Category Archives: compliance

Cole-Frieman & Mallon 2018 End of Year Update

Below is our quarterly newsletter. If you would like to be added to our distribution list, please contact us.

Clients, Friends, Associates:

As we prepare for a new year, we also reflect on an eventful 2018 that included developments impacting both traditional hedge fund managers as well as those in the digital asset space. Regardless of these developments, year-end administrative upkeep and 2019 planning are always particularly important, especially for general counsels, Chief Compliance Officers (“CCOs”), and key operations personnel. As we head into 2019, we have put together this checklist and update to help managers stay on top of the business and regulatory landscape for the coming year.

This update includes the following:

  • Annual Compliance & Other Items
  • Annual Fund Matters
  • Annual Management Company Matters
  • Regulatory & Other Items from 2018 Compliance Calendar

We are also delighted to announce that effective December 22, 2018 our growing San Francisco team will complete their move to expanded premises at 255 California Street, San Francisco, CA 94111.

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Annual Compliance & Other Items

Annual Privacy Policy Notice. On an annual basis, registered investment advisers (“RIAs”) are required to provide natural person clients with a copy of the firm’s privacy policy if (i) the RIA has disclosed nonpublic personal information other than in the connection with servicing consumer accounts or administering financial products; or (ii) the firm’s privacy policy has changed. The U.S. Securities and Exchange Commission (the “SEC”) has provided a model form and accompanying instructions for firm privacy policies.

Annual Compliance Review. On an annual basis, the CCO of an RIA must conduct a review of the adviser’s compliance policies and procedures. This review should be in writing and presented to senior management. We recommend that firms discuss the annual review with their outside counsel or compliance firm, who can provide guidance about the review process as well as a template for the assessment and documentation. Conversations regarding the annual review may raise sensitive matters, and advisers should ensure that these discussions are protected by attorney-client privilege. CCOs may also want to consider additions to the compliance program. Advisers that are not registered may still wish to review their procedures and/or implement a compliance program as a best practice.

Form ADV Annual Amendment. RIAs or managers filing as exempt reporting advisers (“ERAs”) with the SEC or a state securities authority must file an annual amendment to Form ADV within 90 days of the end of their fiscal year. For most managers, the Form ADV amendment will be due on March 31, 2019. This year, because March 31st falls on a Sunday, we recommend filing annual amendments to the Form ADV on Friday, March 29, 2019, and no later than the first business day following the 90-day deadline (Monday, April 1, 2019). RIAs must provide a copy of the updated Form ADV Part 2A brochure and Part 2B brochure supplement (or a summary of changes with an offer to provide the complete brochure) to each “client”. For SEC RIAs to private investment vehicles, a “client” for these purposes means the vehicle(s) managed by the adviser and not the underlying investors. State-registered advisers need to examine their state’s rules to determine who constitutes a “client”.

Switching to/from SEC Regulation.

SEC RIAs. Managers who no longer qualify for SEC registration as of the time of filing the annual Form ADV amendment must withdraw from SEC registration within 180 days after the end of their fiscal year (June 29, 2019 for most managers) by filing a Form ADV-W. Such managers should consult with legal counsel to determine whether they are required to register or file an exemption from registration in the states in which they conduct business.

ERAs. Managers who no longer meet the definition of an ERA will need to apply for registration with the SEC or the relevant state securities authority, if necessary. Managers who are required to register with the SEC as of the date of their annual amendment must register with the SEC within 90 days of filing the annual amendment (June 29, 2019 for most managers, assuming the annual amendment is filed on March 31, 2019).

Custody Rule and Annual Audits.

SEC RIAs. SEC RIAs must comply with certain custody procedures, including (i) maintaining client funds and securities with a qualified custodian; (ii) having a reasonable basis to believe that the qualified custodian sends an account statement to each advisory client at least quarterly; and (iii) undergoing an annual surprise examination conducted by an independent public accountant. SEC RIAs to pooled investment vehicles may avoid both the quarterly statement and surprise examination requirements by having audited financial statements prepared for each pooled investment vehicle in accordance with generally accepted accounting principles by an independent public accountant registered with the Public Company Accounting Oversight Board (“Auditor”). Statements must be sent to investors in the fund within 120 days after the fund’s fiscal year end. Managers should review their custody procedures to ensure compliance with these rules.

California RIAs. California RIAs (“CA RIAs”) that manage pooled investment vehicles and are deemed to have custody of client assets are also subject to independent party and surprise examinations. However, similarly to SEC RIAs, CA RIAs can avoid these additional requirements by engaging an Auditor to prepare and distribute audited financial statements to all investors of the fund, and to the Commissioner of the California Department of Business Oversight (“DBO”). Those CA RIAs that do not engage an auditor must, among other things, (i) provide notice of such custody on the Form ADV; (ii) maintain client assets with a qualified custodian; (iii) engage an independent party to act in the best interest of investors to review fees, expenses, and withdrawals; and (iv) retain an independent certified public accountant to conduct surprise examinations of client assets.

Other State RIAs. Advisers registered in other states should consult with legal counsel about those states’ custody requirements.

ERAs. Each state has its own requirements for ERAs. CA ERAs must undergo an annual audit and provide the audit to their investors within 120 days after the end of their fiscal year (April 30, 2019 for most managers).

California Minimum Net Worth Requirement and Financial Reports.

RIAs with Custody. Every CA RIA that has custody of client funds or securities must maintain at all times a minimum net worth of $35,000, however, the minimum net worth is $10,000 for a CA RIA (i) deemed to have custody solely because it acts as general partner of a limited partnership, or a comparable position for another type of pooled investment vehicle; and (ii) that otherwise complies with the California custody rule described above (such advisers, “GP RIAs”).

RIAs with Discretion. Every CA RIA that has discretionary authority over client funds or securities, whether or not they have custody, must maintain at all times a net worth of at least $10,000, and preferably $12,000 to avoid certain reporting requirements.

Financial Reports. Every CA RIA that either has custody of, or discretionary authority over, client funds or securities must file an annual financial report with the DBO within 90 days after the adviser’s fiscal year end. The annual financial report must contain a balance sheet, income statement, supporting schedule, and verification form. These financial statements must be audited by an independent certified public accountant or independent public accountant if the adviser has custody of client assets.

Annual Re-Certification of CFTC Exemptions. Commodity pool operators (“CPOs”) and commodity trading advisers (“CTAs”) currently relying on certain exemptions from registration with the U.S. Commodity Futures Trading Commission (“CFTC”) are required to re-certify their eligibility within 60 days of the calendar year end. Such CPOs and CTAs will need to evaluate whether they remain eligible to rely on such exemptions.

CPO and CTA Annual Updates. Registered CPOs and CTAs must prepare and file Annual Questionnaires and Annual Registration Updates with the National Futures Association (“NFA”), as well as submit payment for annual maintenance fees and NFA membership dues. Registered CPOs must also prepare and file their fourth quarter report for each commodity pool on Form CPO-PQR, while CTAs must file their fourth quarter report on Form CTA-PR. For more information on Form CPO-PQR, please see our earlier  post. Unless eligible to claim relief under Regulation 4.7, registered CPOs and CTAs must update their disclosure documents periodically, as they may not use any document dated more than 12 months prior to the date of its intended use. Disclosure documents that are materially inaccurate or incomplete must be corrected promptly, and the corrected version must be distributed promptly to pool participants. Any amended disclosure documents must also be approved by the NFA.

Trade Errors. Managers should make sure that all trade errors are properly addressed pursuant to the manager’s trade errors policies by the end of the year. Documentation of trade errors should be finalized, and if the manager is required to reimburse any of its funds or other clients, it should do so by year end.

Soft Dollars. Managers that participate in soft dollar programs should address any commission balances from the previous year.

Schedule 13G/D and Section 16 Filings. Managers who exercise investment discretion over accounts (including funds and separately managed accounts (“SMAs”)) that are beneficial owners of 5% or more of a registered voting equity security must report these positions on Schedule 13D or 13G. Passive investors are generally eligible to file the short form Schedule 13G, which is updated annually within 45 days of the end of the year. Schedule 13D is required when a manager is ineligible to file Schedule 13G and is due 10 days after acquisition of more than 5% beneficial ownership of a registered voting equity security.

For managers who are also making Section 16 filings, this is an opportune time to review your filings to confirm compliance and anticipate needs for the first quarter. Section 16 filings are required for “corporate insiders” (including beneficial owners of 10% or more of a registered voting equity security). An initial Form 3 is due within 10 days after becoming an “insider”; Form 4 reports ownership changes and is due by the end of the second business day after an ownership change; and Form 5 reports any transactions that should have been reported earlier on a Form 4 or were eligible for deferred reporting and is due within 45 days after the end of each fiscal year.

Form 13F. A manager must file a Form 13F if it exercises investment discretion with respect to $100 million or more in certain “Section 13F securities” within 45 days after the end of the year in which the manager reaches the $100 million filing threshold. The SEC lists the securities subject to 13F reporting on its website.

Form 13H. Managers who meet the SEC’s large trader thresholds (in general, managers whose transactions in exchange-listed securities equal or exceed two million shares or $20 million during any calendar day, or 20 million shares or $200 million during any calendar month) are required to file an initial Form 13H with the SEC within 10 days of crossing the threshold. Large traders also need to amend Form 13H annually within 45 days of the end of the year. In addition, changes to the information on Form 13H will require interim amendments following the calendar quarter in which the change occurred.

Form PF. Managers to private funds that are either registered with the SEC or required to be registered with the SEC and who have at least $150 million in regulatory assets under management (“RAUM”) must file Form PF. Smaller private advisers (fund managers with less than $1.5 billion in RAUM) must file Form PF annually within 120 days of their fiscal year-end. Larger private advisers (fund managers with $1.5 billion or more in RAUM) must file Form PF within 60 days of the end of each fiscal quarter.

Form MA. Investment advisers that provide advice on municipal financial products are considered “municipal advisers” by the SEC, and must file a Form MA annually, within 90 days of their fiscal year end.

SEC Form D. Form D filings for most funds need to be amended on at least an annual basis, on or before the anniversary of the most recently filed Form D. Copies of Form D are publicly available on the SEC’s EDGAR website.

Blue Sky Filings. On an annual basis, fund managers should review their blue sky filings for each state to make sure it has met any initial and renewal filing requirements. Several states impose late fees or reject late filings altogether. Accordingly, it is critical to stay on top of filing deadlines for both new investors and renewals. We also recommend that managers review blue sky filing submission requirements. Many states now permit blue sky filings to be filed electronically through the  Electronic Filing Depository (“EFD”) system, and certain states will now only accept filings through EFD.

IARD Annual Fees. Preliminary annual renewal fees for state-registered advisers, SEC RIAs, and ERAs (that are required to file a Form ADV) are due on December 17, 2018. If you have not already done so, you should submit full payment into your Renewal Account by E-Bill, check, or wire as soon as possible.

Pay-to-Play and Lobbyist Rules. SEC rules disqualify investment advisers, their key personnel, and placement agents acting on their behalf, from seeking to be engaged by a governmental client if they have made certain political contributions. State and local governments have similar rules, including California, which requires internal sales professionals who meet the definition of “placement agents” (people who act for compensation as finders, solicitors, marketers, consultants, brokers, or other intermediaries in connection with offering or selling investment advisory services to a state public retirement system in California) to register with the state as lobbyists and comply with California lobbyist reporting and regulatory requirements. Note that managers offering or selling investment advisory services to local government entities must register as lobbyists in the applicable cities and counties. State laws on lobbyist registration differ widely, so managers should carefully review reporting requirements in the states in which they operate to make sure they are in compliance with the relevant rules.

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Annual Fund Matters

New Issue Status. On an annual basis, managers need to confirm or reconfirm the eligibility of investors that participate in initial public offerings or new issues, pursuant to Financial Industry Regulatory Authority, Inc. (“FINRA”) Rules 5130 and 5131. Most managers reconfirm investor eligibility via negative confirmation (i.e. investors are informed of their status on file with the manager and are asked to inform the manager of any changes), whereby an investor’s failure to respond operates as consent affirmation of the current status.

ERISA Status. Given the significant problems that can occur from not properly tracking ERISA investors in private funds, we recommend that managers confirm or reconfirm on an annual basis the ERISA status of their investors. This is particularly important for managers that track the underlying percentage of ERISA funds for each investor, with respect to each class of interests in a pooled investment vehicle.

Wash Sales. Managers should carefully manage wash sales for year end. Failure to do so could result in book/tax differences for investors. Certain dealers can provide managers with swap strategies to manage wash sales, including basket total return swaps and split strike forward conversions. These strategies should be considered carefully to make sure they are consistent with the investment objectives of the fund.

Redemption Management. Managers with significant redemptions at the end of the year should carefully manage unwinding positions so as to minimize transaction costs in the current year (that could impact performance) and prevent transaction costs from impacting remaining investors in the next year. When closing funds or managed accounts, managers should pay careful attention to the liquidation procedures in the fund constituent documents and the managed account agreement.

NAV Triggers and Waivers. Managers should promptly seek waivers of any applicable termination events set forth in a fund’s ISDA or other counterparty agreement that may be triggered by redemptions, performance, or a combination of both at the end of the year (NAV declines are common counterparty agreement termination events).

Fund Expenses. Managers should wrap up all fund expenses for 2018 if they have not already done so. In particular, managers should contact their outside legal counsel to obtain accurate and up-to-date information about legal expenses for inclusion in the NAV for year-end performance.

Electronic Schedule K-1s. The Internal Revenue Service (“IRS”) authorizes partnerships and limited liability companies taxed as partnerships to issue Schedule K-1s to investors solely by electronic means, provided the partnership or company has received the investor’s affirmative consent. States may have different rules regarding electronic K-1s and partnerships and companies should check with their counsel whether they may still be required to send state K-1s on paper. Partnerships and companies must also provide each investor with specific disclosures that include a description of the hardware and software necessary to access the electronic K-1s, the length of time that the consent is effective, and the procedures for withdrawing the consent. If you would like to send K-1s to your investors electronically, you should discuss your options with your service providers.

“Bad Actor” Recertification Requirement. A security offering cannot rely on the Rule 506 safe harbor from SEC registration if the issuer or its “covered persons” are “bad actors”. Fund managers, and their applicable officers and directors, must determine whether they are subject to the bad actor disqualification any time they are offering or selling securities in reliance on Rule 506. The SEC has advised that an issuer may reasonably rely on a covered person’s agreement to provide notice of a potential or actual bad actor triggering event pursuant to contractual covenants, bylaw requirements, or undertakings in a questionnaire or certification. If an offering is continuous, delayed, or long-lived, however, issuers must update their factual inquiry periodically through bring-down of representations, questionnaires, and certifications, negative consent letters, periodic re-checking of public databases, and other steps, depending on the circumstances. Fund managers should consult with counsel to determine how frequently such an update is required. As a matter of practice, most fund managers should perform such update at least annually.

U.S. FATCA. Funds should monitor their compliance with the U.S. Foreign Account Tax Compliance Act (“FATCA”). FATCA reports are due to the IRS on March 31, 2019 or September 30, 2019, depending on where the fund is domiciled. Reports may be required by an earlier date for jurisdictions that are parties to intergovernmental agreements (“IGAs”) with the U.S. Additionally, the U.S. may require that reports be submitted through the appropriate local tax authority in the applicable IGA jurisdiction, rather than the IRS. Given the varying FATCA requirements applicable to different jurisdictions, managers should review and confirm the specific reporting requirements that may apply. As a reminder, we strongly encourage managers to file the required reports and notifications, even if they already missed previous deadlines. Applicable jurisdictions may be increasing enforcement and monitoring of FATCA reporting and imposing penalties for each day late.

CRS. Funds should also monitor their compliance with the Organisation for Economic Cooperation and Development’s Common Reporting Standard (“CRS”). All “Financial Institutions” in the Cayman Islands and British Virgin Islands are required to register with the respective jurisdiction’s Tax Information Authority and submit returns to the applicable CRS reporting system by May 31, 2019. Managers to funds domiciled in other jurisdictions should also confirm whether any CRS reporting will be required in such jurisdictions. CRS reporting must be completed with the CRS XML v1.0 or a manual entry form on the Automatic Exchange of Information portal. We recommend managers contact their tax advisors to stay informed of FATCA and CRS requirements and avoid potential penalties.

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Annual Management Company Matters

Management Company Expenses. Managers who distribute profits on an annual basis should attempt to address management company expenses in the year they are incurred. If ownership or profit percentages are adjusted at the end of the year, a failure to manage expenses could significantly impact the economics of the partnership or the management company.

Employee Reviews. An effective annual review process is important to reduce the risk of employment-related litigation and protect the management company in the event of such litigation. Moreover, it is an opportunity to provide context for bonuses, compensation adjustments, employee goals, and other employee-related matters at the firm. It is not too late to put an annual review process in place.

Compensation Planning. In the fund industry, and the financial services industry in general, the end of the year is the appropriate time to make adjustments to compensation programs. Since much of a manager’s revenue is tied to annual income from incentive fees, any changes to the management company structure, affiliated partnerships, or any shadow equity programs should be effective on the first of the year. Make sure that partnership agreements and operating agreements are appropriately updated to reflect such changes.

Insurance. If a manager carries Directors & Officers or other liability insurance, the policy should be reviewed on an annual basis to ensure that the manager has provided notice to the carrier of all actual and potential claims. Newly launched funds should also be added to the policy as appropriate.

Other Tax Considerations. Fund managers should assess their overall tax position and consider several steps to optimize tax liability. Managers should also be aware of self-employment taxes, which can potentially be minimized by structuring the investment manager as a limited partnership. Managers can take several steps to optimize their tax liability, including: (i) changing the incentive fee to an incentive allocation; (ii) use of stock-settled stock appreciation rights; (iii) if appropriate, terminating swaps and realizing net losses; (iv) making a Section 481(a) election under the Internal Revenue Code of 1986, as amended (the “Code”); (v) making a Section 475 election under the Code; and (vi) making charitable contributions. Managers should consult legal and tax professionals to evaluate these options.

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Regulatory & Other Items from 2018

SEC Updates.

SEC Annual Enforcement Report. On November 2, 2018, the SEC Division of Enforcement published its Annual Report, which highlighted enforcement efforts protecting “main street investors” through initiatives such as the newly-created SEC Retail Strategy Task Force, disclosures of 12b-1 marketing and distribution fees by mutual funds, required cybersecurity disclosures by public companies, and enforcement efforts regarding Initial Coin Offerings (“ICOs”) and digital assets. In 2018, the SEC brought a total of 821 enforcement actions and obtained monetary judgements totaling $3.95 billion, both of which were increases from 2017 figures.

CFTC and NFA Updates.

NFA Develops New Swaps Proficiency Program and Exam. On June 5, 2018, the NFA  announced  the creation of a new online proficiency and exam program for swaps. The online program and exam are expected to launch in early 2020, and any associated persons engaging in swaps activities will be required to pass the program and exam. Previously, training and examinations had only been required for associated persons engaging in futures or forex activities.

Digital Asset Updates.

SEC Settles Charges Against Digital Asset Hedge Fund Management Company. On December 7, 2018, the SEC settled charges against the management company of a digital asset hedge fund for alleged violations of the general solicitation rules. In the settlement agreement, the SEC alleged that the management company violated the general solicitation rules because they did not have substantive and pre-existing relationships with all investors in their fund, offered securities over a website that was accessible to the general public without a password, failed to take reasonable steps to verify accredited investor status, and engaged in general solicitation via online and in person events. In the settlement, the management company agreed to abide by a cease and desist order and to pay a $50,000 civil penalty

SEC Settles Charges Against Digital Asset Hedge Fund Manager. On September 11, 2018, the SEC announced the settlement of charges against a digital asset hedge fund and its manager. The charges included failing to register the hedge fund as an investment company, and offering and selling unregistered securities. Settlement terms included a cease and desist order against both the fund and fund manager, censure, and a $200,000 penalty. Notably, this is the first action the SEC has taken against a digital asset fund based on violations of the registration requirements of the Investment Company Act of 1940, as amended (the “Investment Company Act”).

SEC Emphasis on ICOs. Throughout 2018, the SEC focused much of its regulatory and enforcement efforts on ICOs. Notable developments included:

  • On February 6, 2018, SEC Chairman Jay Clayton stated at a Senate hearing, “I believe every ICO I have seen is a security”.
  • On September 11, 2018, the SEC settled charges against an ICO platform for operating as an unregistered broker-dealer.
  • On October 11, 2018 the SEC issued an Investor Alert that warned against ICOs claiming SEC approval or impersonating the SEC. Also October 11th, the SEC  obtained an emergency stop order against an ICO company for falsely claiming SEC approval. However, on November 27, 2018, a federal judge denied an SEC motion for a temporary restraining order against the ICO company, ruling that the SEC had not yet proven that the ICO was a security. Further, on October 22, the SEC obtained an order to suspended the trading of a cryptocurrency company for falsely claiming to be an SEC-qualified custodian.
  • On November 16, 2018, the SEC reached two settlements with companies for offering and selling unregistered securities through ICOs, and the companies have agreed to register the tokens from these past ICOs as securities with the SEC as part of the settlement agreements. Additionally, the SEC released a statement taking the position that the federal securities laws apply to ICOs, and that it is not too late for past ICO issuers to comply with these laws.
  • On November 29, 2018, the SEC settled two charges against celebrities for endorsing and promoting several ICOs. Both celebrities failed to disclose to investors that they had been paid to promote the ICOs. The terms of the settlements included disgorgement of profits and civil penalties of $300,000 and $100,000.

NFA Digital Asset Disclosure Rule. On July 20, 2018, the NFA released an Interpretive Notice creating new disclosure requirements for Futures Commission Merchants (FCMs), CPOs, and CTAs engaging in digital asset activities. For more information on this Interpretive Notice, please see our previous  post.

New York Attorney General Releases Report on Digital Asset Exchanges. On September 18, 2018, the Office of the Attorney General of New York (the “OAG”) released  a report summarizing a crypto exchange fact-finding initiative. Based on the digital asset exchanges examined, the OAG outlined three primary areas of concern: potential conflicts of interest, lack of anti-abuse controls, and limited customer fund protection.

SEC Settles Charges Against Founder of Digital Asset Exchange. On November 8, 2018, the SEC settled charges against the founder of a digital asset exchange. The SEC took the position that the digital asset exchange qualified as an “exchange” under the Securities Exchange Act of 1934, as amended, and therefore was required to register with the SEC, which it had not done. The founder agreed to settlement terms including $300,000 in disgorgement, $13,000 for pre-trial interest, and a $75,000 penalty.

Other Updates.

Second Circuit Amends Insider Trading Ruling. On June 25, 2018, the U.S. Court of Appeals for the Second Circuit amended its decision in United States v. Martoma, clarifying tippee liability in insider trading cases. The Second Circuit held that a “meaningfully close personal relationship” is not required for tippee liability, and once again upheld a former portfolio manager’s 2014 conviction for insider trading. For further discussion of the original 2017 decision please see our previous 2017 Third Quarter Update.

Fifth Circuit Vacates DOL Fiduciary Rule. On March 15, 2018, the Fifth Circuit Court of Appeals issued a judgement vacating the Department of Labor (“DOL”) Fiduciary Rule in its entirety, finding that the DOL lacked the authority to enact the rule. The Fiduciary Rule would have expanded the definition of a “fiduciary” to include anyone making a securities or investment property “recommendation” to an employee benefit plan or retirement account. For further discussion please see our previous 2018 Second Quarter Update.

GDPR and Enhanced Data Protection Requirements Effected. On May 25, 2018, the  General Data Protection Regulation (“GDPR”) went into effect as part of the efforts of the European Union (“EU”) to protect personal data. U.S. fund managers with EU resident investors will need to: (i) maintain records of any data processing activities; (ii) obtain EU clients’ affirmative consent to process data; and (iii) provide EU clients with access to the fund’s privacy policy. Managers that have no presence in the EU, but that also have EU resident investors, may be required to appoint an EU local representative. However, such managers may still be excluded from this requirement if they can demonstrate that their data processing is only “occasional”, does not include special categories of EU resident personal data (including criminal) on a large scale, and is unlikely to result in a risk to the rights and freedoms of natural persons. We believe most of our clients generally fall into this exclusion and will not need to appoint an EU representative. For more information on GDPR, including compliance items of particular note for fund managers, please see our earlier  post.

Section 3(c)(1) of the Investment Company Act Amended. President Trump authorized the Economic Growth, Regulatory Relief, and Consumer Protection Act (“Growth Act”) on May 24, 2018. A portion of the Growth Act amends Section 3(c)(1) of the Investment Company Act by increasing the number of investors allowed in a qualifying venture capital fund from 100 to 250 investors. The Growth Act defines a qualifying venture capital fund as one with less than $10 million in aggregate capital contributions and uncalled committed capital.

Qualified Opportunity Zones. The 2017 Tax Cuts and Jobs Act mandated that the IRS create “Qualified Opportunity Zones” (“QOZs”), which are designated low-income areas that will provide certain tax breaks and incentives. Qualified Opportunity Funds (QOFs) that make investments in QOZs may qualify for tax incentives including a tax deferral of capital gains that are re-invested into QOFs and a tax exclusion for capital gains that are reinvested into QOFs and held for ten years. On October 19, the IRS  released proposed regulations and guidance notes that provide clarification on how QOFs can receive capital gain tax deferrals if they are located in QOZs.

Offshore Updates.

The Cayman Islands Monetary Authority (“CIMA”) Provides Anti-Money Laundering (“AML”) Compliance Guidance and Delays the AML Officer Deadline. CIMA released a notice on April 6, 2018 providing guidance on the 2017 revisions to its AML Regulations. The notice discusses the requirement for private funds to appoint an Anti-Money Laundering Compliance Officer (“AMCLO”), Money Laundering Reporting Officer (“MLRO”) and Deputy Money Laundering Reporting Officer (“DMLRO”), and offer guidance on compliance obligations when these duties are outsourced or delegated. Under these new CIMA requirements, investment funds that conduct business in or from the Cayman Islands must appoint individuals to these new AML officer positions. CIMA has delayed certain deadlines for funds that launched prior to June 1, 2018:

  • CIMA-Registered Cayman Funds – registered funds must have appointed the new officers by September 30, 2018, but do not need to confirm the identity of the officers via CIMA’s Regulatory Enhanced Electronic Forms Submission (“REEFS”) portal until December 31, 2018. Managers should confirm that they have appointed individuals to the AML officer positions if they have not already done so.
  • Unregistered Cayman Fund – unregistered funds do not need to appoint the new officers until December 31, 2018, and they do not need to confirm the identity of these officers via the REEFS portal.

Funds formed on or after June 1, 2018 must have appointed the officers (and confirmed such officers through REEFS for registered funds) at launch. If you have any questions, we recommend fund managers discuss AML compliance with offshore counsel and the fund’s administrator.

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Compliance Calendar

Compliance Calendar. As you plan your regulatory compliance timeline for the coming months, please keep the following dates in mind:

Deadline Filing
December 17, 2018 IARD Preliminary Renewal Statement payments due (submit early to ensure processing by deadline)
December 27, 2018 Last day to submit filings via IARD prior to year end
December 31, 2018 Review RAUM to determine 2019 investment adviser registration and Form PF filing requirements
December 31, 2018 Deadline for CIMA-registered funds formed prior to June 1, 2018 to confirm the identity of new AML officers via REEFS
January 15, 2019 Quarterly Form PF due for large liquidity fund advisers (if applicable)
January 31, 2019 “Annex IV” AIFMD filing
February 14, 2019 Registered CTAs must submit a 2018 year-end report
February 14, 2019 Quarterly Form 13F updates due
February 14, 2019 Annual Form 13H updates due
February 14, 2019 Annual Schedule 13G updates due
March 1, 2019 Deadline for re-certification of CFTC exemptions
March 1, 2019 Quarterly Form PF due for larger hedge fund advisers (if applicable)
March 1, 2019 Large-sized CPOs must submit a quarterly report (CPO-PQR)
March 31, 2019 Deadline to update and file Form ADV Parts 1, 2A & 2B
March 31, 2019 Small and mid-sized registered CPOs must submit a quarterly report (CPO-PQR) for the fourth quarter of 2018
Periodic Fund managers should perform “Bad Actor” certifications annually
Periodic Amendment due on or before anniversary date of prior Form D and blue sky filing(s), as applicable, or for material changes
Periodic CPO/CTA Annual Questionnaires must be submitted annually, and promptly upon material information changes

Bart Mallon is a founding partner of Cole-Frieman & Mallon LLP.  Mr. Mallon can be reached directly at 415-868-5345.

 

Greyline Solutions Continues Expansion

Regulatory Compliance Consulting Company Adds Significant Broker-Dealer Practice

Below is a press release from Greyline Solutions, one of the premier regulatory consulting groups (editors note: I have an ownership interest in this company and have worked with the acquired company, Vista Compliance, and Talia Brandt for a number of years).  I’d like to send my congratulations to all on the Greyline team!

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Greyline Solutions Expands with Addition of Vista Compliance

Greyline Solutions announces partnership with Vista Compliance. Talia Brandt to lead broker-dealer practice for Greyline.

San Francisco, Calif. – April 13, 2017 – Greyline Solutions, LLC, a premier financial regulatory and
compliance consulting firm headquartered in San Francisco, is partnering with Vista Compliance, a national compliance consulting firm based in San Francisco. The transaction, which is expected to close on May 1, 2017, will expand Greyline’s presence to the East Coast. It will also create a broker-dealer practice, which will be led by Talia Brandt, Vista’s founder.

Brandt and her team of senior consultants – who each have more than 10 years of industry experience, including experience at regulators – will reinforce Greyline’s ability to support alternative asset managers and traditional investment advisers in their compliance efforts.

“For the past nine years, Vista has been steadily growing our business by servicing investment advisers and broker dealers with a client-centric orientation and a commitment to partner with our clients to meet their compliance needs. In joining forces with Greyline, we are excited to leverage our offering by expanding our presence in other markets,” says Brandt.

“Vista’s success is impressive. Its depth of SEC and FINRA compliance experience, including experience working at regulators, has made it a top choice for managers looking for high-touch, institutional-quality services,” says Matthew Okolita, chief executive officer of Greyline. “Vista’s commitment to sustainable quality services aligns perfectly with our mission, and this partnership will allow us continue our efforts to expand nationally across all spectrums of the asset management industry.”

About Greyline Solutions

Headquartered in San Francisco, Greyline Solutions is a national compliance consulting firm offering comprehensive compliance solutions for businesses in the securities industry. Greyline prides itself on tailoring compliance management solutions to the unique needs its clients, which include private equity, venture capital, hedge fund managers, commodity pool operators and other investment managers, as well as businesses ranging from entrepreneurial start-ups to multi-billion dollar international institutions. Custom technology and experienced staff are two of the hallmarks of Greyline’s offerings. The firm is comprised of securities industry
professionals with decades of experience in the financial and regulatory industries. Its mission is to simplify the process, minimize risk, and lower costs, with the core goal of helping clients focus on building and enhancing their businesses.

Contact Information
Matthew Okolita
Greyline Solutions LLC
http://www.greylinesolutions.com
415.604.9527

SEC Compliance – Custody Issue

Annual Update Guidance on Custody Issue

It is that time of year that registered investment advisers are focusing on the ADV annual updating process.  Occasionally the SEC will provide guidance to managers on common questions applicable to the application or updating process.  Below is a note the SEC sent out to all registered investment advisers regarding the custody issue.  If you have questions on the application of the custody rules to your particular situation, you should discuss with your law firm or compliance consultant.

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To: SEC-Registered Investment Advisers,

This email is a reminder that all SEC-registered advisers that have custody of client assets should answer all questions in Item 9 of Part 1A of Form ADV. Each adviser’s answers will vary depending on facts and circumstances.

For example, advisers that have custody solely because they deduct fees from client accounts would respond “no” in Item 9.A. Additionally, these advisers would likely respond “no” in Items 9.B., and 9.D., and they likely would not need to provide information in Items 9.C. or 9.E. However, in Item 9.F., these advisers likely would need to indicate that there is at least one person acting as qualified custodian for their clients in connection with advisory services they provide to clients.

If you have questions, you may reply to this email.

U.S. Securities and Exchange Commission
Division of Investment Management
100 F Street, N.E.
Washington, DC 20549-8549
Phone | 202.551.6999

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Cole-Frieman & Mallon is a boutique law firm which provides regulatory compliance and consulting services to the investment management industry.  Bart Mallon can be reached directly at 415-868-5345.

Regulation S-ID Identity Theft Rules

Identity Theft Red Flag Rules Effective November 20, 2013

Pursuant to new SEC and CFTC rules, many registered managers, including private fund managers are now required to have identity theft programs in place.  Such managers will need to have robust policies in place in order to be compliant with the new rules.  Such policies will include: staff training for appearance of red flags, procedures for dealing with red flags, certification of procedures from administrators and/or custodians dealing with investor/customer accounts.

Below we have reprinted an article from the Compliance Focus blog maintained by Sansome Strategies LLC, a regulatory and compliance consulting company described in greater depth below.  The article reprinted below can be found here.

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Identity Theft Issues for Investment Advisers and Futures Participants
Jennifer Dickinson, Sansome Strategies

A little-known provision of the Dodd-Frank Act shifted responsibility over existing identity theft rules from the Federal Trade Commission to the Securities and Exchange Commission (“SEC”) and the Commodity Futures Trading Commission (“CFTC”). The rules became effective May 20, 2013 and certain entities regulated by the SEC and CFTC will need to comply by November 20, 2013.

Overview

SEC and CFTC registrants that are “financial institutions” or “creditors” and that offer or maintain “covered accounts” for their clients will need to comply with the identity theft rules:

  • Financial institution: a bank, credit union or other person who holds a transaction account belonging to a consumer (a transaction account is one that permits withdrawals, payment orders, transfers or similar means for making payments to third parties);
  • Creditor: any person that regularly extends, renews or continues credit to others.
  • Covered account: any account that a financial institution or creditor offers or maintains:
    1. Primarily for personal, family or household purposes that involves or is designed to permit multiple payments or transactions; and
    2. There is a reasonably foreseeable risk to customers or to the safety and soundness of the financial institution or creditor from identity theft, including financial, operational, compliance, reputation or litigation risks. Examples include: for the SEC, brokerage or mutual fund accounts that permit wire transfers or other payments to third parties; for the CFTC, margin accounts.

Who will be affected, and how?

On the SEC side, broker-dealers, investment companies and investment advisers are considered financial institutions. On the CFTC side, commodity pool operators and commodity trading advisers will be considered creditors if they:

  • Regularly extend, renew or continue credit or arrange for the extension, renewal or continuation of credit; or
  • Acting as an assignee of an original creditor, participate in the decision to extend, renew or continue credit.

Firms that meet these definitions are required to implement reasonable policies and procedures that:

  • Identify “red flags” to prevent identity theft in the covered accounts they manage, and document them in the compliance program. Red flags can exist in the types of accounts the firm manages, the manner in which accounts are opened or accessed, and the firm’s previous experiences (if any) with identity theft;
  • Provide for monitoring accounts on an ongoing basis to detect red flags;
  • Respond appropriately to red flags;
  • Is periodically updated to reflect any changes in risks; and
  • Describe the various appropriate responses to red flags.

Whether a firm will meet the definitions will depend significantly on its client base and account structures. Traditional RIAs and other firms that manage accounts for individuals or family offices should look closely at those accounts to determine the types of activities that will be processed in them. A firm that handles bills or other third-party payments on behalf of its clients will need to undertake the most review and implement the most rigorous compliance program contemplated by the rules.

At first blush, fund managers may assume that these rules will not apply to them; however, care should be taken to ensure that investors’ accounts are set up to receive and hold investment amounts, and the only transfers permitted will be for management fees, performance allocations to the manager/general partner as applicable, and withdrawals by (and most importantly, back to) the investor to minimize identity theft risks. Even so, additional procedures around investor intake and withdrawal may need to be implemented.

CPOs and CTAs may undertake a similar evaluation and should also look at their investment strategies to determine the extent to which they meet the creditor definition.

Finally, even if a firm is not registered with the SEC or CFTC, identity theft can be a significant reputational and litigation risk for if they handle third-party payments on behalf of clients or investors. Accordingly state registrants and exempt firms should consider implementation as a best practice.

Compliance Strategies

The rules identify five specific categories that every compliance program should address:

  • Alerts, notifications or other warnings received from consumer reporting agencies or other service providers;
  • Presentation of suspicious documents;
  • Presentation of suspicious personal information (e.g., an unexpected or unusual address change);
  • Unusual usage of a particular account; and
  • Notices from customers, victims of identity theft, law enforcement agencies or others regarding possible identity theft in an account.

Employees should be trained to identify the above and any other red flags that are specific to the firm’s business.

Appropriate responses to a red flag incident will vary significantly depending on the circumstances. The rules mention:

  • Monitoring an account for evidence of identity theft;
  • Contacting the customer;
  • Changing passwords, security codes or other devices that permit access to an account;
  • Reopening accounts with new numbers;
  • Refusing to open an account;
  • Closing an existing account;
  • Refraining from collection activities on an account;
  • Notifying law enforcement; and

Determining that a response is warranted in a particular instance.

Other, proactive safeguards can include standardizing the forms and processes used to effect transactions in client accounts, designating a person or team of people to handle those transactions under supervision (and training them to detect identity theft), preparing and reviewing a daily transaction blotter, requiring additional approvals and documentations for higher risk transactions and implementing PINs or security questions and client call-backs, to name a few.

To the extent that safeguards are client or investor-facing (such as call-backs, PINs or other identity verification tools), these should be standardized and clients/investors notified of the procedures so they know what to expect. Obtaining client’s acknowledgment of these processes via the investment advisory or subscription agreement is a good way to handle this clearly and consistently.

To ensure compliance by November 20, 2013, we encourage all firms to reach out to their compliance consultant or legal counsel as soon as possible. Rolling out the program early will afford plenty of time to refine it by the deadline.

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About Cole-Frieman & Mallon LLP

Cole-Frieman & Mallon LLP provides legal services to the investment management community.  Please reach out to us through our contact form or call Bart Mallon directly at 415-868-5345 if you have questions on implementation. 

About Sansome Strategies LLC

Sansome Strategies is a compliance consulting firm specializing in high-touch, outsourced compliance services for businesses in the investment management industry. Clients include investment advisers, futures managers, broker-dealers, hedge funds, and private equity firms. Sansome Strategies provides tailored compliance management solutions to the unique needs of each client and is focused on helping clients build and enhance their business by simplifying the compliance and regulatory process.  Sansome Strategies is wholly owned by Karl Cole-Frieman and Bart Mallon.  For more information, please contact Sansome Strategies here.

FATCA Hedge Fund Compliance Event

June 19, 2013 – Sponsored by SS&C GlobeOp

We have previously discussed the Foreign Account Tax Compliance Act (“FATCA”) and the legal and compliance implications for hedge fund managers.  As the date draws near for implementation, various service providers to the investment management community will be providing more information to managers on how to prepare.  Below is information on an event happening soon in Chicago.

Please contact us if you would like information on how to register and we hope to see you there.

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Are you ready for FATCA? 

Join us at theWit Chicago for an engaging panel discussion on FATCA compliance requirements, followed by cocktails and networking.

Agenda:

  • 4:30 pm – 5:00 pm Registration 
  • 5:00 pm – 5:50 pm Panel Discussion
  • 6:00 pm – 8:00 pm Cocktail Reception

Moderator:

  • Nate Goodman, Director, Business Development, SS&C GlobeOp

Panelists:

  • Kevin J. K. Glen, Partner, Ernst & Young
  • Patti Griffin, Associate Director, International Tax Services, SS&C GlobeOp
  • Lindsey Simon, Founder, Simon Compliance

Topics will include:

  • Reporting realities
  • How to monitor progress
  • How to leverage technology
  • What resources are needed to gather data and complete the forms
  • What pitfalls you may encounter
  • How to determine if you are ready

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Cole-Frieman & Mallon LLP is a boutique hedge fund law firm.  Bart Mallon can be reached directly at 415-868-5345.

Mock Exam Tips from ComplianceFocus.com

Occasionally we will have the opportunity to post articles which originally appeared on other websites and today we are republishing an article from compliancefocus.com on the topic of mock examinations.

The following article can be found at the ComplianceFocus blog here.

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7 Tips to Get the Most Out of Your Mock Examination

A mock exam can be a useful tool in many contexts, for example taking the place of your annual review, or helping growing managers transition from exempt reporting advisers or state registrants to SEC registration. Most importantly, it is an invaluable exercise in preparing existing SEC registrants for the inevitable real thing. The following tips will help you make the most of the mock exam experience:

1. Retain a consultant to perform the exam. Ideally this will be a consultant who is not already familiar with your business – either another team member from your current consulting firm or an entirely new firm. A mock exam conducted by internal compliance personnel is likely to be less formal and, however inadvertently, less objective.

2. Think locally. Look first to consultants in your area, who will be able to perform onsite interviews and other tasks with a minimum of expense. If you do retain a consultant that must travel, be prepared to pay for airfare, lodging and related expenses. Depending on your budget, this could be a limiting factor both in your choice of consulting firms and in the scope and realism of the exam. Consultants are often willing to conduct interviews by telephone, but this may diminish the “real thing” experience.

3. Go through your counsel. Your counsel may have referrals to compliance consultants and will likely have valuable feedback on the report that is ultimately created based on the exam. It is also worth noting that your counsel can retain the consultant on your behalf, which makes the exam and its results confidential under the attorney-client privilege.

4. Treat it like the real thing. Particularly if the examiner is familiar with your business or has access to your information (e.g., another consultant at the firm you currently use), you should treat the mock exam like it is the real thing, including the following:

a. Do not expect the examiner to use or rely on information already in the consulting firm’s files. Instead, produce all documents and information relevant to the request. Do not assume that the examiner has any background or other information on the questions s/he asks.

b. Even if your examiner has not specified a deadline, set internal deadlines, such as the final deadline to produce all requested documents and any interim deadlines for information or documents to be gathered by particular employees or departments.

c. Make your written responses to the document/information request as professional as possible, as if you were responding to a regulator.

d. If a particular request is not applicable, mark it as such in your response to the document request. Do not assume that the examiner knows it is inapplicable.

5. Ask for a risk-based exam. If you are registered with the SEC and using your mock exam to prepare for the real thing, ask prospective consultants if they can conduct as a risk-based “presence exam” per the SEC’s new protocol. While the initial interview and document request may not differ significantly from the traditional format, the examiner will ultimately identify a few higher risk areas for your firm and focus the bulk of the exam on those areas, including additional interviews and document/information requests.

6. Think about what keeps you up at night. Is there anything that would help your compliance team do better, be more efficient or fill in gaps in your compliance program? Consider asking the examiner for recommendations in these areas and include them in your report (see also Tip no. 3 above if you’re concerned about keeping these confidential). A recommendation from a reliable and objective third party may help you obtain additional resources internally to beef up your compliance program, e.g., to improve archiving and search capabilities for email surveillance, additional personnel or an online solution for trade review and the like.

7. Toot your own horn. Most positions or departments, regardless of the business or industry, face a moment when they have to justify their existence to management. Positives in your mock exam report are evidence of what your compliance team is doing well and should be highlighted in periodic meetings, your own internal compliance reviews and anywhere else they can be useful to you and your firm.

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Cole-Frieman & Mallon LLP run the Hedge Fund Law Blog in addition to their hedge fund law firm. Bart Mallon can be reached directly at 415-868-5345.

ComplianceFocus.com is a project by Sansome Strategies LLC, a high-touch outsourced compliance company.  Sansome Strategies is owned by the principals of Cole-Frieman and Mallon LLP.

NFA Member Annual Update Reminder

Annual Update Information for CPOs, CTAs, IBs, and FCMs

We are a little behind getting this update out this year. Please contact us if you have any questions or would like help with any updates.

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NFA members (including commodity pool operators, commodity trading advisers, introducing brokers, futures commission merchants, and retail foreign exchange dealers) are reminded that every year, in order to maintain their registration and/or NFA membership, they must do the following by the anniversary date of their registration:

  1. complete the electronic Annual Registration Update;
  2. pay the annual registration records maintenance fee of $100 for each category of registration;
  3. complete the electronic Annual Questionnaire, which includes firm and disaster recovery information as well as a questionnaire for each category of registration; and
  4. pay annual membership dues. Information about dues is available here.

The NFA will send an email to the member, along with a letter detailing the annual filing requirements along with an invoice for fees due. If all of the annual filing requirements are not completed within 30 days following the annual due date, the NFA will treat it as a request to withdraw from registration and/or NFA membership. That status will be reflected on the NFA’s Online Registration System (ORS).

Annual Registration Update

To complete the Annual Registration Update, the firm should log into ORS and select the Update/Withdraw Registration Information tab. At the bottom of the screen, below the Annual Filings heading, the firm should click on the Annual Registration Update link to access the Annual Registration Update filing.

Annual Questionnaire

As indicated above, once a year, members must complete an Annual Questionnaire. The questionnaire provides the NFA with information about the firm and allows the NFA to better understand the composition of its membership as a whole. Additionally, the information provided allows the NFA to tailor its regulatory programs to better serve its members. Members are encouraged to update their questionnaire data on a regular basis, but must, at a minimum, complete the Annual Questionnaire on the anniversary of their NFA membership date.

To complete the Annual Questionnaire, the firm should log into ORS and select the Update/Withdraw Registration Information tab. At the bottom of the screen, below the Annual Filings heading, the firm should click on the Annual Questionnaire link to access the Annual Questionnaire.

Other Regulatory Reminders

Once a year, members should also be sure to complete the following items to remain in compliance with CFTC and NFA rules and regulations:

  • Send the firm’s privacy policy to every client, customer, or investor in a pool.
  • Test the firm’s disaster recovery plan and address any issues in the plan.
  • Provide ethics training as outlined in the firm’s compliance materials.
  • Supervise the operations of any branch offices, including conducting an annual onsite inspection.
  • Commodity pool operators and commodity trading advisors soliciting new investors or clients should update and file their disclosure documents with the NFA. A disclosure document used to solicit investors or clients cannot be more than 9 months old.

There are additional requirements specific to commodity pool operators, commodity trading advisers, introducing brokers, futures commission merchants, and retail foreign exchange dealers. More information about these requirements is available on the NFA website here.

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Cole-Frieman & Mallon LLP provides managed futures legal services and other support to hedge fund managers. Bart can be reached directly at bmallon@colefrieman.com or 415-868-5345.

 

Karl Cole-Frieman Speaking at Fund Compliance Event

On December 1st and 2nd Private Equity International (PEI) will be hosting a Fund Compliance Forum in San Francisco.   The forum will be focused on providing private equity firms with information on various Dodd-Frank compliance requirements, including the investment adviser registration requirement.  Karl Cole-Frieman, a partner with Cole-Frieman & Mallon LLP, will a panelist and will be discussing the compliance issues associated with marketing materials.  The overview of the session by Karl can be found here.

Information on the event is posted below and can be found on the PEI website by clicking here.

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PEI Private Fund Compliance Forum: San Francisco

An enormous collective sigh of relief was felt around the private equity world when the SEC announced that the deadline to register was moved to March 30, 2012. This extension has given private equity firms more time to designate a chief compliance officer, implement a compliance program, and file all necessary forms with the SEC.

The PEI Private Fund Compliance Forum: San Francisco provides private equity and venture capital firms an opportunity to gain a more complete understanding of what newly registered private funds should expect post-registration and how to implement and manage an effective compliance program.

This one and a half day event, divided into panel discussions and in-depth workshop sessions, is tailored to firms that are in the process of registering with the SEC, those firms that are seeking more information about the scope of what is entailed in registration as well as those who are already operating as RIAs that are looking to enhance their compliance functions.

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Panel: Effective and appropriate marketing materials

10:40 – 11:45

• Interpreting rules governing marketing and advertising

• Making sure that presentations are reviewed by compliance

• Making sure your web sites are in compliance

• Guidelines regarding talking to the press

Moderator:

Janis Kerns, Editor, ACA Insight

Panel Members:

Karl A. Cole-Frieman, Partner, Cole-Frieman & Mallon LLP

Jennifer Keese-Powell, Marketing Manager, Hall Capital Partners LLC

Lois Towers, Compliance Officer, Pantheon Ventures (US)

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Cole-Frieman & Mallon LLP provides a variety of services including: hedge fund formation, advisor registration and counterparty documentation, CFTC and NFA matters, seed deals, internal investigations, operational compliance, regulatory risk management, hedge fund due diligence, marketing and investor relations, employment and compensation matters, and routine business matters. For more information please visit us at: http://www.colefrieman.com/.

Form PF Filings to be Submitted via FINRA

SEC Mandates FINRA to Receive Form PF Filings

SEC has chosen FINRA to accept Form PF filings on its behalf when and if Form PF is adopted.  As background, on January 26, 2011 the SEC issued a proposed Rule 204(b)-1 under the Investment Advisers Act of 1940 which would require SEC registered investment advisers to file a new Form PF with the SEC on either a quarterly or annual basis.  Although the rest of the proposed rule is still under consideration, the SEC has determined that if Form PF is adopted, investment advisers would file Form PF electronically through FINRA.  FINRA currently is the operator of IARD, the system through which investment advisers electronically file their Form ADV and make necessary notice filings to states.  If the rule is passed, FINRA will develop and maintain the filing system for Form PF as well.

The SEC initially anticipated that the proposed rule implementing Form PF would have an initial compliance date of December 15, 2011 – this appears less likely as we get closer to that date and plan to provide updates as appropriate.

Form PF Filing Process and Filing Fees

Because the filing system for Form PF will likely be an extension of the current IARD filing system, we expect the process will be substantially similar to the current process of filing Form ADV.  Investment advisers filing Form PF will likely have to go through the entitlement process and then fund their accounts with the fees necessary to submit the filing through the system.  Managers will have to make quarterly annual filing based on their assets under management. Regardless of assets under management, the filing fees shall be as the same for each filing:

  • $150 for each Form PF annual update
  • $150 for each Form PF quarterly update

Conclusion

FINRA is the logical choice to accept and manage the filing of Form PF because, as the current operator of the IARD system, they are uniquely situated to develop and deploy the Form PF filing system in a timely manner.  The SEC believes that having FINRA expand its existing platform to accommodate this additional filing would be result in greater efficiency for both the advisers and the SEC.  However, managers should be wary of the continued consolidation of filing platforms as FINRA continues to move towards becoming the SRO for hedge fund managers and other investment advisers.

The text of FINRA’s letter regarding Form PF can be found here: FINRA Form PF Letter

The text of SEC’s notice of intent to have Form PF filed through FINRA can be found here: SEC Form PF Announcement – IA-3297

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Cole-Frieman & Mallon LLP provides comprehensive registration and compliance services to hedge fund managers, including help with filing Form PF.  Bart Mallon can be contacted directly at 415-868-5345.

States to Begin Proposing Rules on Expert Networks

Massachusetts Proposes Compliance Rules for Using Expert Networks

Expert networks have been a major topic over the last few months and we are seeing the states, in addition to the SEC, focus on this area as a compliance issue for investment advisers.  Massachusetts recently revoked the state investment adviser license of a manager who was using expert networks to gain inside information and then trade on that information.  Massachusetts is now proposing regulations which would require state registered managers to develop certain policies with respect to use of expert

networks.

The proposed regulation provides generally that investment advisers may not use expert network services unless the adviser receives a signed certification from the consultant (sourced by the expert network firm) that:

  • describes the confidential restrictions the consultant has regarding confidential information and
  • the consultant affirmatively states that he will not provide any confidential information to the adviser

In addition to this new compliance requirement, the proposal codifies the general prohibition against trading on inside information.

The full text of the proposed regulation is printed below and can be found here.  The Massachussets Securities Division will hold a public hearing on these and other proposed regulations on June 23 and will accept written comments until June 24.

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Preamble to Proposed Regulation

Investment Advisers Using Matching or Expert Network Services – Dishonest or Unethical Conduct in the Securities Business

The Division proposes to add a new section under 950 CMR 12.205(9)(c)(16) to the existing list of dishonest and unethical practices. The Division believes this addition is necessary to address the rising use of expert network firms by investment advisers to facilitate paid consultations between investment advisers and industry experts.

As alleged in In the Matter of Risk Reward Capital Management Corp., RRC Management LLC, RRC BioFund LP, and James Silverman, Docket No. E-2010-057, some investment advisers have paid expert networks and consultants to access confidential information about

publicly traded companies. The rise of expert network firms, and the number of abuses which have been addressed by regulators, make it clear that additional measures are required to ensure that confidential information is not being accessed and traded upon. The Division's proposed regulations, while not altering investment advisers' existing duty not to trade on insider information, seek to provide investment advisers with greater clarity as to what is impermissible conduct when paying consultants for information.

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Proposed Regulation

Investment Advisers Using Matching or Expert Network Services – Dishonest or Unethical Conduct in the Securities Business

Add the following new subsection (16) to 950 CMR 12.205(9)(c) (non-exclusive list of practices by an investment adviser which shall be deemed “dishonest or unethical conduct or practices in the securities business”):

16. a. To retain consulting services, for compensation that is provided either directly to the consultant or indirectly through a Matching or Expert Network Service, unless the adviser obtains a written certification, signed by the consultant that:

(i) describes all confidentiality restrictions that the consultant has, or reasonably expects to have, regarding Confidential Information; and
(ii) affirmatively states that the consultant will not provide any Confidential Information to the adviser.

b. Notwithstanding section (a) an investment adviser who comes into possession of material Confidential Information through a consultation is precluded from trading any relevant security until such time as the Confidential Information is made public.

c. Definitions. For purposes of this section:

(i) “Confidential Information” means any non-public information, which one is bound by a confidentiality agreement or fiduciary (or similar) duty not to disclose.
(ii) “Matching or Expert Network Service” means a firm that for compensation matches consultants with investment advisers.

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Cole-Frieman & Mallon LLP is a boutique hedge fund law firm.  In addition to investment adviser registration and compliance, we provide expert network compliance consulting services to SEC and state registered hedge fund managers.  Bart Mallon can be reached directly at 415-868-5345.

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