Below is our quarterly newsletter. If you would like to be added to our distribution list, please contact us.
December 15, 2017
Clients, Friends, Associates:
Holiday celebrations bring welcomed joy and excitement to the busiest time of year for most investment managers. As we prepare for a new year, we also reflect on an eventful 2017 year that included the emergence of a new asset class, a steady upswing in the stock market, and proposed legislation to revise the United States tax code. Regardless of all of the changes to the investment management space, year-end administrative upkeep and 2018 planning are always particularly important, especially for General Counsels, Chief Compliance Oﬃcers (“CCO”), and key operations personnel. As we head into 2018, 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:
- Cryptocurrency Leadership
- Annual Compliance & Other Items
- Annual Fund Matters
- Annual Management Company Matters
- Regulatory & Other Changes in 2016
- Compliance Calendar
This year digital assets and cryptocurrencies have emerged in force as a separate and distinct asset class. An increased interest in this asset class from fund managers, financial institutions and various government leaders and regulators throughout the world has led to an exponential growth of cryptocurrency investments, the CFTC’s approval of two exchanges to trade Bitcoin futures contracts has increased attention on the asset class.
For SEC registered investment advisers who are adding cryptocurrencies to their fund investment programs and for cryptocurrency focused fund managers who may be relying on SEC exemptions from registration, the need to understand the regulatory implication of certain practices is of utmost importance. Specifically, managers face uncertainty regarding the application of the qualified custodian requirement under Rule 206(4)-2 (“Custody Rule”) under the Investment Advisers Act of 1940, as amended (“Advisers Act”). Under the Custody Rule, if a registered investment adviser has custody of “client funds or securities”, then it must maintain those client assets with a qualified custodian (generally a bank, broker-dealer, FCM or other financial institution), subject to certain exceptions. Currently we know of only one qualified custodian capable of holding certain cryptocurrencies or digital assets. Our firm participated in a meeting with the SEC in November about custody issues for cryptocurrency managers and continues to engage with the SEC on this issue as well as work with the SEC and other service providers in this space to help lead the way to comply with SEC rules and regulations.
Annual Compliance & Other Items:
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 annual compliance 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. Advisers should be careful that sensitive conversations regarding the annual review 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 would be due on March 31, 2018. This year, because March 31st is a Saturday and March 30th is a market holiday, annual amendments to the Form ADV shall be filed no later than the business day following the 90-day deadline (April 2, 2018). 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”. Note that for SEC-registered advisers to private investment vehicles, a “client” for purposes of this rule includes 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 Registration. 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 by ﬁling Form ADV-W. Such managers should consult with their state securities authorities to determine whether they are required to register in the states in which they conduct business. 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.
Exempt Reporting Advisers. Managers who no longer meet the deﬁnition of an ERA will need to submit a ﬁnal report as an ERA and apply for registration with the SEC or the relevant state securities authority, if necessary, generally within 90 days after the ﬁling of the annual amendment.
Custody Rule Annual Audit.
SEC Registered IA. SEC registered investment advisers (“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 (“PCAOB”). Statements must be sent to the fund or, in certain cases, investors in the fund, within 120 days after the fund’s ﬁscal year-end. Managers should review their custody procedures to ensure compliance with the rules.
California Registered IA. California registered investment advisers (“CA RIAs”) that manage pooled investment vehicles and are deemed to have custody of client assets 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 assets. CA RIAs to pooled investment vehicles may avoid the independent party and surprise examinations requirements by having audited ﬁnancial statements prepared by an independent public accountant registered with the PCAOB and distributing such audited ﬁnancial statements to all limited partners (or members or other beneficial owners) of the pooled investment vehicle, and to the Commissioner of the California Department of Business Oversight (“DBO”).
Other State Registered IA. Advisers registered in other states should consult with legal counsel about those states’ custody requirements.
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. Notwithstanding the foregoing, 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, the “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 minimum net worth of $10,000.
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 a verification form. These ﬁnancial statements must be audited by an independent certiﬁed public accountant or independent public accountant if the adviser has custody and is not a GP RIA.
Annual Re-Certiﬁcation of CFTC Exemptions. Commodity pool operators (“CPOs”) and commodity trading advisers (“CTAs”) currently relying on certain exemptions from registration with the CFTC are required to re-certify their eligibility within 60 days of the calendar year-end. CPOs and CTAs currently relying on relevant exemptions 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 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. 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.
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 make sure that they have addressed 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.
SEC Form D. Form D ﬁlings for most funds need to be amended on an annual basis, on or before the anniversary of the most recently ﬁled Form D. Copies of Form D is publicly available on the SEC’s EDGAR website.
Blue Sky Filings. On an annual basis, a manager should review its blue sky ﬁlings for each state to make sure it has met any renewal 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 and SEC-registered investment advisers are due on December 18, 2017. If you have not already done so, you should submit full payment into your Renewal Account by E-Bill, check or wire now.
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 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 we recommend reviewing your reporting requirements in the states in which you operate to make sure you are in compliance with the rules.
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 both FINRA Rules 5130 and 5131. Most managers reconﬁrm investor eligibility via negative consent (i.e. investors are informed of their status on ﬁle with the manager and are asked to inform the manager of any changes). A failure to respond by any investor operates as consent to 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 who may be deemed a fiduciary under the Department of Labor’s (“DOL”) Fiduciary Rule (as further discussed below).
Wash Sales. Managers should carefully manage wash sales for year-end. Failure to do so could result in embarrassing 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 Conversion. 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 2017 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 IRS authorizes partnerships and limited liability companies taxed as partnerships to issue Schedule K-1s to investors solely by electronic means, provided the partnership has received the investor’s aﬃrmative consent. States may have diﬀerent rules regarding electronic K-1s and partnerships should check with their counsel whether they may still be required to send state K-1s on paper. Partnerships must also provide each investor with speciﬁc disclosures that include a description of the hardware and software necessary to access the electronic K-1s, how long 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 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 an update at least annually.
U.S. FATCA. Funds should monitor their compliance with U.S. Foreign Account Tax Compliance Act (“FATCA”) U.S. FATCA reports are due to the IRS on March 31, 2018 or September 30, 2018, 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 U.S. FATCA requirements applicable to diﬀerent jurisdictions, managers should review and conﬁrm the speciﬁc U.S. FATCA reporting requirements that may apply. As a reminder for this year, 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, 2018. 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 on top of the U.S. FATCA and CRS requirements and avoid potential penalties.
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-facing 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 D&O insurance 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 claims and all 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 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.
Regulatory & Other Changes in 2017:
SEC Adopts Form ADV Amendments. On July 1, 2017, a technical amendment to Form ADV and ADV-W was implemented to reﬂect a new Wyoming Law that now requires investment advisers with $25 million to $100 million in RAUM and a principal place of business in Wyoming to register with the state as an investment adviser instead of the SEC.
On October 1, 2017, additional SEC amendments to Form ADV went into eﬀect, which will apply to both RIAs and ERAs. Among other technical amendments, the new Form ADV requires investment advisers to provide detailed information with regard to their separately managed accounts SMAs, including aggregate level reporting of asset types across an adviser’s SMAs and reporting of custodian information under certain circumstances. Investment advisers that utilize borrowing or derivatives on behalf of SMAs will also need to report the RAUM attributable to various levels of gross notional exposure and corresponding borrowings and derivatives exposure. The SEC noted that advisers may not need to report this SMA information until its annual amendment. The SEC concurrently adopted an amendment to the books and records rule (Rule 204-2 under the Advisers Act), requiring RIAs to keep records of documentation necessary to demonstrate the performance or rate of return calculation distributed to any person as well as all written performance-related communications received or sent by the RIA. Advisers who have questions on any changes to the new Form ADV should contact their compliance groups.
SEC Action Against Outsourced CCO. On August 15, 2017, the SEC reached a settlement with an outsourced CCO and his consulting ﬁrm, which oﬀered compliance consulting and outsourced CCO services to investment advisory ﬁrms. The outsourced CCO served as CCO for two registered investment advisers (collectively, “Registrants”). The SEC found the Registrants either ﬁled their Form ADV annual amendments late or not at all, and the outsourced CCO relied on and did not confirm estimates provided by the Registrants’ CIO. It was established that the RAUM and number of advisory accounts reported on the Form ADV was greatly overstated. The SEC held that the outsourced CCO violated the Advisers Act by failing to amend the Form ADV annually and willfully submitting a false statement. The SEC suspended the outsourced CCO from association or affiliation with any investment advisers for one year and ordered him to pay a $30,000 civil penalty. Outsourced compliance persons solely relying on internal estimates of RAUM and number of advisory contracts, without further confirmation, should be aware of the risk of filing false reports and potential SEC enforcement actions.
CFTC and NFA Updates.
CFTC Amendments to Recordkeeping Requirements. On August 28, 2017, amendments to Regulation 1.31 allow the manner and form of recordkeeping to be technology-neutral (i.e. not requiring or endorsing any speciﬁc record retention system or technology, and not limiting retention to any format).
Digital Asset Updates.
CFTC Grants Permission for Bitcoin Futures Trading. On December 1, 2017, the CFTC issued a statement granting permission to the Chicago Mercantile Exchange Inc. (“CME”) and the Chicago Board Options Exchange Inc. (“CBOE”) to list Bitcoin futures contracts on the respective exchanges. Less than two weeks after the release of CFTC’s statement, Bitcoin futures contracts trading began on the CBOE futures exchange on December 10, 2017. Early reports suggest a strong interest in Bitcoin futures contracts set to expire in early 2018. CME is set to begin Bitcoin futures contracts trading next week.
CFTC Grants SEF and DCO Registration to LedgerX. The CFTC granted LedgerX registration status as both a swap execution facility (“SEF”) and a derivative clearing organization. Now that the exchange is live, LedgerX is the ﬁrst CFTC-approved exchange to facilitate and clear options on digital assets. Previously, the CFTC granted SEF registration to TeraExchange, which oﬀers forwards and swaps on Bitcoin. LedgerX oﬀers physically-settled and day-ahead swaps on Bitcoin to U.S.-based eligible contract participants and has a fully-collateralized clearing model where customers must post collateral to cover maximum potential losses prior to trading.
DOL Implements Fiduciary Rule. On June 9, 2017, the DOL partially implemented its amended fiduciary rule (the “Fiduciary Rule”), which expands the definition of a “ﬁduciary” to apply to anyone that makes a “recommendation” as to the value, disposition or management of securities or other investment property for a fee or other compensation, to an employee beneﬁt plan or a tax-favored retirement savings account such as an individual retirement account (“IRA”) (collectively “covered account”) will be deemed to be providing investment advice and, thus, a “ﬁduciary”, unless an exception applies. Fund managers with investments from covered accounts or that wish to accept contributions from covered accounts will need to consider whether their current business activities and communications with investors could constitute a recommendation, including a suggestion that such investors invest in the fund. The Fiduciary Rule provides an exception for activity that would otherwise violate prohibited transaction rules, which is applicable to investments made by plan investors who are represented by a qualiﬁed independent ﬁduciary acting on the investor’s behalf in an arms’ length transaction (typically for larger plans). The Fiduciary Rule also contemplates a Best Interest Contract (“BIC”) Exemption, which permits investment advisers to retail retirement investors to continue their current fee practices, including receiving variable compensation, without violating prohibited transactions rules, subject to certain safeguards. Managers with questions regarding the applicability of these exemptions should discuss with counsel.
Two New California Employment Laws Limit Inquiries into Certain Information During the Hiring Process. In October, California Governor Jerry Brown approved Assembly Bill No. 168 and Assembly Bill No. 1008, restricting certain information a California employer may inquire about and consider during its hiring process. Assembly Bill No. 168 restricts employers from requiring prospective employees to disclose salary history. An employer may not inquire or rely on such information when deciding whether to extend an offer to a job applicant or deciding an amount to offer to a job applicant. Assembly Bill No. 1008 restricts California employers with five or more employees from including, inquiring and considering information about an employee applicant’s criminal history until a conditional offer has been extended to a job applicant. Assembly Bill No. 1008 further provides certain requirements an employer must comply with after such information has been legally acquired and is taken into consideration when deciding whether to hire a job applicant, as well as certain procedures to comply with when deciding a job applicant is not suitable for the position. Both laws become effective January 1, 2018. With respect to California employees, you should review before year end, your job application, offer letter template, and compliance manual if they contain questions regarding salary or criminal history.
MSRB Establishes Continuing Education Requirements for Municipal Advisors. Beginning January 1, 2018, the Municipal Securities Rulemaking Board (“MSRB”) will implement amendments requiring municipal advisors to maintain a continuing education program in place for “covered persons”. The amendment will require an annual analysis to evaluate training needs, develop a written training plan, and implement training in response to the needs evaluated. The amendments promote compliance with the firms record-keeping policies regarding the continuing education program. Municipal advisors will have until December 31, 2018 to comply with the new requirements.
SIPC and FINRA Adopt Streamlined Reporting Process. As of September 1, 2017, investment advisory ﬁrms who are members of both the Securities Investor Protection Corporation (“SIPC”) and the Financial Industry Regulatory Authority (“FINRA”) now only need to file one annual report to both agencies through FINRA’s reporting portal. This will ease the reporting burden as well as cut down on compliance costs, for firms.
SEC Provides Guidance to Address MiFID II. On October 26, 2017, the SEC issued three no-action relief letters to provide guidance on the Markets in Financial Instruments Directive II (“MiFID II”). Effective January 3, 2018, MiFID II most notably introduces the requirement for UK broker-dealers to “unbundle” investment research from trading commissions, requiring distinct pricing for each of the services rendered. The first no-action letter provides that for the first 30 months from when MiFID II becomes effective, U.S. broker-dealers will not be considered an investment adviser upon accepting payments from an investment manager. The second no-action letter states that broker-dealers may continue to rely on the safe harbor under Section 28(e) of the Securities and Exchange Act of 1934, as amended, for payments made from client assets made alongside payments for execution to an executing broker-dealer. The final no-action letter addresses MiFID II’s various payment arrangements surrounding research activities and provides that an investment adviser may aggregate client orders, although research payments may differ for each client.
Tax Cuts and Jobs Act Impact on Hedge Funds. In late 2017, the House Ways and Means Committee and the Senate Finance Committee passed companion legislation in an attempt to reform the US tax system. One of the proposed revisions included in H.R. 1 or the Tax Cut and Jobs Act (“Tax Act”) is a reduction in the tax rate for a pass-through entity’s “capital percentage” business income. The applicable tax rate would be 25%, with the non-professional services entity’s “capital percentage” business income capped at 30%, and the remaining amount of income characterized as “labor”.
Cayman and BVI Update Beneficial Ownership Regimes. Amendments to the Cayman Islands beneﬁcial ownership laws went into eﬀect on July 1, 2017, which require certain entities, including exempted funds, to take reasonable steps to identify their beneﬁcial owners (generally persons holding more than 25% interests in such an entity). Of interest to fund managers, the following types of funds are exempted from the scope of these amendments: funds that are regulated by the Cayman Islands Monetary Authority, that employ a Cayman regulated administrator, or funds that are managed by an adviser regulated in an approved jurisdiction, such as a state or SEC RIA. The British Virgin Islands (the “BVI”) also implemented amendments to its beneﬁcial ownership regime eﬀective July 1, 2017, which requires registered agents of non-exempt BVI companies, such as unregulated private funds, to input beneﬁcial ownership information into a platform called the BOSS (Beneﬁcial Ownership Secure Search) System. The BOSS System is accessible only to select regulators and fulfills BVI commitments to the United Kingdom under the UK Exchange of Notes Agreement.
U.K. Transitions from U.K. FATCA to CRS. The U.K. transitioned from U.K. FATCA to CRS on July 1, 2017, and now joins more than 85 countries, including the Cayman Islands and the BVI, in the automatic exchange of information between participating countries. The full list of signatory countries is available here. Similar to U.S. FATCA, CRS sets forth a standard by which signatory countries can more easily and automatically exchange certain reportable tax information. We recommend that managers consult their tax advisors to determine whether they are subject to any CRS reporting requirements.
Cayman Islands Introduces New AML Regulations. New Cayman Islands AML regulations came into eﬀect on October 2, 2017. The new regulations expand AML/CFT (anti-money laundering/ countering the ﬁnancing of terrorism) obligations to unregulated investment entities and additional ﬁnancial vehicles, which are seen to align more closely with the Financial Action Task Force (FATF) recommendations and global practice. In a shift to a risk- based approach to AML regulations, there will be two separate due diligence procedures depending on the risk assessment of investors. Certain investors that are deemed to be high-risk, such as politically exposed persons, will be required to go through a more extensive veriﬁcation process, while low-risk investors will be able to submit to a simpliﬁed due diligence process. If you have any questions, we recommend that you reach out to your administrator or oﬀshore counsel.
New PRIIPs Disclosure Requirements for EEA Retail Investors. Regulation (EU) No 1286/2014 (“Regulation”), effective January 1, 2018, requires manufacturers of Packaged Retail and Insurance-based Investment Products (“PRIIPs”) to make available Key Information Documents (“KIDs”) to “retail investors” (generally any investor that does not meet the “professional client” status) in member states of the European Union and the Economic European Area (collectively, “EEA”). If a PRIIP manufacturer, such as a fund manager, accepts additional investments or a new investment from an EEA retail investor on or after January 1, 2018, it must comply with the Regulation’s technical requirements pertaining to KIDs. “Retail investors” under the Regulation can include investors such as high net worth individuals, who are not traditionally considered retail investors. Fund managers should consider the applicability of the Regulation given the types of EEA investors they may be marketing to, and managers who wish to forego complying with the Regulation should not accept investments from EEA retail investors and implement additional procedures to ensure such investors are not marketed to or admitted in the fund. Fund managers with questions regarding the Regulation should discuss with counsel.
Compliance Calendar. As you plan your regulatory compliance timeline for the coming months, please keep the following dates in mind:
Deadline – Filing
- December 18, 2017 – IARD Preliminary Renewal Statement payments due (submit early to ensure processing by deadline)
- December 26, 2017 – Last day to submit form filings via IARD prior to year-end
- December 31, 2017 – Review RAUM to determine 2018 Form PF filing requirement
- January 15, 2018 – Quarterly Form PF due for large liquidity fund advisers (if applicable)
- January 31, 2018 – “Annex IV” AIFMD filing
- February 15, 2018– Form 13F due
- February 15, 2018 – Annual Schedule 13G updates due
- February 15, 2018 – Annual Form 13H updates due
- February 28, 2018 – Deadline for re-certification of CFTC exemptions
- March 1, 2018 – Quarterly Form PF due for larger hedge fund advisers (if applicable)
- April 2, 2018 – Annual ADV amendments due (for December 31st fiscal year end)
- April 2, 2018 – Annual Financial Reports due for CA RIAs (if applicable)
- April 18, 2018 – FBAR deadline for certain individuals with signature authority over, but no financial interest in, one or more foreign financial accounts
- April 29, 2018 – Annual Form PF due for all other advisers (other than large liquidity fund advisers and large hedge fund advisers)
- Periodic – Form D and blue sky filings should be current
- Periodic – Fund managers should perform “Bad Actor” certifications annually
Bart Mallon is a founding partner of Cole-Frieman & Mallon LLP. Mr. Mallon can be reached directly at 415-868-5345.