Wednesday, May 25, 2016

SEC to up ‘qualified client’ threshold for performance-based fees

By Amy Leisinger, J.D.

The SEC intends to issue an order to adjust for inflation the dollar-amount thresholds in the Advisers Act rule permitting investment advisers to charge performance-based fees to “qualified clients.” The order would increase the minimum net worth of a “qualified client” under Rule 205-3 from $2 million to $2.1 million and leave intact the minimum $1 million amount for assets under management. The adjustment will be the second for the Commission since the Dodd-Frank Act mandated inflation adjustments in 2010 (Performance-Based Investment Advisory Fees, Release No. IA-4388, May 18, 2016).

Performance-based fees. Advisers Act Section 205(a)(1) generally prohibits an adviser from entering into or performing any advisory contract that provides for compensation based on a share of capital gains on or appreciation of client funds. Congress authorized the SEC to exempt any contract from the prohibition if it was made with a party who does not need its protections. Under Rule 205-3, an adviser may charge performance-based fees if a “qualified client” has a certain minimum net worth or minimum dollar amount of assets under the management of the adviser. The Dodd-Frank Act amended Section 205 to require the Commission to adjust for inflation the dollar amount thresholds following its enactment and every five years thereafter. In February 2012, the Commission revised the thresholds for the assets-under-management test and the net worth test to $1 million and $2 million, respectively.

Proposed adjustment. The SEC plans to issue an order that would maintain the dollar amount of the assets-under-management test and would increase the net-worth test to $2.1 million. Both amounts would take into account the effects of inflation by reference to PCE Index levels. The Commission anticipates that the order will be effective 60 days after its issuance and that future changes to the tests will be reflected in technical amendments to Rule 205–3(d).

Interested persons may request a hearing before June 13, 2016.

The release is No. IA-4388.

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