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Investment Management Legal and Regulatory Update - October 2010

October 08, 2010

SEC Adopts Proxy Access Rules But Agrees to Delay Implementation

The SEC has adopted new rules to facilitate the rights of shareholders to nominate directors to a company's board. The new rules will require, under certain circumstances, that a company's proxy materials provide shareholders with information about, and the ability to vote for, shareholder nominees for directors. The new rules will also require that companies include in their proxy materials, under certain circumstances, shareholder proposals that seek to establish a procedure in the company's governing documents for the inclusion of one or more shareholder director nominees in the company's proxy materials.

Legal Challenges to New Proxy Access Rules. On October 4, 2010, the SEC agreed to delay the implementation of these new rules until the U.S. Court of Appeals for the D.C. Circuit has ruled on the legal challenge filed by the U.S. Chamber of Commerce, a business lobbying federation, and the Business Roundtable, an association of chief executive officers of leading U.S. companies, seeking review of the proxy access rules. These groups have asked the appeals court to hold the proxy access rules unlawful, to vacate the rules and their requirements and to issue a permanent injunction prohibiting the SEC from implementing and enforcing the requirements. The SEC joined with the two business groups in filing a motion with the appeals court to seek expedited review of the matter. According to an SEC spokesman, the litigation is expected to be resolved by next spring.

Applicability to Investment Companies. New Exchange Act Rule 14a-11 will apply to all reporting companies under the Exchange Act, including registered investment companies. Rule 14a-11 will apply to fund complexes, including those that utilize a "unitary" board consisting of a group of directors who serve on the board of every fund in the complex, as well as complexes that use "cluster" boards consisting of two or more groups of directors that oversee different sets of funds in the complex. Some commenters have noted that if a shareholder-nominated director were to be elected to a unitary or cluster board, the funds in the fund complex may incur significant additional administrative costs. For example, the shareholder-nominated director may be required to leave during discussions regarding the other funds in the complex, board materials may have to be customized for the director, and the fund complex could face challenges in preserving the status of privileged information. The SEC has stated that the policy goals and benefits of Rule 14a-11 outweigh the potential costs to fund complexes.

Shareholders Eligible to Use Rule 14a-11. Shareholders will be eligible to have their nominee or nominees included in the proxy materials if: (1) they own, either individually or in the aggregate with other members in their group, at least 3% of the total voting power of a company's securities; (2) they have held the qualifying amount of securities continuously for at least three years and continue to hold the required amount of securities through the date of the shareholder meeting; (3) they are not holding the securities with the purpose, or with the effect, of changing control of a company or to gain a number of seats on the board that exceeds the maximum number of nominees that a company is required to include under Rule 14a-11; and (4) they provide to the company and file with the SEC a notice on Schedule 14N of intent to require the inclusion of the shareholder's or group's nominee or nominees in the company's proxy materials.

With respect to registered investment companies, the 3% threshold is based on holdings for an individual fund within a fund complex, and not the entire fund complex.

Nominee Eligibility. A company will not be required to include in its proxy materials any nominee whose candidacy or board membership would violate state or federal law or applicable exchange standards. In the case of an investment company, the nominee must not be an "interested person" of the registrant, as defined in the Investment Company Act.

Maximum Number of Shareholder Nominees. A company would only be required to include one shareholder nominee or the number of nominees that represents 25% of the company's board, whichever is greater.

Notice on New Schedule 14N. A nominating shareholder or group must provide a notice to the company on Schedule 14N of its intent to require the company to include that shareholder's or group's nominee or nominees in the company's proxy materials. The notice on Schedule 14N must be transmitted to the company and filed with the SEC no earlier than 150 calendar days, and no later than 120 calendar days, before the anniversary of the date that the company mailed its proxy materials for the prior year's annual meeting. Schedule 14N will require a nominating shareholder or group to provide detailed disclosure regarding the nominating shareholder or group and the nominee.

If the company did not hold an annual meeting during the prior year, then the company (including registered investment companies) must file a Form 8-K within four business days of determining the anticipated date of its next meeting, disclosing the date by which a nominating shareholder or group must submit notice on Schedule 14N. The date must be a reasonable time before the company mails its proxy materials for the meeting. A registered investment company that is a series company is also required to disclose on the Form 8-K the total number of its shares that are entitled to vote for the election of directors at the meeting as of the end of the most recent calendar quarter.

Requirements for a Company Receiving a Notice. If a company determines that it will include the shareholder nominee or nominees in its proxy materials, the company must notify the nominating shareholder or group in writing no later than 30 calendar days before the company files its definitive proxy statement with the SEC that it will include the nominee.

If a company determines that it will exclude the shareholder nominee from its proxy materials, it must notify the nominating shareholder or group of its determination no later than 14 calendar days after the close of the window period for submission of nominees. The nominating shareholder or group may then respond to the company's deficiency notice within 14 calendar days after receipt of the company's notice. If the company still determines that it will exclude the shareholder nominee after receiving a response, it must provide notice of its intent to do so and the basis for its determination to the SEC and, if desired, seek a no-action letter from the SEC staff no later than 80 calendar days before the company files its definitive proxy statement with the SEC. The nominating shareholder or group may submit a response to the company's notice to the SEC, but must do so no later than 14 calendar days after the shareholder's or group's receipt of the company's notice to the SEC. If requested by the company, the SEC staff may, at its discretion, provide an informal statement of its view to the company and the shareholder or group as soon as practicable. Promptly following receipt of the staff's informal statement of its views, the company must provide notice to the nominating shareholder or group stating whether it will include or exclude the nominee.

Sources: SEC Final Rule Release No. 33-9136 (August 25, 2010); Godfrey & Kahn Securities and Corporate Governance Update (September 2010); Business Roundtable, et.al. v. SEC, No. 10-1305 (D.C. Cir., Filed September 29, 2010); Securities and Exchange Commission, Order Granting Stay, Release No. 33-9149 (October 4, 2010); SEC Awaits Court Ruling on Proxy Rule, The Wall Street Journal (October 4, 2010).
Effective Date: November 15, 2010
Compliance Date: TBD (pending Litigation in the U.S. Court of Appeals for the D.C. Circuit.) If the new rules are upheld, the deadline for shareholders or groups to submit a director nominee or nominees is 120 days prior to the anniversary of the date on which proxy materials were mailed in prior year.


SEC Proposes Rule 12b-1 Reform
The SEC has proposed rule amendments that would replace Rule 12b-1 under the Investment Company Act, the rule that currently allows mutual funds to use fund assets to pay for distribution expenses. The SEC's proposal would rescind Rule 12b-1 in its entirety and in its place implement new rules that would limit sales charges, improve transparency of fees, encourage retail price competition and revise fund director oversight duties.

The "Marketing and Service Fee"

Under proposed new Rule 12b-2, funds could continue to use up to 0.25% of fund assets per year to pay for distribution-related expenses. This "marketing and service fee" is not subject to the limitations on sales loads discussed below. The fee would be specifically identified in the prospectus "fee table" and would be imposed for as long as an investor owns shares of the fund.

The marketing and service fee could be used for any distribution-related expenses, including:

  • ongoing costs of participation on a distribution platform such as a fund supermarket;
  • paying trail commissions to broker-dealers selling fund shares;
  • paying retirement plan administrators for services provided to participants;
  • paying shareholder call centers;
  • compensating underwriters;
  • advertising;
  • printing and mailing prospectuses to prospective shareholders; and
  • other traditional distribution-related activities.

The "Ongoing Sales Charge"

Proposed amended Rule 6c-10 (which permits funds to charge deferred sales loads) would permit funds to pay amounts in excess of the marketing and service fee from fund assets to finance distribution activities. This fee would be considered an "ongoing sales charge," subject to certain cumulative limits, including an automatic conversion feature. The proposed amendments would in effect treat ongoing sales charges as another form of deferred sales load.

The cumulative amount of the ongoing sales charges, together with any other sales charges, could not exceed the highest front-end load imposed by a share class of the same fund that does not impose an ongoing sales charge (the "reference load"). For example, if a fund's Class A shares are subject to a 6.00% front-end sales load and no ongoing sales charge, its Class C shares could charge a cumulative ongoing sales charge of 6.00% (e.g., 75 basis points per year for 8 years). For funds that do not offer a class of shares with a front-end sales load, the reference load would be the maximum amount permitted under FINRA rules for funds that impose an asset-based sales charge and a service fee (currently 6.25% of the amount invested).

The sales charge limit would be based on the cumulative amount of sales charges that an investor pays in any form. Under the proposed amendments, funds would not be required to keep track of the actual dollar amount of ongoing sales charges paid by each individual shareholder account to avoid exceeding the maximum sales charge limitation. Rather, a fund could provide that the shares purchased would automatically convert to another class of shares without an ongoing sales charge no later than the end of the month during which the fund would have paid, on behalf of the investor, the maximum amount of permitted sales charges based on the cumulative rates charged each year.

Alternative Elective Distribution Model

Funds may elect to follow an alternative model in which a fund (or a class of the fund) could issue shares at NAV (i.e., without a sales load) and dealers could impose their own sales charges to pay for distribution. The amount of these fees would not be governed by the Investment Company Act (although FINRA-registered dealers would continue to be subject to existing limits on excessive compensation under FINRA rules). This account-level sales charge would be an alternative to an ongoing sales charge. The fund could, however, charge a marketing and service fee pursuant to proposed Rule 12b-2. This alternative distribution model is, among other things, designed to provide flexibility to fund underwriters and dealers and to encourage price competition among dealers offering mutual funds.

Prospectus Disclosure Requirements

Funds would be required to provide revised disclosures in Form N-1A regarding their use of marketing and service fees and ongoing sales charges. Funds imposing ongoing sales charges would be required to disclose these charges in the prospectus fee table under the heading "Ongoing Sales Charge," which would replace the current heading "Distribution [and/or Service] (12b-1) Fees." Marketing and service fees would be disclosed in a separate category under "Other Expenses."

Funds would no longer be required to disclose narrative information about their Rule 12b-1 plans in the prospectus. However, funds would be required to disclose whether they charge a marketing and service fee or an ongoing sales charge and, if so, the rates of these fees and the purposes for which they are used. Funds that impose ongoing sales charges would also be required to disclose the number of months or years after which the shares would automatically convert to a share class without an ongoing sales charge.

Duties of Directors

Rule 12b-2 and amended Rule 6c-10 would not require fund boards to adopt or renew a "plan" or to make any special findings in order to impose a marketing and service fee or ongoing sales charge, respectively. With respect to marketing and service fees, boards would be able to authorize the use of fund assets to finance distribution-related activities, consistent with the limits of Rule 12b-2 and their fiduciary obligations to the fund and its shareholders. Fund boards, including independent directors, would be responsible for overseeing the amount and use of the marketing and service fees, particularly those that create a potential conflict of interest for the fund's adviser or other affiliated persons. With respect to ongoing sales charges, fund directors would continue to have fiduciary obligations under state law and the Investment Company Act to consider whether the use of fund assets to pay ongoing sales charges is in the best interests of the fund and its investors. The SEC intends to provide guidance in its final adopting release to assist fund directors in satisfying their fiduciary duties.

Shareholder Approval

Under Rule 12b-2, shareholder approval would be required before a fund could institute, or increase the rate of, a marketing and service fee, but shareholder approval would not be required for a fund to institute a marketing and service fee with respect to a new class of fund shares. If a fund decides to convert existing share classes that are subject to Rule 12b-1 fees to conform with proposed Rule 12b-2, a shareholder vote would not be required if the fund: (1) is currently subject to an annual Rule 12b-1 fee of 25 basis points or less and the fee rate is not increased; or (2) reduces its Rule 12b-1 fee to an annual rate of 25 basis points or less and renames the 12b-1 fee a "marketing and service fee." Under amended Rule 6c-10, a new fund, or an existing fund with respect to a new class of shares, would be permitted to institute an ongoing sales charge without shareholder approval. However, once a fund or a class has been sold to the public, an ongoing sales charge would not be permitted to be instituted or increased with respect to that fund or class.

Transition Period and Grandfathering

If adopted, the proposed new rule and rule amendments would become effective within 60 days of the issuance of the SEC's adopting release. For sales of new shares, funds would have 18 months from the effective date to come into compliance. Shares issued prior to the end of the 18-month compliance period that are subject to Rule 12b-1 fees would be allowed a five-year grandfathering period after the compliance period has ended.

Source: SEC Proposed Rule, Release Nos. 33-9128, 34-62544 and IC-29367 (available July 21, 2010).
Compliance Date: TBD
Comments due by November 5, 2010.

Private Fund Investments Advisers Registration Act of 2010
On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") was signed into law. The Private Fund Investment Advisers Registration Act of 2010, which was codified by the Dodd-Frank Act, contains several changes to the regulatory landscape for investment advisers to private funds and the registration requirements and exemptions under the Advisers Act. These changes include the following:

  • Elimination of the private adviser registration exemption. The private adviser exemption under Section 203(b)(3) of the Advisers Act, which provides an exemption from registration for advisers with fewer than 15 clients, has been repealed in its entirety.
  • Exemption for private fund advisers with less than $150 million of assets under management. The SEC will provide an exemption from registration to any investment adviser who acts solely as an adviser to private funds and has less than $150 million of assets under management in the U.S. Any adviser relying on this exemption will still be subject to SEC recordkeeping and reporting requirements.
  • Exemptions for advisers to venture capital funds and small business investment companies. Advisers to venture capital funds and small business investment companies have been exempted from the registration requirements under the Advisers Act.
  • Exemptions for advisers to family offices. Family offices have been excluded from the definition of investment adviser.
  • Shift in federal and state responsibilities. The threshold for federal registration of an adviser under Section 203A of the Advisers Act has generally been raised from $25 million to $100 million in assets under management, leaving to the states the exclusive responsibility of supervising advisers with less than $100 million in assets under management.

Sources: Dodd-Frank Wall Street Reform and Consumer Protection Act, H.R. 4173, 111th Cong. (2010); Godfrey & Kahn Investment Management Update (August 2010).
Effective Date: July 21, 2010
Compliance Date: July 21, 2011


SEC Adopts Final Rule Amendments to Part 2 Of Form ADV
The SEC has adopted amendments to Part 2 of Form ADV and related rules under the Advisers Act, which will require SEC-registered investment advisers to provide clients with a narrative brochure. The amendments also impose additional disclosure requirements on advisers, including the requirement to provide clients with a brochure supplement containing information about certain adviser personnel who provide investment advice. Advisers will be required to file brochures electronically with the SEC, and the brochures will be made publicly available through the SEC's website.

The revised Form ADV Part 2 includes two subparts: Part 2A and Part 2B. Part 2A, referred to as the brochure, discusses the business practices, disciplinary history and conflicts of interest of the adviser. Part 2B, referred to as the brochure supplement, contains information about the personnel of the adviser upon whom clients rely for advice.

Amendments to Rules 204-1 and 204-3 under the Advisers Act modify the delivery requirements for brochures, brochure supplements and updates to advisory clients (see below). In addition, the Form ADV brochure must now be publicly filed with the SEC. The brochure supplement will not be required to be filed and need only be retained in the adviser's files for SEC examination.

A more in-depth discussion regarding the amendments to Part 2 to Form ADV can be found within the "Investment Management" section of our website (www.gklaw.com) under the "News & Publications" heading.

Sources: SEC Final Rule Release No. IA-3060 (July 28, 2010); Godfrey & Kahn Investment Management Update (September 2010)
Effective Date: October 11, 2010
Compliance Dates:

  • SEC-registered advisers with fiscal years ending on or after December 31, 2010 will be required to include a new Part 2A to comply with the amendments with their next annual updating amendment filed with the SEC no later than March 31, 2011. Within 60 days of filing the amendment, the adviser must deliver a brochure and brochure supplement to its existing clients. Advisers with a fiscal year ending prior to December 31, 2010 will have the option of filing an annual update with a brochure that satisfies the requirements of the previous Part 2 or the new Part 2A.
  • Advisers applying for registration with the SEC after January 1, 2011 will be required to file a brochure that meets the requirements of the new Part 2.

SEC Adopts Temporary Rule Requiring Municipal Advisors to Register by October 1, 2010
The SEC has adopted new Rule 15Ba2-6T under the Exchange Act as an interim final temporary rule, requiring municipal advisors to register with the SEC by October 1, 2010, a deadline established by the Dodd-Frank Act. Section 975 of the Dodd-Frank Act, which amends Section 15B of the Exchange Act, makes it unlawful for a municipal advisor to (1) provide advice to or on behalf of a municipal entity with respect to municipal financial products or the issuance of municipal securities or (2) undertake a solicitation of a municipal entity, unless the municipal advisor is registered with the SEC. Subject to certain exemptions, the definition of "municipal advisor" includes financial advisors, guaranteed investment contract brokers, third-party marketers, placement agents, solicitors, finders, and certain swap advisors that provide municipal advisory services. The definition of "municipal advisor" excludes, among other entities, a broker-dealer serving as an underwriter and any registered investment adviser or their associated persons who are providing investment advice (as opposed to municipal securities advice). The SEC adopted Rule 15Ba2-6T in order to provide a method for municipal advisors to temporarily satisfy the statutory registration requirement until the SEC has promulgated a final permanent registration program. The interim final temporary rule will expire on December 31, 2011.

Municipal advisors can satisfy the registration requirement by completing the new Form MA-T on the SEC's website. Form MA-T requires that municipal advisors provide identifying and contact information (such as the advisor's principal place of business, contact person, tax ID number and SEC, CRD and IARD numbers, as applicable) and identify their municipal advisory activities. Municipal advisors must also provide disciplinary history information similar to what the SEC obtains from registered broker-dealers and investment advisers. Municipal advisors will be required to amend their Forms MA-T whenever any identifying and contact information or disciplinary information has become inaccurate in any way, and whenever a municipal advisor wishes to withdraw from temporary registration.

Sources: SEC Interim Final Temporary Rule Release No. 34-62824 (September 1, 2010); SEC Adopts Temporary Rule Requiring Municipal Advisors to Register with Agency, Release No. 2010-162 (September 2, 2010).
Effective Dates: October 1, 2010 through December 31, 2011
Comment Period ended October 8, 2010.


SEC Sweep Examinations Involving Advisers and Private Funds
Recent reports have indicated that the SEC's Office of Compliance Inspections and Examinations ("OCIE") is currently conducting a "sweep exam" of advisers specializing in alternative investment vehicles such as hedge funds, private equity funds and venture capital funds (collectively, "private funds") to determine whether firms are adhering to appropriate standards of care with respect to their clients' interests and addressing potential conflicts of interest. The sweep exam has identified for questioning, approximately a dozen investment advisory firms overseeing between $100 million to $15 billion in assets but the sweep exam could be expanded to encompass additional firms.

Reports have indicated that SEC officials have requested the following information as part of their examination process:

  • The names of private funds that advisers considered but rejected, and the reasons why those funds were rejected.
  • The names of all consultants and outside advisers that helped choose or reject private fund managers, and the compensation for their services.
  • Private fund investment transaction history (purchases and sales) of current and former clients, as well as proprietary accounts of the firm and its executive officers.
  • Information relating to the personal accounts of advisory-firm executives who invested in the same private funds as their clients.
  • Information about how advisers market private funds.
  • Whether advisers entered into confidentiality agreements with the private funds in which they invest.
  • Whether advisers have entered into side-letter agreements on behalf of certain investors providing privileges that other investors do not receive.

Sources: Jenny Strasburg, SEC Examines Funds of Hedge Funds, The Wall Street Journal (September 10, 2010); Joshua Gallu and Jesse Westbrook, SEC Probes Money Managers for Conflicts in Choosing Hedge Funds, Bloomberg (September 10, 2010) (available at: www.bloomberg.com).

SEC Urges Funds to Examine Derivatives-Related Disclosures
The SEC's Division of Investment Management sent a letter dated July 30, 2010 to the Investment Company Institute ("ICI") expressing its concern regarding the adequacy of derivatives disclosures in mutual fund registration statements, shareholder reports and financial statements. It has also been reported that the SEC is calling individual fund complexes to discuss their use of derivatives.

In the letter, the SEC notes that its observations are intended to give investment companies immediate guidance to provide investors with more understandable disclosures related to derivatives, including the rules associated with derivatives. The letter recommends that funds using derivatives should:

  • assess the accuracy and completeness of their disclosure, including whether the disclosure is written in plain English;
  • specifically tailor any derivatives-related principal investment strategies to address how the fund expects to be managed and address the strategies the fund expects to be the most important means of achieving its objectives;
  • describe the purpose that derivatives are intended to serve in the fund's portfolio (e.g., hedging, speculation or as a substitute for investing in conventional securities), and the extent to which derivatives are expected to be used;
  • tailor the principal risk disclosure in the prospectus to address the types of derivatives used by the fund, the extent and purpose of their use and provide a complete risk profile; an
  • review derivatives-related disclosure in connection with each annual registration statement update and assess whether such disclosure is complete and accurate in light of the fund's actual operations.

The letter also notes that the SEC is reviewing mutual fund disclosures contained in shareholder reports and financial statements. The SEC indicates that it will continue to compare a fund's investment objectives, strategies and risks in its registration statement to its shareholder reports to assess whether the disclosures regarding the fund's operations, particularly derivatives-related disclosures, appear to be consistent with its registration statement disclosures. Similarly, the SEC indicates that it will continue to review financial statement disclosures, including assessing whether derivative-related disclosures in financial statements appear consistent with the management's discussion of fund performance disclosure in the shareholder reports.

Sources: Letter from Barry D. Miller, Associate Director, Office of Legal and Disclosure, U.S. Securities and Exchange Commission, to Karrie McMillan, General Counsel, Investment Company Institute (July 30, 2010); Peter Ortiz, SEC Dialing Up Funds About Derivatives Disclosure, Ignites (September 15, 2010).

Initiatives of the SEC's Asset Management Unit
On September 22, 2010, Robert Khuzami, the SEC's Director of the Division of Enforcement, testified before the U.S. Senate Committee on the Judiciary regarding initiatives undertaken by the SEC's newly created Asset Management Unit. In connection with its "Mutual Fund Fee Initiative," the Unit is developing analytics to ascertain whether advisers are charging excessive advisory fees to retail mutual fund investors. Mr. Khuzami testified that these analytics are expected to result in examinations and investigations of advisers and fund boards concerning their duties under the Investment Company Act.

In connection with its "Bond Fund Initiative," the Unit is focusing on disclosure and valuation issues in mutual fund bond portfolios and developing risk analytics that identify red flags for further investigation, such as misrepresentations of leverage, outlier performance and problematic valuations. Lastly, in connection with its "Problem Adviser Initiative," the Unit is developing a risk-based approach to detecting problem advisers through on going due diligence reviews of advisers' representations to investors related to their education, experience and past performance.

Sources: Robert Khuzami, Director, Division of Enforcement, U.S. Securities and Exchange Commission, Testimony Concerning Investigating and Prosecuting Fraud after the Fraud Enforcement and Recovery Act (September 22, 2010); Beagan Wilcox Volz, SEC Top Cop: High Fund Fees May Prompt Exams, Ignites (September 23, 2010).

House of Representatives Passes Fund Tax Reform Bill
The U.S. House of Representatives voted to pass the Regulated Investment Company Modernization Act of 2010, which seeks to modernize the tax laws governing regulated investment companies ("RICs" or mutual funds) by mitigating onerous penalties, eliminating obsolete requirements and implementing practical and flexible provisions for the tax treatment of RICs. While the Senate has not yet voted on the legislation, significant opposition is not expected. If approved, the legislation's provisions would generally be effective beginning with the first taxable year following the date of enactment.

The legislation represents the most significant update to the tax provisions governing RICs in years. Key provisions of the legislation are summarized below.

  • Commodities Will Produce Good Income. The legislation would expand the definition of "good income" to include income produced by commodities. Previously, a RIC risked failing the 90% good income test if it made significant investments in commodities.
  • RIC Qualification Failures Easier to Cure. The legislation would permit failures of the good income test to be corrected by paying a tax based on the amount of the failure. Previously, if a RIC failed the good income test by even one dollar, it became taxable as a corporation. RICs will still need to monitor compliance with the good income test, but the consequences of failure will no longer be so drastic. Similarly, the legislation provides an easy cure for de minimis failures of the RIC asset diversification test if a correction is timely made, while more significant, inadvertent failures can be corrected by payment of an excise tax
  • Preferential Dividends Rule Repealed. The legislation would repeal the preferential dividend rule for publicly offered RICs. Under current law, a "preferential dividend" is not a qualifying distribution for the annual distribution requirement applicable to RICs, which currently sets a trap for RICs making simple administrative errors.
  • Liberalized Loss Carry-Forward. The legislation would permit RICs to carry-forward losses indefinitely, rather than applying the current eight-year limitation.

Other Provisions: The legislation also contains other updates to the laws governing RICs, including elimination of the obsolete 60-day notice requirement for the tax characterization of distributions (replaced with Form 1099 reporting), revised provisions for fund-of-fund structures and minimized penalties for deficiency dividends.

Sources: Regulated Investment Company Modernization Act of 2010, H.R. 4337, 111th Cong. (2010); House Ways and Means Committee Summary of the Regulated Investment Company Modernization Act of 2009 (December 2009); Peter Ortiz, Fund Tax Reform Bill Gains Momentum, Ignites (September 30, 2010).

Effective Date: TBD (effective beginning the first taxable year following the date of enactment).


Department of Labor Adopts New Disclosure Rules for Plan Service Providers
The U.S. Department of Labor has issued rule amendments, which will become effective on July 16, 2011, imposing new disclosure requirements on investment advisers and other service providers to ERISA-covered employee benefit plans ("plans"). The amended rule expands the types of information service providers are required to furnish to the plans they serve.

Section 408(b)(2) of ERISA, which exempts arrangements between plans and service providers that otherwise would be prohibited transactions under Section 406 of ERISA, provides relief for service contracts or arrangements if (1) the services provided are necessary for the establishment or operation of the plan, (2) no more than reasonable compensation is paid for the services, and (3) the contract or arrangement is reasonable. The new regulation amends the rules under ERISA Section 408(b)(2) to clarify the meaning of a "reasonable" contract or arrangement for covered plans. In order for certain contracts or arrangements for services to be reasonable, the covered service provider must disclose specified information to a plan fiduciary under the new rule.

A more detailed discussion of these new disclosure rules can be found within the "Investment Management" section of our website (www.gklaw.com) under the "News & Publications" heading.

Sources: DOL/EBSA Interim Final Rule, 29 CFR Part 2550, Reasonable Contract or Arrangement Under Section 408(b)(2)-Fee Disclosure, 75 Fed. Reg. 136 (July 16, 2010); Godfrey & Kahn Investment Management Update (August 2010).
Effective Date: July 16, 2011
Comment Period ended August 30, 2010.


SEC Rulemaking Under the Dodd-Frank Act
The Dodd-Frank Act empowered the SEC to implement extensive rulemaking that will impact the investment management industry. Accordingly, the SEC has released a tentative schedule for its rulemaking under the Dodd-Frank Act. The schedule planned for the SEC's investment management-related rulemaking is as follows:

October-December 2010

  • Propose rules to implement reporting obligations on investment advisers related to the assessment of systemic risk.
  • Propose rules to: (1) implement the exemptions from registration for advisers to venture capital firms and for certain advisers to private funds; (2) define "family office" for purposes of exclusion from the definition of "investment adviser"; and (3) implement the transition of mid-sized advisers (between $25 million to $100 million in assets under management) from SEC to state regulation.
  • Propose rules to adjust the threshold requirements for natural persons to qualify as "qualified clients" under the Advisers Act.
  • Propose rules to adjust the threshold requirements for natural persons to qualify as "accredited investors" for purposes of certain exempt private offerings.
  • Propose rules regarding increasing oversight of the over-the-counter derivatives market.
  • Establish a new Office of the Investor Advocate, Office of Credit Ratings and Office of Municipal Securities.
  • Propose rules prohibiting material conflicts of interest between certain parties involved in the issuance of asset-backed securities and investors in such securities.
  • Propose rules regarding disclosure by investment advisers of votes on executive compensation.

January-March 2011

  • Report to Congress regarding the study of the standards of care for brokers, dealers and investment advisers.
  • Report to Congress regarding the need for enhanced resources for investment adviser examinations and enforcement.
  • Complete study on ways to improve investor access to information about investment advisers and broker-dealers.
  • Adopt rules regarding disclosure by investment advisers of votes on executive compensation

April-July 2011

  • Adopt rules to implement reporting obligations on investment advisers related to the assessment of systemic risk.
  • Adopt rules to: (1) implement the exemptions from registration for advisers to venture capital firms and for certain advisers to private funds; (2) define "family office" for purposes of exclusion from the definition of "investment adviser"; and (3) implement the transition of mid-sized advisers (between $25 million to $100 million in assets under management) from SEC to state regulation.
  • Adopt rules to adjust the threshold requirement for natural persons to qualify as "qualified clients" under the Advisers Act.
  • Adopt rules to adjust the threshold requirements for natural persons to qualify as "accredited investors" for purposes of certain exempt private offerings.
  • Report to Congress on the study of the costs and benefits of real-time reporting on short sale positions.
  • Adopt rules regarding increasing oversight of the over-the-counter derivatives market.
  • Propose rules based on the report to Congress regarding the study of the standards of care for brokers, dealers and investment advisers.
  • Adopt rules prohibiting material conflicts of interest between certain parties involved in the issuance of asset-backed securities and investors in such securities.

Source: Implementing Dodd-Frank Wall Street Reform and Consumer Protection Act - Upcoming Activity

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