IM Guidance Update

DECEMBER 2014 | No. 2014-12

 

 

BUSINESS DEVELOPMENT COMPANIES—TRANSACTIONS WITH CERTAIN 

SECOND-TIER AFFILIATES 

The Investment Company Act of 1940 (“1940 Act”) places restrictions on transactions 

between investment companies regulated under the 1940 Act, including business 

development companies (“BDCs”), and their affiliated persons1

 and affiliated persons 

of such persons (“second-tier affiliates”). These restrictions are designed to protect 

such investment companies from undue influence and overreaching. 

The staff is issuing this guidance in response to a public inquiry that the staff has 

received concerning a BDC’s co-investment transactions. The guidance is meant to 

assist BDCs and their counsel in determining the restrictions that apply to a BDC’s coinvestment transactions with certain second-tier affiliates, specifically, limited partners 

of a partnership that is an affiliated person of the BDC. 

Background 

With respect to BDCs, the 1940 Act distinguishes between transactions involving “close 

affiliates”2 and those involving “remote affiliates.”3 Certain transactions between a close 

affiliate and a BDC are prohibited.4 Certain transactions between a remote affiliate and a 

BDC are permitted subject to approval by a required majority of the BDC’s directors as 

specified in the 1940 Act.5 A second-tier affiliate of a BDC may be a close affiliate or a 

remote affiliate, depending on various factors. 

The Specific Question 

The staff was recently asked whether a certain second-tier affiliate of a BDC may be 

treated as a remote affiliate in the following situation: 

•	 The BDC and a private fund organized as a limited partnership (“Private Fund”) 

are under common control—the BDC’s investment adviser (“Adviser”) controls the 

BDC and either is the Private Fund’s general partner or controls, is controlled by or 

US Securities and Exchange Commission 

Division of Investment Management 
 

 

 

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IM GUIDANCE UPDATE 

is under control with the general partner.6 Because the general partner controls the 

Private Fund, the Private Fund is under common control with the BDC. The Private 

Fund is therefore a close affiliate of the BDC.7 

•	 One of the limited partners of the Private Fund (“Limited Partner”) is an affiliated 

person of the Private Fund because the Limited Partner (1) is a partner of the 

Private Fund and (2) owns 5% or more (but 25% or less) of the Private Fund’s 

outstanding voting securities.8 Because the Limited Partner, as a partner of the 

Private Fund, is a close affiliate of the Private Fund, and the Private Fund is a 

close affiliate of the BDC, the Limited Partner is also a close affiliate of the BDC.9 

Accordingly, the Limited Partner is prohibited from engaging in certain transactions 

with the BDC under the 1940 Act. 

•	 Under the same facts, if the Private Fund were organized as a corporation, the 

Limited Partner would be a shareholder of the Private Fund and, as such, a remote, 

rather than a close, affiliate of the BDC.10 

The staff was asked whether the Limited Partner may be viewed as a shareholder 

of the Private Fund and therefore as a remote affiliate of the BDC that may engage 

in transactions with the BDC subject to the approval of a required majority of the 

BDC’s directors. Prior Commission and staff positions have recognized that, in many 

circumstances, limited partners and shareholders should be treated comparably.11 

Similarly, under the facts presented above, where the Limited Partner is a close affiliate 

of the BDC solely because the Private Fund is organized as a limited partnership and 

the Limited Partner is seeking to co-invest with the BDC, the staff believes that the 

Limited Partner may be treated as if it were a shareholder of the Private Fund for 

purposes of determining whether it is a close or a remote affiliate of the BDC. 

Endnotes

Section 2(a)(3) of the 1940 Act defines an “affiliated person” of another person as: 

(A) any person directly or indirectly owning, controlling, or holding with power to 

vote, 5% or more of the outstanding voting securities of such other person; (B) any 

person 5% or more of whose outstanding voting securities are directly or indirectly 

owned, controlled, or held with power to vote, by such other person; (C) any person 

directly or indirectly controlling, controlled by, or under common control with, such 

other person; (D) any officer, director, partner, copartner, or employee of such other 

person; (E) if such other person is an investment company, any investment adviser 

thereof or any member of an advisory board thereof; and (F) if such other person 

is an unincorporated investment company not having a board of directors, the 

depositor thereof. 
 

 

 

 

 

 

 

IM GUIDANCE UPDATE 3 

2 	 “Close affiliates” are persons that fall within section 57(b) of the 1940 Act. Such 

persons generally include (with certain exceptions): (1) any director, officer, 

employee or member of a BDC’s advisory board or any person who is, within the 

meaning of section 2(a)(3)(C) of the 1940 Act, an affiliated person of any of these 

persons; and (2) any investment adviser or promoter of, general partner in, principal 

underwriter for, or any person directly or indirectly either controlling, controlled by, 

or under common control with, a BDC, or any person who is, within the meaning of 

Sections 2(a)(3)(C) or (D) of the 1940 Act, an affiliated of any of these persons. 

3 	 “Remote affiliates” are persons that fall within section 57(e) of the 1940 Act. Such 

persons generally include (with certain exceptions): (1) any person (A) who is, 

within the meaning of Section 2(a)(3)(A) of the 1940 Act, an affiliated person of a 

BDC; (B) who is an executive officer or a director of, or general partner in, any such 

affiliated person; or (C) who directly or indirectly either controls, is controlled by, 

or is under common control with, such affiliated person; and (2) any person who is 

an affiliated person of a director, officer, employee, investment adviser, member of 

an advisory board or promoter of, principal underwriter for, general partner in, or 

an affiliated person of any person directly or indirectly either controlling or under 

common control with a BDC.

 4 	 See Section 57(a) of the 1940 Act. 

5	 See Section 57(f) of the 1940 Act. Section 57(o) of the 1940 Act defines “required 

majority,” when used with respect to the approval of a proposed transaction, plan, 

or arrangement, as both a majority of a BDC’s directors or general partners who 

have no financial interest in such transaction, plan, or arrangement and a majority 

of such directors or general partners who are not interested persons of the BDC. 

6	 Under section 2(a)(9) of the 1940 Act, a person has control over a company if the 

person has the power to exercise a controlling influence over the management or 

policies of the company, unless the power is solely the result of an official position 

with the company. Section 2(a)(9) also provides, among other things, that any 

person who does not own more than 25% of the outstanding voting securities of a 

company is presumed not to control the company. 

7 	 As noted above, under section 57(b)(2) of the 1940 Act, a close affiliate generally 

includes, among others, any person directly or indirectly controlling, controlled by, 

or under common control with the BDC, subject to certain exceptions. 
 

 

 

 

 

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8	 Because the Limited Partner owns 25% or less of the Private Fund’s outstanding 

voting securities, the Limited Partner is presumed not to control the Private Fund 

under section 2(a)(9) of the 1940 Act. The situation presented assumes that the 

Limited Partner does not control the Private Fund and is therefore not an affiliated 

person of the Private Fund by virtue of section 2(a)(3)(C) of the 1940 Act. The 

Limited Partner is, however, an affiliated person of the Private Fund by virtue of 

Sections 2(a)(3)(A) and 2(a)(3)(D) of the 1940 Act. 

9	 If the Adviser is also the Private Fund’s general partner, then under section 57(b)(2) 

of the 1940 Act, the Limited Partner also would be a close affiliate of the BDC 

because the Limited Partner is a copartner of the Adviser, which is a close affiliate 

of the BDC. In either situation, however, under the facts presented, the Limited 

Partner is a close affiliate of the BDC solely because the Private Fund is organized 

as a limited partnership. 

10 	 The Limited Partner would not be a close affiliate of the BDC under section 57(b) 

of the 1940 Act because it would not be an affiliated person of the Private Fund by 

virtue of section 2(a)(3)(D) of the 1940 Act. The Limited Partner would be a remote 

affiliate of the BDC, however, under section 57(e)(2) of the 1940 Act, because, 

as a shareholder that owns 5% or more (but 25% or less) of the Private Fund’s 

outstanding voting securities, the Limited Partner would be an affiliated person of 

the Private Fund, which in turn is a person under common control with the BDC. 

11 	 See Rule 2a3-1 under the 1940 Act (limited partners of a registered investment 

company or a BDC, organized as a limited partnership and relying on Rule 2a19­

2 under the 1940 Act, are not deemed to be affiliated persons of the investment 

company or BDC solely by virtue of their status as limited partners). See also First 

Financial Fund, SEC Staff No-Action Letter (June 5, 1997) (stating that the staff 

would not recommend enforcement action to the Commission if certain registered 

investment companies do not treat a named director of each of the investment 

companies as an “interested person” under section 2(a)(19) of the 1940 Act despite 

the director owning limited partnership interests in private funds whose general 

partner is an affiliated person of the investment companies’ investment adviser). 
IM GUIDANCE UPDATE 5 

This IM Guidance Update summarizes the views of the Division of Investment Management 

regarding various requirements of the federal securities laws. Future changes in laws or 

regulations may supersede some of the discussion or issues raised herein. This IM Guidance 

Update is not a rule, regulation or statement of the Commission, and the Commission has 

neither approved nor disapproved of this IM Guidance Update. 

The Investment Management Division works to: 

s protect investors 

s promote informed investment decisions and 

s facilitate appropriate innovation in investment products and services 

through regulating the asset management industry. 

If you have any questions about this IM Guidance Update, please contact: 

Chief Counsel’s Office 

Rochelle Kauffman Plesset 

Phone: 202.551.6925 

Email: IMOCC@sec.gov