank Act added a new “commodity pool” definition to the CEA6 and amended the CPO definition7 to include certain swaps.
Because the term “swap” required further definition, many entities, including family offices, awaited the CTFC’s final rulemaking to determine whether the amended CPO definition would apply to their pooled vehicles. The final rule defining swaps was published in the Federal Register on August 13, 2012.8 Swaps include, among other things, certain derivatives intended to protect equity positions. In addition, unless further exemptive relief is granted by the Secretary of the Treasury, swaps also include foreign exchange forwards and foreign exchange swaps.9
Absent the availability of an exemption, each operator of the pool will generally be subject to registration as a commodity pool operator. Equally important, the CFTC has taken the view that a single swap or other commodity interest can cause a pooled vehicle to constitute a commodity pool.10 Thus, a family office that owns a pooled fund with one or more swaps may be a commodity pool. To the extent that the family office sponsors the fund, it may be subject to CPO registration and regulatory oversight by the CFTC. A family office may be able to delegate its CPO registration obligation to another manager, such as a registered investment adviser acting as a manager of the pooled vehicle and registered as a CPO, but it would still have certain obligations under the CEA.11
CPO registration requires membership in the National Futures Association (“NFA”), a selfregulatory body authorized and overseen by the CFTC. NFA members are subject to periodic examination and their “associated persons” are generally required to pass proficiency examinations. CPO registration also entails compliance and disclosure obligations, including filing certified annual reports.
Given that the CFTC has yet to adopt a specific family office exemption, managers of family offices with pooled investment vehicles falling within the definition of a “commodity pool” essentially have three choices: (i) register in accordance with the rules; (ii) if available, file a notice to rely on an existing exemption; or (iii) seek individual exemptive or no-action relief, or seek interpretative relief on behalf of all similarly situated family offices.12
With respect to existing exemptions from registration, a family office may be exempt from CPO registration under CEA Rule 4.13(a)(1) if it: (i) operates only one commodity pool; (ii) receives no compensation; and (iii) is not otherwise required to be registered (i.e. as a CTA). Alternatively, a family office may avoid CPO registration under CEA Rule 4.13(a)(2) if its commodity pools have aggregate contributions of $400,000 or less, and have fewer than 15 participants in the pools.
The contribution and participant limits are not quite as onerous as they appear, as they do not apply to the CPO, its principals, or immediate family members of the principals or other relatives living in the principals’ households. These exemptions are not self-executing and require notice filings with the NFA to be effective. However, given the structure of many family offices, these exemptions have historically been of limited use.
Family offices may also seek relief under CEA Rule 4.13(a)(3) to the extent that their commodity pool meets certain conditions such as restricting participation to certain categories of individuals13 and satisfying at least one of two alternative de minimis trading tests.14 While exemption from CPO registration reduces certain compliance and disclosure obligations, family offices should understand that exempt CPOs are still subject to antifraud regulation under the CEA.15
Family office managers may also seek exemptive or no-action letters from the CFTC. Several letters were granted to certain family offices prior to the enactment of the Dodd-Frank Act and CFTC adoption of related rules. The letters generally took the position that vehicles comprised solely of immediate family members are not commodity pools and, therefore, their managers are not CPOs. These letters are factspecific and the CFTC does not permit them to be relied on by others.16 In addition, family offices may seek a CFTC interpretive letter on behalf of all similarly situated persons, but no such relief exists under the new rules.
The extra-territorial reach of the new commodity pool and CPO requirements is also unclear.17 As such, foreign family offices that operate pooled vehicles within the definition of a “commodity pool” may also trigger the CPO registration obligation. Family offices with commingled investment vehicles investing in commodity interests should consult with counsel regarding their specific situation.