Tag Archives: hedge fund

Cole-Frieman & Mallon LLP Quarterly Newsletter | 1st Quarter 2010

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


April 1, 2010

Cole-Frieman &  Mallon LLP Quarterly Newsletter

Clients and Friends,

We take this opportunity to provide you with a brief overview of the major items we have reported on over the last quarter.  We have also provided a list of some of the major compliance issues that managers should be aware of during this time period.


New Quarterly Reporting Rule for CPOs – new NFA Rule 2-46, which became effective on March 31, 2010, requires registered commodity pool operators (including registered CPOs managing 4.7 or 4.12 pools) to provide a quarterly report to the NFA through the NFA’s EasyFile system.  Managers will report information on key relationships, a statement of the change in the fund’s NAV, monthly ROR, and a schedule for major investments.  The report will need to be filed within 45 days of March 31 and the process will be familiar to those groups who have filed their annual returns with the NFA previously.

For a complete overview of the new rule, click here.

Proposed Forex Regulations – for forex managers, the announcement of the CFTC’s proposed forex regulations was the major topic of conversation over the last quarter.  The proposed regulations include a number of new requirements for forex managers: (i) registration requirements for forex CTAs, CPOs, and IBs; (ii) net capital requirements for forex dealers; (iii) reduction in leverage from 100:1 to 10:1; and, (iv) a guarantee requirement for all forex IBs.

Overview of the proposed regulations can be found here.

Mallon P.C. comments on the proposed regulations can be found here.

Compliance Reminders

Form D Update – managers should be aware that for continuous offerings (most hedge funds), Form D needs to be updated on an annual basis.  Managers who have not updated Form D within the last year should check whether the fund’s Form D needs to be updated. For more information please click here.

Blue Sky Filings – managers need to make sure they are up to date with all blue sky filings.  Mallon P.C. has a team devoted to blue sky filings and compliance and is happy to answer any questions you may have. For more information on blue sky filings, please click here.

Investment Advisers – investment advisers should have completed their annual update of Form ADV through the IARD system by March 31, 2010 for 2009.  Managers who have not done this yet will need to do so immediately. Additionally, some states will require managers to submit other information such as updated financials. The requirements for California registered investment advisers can be found here.

CFTC Registrants – managers who are registered with the CFTC and members of the NFA have a number of yearly compliance requirements.  Generally these managers will have already done the following: (i) submitted annual reports (if required to be filed with the NFA); (ii) sent out a physical copy of their privacy policy to all investors/clients; (iii) completed the yearly NFA Self-Exam Checklist; and, (iv) updated their compliance policies and procedures accordingly.  Some CFTC registrants will have a requirement to review the procedures with respect to bunched orders on a quarterly basis.

Cleantech & Carbon – a recent 100 Women in Hedge Funds event focused on the cleantech industry and how hedge funds and VC funds are looking at investments in this space.  We wrote a summary of the event and were encouraged by the turnout and industry participation.  We look forward to greater interest in this sector by hedge funds.  Additionally, we are closely watching Congress as cap and trade legislation and energy bills become a topic of consideration.  We will continue to monitor any cap and trade legislation and will report on how this may impact the investment management industry.

2nd Quarter Events – New York CTA Expo April 21 – Mallon P.C. sponsors the CTA Expo which was established in 2008 to help professional capital raisers and allocators identify futures trading talent and to promote investing in managed futures. It is a one day conference consisting of speakers and panels combined with a schedule of thirty minute presentations by individual CTAs.  The New York event will take place on April 21, 2010 at the CME Group Building.  For more information, please see the CTA Expo website.


For assistance with any compliance, registration, or planning issues on any of the above topics, please contact Bart Mallon of Cole-Frieman & Mallon LLP (www.colefrieman.com) at 415-868-5345 or [email protected]

Cole-Frieman & Mallon LLP is a law firm with a national client base and is focused on the investment management industry.  Our clients include hedge fund managers, investment advisers, commodity advisors, and other investment managers.  We also provide general business and start-up legal advice and have an emerging practice in real estate and cleantech.

Cole-Frieman & Mallon LLP
150 Spear Street, Suite 825
San Francisco, CA 94105
Telephone: (415) 352-2300
Fax: (646) 619-4800

Health Care and Hedge Funds

Obama Health Care Bill Increases Capital Gains Rate to 23.8%

According the this story by Bloomberg, the tax on dividends and long term capital gains under the Obama Health Care Bill will spike to 23.8% when the tax increases are fully implemented.  The article states:

Obama’s budget proposes to allow the existing 15 percent tax rate on dividends and capital gains to rise to 20 percent in 2011 for the same high-earners. Layering a 3.8 percent Medicare tax on top of that would mean a new top rate on dividends and capital gains of 23.8 percent. The top tax rates on interest and rental income would rise to as high as about 44 percent, assuming other Obama tax increases on high-earners are enacted.

It will be interesting to see how the investment management industry will react to this 50% increase in taxes on dividends and capital gains.

Hedge Fund Databases | Survey of Databases

Hedge fund databases are online databases that collect and publish information and performance results from hedge fund managers who list their fund.  Usually these databases are open to accredited investors who subscribe to the website.

Aside from providing basic information on the hedge fund, including the name of the fund, the manager, and contact information, the database will usually include performance results, fees, and other additional strategy and structure information.  The extensiveness of the listing, as well as the amount of funds available for viewing, depends on the database.

For hedge fund managers, databases serve as a way to obtain investors and publish their fund’s information to a wider audience.  Most websites require that the manager update their performance reports on a monthly or quarterly basis, and the cost to both list and update information is free.  Often there are also additional requirements for a manager to list a fund, such as a minimum track record or minimum length of active performance, but this also depends on the individual database.

We have compiled a list of popular online databases, which are listed below.  Information on these databases will be updated appropriately as the websites’ policies and fees change throughout the year.


Database: Hedgefund.net

Leading Source for Hedge Fund Performance, News and Information

UPDATE: Information from below has been deleted because it was not up to date according to a representative at hedgefund.net.

For Managers:

  • Requirements (to list fund):
  • Minimum Track Record:

For Investors:

  • Number of Funds:
  • Updated:
  • Fee Structure:
  • Who Can Subscribe:

Database: Hedgeco.net

The Leading Free Online Hedge Fund Database and Source of News on Hedge Funds

For Managers:

  • Requirements: Offering Documents, PPM Documents
  • Minimum Track Record: No

For Investors:

  • Number of Funds: Around 7,000
  • Updated: Daily
  • Fee Structure: Offers free Basic Membership and Diamond Membership for $10,000 per year
  • Who Can Subscribe: Pension plans, family offices, consultants, funds of funds, banks, insurance companies, foundations, endowments, and qualified private investors

Database: Hedgefundresearch.com

For Analysts and Investors Who Demand Access to the Broadest Universe of Hedge Funds

For Managers:

  • Requirements: One month of active performance
  • Minimum Track Record: None

For Investors:

  • Number of Funds: Over 6,500 funds and fund of funds
  • Updated: Bi-weekly
  • Fee Structure: Offers HFR Manager Access Package, which includes access to HFR’s five main strategy databses for $2,500, or one year subscription to HFR Database for $7,000
  • Who Can Subscribe: Accredited investors

Database: Barclayhedge.com

Research on Hedge Funds, Fund of Funds, and Managed Futures/Alternative Investments

For Managers:

  • Requirements: One active month of performance
  • Minimum Track Record: None

For Investors:

  • Number of Funds: 5,723 (Global); 4,675 (Hedge Fund); 2,846 (Single Manager)
  • Updated: Bi-monthly
  • Fee Structure: $6,000 for annual subscription (Global); $4,500 (Hedge Fund); $3,500 (Single Manager); and accredited investors or those who work for an accredited institution can use the Barclay DataFinder for Free
  • Who Can Subscribe: Accredited investors

Database: Corporate.morningstar.com

A Leading Provider of Independent Investment Research in North America, Europe, Australia, and Asia

For Managers:

  • Requirements: Questionnaire, PPM/Offering Documents/DDQ or other fund documents
  • Minimum Track Record: None

For Investors:

  • Number of Funds: Offers access to 8,000 U.S. and international funds
  • Updated: Monthly
  • Fee Structure: $179 annual membership, $19.95 monthly membership
  • Who Can Subscribe: Fund of funds, family offices, consultants, mutual fund companies, other investment managers

Database: Lipperweb.com

The Leading Independent Industry Source of Hedge Fund Performance Data

For Managers:

  • Requirements: Lipper TASS Questionnaire, latest version of Prospectus/Offering Document/PPM, most recent Audited Financial Statements
  • Minimum Track Record: None

For Investors:

  • Number of Funds: 6,300
  • Updated: Daily
  • Fee Structure: $8,040 annual subscription
  • Who Can Subscribe: Accredited investors

Database: Casamhedge.com

The Oldest CTA and Hedge Fund Database in the Market and the Source of Data for the CASAM and CISDM Indices

For Managers:

  • Requirements: None
  • Minimum Track Record: None

For Investors:

  • Number of Funds: Offers access to 4,500 hedge funds, fund of funds, and CTAs
  • Updated: Monthly
  • Fee Structure: Free
  • Who Can Subscribe: Accredited institutional investors, registered investment advisors

Database: Eurekahedge.com

Provides the Greatest Breadth and Depth of Information on the Global Alternative Fund Industry

UPDATE: Information from below has been deleted because Eurekahedge has problems with how our information was presented.

For Managers:

  • Requirements:
  • Minimum Track Record:

For Investors:

  • Number of Funds:
  • Updated:
  • Fee Structure:
  • Who Can Subscribe:

Database: Hedgefundintelligence.com

The Most Extensive Database of Single-Manager Hedge Funds and Fund of Funds Available

For Managers:

  • Requirements: Proof of active performance, signed terms of agreement
  • Minimum Track Record: None

For Investors:

  • Number of Funds: Over 11,000
  • Updated: Daily
  • Fee Structure: $3,050 annual subscription for Americas Database
  • Who Can Subscribe: Qualified accredited investors

Database: Cogenthedge.com

Intelligent Tools for Informed Decisions

For Managers:

  • Requirement: None
  • Minimum Track Record: None

For Investors:

  • Number of Funds: 6,100 active investments
  • Updated: Daily, Real-time basis
  • Fee Structure: Free for online research use, $5,000 annual to take off-line and use elsewhere
  • Who Can Subscribe: Accredited and qualified investors

Database: Informa Investment Solutions

The Investment World’s Compass

For Managers:

  • Requirements: CC Registered
  • Minimum Track Record: None

For Investors:

  • Number of Funds: Over 12,000 investment products
  • Updated: Monthly
  • Fee Structure: Free
  • Who Can Subscribe: Plan sponsors, investment consultants and brokerages


Other related hedge fund law articles include:

  • Hedge Fund Managers
  • Hedge Fund Investors
  • Hedge Fund Marketing

Bart Mallon, Esq. runs the Hedge Fund Law Blog and provides hedge fund information and manager registration services through Cole Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

Securities Exam Changes in 2010

Series 63, Series 65 and Series 66 Changed as of January 1, 2010

In an earlier post, we discussed that the passing grades for the Series 65 and 66 have increased.  Below is further information from the Securities Training Corporation on the changes to the securities exams in 2010.


The Series 63, 65, and 66 Examinations Are Changing

The North American Securities Administrators Association (NASAA), the organization responsible for designing the Series 63, 65, and 66 Examinations, has informed us that the composition of these examinations will change as of January 1, 2010. The most significant impact will be on the Series 66 Examination, in which the balance of the questions will change significantly. In comparison, the changes to Series 63 and Series 65 are relatively minor.

Series 66

The Series 66 Examination currently consists of 100 questions, 80 of which test the candidate’s knowledge of Legal and Regulatory Issues (including Unethical Business Practices). The remaining 20 questions cover Investment Analysis, Recommendations, and Strategies.

The revised Series 66 will still contain 100 questions. As of January 1, 2010, however, there will be 50 questions covering Legal and Regulatory Issues and 50 questions testing Investment Recommendations, Strategies, and Products.

NASAA is also adding new topics to the Series 66 outline concerning specific Investment Products and Strategies, such as Annuities, much of which we already cover in our materials. NASAA stated that these changes are “based on responses to the survey indicating that dually licensed individuals should have enhanced testing in the areas of Economic Factors and Business Information, Investment Vehicle Characteristics and Client Investment Recommendations and Strategies.”

Series 65

The Series 65 Examination currently has 130 questions.  Of these questions, 45 test Legal and Regulatory Issues, while 80 questions cover Economic Concepts, as well as Investment Products, Recommendations, and Strategies. The new examination will still have a total of 130 questions, but the number of questions devoted to Legal and Regulatory Issues will decrease from 45 to 40. In addition, there will be a few questions on Capital Markets Theory and specific types of accounts, such as College Savings Plans.

Series 63

NASAA has not added new topics to the Series 63 Examination, and the test will continue to contain 60 questions. The distribution of these questions, however, will change on January 1, 2010.  There will be 3 more questions covering business practices (now called Ethical Practices and Fiduciary Obligations). There will also be an additional 6 questions devoted to the Registration and Regulation of Broker-Dealers, Agents, Investment Advisers, and Investment Adviser Representatives. The number of questions covering the Registration and Issuance of Securities will be decreased correspondingly.

STC will have supplemental material available in late November for students who anticipate taking one of these examinations in January. Our online practice examinations will be updated by January 1.


Other related hedge fund law articles:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

Hedge Fund Marketing – Building a Strong Brand Identity

Importance of Brand Identity Emphasized in Recent White Paper

There has been a clear trend over the last 12-18 months for hedge funds to focus on a number of operational issues in order to become more attractive to institutional investors.  While much of focus has been on the risk management side, I have seen more recent emphasis placed on brand building and image refinement.  This can take many forms of course, including making sure that your hedge fund marketing pieces look professional. However, it is becoming evident managers will need to go further and make sure their entire product offering is designed for the needs of their target investors.

In a recent white paper, produced BK Communications Group, this argument was expanded upon and discussed in depth.  The following are the overview highlights of the white paper:

  • Performance alone isn’t enough to get allocations.  Recent surveys of institutional investors find reputation has become a primary consideration when choosing a hedge fund manager.  And with institutions now representing up to 70% of hedge fund investors, the demand has increased for high-level communications that speak to a sophisticated audience.
  • A step-by-step program to build a strong brand identity – the sum total of associations people have with an organization – can help a fund manager heighten name recognition and credibility.  Professional-level materials that reflect the brand identity can position a fund to take advantage of opportunities in the institutional space and beyond.
  • A strong brand identity can also help fund managers weather severe setbacks by allowing them to draw on a reservoir of good associations already in place.
  • Managers often underestimate the importance of marketing communications, and can be misinformed about what they are allowed to communicate.  Many lack the internal resources or capability to effectively build a brand identity and get their message out across a spectrum of materials and media.

While many in the industry understand that performance is not everything, many managers do not believe this (…for some managers, growth is an offshoot of fantastic performance, see David Einhorn, but this is not always the case).  I think that this paper presents important information for such managers.  As the industry continues to become more instiutionalized, I believe we will see a greater emphasis placed on brandbuilding and I believe consultants will play a larger part in the investment process (including helping the manager to complete the due diligence process).

For the full white paper, please see: BKCG White Paper: Brand Identity for Hedge Funds


Please contact us if you have a question on this issue or if you would like to start a hedge fund.  Other related hedge fund law articles include:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

FLOORED Screening in San Francisco | 100 Women in Hedge Funds

Movie on Traders to be Screened in San Francisco

On January 28 the San Francisco investment management community will come together to watch the movie “FLOORED” which documents the issues facing floor traders as the industry continues its march away from traditional floor trading.  Please see the release below for more information.

Additionally, on an unrelated note, I would like to invite all futures/commodities professionals in the Bay Area to join the San Francisco Futures Professionals LinkIn Group.  The first meeting of this group will be sometime in February and will include traders/managers, service providers and (potentially) investors.



San Francisco Special Screenings of “FLOORED”
Followed by Director Q&A

January 28, 2010 at 5:00 and 7:30 PM
San Francisco, CA

Join us for sneak peek screenings of “Floored,” a feature-length documentary about the up and down lives of floor traders. Screenings will be followed by Q&A with Director James Allen Smith. (Run time: 80 minutes)

About the film: FLOORED is a gripping, honest look behind the curtain of the trading floor that few have ever seen. Like many aspects of our economy, computerized trading is changing the dynamics on the actual trading floors. FLOORED offers a unique window to this lesser-known world of finance.

To view the trailer and get more information on the film, please go to: www.FLOOREDmovie.com

Screening 1:
Time: 5:00pm wine reception/registration
Screening: 5:30- 6:45pm
Discussion: 6:45 – 7:15pm
Tickets cost $16 per person. Tickets can be purchased online at:

Screening 2:
Time: 7:30 – 8:00pm registration
Screening: 8:00 – 9:15pm
Discussion: 9:15 – 9:45pm
Tickets cost $12 per person. Tickets can be purchased online at:

We will begin promptly at screen times; please arrive early.

Location: The Roxie Theater
3117 16th Street, San Francisco, CA 94103

The Roxie Theater is located in the heart of San Francisco’s Mission District, at 3117 16th Street between Valencia and Guerrero. Local Muni are the 22 and 53 (both at 16th & Valencia), 33 (18th & Valencia), 14 (16th & Mission), 49 (16th & Mission). Bart stops one block east at 16th & Mission.

Public Parking is available on Hoff Street, off of 16th between Valencia and Mission. Very reasonable rates.
Click here for more directions

About 100 Women in Hedge Funds (www.100womeninhedgefunds.org)
100 Women in Hedge Funds is a global, practitioner-driven non-profit organization serving over 10,000 alternative investment management investors and professionals through educational, professional leverage and philanthropic initiatives. Formed in 2001, 100 Women in Hedge Funds has hosted more than 160 events globally, connected more than 150 senior women through Peer Advisory Groups and raised in excess of $17 million for philanthropic causes in the areas of women’s health, education and mentoring. For more information about 100 Women in Hedge Funds, please visit www.100womeninhedgefunds.org.

For questions, please email
Diane Schrader
Northern CA Chair, 100WHF
[email protected]


Bart Mallon, Esq. of runs the Hedge Fund Law Blog and provides hedge fund manager registration service through Cole-Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

Qualified Eligible Person (QEP) Definition

The securities laws can be written obtusely and the definition of a qualified eligible person (QEP) may be one of the best examples of this.  There is no quick and easy definition of a what a QEP is so we are trying to make it as easy as possible to understand.  This post discusses the importance of the classification, provides the overview of the definition and then provides a link to the actual statutory language.

Why QEP Definition is Important for CPOs

The definition of QEP is important for commodity pool operators (CPOs) in a couple of situations.  The first is the 4.13(a)(4) exemption from the registration provisions for a CPO that provides advice to a commodity pool with only QEPs.  The second situation where a CPO will need to make sure the investors are QEPs is if they want to take advantage of the Rule 4.7 exemption.  The Rule 4.7 exemption allows CPOs to follow less-strict reporting requirements with regard to the commodity pool they manage.  These two exemptions essentially provide for reduced regulatory oversight of a CPO who provides advisory services to these class of investors.

Definition of QEP

A qualified eligible person is an investor who fits into one of two distinct groups: (1) investors who do not need to meet the portfolio requirement and (2) investors who need to meet the portfolio requirement.

1.  Investors who do not need to meet the portfolio requirement:

The following are considered to be QEPs regardless of whether or not they meet the portfolio requirement:

  • registered futures commission merchants
  • registered broker or dealers
  • registered commodity pool operators (under certain conditions, see rule for more details)
  • registered commodity trading advisors (under certain conditions, see rule for more details)
  • state or SEC registered investment advisers (under certain conditions, see rule for more details)
  • qualified purchasers
  • knowledgeable employee of the CPOs
  • certain persons related to advisers to exempt from registration as a CPO or CTA
  • trusts (under certain conditions, see rule for more details)
  • 501(c)(3) organizations (under certain conditions, see rule for more details)
  • non-United States persons
  • certain entities in which all of the owners/participants are QEPs

2.  Investors who need to meet the portfolio requirement:

The following will be considered to be QEPs only if they meet the portfolio requirement described below:

  • investment companies registered under the Investment Company Act (i.e. mutual funds)
  • certain business development companies (defined under both the Investment Company Act and Investment Advisers Act)
  • banks, savings and loan associations, and other like institutions acting for their own accounts or for the account of a QEP
  • insurance companies acting for their own account or for the account of a qualified eligible person
  • plans established and maintained by various governments and related bodies for the benefit of their employees, if such plan has total assets in excess of $5,000,000
  • employee benefit plans within the meaning of the ERISA (under certain conditions, see rule for more details)
  • 501(c)(3) organizations with total assets in excess of $5,000,000
  • corporations, business trusts, partnerships, LLCs or similar business ventures with total assets in excess of $5,000,000 and not formed for the specific purpose of participating in the exempt investment program
  • a natural person whose individual net worth, or joint net worth with that person’s spouse, at the time of either his purchase in the exempt pool or his opening of an exempt account exceeds $1,000,000 [HFLB note: this is one part of the accredited investor definition]
  • a natural person who had an individual income in excess of $200,000 in each of the two most recent years or joint income with that person’s spouse in excess of $300,000 in each of those years and has a reasonable expectation of reaching the same income level in the current year [HFLB note: this is one part of the accredited investor definition]
  • pools, trusts, insurance company separate accounts or bank collective trusts, with total assets in excess of $5,000,000 (under certain conditions, see below)
  • other entities authorized by law to engage in such transactions (under certain conditions, see rule for more details)

3.  Portfolio Requirement

If an investor is one of the entities described in (2) above, it will also need to meet the portfolio requirement.  The portfolio requirement can be met in one of three ways:

  • Owns securities and other investments with an aggregate market value of at least $2MM;
  • Has had on deposit with a FCM at least $200K in exchange-specified initial margin and option premiums for commodity interest transactions in the 6 months prior to the investment; or
  • Has a combination of the two above.  For example, has $1MM in securities/investments and $100K in exchange-specified initial margin in the 6 months prior to the investment

The above definitions have been shortened for the purpose of providing a general overview.  When determining whether an investor meets the qualified eligible person definition the CPO should take special care to make sure that the investor meets the full definition which can be found here.  Generally the investor will make these representations in the subscription documents which are drafted by the hedge fund attorney.


Other related Hedge Fund Law Blog articles include:

Bart Mallon, Esq. runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

Fund Appreciation Rights

Alternative Hedge Fund Compensation Structure

At the very beginning of this year there was much discussion about the hedge fund compensation structure in light of the horrible returns from 2008.  Many funds lost money but managers aren’t typically subject to the same types of clawback provisions as private equity fund managers.  Additionally some funds had to close shop because of talent retention issues or because the manager realized that reaching a previous high water mark would take too long.  Generally investors who have lost money will prefer to stay in a fund (all else being equal) because of the high water mark – when investors go into a new fund, there high water mark is their initial investment which means they are going to be subject to hedge fund performance fees sooner than in a fund which has previously lost money.

FAR Alternative

As an alternative to the traditional performance fee/ allocation structure, some hedge funds are instituting a different compensation structure called fund appreciation rights (FARs).  Generally this structure provides a more aligned incentive structure for the manager.  Essentially the FARs provide an option like mechanism for the manager.  This option also has the potential to allow the manager to defer recognition of income which may be an added tax benefit for the manager.  [Note: a longer discussion on this issue will be forthcoming shortly.]

Issues with FARs

FARs are new.  It is not known how many groups have implemented FARs or whether they will catch on (or become the next standard).  It is likely that any movement in this area will be driven by the demand (if any) by institutional investors for such products.  FARs are also untested and it is not clear how they will be viewed by the IRS.  As we have recently seen, there has been a big push to disallow the tax advantages of the performance allocation to hedge fund managers and in the current political climate it is likely that the IRS will scrutinize such transactions.

We will continue to research and report on this and other tax structures for hedge fund managers.


Other related hedge fund law articles:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

Weekly Hedge Fund News Stories | November 30 – December 4

Below are a list of some of the news stories which caught my attention this week.


Hedge Fund Carried Interest Tax “Loophole” Repeal? – the hedge fund carried interest “loophole” is again being discussed as a potential issue to be addressed by Congress before the end of the year.  One proposal introduced by Representative Levin (R) has reportedly passed the House twice but is meeting opposition in the Senate.  Watch for a bill to be included as a last minute rider.  For more background, see articles by Boston.com and Reuters.

Wall Street “Transaction Tax” Introduced in House
– A group of Congressmen introduced legislation to tax Wall Street.  According to a press release by Representative Peter DeFazio (D-OR), investment transactions (including stocks, futures, swaps, CDSs, and options) will be subject to “small” transaction taxes which could raise up to $150 billion a year.   The tax would not apply to certain groups like IRAs, mutual funds, and HSAs.  See also a SIFMA press release which discusses this issue.

Florida to Invest $500MM in Hedge Funds – managers who are looking for an allocation from a large pension plan should look toward Florida which is looking to get into hedge funds.  According an article on Pension & Investments, Florida has hired Cambridge Associates as a consultant to help with the search.

Positive November for Hedge Funds – Hedge fund managers gained an average of 1.8% in November according to this Market Watch article.


Other articles I liked this week:


There is a lot of chatter out there about hedge funds and insider trading.  Evidently the SEC is continuing to pursue large hedge fund groups who may have been involved.

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

Hedge Funds, the Secondary Market and PTP Issues

Secondary Hedge Fund Market Poses Issues for Fund Managers

Recently there have been a number of groups springing up to provide a secondary hedge fund market.  While such platforms provide investors with a potential avenue to get out of their illiquid investment (the investment in the fund may be illiquid for a number of reasons including the imposition of a gate provision), they pose problems for the hedge fund manager who will have to deal with the mechanical issues involved in a transfer of the fund interests.  Additionally, as noted in the article below, the manager may have to worry about the PTP issues involved with such potential transfer.

The following article was written by Doug Cornelius of the Compliance Building blog and is reprinted with permission.  All links in the article are from the original.


Classification of Private Funds as Publicly Traded Partnerships

Due to the increasing incidence of fund investors who want to transfer their investment fund interests, private investment funds face a risk of being classified as publicly traded partnerships. That would mean the fund would become taxable as a corporation.

A bad result.

Under Internal Revenue Code § 7704, a partnership will be classified as a publicly traded partnership if (1) the fund interests are traded on an established securities market or (2) the fund interests are readily tradable on a secondary market or its substantial equivalent.

The big problem is determining when you have a “substantial equivalent” of a secondary market. Under the regulations, the IRS uses a facts and circumstances test to determine if “partners are readily able to buy, sell, or exchange their partnership interests in a manner that is comparable, economically, to trading on an established securities market.” You hate to get into a facts and circumstances discussion with the IRS.

Fortunately there are some safeguards in the implementing regulations at 26 C.F.R. § 1.7704-1.

Involvement of the Partnership

For purposes of section 7704(b), interests in a partnership are not readily tradable on a secondary market or the substantial equivalent unless (1) The partnership participates in the establishment of the market or (2) The partnership recognizes any transfers made on the market by (i) redeeming the transferor partner or (ii) admitting the transferee as a partner.

Since most fund partnerships require the general partner to approve the the transferee and then admit the transferee, they are unlikely to be able to take advantage of this safe harbor.

De Minimis Trading Safeharbor

The focus of a fund should be on the 2% de minimis safe harbor. 26 C.F.R. § 1.7704-1(j) provides for interests in a partnership to be deemed not readily tradable on a secondary market or the substantial equivalent thereof if the sum of the percentage interests in partnership capital or profits transferred during the taxable year of the partnership does not exceed 2 percent of the total interests in partnership capital or profits.

You want avoid having more than 2 percent of the partnership interests changing hands each tax year.

If you get close to that number there are several transfers that are disregarded transfers for this safeharbor, including:

  • block transfers by a single partner of more than 2% of the total interests
  • intrafamily transfers
  • transfers at death
  • distributions from a qualified retirement plan
  • Transfers by one or more partners of interests representing  50 percent or more of the total interests in partnership

Private Placement Safeharbor

The regulations deem a transfer to not be a trade if it was a private placement. But the regulations have their own definition of a private placement: (1) the issuance of the partnership interests had to be exempt from registration under the Securities Act of 1933,  and (2) the partnership does not have more than 100 partners at any time during the tax year of the partnership. 26 C.F.R. § 1.7704-1(h)

The first prong should be straight-forward for most private funds. The trickier part is the second prong. In some circumstances the IRS can look through the holder of a partnership interest to its beneficial owners and expand the number of partners to include the beneficial holders of that interest.

Passive Income Safeharbor

If a fund is determined to be a Publicly Traded Partnership, it will nonetheless not be taxed as a corporation if 90% or more of the fund’s gross income is passive-type income. [26 U.S.C. § 7704(c)] Passive-type income generally includes dividends, real property rents, gains from the sale of real property, income from mining and oil and gas properties, gains from the sale of capital assets held to produce income, and gains from commodities (not held primarily for sale in the ordinary course of business), futures, forwards, or options with respect to commodities. The income test is on a taxable year basis and must be have been met each prior year.



Please also see the post on hedge fund compliance and twitter which includes another reprint of a Compliance Building article.

Other related hedge fund law articles include:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.