Private Fund Related Exemptions – An Overview
So, you want to launch a private fund. Where should you start? First, ensure that you have qualifying exemptions for both (1) the offering of interests of your private fund entity and (2) the making of investment decisions for compensation on behalf of the private fund.
What sort of exemption will my Private Fund need?
Under the Investment Company Act of 1940 (the “Company Act”), an issuer that holds itself out as being engaged primarily in the business of investing, reinvesting or trading securities needs to be registered as an “Investment Company” unless it qualifies under an exemption. Registering as an “Investment Company” is a massive undertaking, one that we recommend avoiding if possible. You can do that by ensuring that your private fund falls within an exemption provided in either 3(c)(1) or 3(c)(7) of the Company Act.
A 3(c)(1) Fund is one that conducts a private offering and accepts no more than 100 beneficial owners. If that 3(c)(1) Fund is a Qualified Venture Capital Fund, it can accept up to 250 investors.
- “Qualifying Venture Capital Fund” = a Venture Capital Fund with no more than $10M in aggregate capital contributions and uncalled committed capital (to be adjusted for inflation).
- “Venture Capital Fund” = a fund that represents that it pursues venture capital strategy with 80% of its investments consisting of Qualifying Investments; that does not incur debt exceeding 15% of its aggregate capital contributions and uncalled committed capital (and debt is short term); and does not allow for redemption and liquidity.
- “Qualifying Investments” = equity securities of portfolio companies that are directly acquired by the fund.
If a 3(c)(1) Fund hopes to be a Qualified Venture Capital Fund, but inadvertently busts a piece of the definition (such as indirectly investing in the underlying venture company), it can still qualify as a 3(c)(1) Fund, but it will only be permitted to accept 100 investors (rather than 250).
A 3(c)(7) Fund is one that conducts a private offering and accepts no more than 2,000 investors; however, all investors must be Qualified Purchasers at the time they subscribe to the fund. Generally, a “Qualified Purchaser” is a natural person or an entity who owns at least $5,000,000 in investments or who invests at least $25,000,000, either for their own accounts or on others’ behalf. For an entity to qualify, all the owners must also be Qualified Purchasers at the time the entity subscribes to the fund.
What sort of exemption will the entity need that makes investment decisions for my private fund?
Under the Investment Advisers Act of 1940, any person who, for compensation, engages in the business of advising others must register as an Investment Adviser unless it qualifies under an exemption. Here, we are looking at the entity that makes investment decisions for the private fund (the “Adviser”), instead of the private fund entity. There are two key exemptions – the Private Fund Adviser Exemption and the Venture Capital Adviser Exemption. A “Private Fund Adviser” is an adviser that only advises private funds and has less than $150M in total assets under management (“AUM”). A “Venture Capital Adviser” only advises Venture Capital Funds (see definition above). It is important to note that the Venture Capital Adviser definition is narrower than the Private Fund Adviser definition. Thus, if an Adviser hopes to rely on the Venture Capital Adviser exemption but inadvertently busted a piece of the definition, the Adviser can still rely on the Private Fund Adviser exemption as long as its total AUM is less than $150M. While Private Fund Advisers and Venture Capital Advisers are exempt from registration with the Securities and Exchange Commission (the “SEC”), the Adviser must still make an Exempt Reporting Adviser filing with the SEC. This filing requires basic information about both the Adviser as well as the private funds to which the Adviser provides investment advice.
Once filed, the general public is able to search for the Adviser and view the filing on the Investment Adviser Public Disclosure site. The Adviser must also file an annual amendment with the SEC within 90 days of the fiscal year end to update the SEC of any changes to the filing. However, if certain items, such as the principal address of the Adviser, change, then an “other-than-annual amendment” is required to be filed promptly with the SEC.
We know there are a lot of definitions at play here and various criteria to examine. Please let us know if we can help you create an entity structure that allows you to avoid registration both as an investment company and as an investment adviser.