The SEC staff recently advised in an interpretive letter to the chairs of the Independent Directors Council and the Mutual Fund Directors Forum that it is inappropriate for mutual fund boards to delegate their responsibility to make the determinations required pursuant to Rules 10f-3, 17a-7 and 17e-1 under the 1940 Act. Rule 10f-3 governs participation in an underwriting in which an affiliate is a participant; Rule 17a-7 governs cross transactions between the fund and the adviser’s clients; and Rule 17e-1 governs portfolio transactions effected by an affiliated party.
Rules 10f-3, 17a-7 and 17e-1 are each conflict of interests rules with director approval requirements to protect shareholders. The rules each require a fund board to make a determination, no less frequently than quarterly, that each transaction made during the previous quarter was effected in compliance with procedures reasonably designed to provide that the transactions comply with the requirements of the relevant rule. The letter states that, contrary to some boards’ practice of delegating the responsibility to make the determinations required under these rules to their chief compliance officers pursuant to Rule 38a-1, the clear wording of each rule provides that the board itself must make such determinations. The letter clarifies, however, that boards may rely on summary reports prepared by the fund’s chief compliance officer or other third parties where consistent with the prudent discharge of their fiduciary duties. The letter cautions boards to confirm there is a process in place reasonably designed to ensure that transactions are effected in a manner that is consistent with board-approved procedures and the relevant rules.
A copy of the interpretive letter is available at http://www.sec.gov/divisions/investment/ noaction/2010/idc-mfdf110210.pdf.