With effect from 21 July 2011, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) repealed the so-called “private adviser exemption” from registration under the US Investment Advisers Act of 1940, as amended (the Advisers Act). In place of that exemption, the Dodd-Frank Act created a number of new exemptions from registration under the Advisers Act. Among them, the Dodd-Frank Act established a new exclusion from the definition of “investment adviser” for so-called “family offices”. The US Securities and Exchange Commission (the SEC) has adopted a number of rules in recent months in order to implement these new exemptions.
Given these significant changes, virtually all family offices — including those located entirely outside the US (a “non-US family office”) but who have “clients” that are resident, or entities organized, in the United States — should now carefully review their position in relation to the Advisers Act’s registration and other requirements.
The answers to the following frequently-asked questions are intended to provide a general summary of certain of these legal developments as they relate to non-US family offices. They are not intended to be a full analysis of the law or its application to any particular investment adviser.
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How did family offices avoid registration as investment advisers before the Dodd-Frank Act amendments to the Advisers Act took effect?
Historically, family offices (including non-US family offices) seeking to avoid registration under the Advisers Act typically structured their activities in one of three ways:
- some did not use any US “jurisdictional means” in connection with their advisory business (including, for example, not advising clients resident or organized in the United States and not maintaining an office there);
- some relied on the recently-repealed private adviser exemption; and
- a small number obtained and relied upon an SEC exemptive order permitting the family office to operate without registering.
Under the old private adviser exemption, repealed with effect from 21 July 2011, a non-US investment adviser was generally not required to register under the Advisers Act if it had managed 14 or fewer US clients over the preceding 12 months and did not hold itself out to the US public as an investment adviser. Generally speaking, each investment fund a non-US investment adviser managed was considered one client for these purposes if it was organized or had offices in the United States. There was no limit on the amount of assets under the management under the private adviser exemption. As more fully described in our briefing entitled “New Investment Adviser Act exemptions for non-US Advisers” (July 2011), this exemption was repealed and largely replaced by a number of new but more narrowly drawn exemptions.
Alternatively, some family offices sought, and the SEC granted, exemptive orders on the basis that those family offices did not constitute the sort of arrangement that the Advisers Act was intended to regulate. It was the SEC’s view that disputes among family members concerning the operation of a family office could adequately be resolved within the family unit or if necessary under the laws designed to govern family disputes. As part of its recent rulemakings, the SEC indicated that it will not rescind these prior exemptive orders, but it has likewise indicated that going forward the new exemption should end the need to seek such individual orders in most cases.
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When can a family office rely on the new family office exclusion?
As discussed above, the Dodd-Frank Act established a new exclusion from the definition of “investment adviser” under the Advisers Act for so-called “family offices”. The SEC subsequently adopted a new rule implementing that new exclusion (see Rule 202(a)(11)(G)-1 under the Advisers Act). Consequently, family offices meeting the requirements of the rule are not required to register under or comply with any provisions of the Advisers Act.
A family office is generally defined by the SEC to mean an investment adviser that:
- Has no clients other than “family clients”;
- Is wholly-owned and exclusively controlled (directly or indirectly) by family clients; and
- Does not hold itself out generally to the public in the United States as an investment adviser.
The essence of the new family office definition is that, with very limited exceptions, the family office may provide investment advice only to the members of a single family, so-called “family clients”. Offices that provide advice to multiple families, or that the family has allowed to advise non-family members (such as close friends, business associates or family businesses which do not meet certain criteria), may not meet the strict limits imposed by the exclusion.
Key definitions in relation to the exclusion are as follows:
- A “family client” is a client who is either a current or former “family member”, a current or former “key employee”, or a “family entity”.
- The term “family member” includes any lineal descendants no more than ten generations removed from a designated common ancestor, the descendants’ spouses and spousal equivalents and stepchildren. The family office may change the designated common ancestor, although such a change potentially could operate to exclude branches of the family from qualifying as “family members”.
- The term “key employees” includes any natural person (including any key employee’s spouse or spousal equivalent who holds a joint, community property or other similar shared ownership interest with that key employee) who is:
- an executive officer, director, trustee, general partner, or person serving in a similar capacity at the family office or
- any other employee of the family office (other than an employee performing solely clerical, secretarial, or administrative functions) who, in connection with his or her regular functions or duties, participates in the investment activities of the family office, provided that such employee has been performing such functions or duties for at least 12 months.
- The term “family entity” includes any non-profit organization, charitable foundation, charitable trust or other charitable organization, each funded exclusively by one or more family clients and the estates of current and former family members and key employees (subject to certain limitations).
The family office exclusion further allows for a one-year transition period following an involuntary transfer of assets from a family client to a non-qualifying person or entity, during which time the family office may provide advice with respect to those assets, in order to allow for the orderly transfer of those assets from the family office to another investment adviser.
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Are there any grandfathering provisions for family offices with legacy clients who do not meet the definition of “family client”?
The Dodd-Frank Act does include “grandfathering” provisions which operate to bring within the exclusion family offices that provide advice to certain clients who do not meet the definition of “family client”. Family offices that provide advice to the following types of client may continue to rely on the family office exclusion, if the family office provided such advice to those clients prior to 1 January 2010:
- Natural persons who, at the time of their investment, were officers, directors or employees of the family office and who are “accredited investors” as defined in Regulation D under the US Securities Act of 1933, as amended, and who invested with the family office prior to 1 January 2010;
- Any company owned exclusively and controlled by one or more family members; and
- Any investment adviser registered under the Advisers Act that provides investment advice to the family office and invests in such transactions on substantially the same terms as the family office, but does not invest in other funds advised by the family office, and whose assets as to which the family office provides advice (directly or indirectly) constitute no more than five percent of the total assets as to which the family office provides advice.
Finally, as noted above, any family office that sought and obtained an exemptive order from the SEC prior to 20 August 2011 permitting it to operate without registering as an investment adviser may continue to rely on that exemptive order whether or not that family office falls within the new family office exclusion. Moreover, family offices (including non-US family offices) that do not meet the criteria for the new family office exclusion may continue to apply for exemptive orders in order to avoid registering under the Advisers Act.
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Does the family office exclusion provide an exemption from the anti-fraud provisions of the Advisers Act?
Family offices are not subject Advisers Act’s antifraud provisions as they are not “investment advisers” within the meaning of the Advisers Act. However, a family office that falls within the definition of family office solely because of the “grandfathering” provisions is subject (with very limited exceptions) to the anti-fraud provisions of the Advisers Act.
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Are there any other exemptions upon which non-US family office can rely?
Yes, there are a number of exemptions that possibly could be relied upon, depending on the circumstances of the non-US family office and the funds it has under management. For example, there are exemptions for so-called “foreign private advisers” (generally, advisers with fewer than 15 clients and investors in the United States and less than $25 million in funds attributable to such investors), as well as a new category of so-called “exempt reporting advisors” including advisors that only advise “venture capital funds”, as narrowly defined by the SEC, as well as “private fund advisers” (generally, advisers with no clients that are US persons except for one or more qualifying private funds, and with less than $150 million in assets under management in the United States). Exempt reporting advisors, while not subject to registration, are nonetheless required to comply with reporting and recordkeeping requirements established by the SEC.
For further information about the exemptions available to foreign private advisers and private fund advisers, see our briefing entitled “New Investment Adviser Act exemptions for non-US Advisers”.
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What if none of these new exemptions are available?
If a non-US family office does not fall within the family office exclusion and no other exemption from registration is available, the non-US family office will need to consider:
- Restructuring its business to ensure that it does not use any US “jurisdictional means” in connection with their advisory business (including, for example, not advising clients organized or resident in the United States and not maintaining an office there);
- Restructuring its business to ensure it falls within the family office exclusion or another exemption from registration;
- Applying to the SEC for an exemptive order in order to avoid registering under the Advisers Act; or
- Registering itself or one of its affiliates with the SEC or alternatively, in certain circumstances, the state in which the adviser maintains its principal office and place of business in the United States.
Given the substantive requirements, costs and on-going burdens of being registered under the Advisers Act, SEC registration should not be undertaken lightly, even though it should be noted that SEC generally does not require registered non-US investment advisers to comply with many of the substantive requirements of the Adviser Act in respect of its non-US clients. Preparing for registration can take three or four months (and sometimes significantly more) as the adviser must be fully compliant with the requirements of the Advisers Act from the date of effectiveness of registration. The formal process involves filing and SEC review of a complete Form ADV. Once the adviser has filed the form, the SEC is generally required to approve the registration or commence the denial thereof within 45 days.
Under the Dodd-Frank Act, from 21 July 2011, an investment adviser generally will not be permitted to register with the SEC if: (i) it has between $25 million and $100 million under management; (ii) it is required to be registered as an investment adviser in the state in which it has its principal office and place of business; and (iii) it will be subject to examination as an investment adviser by the relevant state securities commissioner.
A family office that was relying on, and was entitled to rely on, the private adviser exemption may delay registering with the SEC until 30 March 2012, although because initial applications for registration can take up to 45 days to be approved, family offices should file a complete application by 14 February 2012. Likewise, such a family office that determines it would instead like to seek an exemptive order should be prepared to make its submission at least two to three months in advance of 30 March 2012.
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When does the new family office exclusion become effective?
Under the rules adopted by the SEC, the new family office exclusion became effective as of 29 August 2011. As discussed above, however, advisers to family offices who previously relied upon the private fund adviser exemption will have until 30 March 2012 to either restructure their operations in order either to meet the definition of a family office or qualify for an available exemption (and come into compliance with the reporting regime applicable to such exemption), to register as investment advisers (if no other exemption is available to them), or to seek and obtain an exemptive order from the SEC.
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