Senior Senators Introduce Hedge Fund SEC Registration Bill

A bill requiring hedge funds to register with the SEC has been introduced by Senators Carl Levin and Charles Grassley. The Hedge Fund Transparency Act would make hedge funds subject to SEC regulation and oversight by requiring them to register with the SEC, to file an annual public disclosure form with basic information, to maintain books and records required by the SEC, and to cooperate with any SEC information request or examination. The measure also requires hedge funds to establish anti-money laundering programs and report suspicious transactions, thereby clarifying that hedge funds have the same obligations under US money laundering statutes as other financial institutions.

The information to be made available to the public under the Act must include, at a minimum, the names of the companies and natural individuals who are the beneficial owners of the hedge fund and an explanation of the ownership structure; the names of any financial institutions with which the hedge fund is affiliated; the minimum investment commitment required from an investor; the total number of investors in the fund; the name of the fund’s primary accountant and broker; and the current value of the fund’s assets and assets under management. The bill also authorizes the SEC to require additional information it deems appropriate.

The bill imposes a set of basic disclosure obligations on hedge funds and makes it clear they are subject to full SEC oversight while, at the same time, exempting them from many of the obligations that the Investment Company Act imposes on other types of investment companies, such as mutual funds that are open for investment by all members of the public. The bill imposes a more limited set of obligations on hedge funds in recognition of the fact that they are generally confined to wealthy investors. The bill also, however, gives the SEC the authority it needs to impose additional regulatory obligations and exercise the level of oversight it sees fit over hedge funds to protect investors, other financial institutions, and the U.S. financial system as a whole.

Hedge funds generally rely on Sections 3 (c)(1) and (7) of the Investment Company Act for exemptions. The bill applies to all entities that rely on Sections 3(c)(1) or (7) to avoid compliance with the full set of the Investment Company Act requirements. A wide variety of entities invoke those sections to avoid those requirements and SEC oversight, and they refer to themselves by a wide variety of terms, hedge funds, private equity funds, venture capitalists, small investment banks, and so forth.

Rather than attempting a futile exercise of trying to define the specific set of companies covered by the bill and thereby invite future claims by parties that they are outside the definitions and thus outside the SEC’s authority, the bill applies to any investment company that has at least $50 million in assets or assets under its management and relies on Sections 3(c)(1) or (7) to avoid compliance with the full set of Investment Company Act requirements.

The bill also moves paragraphs (c)(1) and (7) from the part of the 1940 Act that defines “investment company” to the part that exempts certain investment companies from the Investment Company Act’s full set of requirements. This was done to clarify that hedge funds really are investment companies, and that they are not excluded from the coverage of the Investment Company Act.

Instead, they are being given an exemption from many of that law’s requirements, because they are investment companies which have voluntarily limited themselves to one hundred or fewer beneficial owners and to accepting funds only from investors of means. Under placement in current law, the two paragraphs allow hedge funds to claim they are excluded from the Investment Company Act and that they are not investment companies at all and are outside the SEC’s reach. Under the bill, the hedge funds would qualify as investment companies, which Congress believes they plainly are, but would qualify for exemptions from many of the Act’s requirements by meeting certain criteria.