International Financial Law Prof Blog

Editor: William Byrnes
Texas A&M University
School of Law

Monday, August 8, 2016

SEC Adjusts the Qualified Client Dollar Amount Tests in Rule 205-3

Adjustment of Dollar Amount Thresholds

On May 18, 2016, the Commission published a notice of intent to issue an order that would adjust for inflation, as appropriate, the dollar amount thresholds of the asset-under- SECmanagement test and the net worth test. The Commission stated that, based on calculations that take into account the effects of inflation by reference to historic and current levels of the PCE Index, the dollar amount of the assets-under-management test would remain $1,000,000, and the dollar amount of the net worth test would increase from $2,000,000 to $2,100,000.  These dollar amounts—which are rounded to the nearest $100,000 as required by section 205(e) of the Advisers Act—would reflect inflation from 2011 to the end of 2015. This Order is effective as of August 15, 2016. 


Section 205(a)(1) of the Investment Advisers Act of 1940 (“Advisers Act”) generally prohibits an investment adviser from entering into, extending, renewing, or performing any investment advisory contract that provides for compensation to the adviser based on a share of capital gains on, or capital appreciation of, the funds of a client (also known as performance compensation or performance fees).

Section 205(e) authorizes the Securities and Exchange Commission (“Commission”) to exempt any advisory contract from the performance fee prohibition if the contract is with persons who the Commission determines do not need the protections of the prohibition, on the basis of certain factors described in that section.  Rule 205-3 under the Advisers Act exempts an investment adviser from the prohibition against charging a client performance fees in certain circumstances when the client is a “qualified client.”  The rule allows an adviser to charge performance fees if the client has at least a certain dollar amount in assets under management (currently, $1,000,000) with the adviser immediately after entering into the advisory contract (“assets-under-management test”) or if the adviser reasonably believes, immediately prior to entering into the contract, that the client had a net worth of more than a certain dollar amount (currently, $2,000,000) (“net worth test”).

The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) amended section 205(e) of the Advisers Act to provide that, by July 21, 2011 and every five years thereafter, the Commission shall adjust for inflation the dollar amount thresholds included in rules issued under section 205(e), rounded to the nearest $100,000.  The Commission last issued an order to revise the dollar amount thresholds of the assets-under-management and net worth tests (to $1,000,000 and $2,000,000, respectively, as discussed above) on July 12, 2011.

Financial Regulation | Permalink


Post a comment