July 21, 2015

Submitted Electronically – e-ORI@dol.gov and e-OED@dol.gov

Office of Regulations and Interpretations

Office of Exemption Determinations

Employee Benefits Security Administration

U.S. Department of Labor

200 Constitution Ave., NW

Washington, DC 20210

Re: Definition of the Term “Fiduciary” (RIN 1210-AB32);

Best Interest Contract Exemption (ZRIN 1210-ZA25)

Ladies and Gentlemen:

The Investment Program Association (“IPA”) submits the following comments 

with respect to the rule proposed by the U.S. Department of Labor (the “Department”) 

which would define who is a “fiduciary” by reason of providing investment advice for a 

fee or other compensation (the “Proposed Conflict of Interest Rule”1) and the related 

proposed Best Interest Contract Exemption (the “Proposed BIC Exemption”2). The IPA 

appreciates the opportunity to comment on this important regulatory action.

The IPA was formed in 1985 to provide effective national leadership for the direct 

investment industry. The IPA supports individual investor access to a variety of asset 

classes not correlated to the traded markets3 and which have historically been available 

primarily to institutional investors. These include publicly registered, non-listed real 

estate investment trusts (“NL REITs”), publicly registered, non-listed business 

development companies (“NL BDCs”), and other publicly registered, non-listed direct 

participation programs (the “Other DPPs”), and collectively with NL REITs and NL 

 1 U.S. Department of Labor, Notice of Proposed Rulemaking, Definition of the Term “Fiduciary”; 

Conflict of Interest Rule – Retirement Investment Advice, 80 Fed. Reg. 21960 (proposed Apr. 20, 2015) (to 

be codified at 29 C.F.R. pt. 2550), available at: 

http://webapps.dol.gov/FederalRegister/PdfDisplay.aspx?DocId=28201.

2 U.S. Department of Labor, Notice of Proposed Class Exemption, Proposed Best Interest Contract 

Exemption, 80 Fed. Reg. 21960 (proposed Apr. 20, 2015) (to be codified at 29 C.F.R. pt. 2550), available 

at: http://webapps.dol.gov/FederalRegister/PdfDisplay.aspx?DocId=28202. 3 Asset classes that are not correlated to the traded markets generally do not move in parallel with 

the traded markets. This results in a type of diversification that assists in reducing the portfolio risk that 

results from traded market volatility.
2

BDCs, the “Public Products”4). These Public Products are more fully described below. 

For 30 years the IPA has successfully championed the growth and improvement of such 

products, which have increased in popularity with financial professionals and investors 

alike. Public Products are now held in more than 2.8 million investor accounts. Today, 

Public Products function as a critical component of effectively diversified investment 

portfolios and serve an essential capital formation function for the U.S. economy.

The IPA serves the investment community through advocacy, collaboration, and 

education regarding these “direct investments”.

• The IPA supports individual investor access to professionally managed 

asset classes and strategies which have historically been available 

primarily to institutional investors. 

• IPA members include 150 product sponsors, asset management 

companies, broker-dealers, and direct investment service providers, 

including major national accounting and law firms and national, regional 

and independent broker-dealer firms. Collectively, these members service 

financial and direct investment assets in virtually all investment 

categories, including Public Products representing over $125 billion of 

assets under management.5

• The IPA establishes and encourages best practices on behalf of the 

investing public, such as:

• Promoting uniform and comparable reporting of product 

performance information;

• Standardizing valuation and financial metric reporting among 

direct investment products;

• Enhancing overall product transparency beyond what is required to 

be disclosed in filings with the Securities and Exchange 

Commission (“SEC”);

• Working directly with federal and state regulators (e.g., the SEC, 

the Financial Industry Regulatory Authority, Inc. (“FINRA”) and 

the North American Securities Administrators Association 

 4 The IPA supports additional products that are not discussed herein.

5 A complete list of the IPA’s members is available at: http://www.ipa.com/membership/directoryof-members/.
3

(“NASAA”)) to help create consistent and transparent 

communications and regulations for Public Products;

• Raising investor understanding of Public Products and their 

potential to address individual financial goals through educational 

programs; and

• Training investment advisers to enhance their knowledge of Public 

Products and the appropriate role of these products in client 

portfolios.

EXECUTIVE SUMMARY

The IPA’s primary concerns relate to two issues: (i) the Department’s apparent 

substitution of a “legal list” of acceptable (and presumably “worthy”) assets in place of 

its traditional principles-based approach; and (ii) the definition of “Assets” in the 

Proposed BIC Exemption. With respect to item (ii), the Department has requested 

comment on the proposed definition of “Assets” and has specifically asked that 

commenters who believe that additional investments should be included in the scope of 

the exemption provide the Department with full descriptions of those products, as well as 

information supporting the position that the products are a “common investment for retail 

investors.”6 

The IPA respectfully submits that the retreat from a principles-based approach to 

a “legal list” of “Assets” available to retirement investors for the purpose of the Proposed 

BIC Exemption will stifle product innovation and deny retirement investors the ability to 

access new investment categories, structures and products which may provide enhanced 

financial benefits and/or reduced risks. To avoid the negative consequence of this 

approach, the Department must have the ability and resources to regularly, continually, 

and timely consider and analyze new investment products for inclusion as an Asset, 

which may not be practicable. As a result, the Asset list process will create a category of 

investors who are not able to take advantage of market evolutions and improvements. 

The IPA therefore believes the “Asset List” approach should be discarded in favor of a 

principles-based approach. 

The IPA also respectfully submits that if the Department determines to proceed 

with an “Asset List” approach, then Public Products, as defined and described herein, 

 6 Proposed BIC Exemption, 80 Fed. Reg. 21967.
4

should be included in the “legal list” of Assets. This position is supported by the 

following observations:

• Public Products complement the objectives of retirement investors in that 

they can provide superior income and inflation protection, as well as 

capital appreciation.

• Public Products provide retirement investors with access to strategies 

similar to those used by the nation’s leading public and private pension 

and endowment plans in that they provide portfolio diversification into 

assets which have low correlations with exchange-traded financial 

products, thereby reducing portfolio risk and increasing risk-adjusted 

returns.

• Public Products have evolved from their predecessor forms and structures 

to provide improved liquidity, more transparency and independent 

valuation discovery, enhanced governance, more investor-friendly 

structures and compensation provisions, greater scale and associated 

financial strength, efficiency, strategic optionality, and superior 

professional management focus on the products’ distinct asset class.

• Public Products are subject to extensive regulation at the federal and state 

level which goes far beyond the regulatory oversight of many products on 

the Department’s proposed Asset List.

• Public Products have generally demonstrated successful investment 

performance and achievement of investment objectives which are 

appropriate for retirement investing. 

• Public Products have established themselves as integral components of 

over 2.8 million investment and retirement accounts.

Despite the foregoing, none of the Public Products have been included in the 

Department’s proposed list of Assets, and this will have the impact of effectively making 

these publicly registered investments unavailable to qualified IRA investors. The IPA 
5

believes that Public Products7 should be included as “Assets” within the Proposed BIC 

Exemption either by the removal by the Department of a “legal list” of Assets or by the 

inclusion of the Public Products on the “legal list”.

The following pages provide more in-depth descriptions and details of these 

Public Products and the IPA’s recommendations with respect to the Department’s 

proposal. For ease of reference by the Department, this letter is organized as follows:

I. Public Products Complement Retirement Investment Objectives

II. Evolution of Public Products to Become “Common” Investments With 

Investor-Friendly Features

III. Overview of Product Structures and Purpose

IV. Regulation of Public Products

V. Distribution of Public Products

VI. Public Products Are Common for Retail Investors

VII. Fees and Expenses of Public Products

VIII. Liquidity and Redemption of Public Products

IX. Discarding the “Legal List”

X. Other Suggestions to Make Proposed BIC Exemption More Workable

XI. Conclusion

I. Public Products Complement Retirement Investment Objectives

The IPA believes that Public Products possess attributes that are highly 

compatible with, and in fact complement, retirement investment objectives, the 

 7 The descriptions of the Public Products included in this comment letter are general in nature. 

Some individual Public Products may vary from the examples described herein with respect to distribution 

method, structure, and internal compensation arrangements. We believe, however, that the descriptions 

provided are representative of the vast majority of existing products.
6

recognition of which has resulted in these products rapidly gaining advocates among 

financial advisors and investors. These products can:

• Provide Superior and Reliable Income Distributions. Public Products are 

typically designed to provide a significant majority of their returns in the 

form of a stable stream of income which can help sustain a retiree’s 

lifestyle during retirement.

• Focus on Current Return, Not Speculative Growth. By focusing their 

investment objectives on providing a majority of their return in the form of 

current income, retirement investors using Public Products avoid the risks 

inherent in more aggressive or speculative products which seek a rapid 

growth of capital. 

• Provide the Potential for Inflation Protection. Inflation is a significant risk 

to retirement income and the purchasing power of saving. Unlike bond 

and fixed income portfolios where the purchasing power of invested 

capital can be eroded by inflation, the asset-based Public Products can 

provide capital protection through appreciation of value of the underlying 

assets induced by inflation.

• Avoid Exposure to the Volatility of Traded Securities Markets While 

Providing a Measure of Liquidity. By investing directly in real assets, 

Public Products help investors avoid over-concentrating their portfolios in 

exchange-traded securities or pooled-investment vehicles which invest in 

exchange-traded securities, thereby helping diversify investor portfolios 

and reduce the volatility and market risks associated with holding too 

much of such products.

For example, exchange-trade REITs clearly play an important role 

in providing individual investors with access to diversified and 

professionally managed portfolios of high quality commercial real estate. 

The IPA supports the efforts of organizations such as the National 

Association of Real Estate Investment Trusts to foster public knowledge 

and investment in exchange-traded REITs. The IPA believes, however, 

that investment portfolios can be more effectively diversified when the 

form of real estate investments includes both traded and non-traded 

vehicles. Indeed, it is noteworthy that major institutional pension plans 

historically have utilized investment strategies that call for investment in 
7

both exchange-traded REITs and direct real estate investments. This 

strategy helps insulate institutional portfolios from the volatility which can 

occur in exchange-traded securities markets. For example, the RMZ Price 

Index of exchange-traded REITs has experienced a one day decline as 

high as 19.7% and value swings exceeding 5% on 4.6% of all trading days 

in the past ten years (approximately equivalent to one such swing every 

twenty trading days). It is important to note that volatility of this 

magnitude is not unique to exchange-traded REITs but applies to 

numerous subcategories of exchange-traded securities which are included 

in the Department’s proposed Asset List. Historically, the volatility of 

exchange-traded securities markets has tended to induce retail investors to 

sell securities at times of declining market prices and purchase securities 

at times of increasing market prices, as demonstrated in Morningstar’s 

Investor Return metric. While such volatility is the tradeoff for the benefit 

of total liquidity, Public Products have increasingly introduced features (as 

described below) which provide liquidity, albeit on a more limited basis 

than exchange-traded securities, combined with greater price stability. 

Volatility can be particularly detrimental to retirement investors whose 

retirement portfolios are concentrated in exchange-traded securities and 

pooled-investment products which invest in exchange-traded securities 

and who have begun regular withdrawals to sustain their lifestyles or 

comply with IRS required minimum distributions. For these investors, 

when the value of their portfolio has been temporarily depressed due to 

market volatility yet they need to take distributions, such distributions will 

represent a greater proportion of their retirement savings, thereby reducing

the future income-generating potential of their retirement savings, and 

compromising their lifestyles. 

• Enable the Assembly of More Effectively Diversified, and Therefore More 

Stable, Investment Portfolios by Retirees. Public Products provide 

individual investors with access to “direct investments” which for years 

have been a fundamental component of the investment portfolios of 

institutional pension plans and endowments. These institutional investors, 

operating under “prudent investing” principles, have long recognized the 

tenets of Modern Portfolio Theory. This theory, first described by the 

Nobel prize-winning economist Harry Markowitz and subsequently 

confirmed through observation and quantitative analysis, states that 

investors can achieve superior risk-adjusted returns by combining assets 
8

that have different risk characteristics. This combining of assets can result 

in a portfolio with less risk than the individual assets comprising it, 

without sacrificing return potential. A key determinant of the amount of 

risk reduction is not just the number of assets combined, but more 

importantly their “correlation.” Two asset classes whose returns move in 

parallel (i.e., when one goes up, the other goes up) are said to have a 

positive correlation; if their returns move in opposite directions they have 

a negative correlation. Markowitz’s great contribution to investors’ 

wallets was his demonstration that anything less than perfect positive 

correlation can potentially reduce risk.8

Public Products provide retirement investors with the opportunity to 

diversify and stabilize their portfolios of financial assets and thereby 

improve their risk/return profile in the same way that professionally 

managed institutional pension and endowment plans do – by investing in 

real assets or portfolios of private debt and equity operated by 

professional management organizations which specialize in that asset 

class. These assets have historically shown low correlations with 

exchange-traded equities, and therefore are recognized as effective 

diversifiers.

II. Evolution of Public Products to Become “Common” Investments With 

Investor-Friendly Features

In response to competition, market forces, and evolving regulation, Public 

Products have evolved to become a dramatically more investor-friendly form of 

investment today than the publicly registered, non-listed direct participation programs 

(e.g., limited partnerships) of the 1980s. Among these evolutionary and pro-investor 

changes are:

• Introduction of Liquidity Features. Public Products have limited lives and 

typically seek a liquidity event within a five to ten-year holding period. 

Such a liquidity event can include a listing of the company on a national 

exchange, a merger with an existing exchange-traded company, or a sale 

of the assets of the company. Although some Public Products are traded 

on a limited basis in informal secondary markets prior to the ultimate 

 8 Burton G. Malkiel, A Random Walk Down Wall Street, at 190, W.W. Norton & Company (9th 

edition 2007).
9

liquidity event, the product has evolved to provide limited share 

redemption programs (“SRPs”) for investors who confront unexpected 

financial needs. SRPs allow for early redemption of an investor’s interest 

in advance of the product’s final liquidity event. Although these programs 

are discretionary on the part of the fund, the typical NL REIT SRP will 

accommodate the redemption of 5% of the number of shares outstanding 

each year and the typical NL BDC SRP will accommodate redemptions of 

up to 10% per year. A recently introduced form of Public Product that is 

gaining momentum in equity fundraising, the Daily NAV REIT, will 

accommodate the redemption of up to 20% of the REIT’s net asset value 

each year – indicating an on-going trend toward the provision of greater 

liquidity among Public Products. 

While the terms and limitations may vary, SRPs typically require a 

minimum hold of one year, except for redemptions upon the death or 

disability of the investor. Pricing of share redemptions typically ranges 

from 92.5% to 100% of either independently appraised value of the 

security or purchase price, depending on timing and circumstance, and 

often at a lower discount from purchase price or net asset value (“NAV”) 

the longer the security is held. Death and disability hardship redemptions 

are typically priced at 100% of NAV or purchase price regardless of the 

holding period.

• Improved and Transparent “Price” Discovery. Public Products provide 

investors with significant “price” (i.e., value) transparency via both 

regulatory requirements and industry valuation and disclosure guidelines 

issued by the IPA. These factors assure investors have transparency as to 

value and ability to redeem shares at a fair price. FINRA Rule 2310 

stipulates that a broker-dealer may not sell a publicly registered direct 

participation program or NL REIT security unless the issuer agrees to 

provide a valuation in its annual report (or other public filing). Recent 

changes to NASD Rule 2340 will impose additional transparency 

requirements for all of these Public Products relating to the reporting of 

their values on customer account statements and requiring the material 

involvement and confirmation of such reported values by valuation 

experts. 

Rigorous standards also exist for the determination of valuations 

among Public Products. For example, NL BDCs provide investors with 

significant value transparency in accordance with regulatory valuation 
10

requirements for companies registered under the Investment Company Act 

of 1940 (the “1940 Act”). These valuation requirements for NL BDCs are 

well established in the accounting community. NL BDCs must perform 

quarterly valuations, publish their net asset value in periodic reports filed 

with the SEC, and disclose the identity, valuation and other pertinent 

information regarding each asset in their portfolio. 

NL REITs must also provide value transparency due to regulatory 

requirements for DPPs and NL REITs relating to the presentation of 

valuations for such products on broker-dealer customer account 

statements. For NL REITs, the IPA issued “IPA Practice Guideline 2013-

01: Valuations of Publicly Registered Non-Listed REITs.” This guideline 

sets forth standards relating to the basis of value (net asset value), 

methodology, independence of valuations, management of the process of 

conducting valuations, and enhanced reporting and disclosures relating to 

valuations. This guideline adopted the basis for valuation reporting used 

by institutional real estate investors, with the valuation determined 

consistent with the definition of fair value under generally accepted 

accounting principals (“GAAP”) – an adherence to GAAP consistent with 

the Real Estate Investment Standards sponsored by the National Council 

of Real Estate Investment Fiduciaries (“NCREIF”) and the Pension Real 

Estate Association (“PREA”). Likewise, Public Oil and Gas Partnerships 

must follow not only the requirements FINRA has established with respect 

to the pricing of securities on account statements but also requirements 

established by the SEC for the valuation of their reserves (the primary 

determinant in the valuation of partnership interests), typically utilizing 

the services of independent petroleum engineers to do so. 

• Enhanced Governance and Reductions of Conflicts of Interest. As 

explained more fully herein, Public Products typically have more robust 

investor protections than the publicly offered partnerships of the 1980s 

due to improved governance provisions and limitations on conflicts of 

interest. For example, NL REITs and NL BDCs have boards of directors 

elected by shareholders and typically require majority approval by 

independent directors for actions which impact shareholder rights, 

strategic transactions, or transactions involving affiliates. Additionally, 

for NL REITs and NL BDCs the structure and duties of boards of directors 

is dictated by state corporation or trust laws, NASAA Guidelines, and, in 

the case of NL BDCs, 1940 Act requirements. 
11

• Robust Regulation Beyond That of Many Products on the Asset List. As 

is described in greater detail below, all of the Public Products and those 

who sell them are subject to significant levels of regulation by the SEC, 

FINRA9 and the securities regulators of the states in which those products 

are sold. While the regulations differ depending upon the specific 

product, in general, the regulation of Public Products addresses topics such 

as: disclosures (e.g., product details, risks, conflicts, fees, and expenses); 

portfolio composition and permitted leverage; director qualifications and 

independence; limitations on transactions with affiliates; limitations on 

distribution costs, and organizational and operating expenses; limitations 

on compensation payable to the general partner or external advisor and 

affiliates which provide management services related to the acquisition, 

operation, and disposition of the assets of the investment entity; and the 

imposition of investor suitability standards (e.g., minimum investor 

income and net worth requirements; a requirement that broker-dealers 

selling the products assess the suitability of the products for the investor, 

and limitations on the amount of liquid net worth an investor may invest in 

a particular category of product, commonly sponsored products, and/or 

individual products).

In addition, unlike many of the products currently proposed for the 

Department’s Asset list, Public Products: (i) cannot be purchased directly

by the investor without the involvement, product due diligence, and 

investor suitability evaluation performed by a broker-dealer; and (ii) are 

subject to review in all states and “merit review” in approximately forty 

states. Merit review involves inquiry and subjective determinations by the 

individual state regulators as to the fairness of the offering to investors in 

that state. Merit state regulators have the authority to refuse to declare the 

securities registration effective in their state if, in the administrator’s view, 

the offering is deemed to be “unfair, unjust or inequitable.” 

• Successful Investment Performance. A recent independent study of the 

performance of NL REITs which have fully liquidated (these NL REITs 

represent over $51 billion of original equity investment) indicated that 

these products on average outperformed the S&P 500 Index during 

matched holding periods, with the NL REITs providing average annual 

returns of 8.45% compared with the S&P 500 Index annual return of 

 9 FINRA is an independent; self-regulatory organization authorized by Congress to protect investors 

by ensuring that the securities industry operates fairly and honestly. (http://www.finra.org)
12

7.68%. During their holding periods, these NL REITs provided investors 

with stable income in the form of average annual cash distributions equal 

to 7.05% of the amount invested.10 (Broad-based studies of NL BDC 

performance are not yet available because of the relatively recent 

introduction of this product into the direct investment market (2009), 

allowing sufficient time for only one NL BDC to have completed its final 

liquidity event.) 

• Enhanced Professional Management Expertise. Public Products have 

attracted “institutional quality” professional asset management companies 

with exceptional qualifications in the areas of their asset focus. Such 

institutional asset management companies have recognized the growing 

use of these products among retail investors who are increasingly seeking 

the security of their individually controlled retirement savings instead of 

defined benefit plans. This growing influx of such highly experienced and 

successful management organizations has contributed to the growth of 

investment in Public Products. 

• Greater Efficiencies of Scale, Financial Strength and Strategic Optionality. 

Public Products today are significantly larger than their predecessor 

products. For example, the equity among the 35 fully liquidated NL 

REITs which comprised the above-referenced performance study averaged 

approximately $1.36 billion over the life of the NL REIT. Initial offerings 

typically register between $1 billion and $2 billion of securities. It is not 

uncommon for NL REITs or NL BDCs to have upwards of $3 billion of 

equity investment under management. These larger sized asset-based 

enterprises provide enhanced operational efficiencies and more financing 

resources and options. In addition, companies of this size have more 

optionality when considering liquidity events in that they not only can sell 

their portfolios over time, but also are attractive yet financeable merger 

targets and have the critical size necessary to list their securities on a 

national exchange. These greater efficiencies, in turn, have put downward 

pressure on costs and fees associated with Public Products.

 10 “Returns in the Nontraded REIT Industry: Evidence from Full-Cycle Events,” Blue Vault Partners, 

LLC; Hartzell, Jay C., Real Estate Finance and Investment Center, Mccombs School of Business, the 

University of Texas at Austin; and Kim, Jung-Eun, the Department of Finance, Terry College of Business, 

University of Georgia, November 2014.
13

These and other reasons have propelled Public Products to become a “common” 

investment for retail investors, including IRAs, as evidenced by these statistics:

• Annual investment in Public Products has increased from $920 million in 

the year 2000 to over $21.1 billion in 2014.

• Approximately 30% of all public equity issuance (including initial and 

secondary offerings, which financed the purchase, development and 

improvement of U.S. commercial real estate) by real estate investment 

entities since the year 2000 has been issued by NL REITs. During the 

same period, NL REITs raised over $124 billion compared with $39 

billion of exchange-traded equity REIT IPOs These facts confirm not only 

the significance of this product relative to exchange-listed public real 

estate investment trusts, but also its important role in real estate capital 

markets and our economy as a whole.

• Of a cumulative total of over $140.6 billion invested in Public Products 

since 2000, $58.8 billion was invested in the past three years, evidencing 

the rapid growth of recognition of the value of these investments in 

diversified portfolios.

• Of the $21.1 billion invested in Public Products during the year 2014, 43% 

was invested by IRA accounts.

• Public Products currently own and operate approximately $125 billion of 

assets under management.

• Over 30,000 financial advisors regularly recommend Public Products for 

their clients’ portfolios. 

• Public Products are held in over 2.8 million investor accounts, including 

1.2 million IRA accounts as of December 31, 2014. The number of IRA 

accounts invested in Public Products has nearly doubled since 2011.

• Public Products provided over $5.9 billion of income distributions to 

investors in 2014, of which over $2.5 billion went to IRA accounts.
14

III. Overview of Product Structures and Purpose

A. Public, Non-listed Business Development Companies

NL BDCs are a type of public, closed-end investment company, typically 

organized as a corporation or trust, that specialize in lending to domestic private 

companies and small and middle-market public companies. NL BDCs may also make 

equity investments in companies, but primarily make loans with the goal of generating 

current income for their investors. NL BDCs typically invest the majority of their capital 

in companies with significant balance sheets and revenues and a record of generating 

positive earnings. Investors receive regular distributions (generally, monthly or 

quarterly). The life span of an NL BDC is typically five to ten years, after which an NL 

BDC may choose to list its shares, merge, or sell its assets to provide full liquidity to 

investors. NL BDCs serve an increasingly critical role in today’s capital markets by 

providing much needed capital to the expanding middle market at a time when bank 

lending to these business enterprises has significantly contracted. 

NL BDCs enable retail investors who meet certain suitability standards to 

participate in highly-regulated, transparent, and broadly diversified private debt and 

private equity investment opportunities that typically have been available only to wealthy 

individuals and institutional investors such as university endowments, foundations, and 

pension funds. Direct access to NL BDCs serves to enhance mainstream investors’ 

portfolios by providing “endowment-style” investment strategies, which help construct 

more diversified portfolios and manage investor risk by decreasing correlation with the 

traded equity markets.

B. Public, Non-listed Real Estate Investment Trusts 

NL REITs are an investment vehicle, typically in the form of a trust or 

corporation, that directly invest primarily in real estate and/or real estate-related loans. 

Equity NL REITs own, manage, and lease income-producing commercial real estate in 

nearly all property sectors, including office, industrial, apartment, retail, health care, selfstorage, data center, and hotel. Mortgage NL REITs provide debt financing to the owners 

of commercial real estate. NL REITs are subject to the same IRS requirements that an 

exchange-listed REIT must meet, including requirements which relate to the composition 

of their investment portfolio and the requirement that they distribute at least 90% of 

taxable income to shareholders annually.
15

Investors in NL REITs receive regular cash distributions from operations of the 

NL REIT, typically over a five to ten-year holding period. In addition to providing 

current income, NL REITs can also provide growth of capital through appreciation of the 

real estate, which growth is realized upon the provision of full liquidity to investors 

through either listing of the NL REIT on a national securities exchange, merger, or sale 

of the assets. Individual retail and retirement investors purchase shares of NL REITs to 

implement the same strategy used by institutional investors to diversify financial asset 

portfolios, because non-listed real estate has historically exhibited low correlation with 

public equity markets. Non-listed real estate can also provide a hedge against inflation 

and rising interest rates superior to that of most fixed income investments which do not 

provide for any potential appreciation of the capital invested or the opportunity for 

increases in annual cash distributions. Moreover, NL REITs have shown a lower 

correlation to public equity markets than listed REITs, so NL REITs provide superior 

diversification against market swings. 

C. Other Direct Participation Programs

Direct Participation Programs, as defined in FINRA Rule 2310, also include other 

publicly registered products which focus on a variety of asset-based and business lending 

areas. Currently, these other DPP Products include approximately $5.8 billion of public 

securities offerings currently in the market in such areas as oil and gas, equipment 

leasing, and impact lending. Like NL REITs and NL BDCs, all of these products are 

regulated by the SEC and FINRA as well as being subject to state securities regulations, 

including guidelines adopted by the North American Securities Administrators 

Association11 (“NASAA Guidelines”). 

The following paragraphs provide brief summary descriptions of each of the 

Direct Participation Program categories currently offered in the market and their 

regulation and general fee structures. (Additional detailed information is available from 

the IPA upon request.)

 11 NASAA is the umbrella organization of securities regulators from all U.S. states, territories, and 

districts, as well as Canada and Mexico, which issues statements of policy relating to various financial 

products which are designed to protect investors and seeks to coordinate certain requirements with federal 

securities law. (http://www.nasaa.org).
16

• Public, Non-listed Oil & Gas & Energy Partnerships (“NL Energy 

Partnerships”). These products provide individual investors with the 

opportunity to own interests in partnerships or limited liability companies 

which own oil and gas reserves or producing or non-producing properties. 

Investors receive cash distributions from income generated through the 

sale of oil and gas. While conducting business and owning assets in a 

fashion similar to many publicly traded energy companies, these 

partnerships are designed to mitigate for investors the volatility of traded 

energy securities markets while providing the potential benefits of energy 

asset ownership and diversification with securities which have low 

correlations to financial asset markets. 

Oil and gas partnerships may be broadly categorized either as 

“drilling funds,” which engage primarily in drilling operations, usually on 

properties where the presence of oil and/or gas reserves has already been 

proven (so-called developmental drilling funds), or as “income funds,” 

which engage primarily in the acquisition, ownership and sale of 

production from existing, producing oil and gas reserves. Over the years, 

the magnitude of oil and gas partnership fundraising has varied in part 

with market expectations and supply/demand fundamentals in oil and gas 

markets. 

The IPA also anticipates that the market will soon see the 

introduction and significant growth of direct participation programs in the 

alternative energy sector over the coming years as companies engaged in 

alternative energy development (e.g., solar, wind, biomass, etc.) seek new 

sources of capital and potentially bifurcate their business model to 

segregate the more speculative “developmental” aspects of their 

businesses from the more stable cash flows and income resulting from the 

sale of the energy they create (akin to the differentiation of drilling funds 

and income funds in the oil and gas arena).

• Public, Non-listed Equipment Leasing Partnerships (“NL ELPs”). These 

products provide individual investors with the opportunity to own interests 

in partnerships or limited liability companies which own assets integral to 

the operation of a variety of businesses, and to receive cash distributions 

from the revenue streams generated through the leasing of these assets to 

those businesses which are typically creditworthy corporate users. 
17

The types of equipment owned and leased by NL ELPs can range 

from low-tech equipment (e.g., cargo containers, etc.) to high tech 

equipment (e.g., computers, medical equipment, etc.). The industries 

served by ELPs include agriculture, healthcare, manufacturing, IT, 

transportation, and energy/environmental, among others.

• Public, Non-Listed Impact Funds (“NL IFs”). This product is 

demonstrative of the dynamic nature of the Public Products in that impact 

investing is a new type of Direct Participation Program and an emerging 

segment of what can be called socially conscious investing. In a 2010 

report, J.P. Morgan Global Research and the Rockefeller Foundation 

called impact investing “an emerging alternative asset class.” 

This product is designed to provide individual investors with stable 

current income generated by the income received from providing 

financing, typically through private debt instruments, to small and medium 

size businesses in the United States and developing economies around the 

world. The objective of impact investing and this type of Public Product 

is to generate competitive financial returns and recurring current income 

for investors while creating a positive economic, social, and 

environmental impact which is measurable using metrics embodied in the 

Impact Reporting and Investment Standards (IRIS) and which is reported 

to investors. Such impacts can include increased employment, increased 

GDP in the relevant economy, improved environmental or employment 

conditions, and other positive social changes.

NL Energy Partnerships, NL ELPs and NL IFs represent examples of Direct 

Participation Programs which have current registered offerings (such Direct Participation 

Programs are referred to herein collectively as “Other DPPs”).

IV. Regulation of Public Products

A. Existing Regulation of NL BDCs

Business development companies (“BDCs”), including exchange-traded BDCs 

and NL BDCs, are a category of investment company regulated under the 1940 Act that 

was created by Congress through the enactment of the U.S. Small Business Investment 

Incentive Act of 1980 (the “1980 Amendments”) to facilitate the flow of capital to private 

U.S. companies and small public U.S. companies that do not have efficient or cost-
18

effective access to public capital markets or other conventional forms of corporate 

financing.12

BDCs are closed-end investment companies that elect to be regulated as BDCs 

under the 1940 Act.13 As such, BDCs are subject to significant regulation under the 

1940 Act, the U.S. Securities Act of 1933 (the “1933 Act”),14 and the U.S. Securities 

Exchange Act of 1934 (the “1934 Act”).15 Entities which externally manage BDCs are 

subject to the U.S. Investment Advisers Act of 1940 (the “Advisers Act”), which includes 

a statutory fiduciary duty. Under the 1940 Act, as modified by the 1980 Amendments, 

BDCs are subject to regulations governing, among other things, portfolio composition, 

director qualifications and independence, limitations on transactions with affiliates, 

bonding, capital structure, the approval of underwriting and advisory agreements, and 

distributions to investors.16 For example, an NL BDC’s use of leverage (debt financing) 

is limited by the 1940 Act to not more than 50% of its total assets.17 In addition, a BDC 

may qualify to elect to be taxed as a regulated investment company (“RIC”) for federal 

income tax purposes, which imposes minimum portfolio diversification standards. As a 

RIC, a BDC receives preferential tax treatment so long as it distributes 90% of its annual 

income to investors.

To qualify as a BDC, a company is required to invest at least 70% of its total 

assets in securities of “eligible portfolio companies,” which generally includes the debt or 

equity securities of private U.S. companies or public U.S. companies that have a public 

market capitalization of less than $250 million.18 In order to count portfolio securities as 

“qualifying assets”19 for the purposes of the 70% basket test, a BDC must also either 

control the issuer of the securities or offer to make available to the issuer of the securities 

significant managerial assistance. Because of the social utility of BDCs in providing 

increased capital to smaller and private U.S. operating companies, BDCs are provided 

 12 See Pub. L. No. 96-477, 94 Stat. 2275 (1980); see also S. Rep. No. 958, 96th Cong., 2d Sess. 5 

(1980); H.R. Rep. No. 1341, 96th Cong., 2d Sess. 21 (1980).

13 See, e.g., Section 54(a) of the 1940 Act.

14 See, e.g., the 1933 Act, available at: http://www.sec.gov/about/laws/sa33.pdf.

15 See, e.g., the 1934 Act, available at: http://www.sec.gov/about/laws/sea34.pdf.

16 See, e.g., Section 57 of the 1940 Act.

17 Section 61(a)(1) of the 1940 Act.

18 Section 2(a)(46) of the 1940 Act and Rule 2a-46 under the 1940 Act (amending the definition of 

an “eligible portfolio company”), available at: http://www.sec.gov/rules/final/2008/ic-28266.pdf.

19 Under the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in 

Section 55(a) of the 1940 Act (“qualifying assets”), unless, at the time the acquisition is made, qualifying 

assets (not including certain assets specified in the 1940 Act) represent at least 70% of the company’s total 

assets.
19

additional tools under the 1940 Act in such areas as dealing with their portfolio 

companies and issuing securities, among other things. 

Apart from the 1940 Act, BDCs, including NL BDCs, are subject to additional 

regulations. For example, BDCs must file with the SEC and make publicly available 

detailed periodic and current reports, such as Forms 10-Q, 10-K, and 8-K, as well as 

proxy statements pursuant to the 1934 Act. A BDC must also value its portfolio assets on

a quarterly basis, based on “a good-faith estimate of the fair market value using a 

consistently applied process.”20 Unlike registered investment companies, BDCs must 

comply with the corporate governance and other provisions of the Sarbanes-Oxley Act of 

2002 (the “Sarbanes-Oxley Act”).21

In addition to federal regulations affecting all BDCs, NL BDCs are required to 

register with the state securities commissions or divisions of each of the states in which 

the BDC publicly offers its shares.22 Although regulations may vary from state to state, 

many states apply the NASAA Omnibus Guidelines to their review of NL BDCs. 

NASAA’s Omnibus Guidelines23 address, among other things: NL BDC sponsor 

financial condition, 24 the reasonableness of fees paid to the External Management and 

BDC expenses, conflicts of interest, investment restrictions, and BDC investor voting 

 20 Peter M. Fass & Derek A. Wittner, Securities Law Handbook Series: Blue Sky Practice For Public 

and Private Direct Participation Offerings § 12.2 (2013); the valuation method prescribed follows the 

framework for deriving the fair value of assets as set forth by the Financial Accounting Standards Board, 

Topic 820 (ASC 820), available at: 

http://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey= 

id&blobwhere=1175820271238&blobheader=application%2Fpdf. 

21 Sarbanes-Oxley Act of 2002, available at: http://www.sec.gov/about/laws/soa2002.pdf.

22 The U.S. National Securities Markets Improvement Act of 1996 (“NSMIA”) exempted from state 

“blue sky” laws every “covered security.” Congress, in adopting the NSMIA, sought to allocate regulatory 

responsibility between the federal and state governments based on the nature of the securities offering. See, 

e.g., NSMIA, available at: http://www.gpo.gov/fdsys/pkg/PLAW-104publ290/pdf/PLAW-104publ290.pdf. 

Since offerings of the Public Products are not “covered securities” as defined by Section 18 of the 1933 

Act, the offerings must be registered in all states in which sales of interests are made. See, e.g., NASAA’s 

Omnibus Guidelines, Statement of Policy on Real Estate Investment Trusts, Statement of Policy Regarding 

Oil and Gas Programs; and Statement of Policy Regarding Equipment Leasing Programs (further 

discussing state guidelines on the offerings of products, like the Public Products).

23 NASAA has not yet developed specific guidelines for NL BDCs. However, NL BDCs are subject 

to NASAA’s Omnibus Guidelines, available at: http://www.nasaa.org/wp-content/uploads/2011/07/fOmnibus_Guidelines.pdf. 

24 For a detailed discussion of the different factors related to the computation of the sponsor’s 

required net worth, see the NASAA Omnibus Guidelines, at Section II.B.
20

rights. An NL BDC’s directors, sponsor, and External Management25 (as defined below) 

are deemed to be fiduciaries under the NASAA Guidelines and are responsible for the 

custody and use of all of the BDC’s funds and investments.26 As such, the External 

Management must be qualified, with personnel having not less than three years of 

relevant experience in managing and acquiring the types of assets in which the NL BDC 

intends to invest. In addition, NL BDCs are limited as to the indemnification from losses 

or liability which can be provided to the External Management of the NL BDC and to the 

directors or trustees of the BDC. As discussed in Section V, the distribution of Public 

Products, including NL BDCs, is regulated by FINRA. 

IMPORTANT NOTE: The term “advisor” in the context of an NL BDC or NL 

REIT refers to the entity which manages and guides the daily operation of the NL REIT 

or NL BDC. This entity is typically a company that specializes in the asset class in which 

the NL BDC or NL REIT invests and is compensated for its services by the NL BDC or 

NL REIT as described herein. This manager of the entity should not be confused with the 

client-facing “financial advisor” who deals directly with the investor and provides 

information and makes recommendations with respect to investments. For purposes of 

clarity, the IPA will refer to the managers of NL BDC or NL REIT entities as the 

“External Management” herein.

Furthermore, NL BDCs must observe investor suitability standards and income 

and net worth requirements27 which are imposed by each state’s securities regulator.28 

Along with such suitability, income, and net worth standards, the NL BDC is required to 

 25 The NASAA Omnibus Guidelines use the term “sponsor”; however, certain functions of the 

sponsor are the same as those of an investment adviser. In addition, any person or entity providing 

investment advice to a BDC is required to be registered with the SEC under the Advisers Acts.

26 The sponsor cannot contract away the fiduciary duty owed to the NL BDC or its investors. See 

e.g., NASAA Omnibus Guidelines, at Section II.D. As an investment adviser registered with the SEC 

under the Advisers Act, the BDC investment adviser is also required by Rule 206(4)-2 of the Advisers Act 

to maintain the BDC’s funds and securities with a “qualified custodian” (which includes most regulated 

banks and savings associations, and registered broker-dealers), and to provide notice to the BDC and its 

stockholders of the qualified custodian’s name, address, and the manner in which the funds or securities are 

maintained.

27 Id. at Section III.B. The NASAA Omnibus Guidelines set the minimum net worth requirements 

for investors at: “(a) a minimum annual gross income of $70,000 and a minimum net worth of $70,000; or 

(b) a minimum net worth of $250,000” (net worth is determined exclusive of home, home furnishings, and 

automobile owned). Many states set higher suitability thresholds and also impose “concentration limits” on 

the percentage of an investor’s liquid net worth which can be invested in any one issuer, in any single 

category of investment (e.g., real estate), or in any investments sponsored by the same management 

company.

28 Id.
21

disclose in its prospectus its investment objectives and a description of the type of 

investor that may benefit from its investments.29 The prospectus must also include 

tabular disclosure of all consideration that may be received, directly or indirectly, by the 

NL BDC’s External Management and broker-dealers selling shares of the NL BDC to the 

public.30 In addition, an NL BDC is subject to extensive affiliated transaction 

prohibitions, including a prohibition of any sales or leases from the investment adviser or 

sponsor to the BDC unless the transaction occurs at the formation of the BDC and is fully 

disclosed in the prospectus, and is determined by an independent expert to be fair to the 

BDC.31 An NL BDC must also provide annual reports, consistent with the reporting 

requirements of the SEC’s Form 10-K, as noted above.32 Unlike many of the products 

currently proposed for the Department’s Asset list, approximately forty states require NL 

BDCs to pass “merit reviews” which involve inquiry and subjective determinations by 

the state as to the fundamental fairness of the offering to the investors in that state. Merit 

state regulators have the authority to refuse to declare the securities registration effective 

in their state if, in the administrator’s view, the offering is deemed to be “unfair, unjust or 

inequitable.” Finally, both an NL BDC and its External Management are subject to 

periodic SEC examinations to determine compliance with the 1940 Act and Advisers Act, 

respectively, and under which the SEC is empowered to bring enforcement proceedings 

for any actions or omissions that it determines to be violations thereunder.33

Taken together, NL BDCs’ regulation under the 1933 Act, the 1934 Act, the 1940 

Act, the Advisers Act and the rules and regulations promulgated thereunder, state 

securities acts and rules and regulations promulgated thereunder, NASAA Guidelines, 

state corporation laws, FINRA rules, and select provisions of the Internal Revenue Code 

and Sarbanes-Oxley Act of 2002 make NL BDCs a highly transparent and regulated 

product and quite possibly more heavily regulated than many, if not all, of the 

investments currently included in the Department’s proposed Asset List.

 29 Id. at Section III.B. The NASAA Omnibus Guidelines also require that the broker-dealer 

determine that each investor appropriately meets such suitability requirements. See the NASAA Omnibus 

Guidelines at Section III.C (discussing suitability requirements imposed upon broker-dealers).

30 Id. at Section IV.A and B. The NASAA Omnibus Guidelines also limit the total distribution costs 

and organizational and offering expenses paid in connection with an NL BDC’s formation.

31 Id. at Section V.A and B. See generally, Section V discussing additional safety measures to 

prevent potential conflicts of interest in transaction involving the sponsor its affiliates. In addition, as an 

“affiliate” of the BDC under Section 17 of the 1940 Act, the BDC’s investment adviser is subject to 

prohibitions on transactions between it and BDC that go beyond the extensive prohibitions under the 

NASAA Omnibus Guidelines.

32 Id. at Section VI.C.

33 See Section 42 of the 1940 Act and Section 209 of the Advisers Act.
22

B. Existing Regulation of NL REITs

REITs, including traded REITs and NL REITs, are a category of investment 

vehicles created by Congress through the enactment of the Real Estate Investment Trust 

Act.34 REITs were created to provide to all investors access to the benefits of 

commercial real estate investment, which benefits previously were available only to 

wealthy individuals or to large institutional investors. Offers and sales of interests in NL 

REITs are registered under the 1933 Act and with the state securities regulators of each 

state in which the NL REIT publicly offers its shares. In addition, NL REITs must file 

with the SEC (and make publicly available) frequent, detailed periodic and current 

reports, such as Forms 10-Q, 10-K and 8-K, as well as proxy statements pursuant to the 

1934 Act. NL REITs that invest primarily in real property are not investment companies. 

NL REITs that invest primarily in mortgage loans or other real estate-related securities 

operate pursuant to an exclusion from being deemed an “investment company” under the 

1940 Act. The entity which serves as the External Management to the NL REIT is 

typically a professional real estate management company which may be registered as an 

“investment adviser” under the Advisers Act. 

REITs must also qualify under IRS regulations to be deemed REITs for tax 

purposes and thereby avoid corporate level taxation. These REIT qualification rules are 

complex and, among other things, limit the types of assets which may be held by the 

REIT and the sources of income generated by the REIT, and must distribute to investors 

no less than 90% of REIT taxable income to maintain preferential tax treatment. 

In addition to federal regulations, NL REITs are subject to state specific 

regulations. Although regulations may vary from state-to-state, many states apply the 

NASAA REIT Guidelines35 to their review of NL REITs such that all NL REIT offerings 

must be accompanied by a detailed prospectus and comply with numerous other 

requirements. NASAA’s REIT Guidelines address, among other things: the 

qualifications of the NL REIT sponsor, External Management, and independent directors, 

the reasonableness of fees and expenses, conflicts of interest, investment restrictions, and 

 34 The Real Estate Investment Trust Act was included within the Cigar Excise Tax Extension of 

1960, to amend section 5701 of the Internal Revenue Code of 1954 with respect to the excise tax upon 

cigars, and for other purposes. See 86 Pub. L. No. 86-779, 74 Stat. 998 (1960). For additional discussion 

of this point see https://www.reit.com/investing/reit-basics/history-reits (discussing the history of REITs 

and citing the Real Estate Investment Trust Act of 1960). 

35 See e.g., NASAA’s Statement of Policy Regarding Real Estate Investment Trusts; available at: 

http://www.nasaa.org/wp-content/uploads/2011/07/g-REITS.pdf ). 
23

disclosures. NL REIT directors and the External Management 36 are fiduciaries, and the 

External Management is responsible for the custody and use of all of the NL REIT’s 

funds and investments. In addition, NL REITs must have independent directors which 

constitute a majority of the board of directors.37 Each of the members of the NL REIT’s 

board of directors must be qualified, having not less than three years of relevant 

experience demonstrating the knowledge and experience required to successfully manage 

and acquire the types of assets in which the NL REIT intends to invest and must meet 

certain financial requirements.38 The NL REIT directors are charged with the fiduciary 

duty of supervising the relationship of the NL REIT with the External Management, and 

must establish specific requirements for, and shall require the approval of at least a 

majority of the independent directors on, all matters applicable to investment policies, 

reports and meetings, the contract with the External Management and its performance 

and compensation provisions, fees and expenses, borrowings, and indemnification, 

among others.39 In addition, under the NASAA REIT Guidelines, NL REITs are limited 

as to the indemnification from losses or liability which can be provided to the sponsor or 

the manager of the NL REIT. The directors, as well as the External Management, are 

deemed fiduciaries to the NL REIT’s investors and that fact is required to be clearly 

stated in the NL REIT’s prospectus.40

NL REITs are required to establish minimum investor suitability standards, 

including income and net worth requirements and concentration limits41, which are 

 36 Id. at Section I.B.4. NASAA defines an NL REIT’s investment adviser (referred to 

herein as External Management to avoid confusion with the individual investor-facing “advisor”) as “the 

person responsible for directing or performing the day-to-day business affairs of an NL REIT, including a 

person to which an adviser subcontracts substantially all such functions.” In this regard, “person” typically 

means an experienced asset management entity.

37 Id. at Section I.B.14. NASAA defines an independent director (or, in the context of an NL REIT 

that is in the form of a trust, an independent trustee) as: persons “who are not associated and have not been 

associated within the last two years, directly or indirectly, with the sponsor or advisor of the NL REIT.”

See, e.g. Section I.B.14(a) for a complete discussion of the determination of whether a director or trustee is 

deemed associated, thus not an independent director or trustee.

38 For a detailed discussion of the different factors related to computing the sponsor’s capital 

requirements, see, e.g., NASAA REIT Guidelines, Section II.A.

39 Id. at Section II.D and E.

40 Id. at Section II.D.

41 Id. at Section III.B. The NASAA REIT Guidelines set the minimum net worth requirements for 

investors at: “(a) a minimum annual gross income of $70,000 and a minimum net worth of $70,000; or (b) a 

minimum net worth of $250,000” (net worth is determined exclusive of home, home furnishings, and 

automobiles). Many states set higher suitability thresholds and also impose so-called “concentration limits” 

on the percentage of an investor’s liquid net worth which can be invested in any one issuer, in any single 
24

subject to review by the relevant state securities regulators.42 Along with such suitability, 

income and net worth standards, and concentration limits, the sponsor is required to 

disclose in the NL REIT’s prospectus, among others things: (a) a statement of the NL 

REIT’s investment policy (including the types and geographic locations of planned 

investments in real estate); (b) a description of its method for financing acquisitions; and 

(c) information about the properties it owns.43 The prospectus must also include a 

breakdown of all fees and expenses, all of which must be reasonable and itemized.44 

Fees and expenses are subject to caps and annual review for reasonableness by the 

independent directors.45 The NL REIT must also disclose if it will be leasing or 

purchasing any assets from the sponsor or the External Management. A REIT must also 

provide annual reports, consistent with the reporting requirements of the SEC’s Form 10-

K, as noted above.46 Aside from regular reporting and disclosure requirements, the 

NASAA REIT Guidelines also require that an NL REIT’s formation document47 include 

provisions addressing matters such as restrictions on investments and fiduciary duties of 

directors and External Management, among others.48

Finally, unlike many of the products currently proposed for the Department’s 

Asset list, approximately forty states require NL REITs to pass “merit reviews” which 

involve inquiry and subjective determinations by the state as to the fairness of the 

offering to investors in that state. Merit state regulators have the authority to deny 

securities registration and sale in their state if, in the administrator’s view, the offering is 

deemed to be “unfair, unjust or inequitable.”

 

category of investment (e.g. real estate), or in any investments sponsored by the same management 

company.

42 Id. at Section III. 

43 Id. at Section II.A and B. The NASAA REIT Guidelines also require that the broker-dealer 

determine that each investor appropriately meets such suitability requirements. See, e.g., the NASAA REIT 

Guidelines, at Section II.C (discussing suitability requirements imposed upon broker-dealers).

44 Id. at Section IV. The NASAA REIT Guidelines also limit the distribution costs and organization 

and offering expenses paid in connection with an NL REIT’s formation or the syndication of its shares, 

require the independent directors to determine at least annually whether compensation paid to the 

investment adviser is reasonable, and provide that the NL REIT’s annual total operating expenses shall be 

deemed excessive if they exceed the greater of 2% of its average invested assets or 25% of that year’s net 

income.

45 Id.

46 Id. at Section VI.C.

47 For these purposes, “formation document” refers to the document which was used to form or 

organize a REIT and may be its by-laws, charter, articles of incorporation, declaration of trust or other 

governing document.

48 For a complete listing of all of the provisions required by the NASAA REIT Guidelines to be 

included in an NL REIT’s formation documents, see Section VIII.A. of the NASAA REIT Guidelines.
25

Taken together, NL REITs’ regulation under the 1933 Act, the 1934 Act, and the 

rules and regulations promulgated thereunder, state securities acts and rules and 

regulations promulgated thereunder, NASAA REIT Guidelines, and state corporation 

laws, FINRA rules, and select provisions of the Internal Revenue Code and SarbanesOxley Act of 2002 make NL REITs a highly transparent and regulated product and quite 

possibly more heavily regulated that many, if not all, of the investments currently 

included in the Department’s proposed Asset List.

C. Existing Regulation of Other DPPs

Offers and sales of interests in Other DPPs are registered under the 1933 Act and 

must also be registered under and comply with state securities regulations. Similar to NL 

REITs, NASAA has issued statements of policy for Oil & Gas Partnerships and 

Equipment Leasing Partnerships and applies its Omnibus Guidelines to other types of 

Direct Participation Program securities offered in the states. (Please see footnotes 23 

through 32 under the foregoing discussion of “Existing Regulation of NL BDCs” for 

information concerning the provisions of the Omnibus Guidelines.) These guidelines 

regulate, among other things: the experience, qualifications and financial resources of 

management of the partnership, limitations on the level of management fees and 

expenses, protections to mitigate or eliminate conflicts of interest, investment restrictions, 

and disclosures. Investors in Other DPPs must meet minimum suitability standards 

relating, among other things, to income and net worth and concentration limits which are 

subject to review by each relevant state’s securities regulator, including the 

aforementioned “merit reviews” by approximately forty states. As publicly registered 

securities, Other DPPs are offered via registration statements which are filed with the 

SEC and FINRA as well as state securities regulators and must file the required periodic 

and current reports with the SEC on Forms 8-K, 10-Q and 10-K. 

V. Distribution of Public Products 

A. The Process of Public Product Distribution

Public Products are distributed through broker-dealers that are registered by the 

SEC, FINRA and the relevant state securities regulatory authorities. The broker-dealer 

personnel involved in sales activities (“registered representatives”) are also regulated by 
26

the SEC, FINRA and the applicable state regulatory authorities.49 The process of 

distribution of Public Product securities involves the formation of a selling group of 

registered broker-dealers. Such selling groups can include more than 200 broker-dealers 

for large offerings. Unlike initial public offerings for exchange-traded securities, Public 

Products typically conduct continuous offerings of securities over a two-year period 

before closing the offering to new investors. The selling group is formed by a dealer 

manager which is a registered broker-dealer. As described below, each participating 

broker-dealer must conduct due diligence on the offering and an in-depth suitability 

analysis for all Public Product offerings. Due diligence investigations for Public 

Products are typically conducted by independent third parties highly qualified and 

experienced in the review of Public Products. Direct investor contact occurs between the 

registered representatives of these participating broker dealers and their clients and not at 

the dealer manager level. 

Fees charged by broker-dealers relating to the distribution of Public Product 

securities are generally one-time, up-front fees payable out of the Public Product’s gross 

offering proceeds. These front-end fees include sales commissions, dealer manager fees, 

and bona fide due diligence expenses, the total of which is limited by FINRA to 10% of 

the gross offering proceeds. When viewed from the perspective of the underwriting costs 

associated with initial public offerings (“IPOs”) of exchange-traded securities (e.g., in a 

2013 study conducted by the Lusk Center for Real Estate at the University of Southern 

California, total offering and organizational costs for exchanged-traded REITs averaged 

8.4% compared with 10.9% for NL REITs)50 and the fact that these up-front fees in 

Public Products are intended to defray the ongoing services of the broker-dealer and its 

registered representative during the five to ten year life of the Public Product investment, 

these fees compare favorably with the annual fees paid by investors to investment 

advisors based on assets under management for a portfolio including only Assets over a 

comparable multi-year holding period. 

 49 Broker-dealers registering with the SEC must: (a) file SEC Form BD; (b) become a member of a 

self-regulation organization (usually FINRA); (c) become a member of the Securities Investor Protection 

Corporation; (d) comply with all applicable state requirements; and (e) any “associated person” (i.e., any 

partner, officer, director, branch manager, or employee of the broker-dealer) must satisfy applicable 

qualification requirements, including passing any required exams and participating in continuing education. 

See, e.g., the SEC Guide to Broker-Dealer Registration; Registration and Regulation of Brokers and 

Dealers, Section 15 of the 1934 Act; available at: http://www.sec.gov/divisions/marketreg/bdguide.htm.

50 Green, Richard K. and Rhea, Parker, “Listed and Non-Listed REIT’s: Exploring the Cost 

Difference,” Lusk Center for Real Estate, Marshall School of Business, University of Southern California, 

Spring 2013.
27

It is noteworthy that Public Products are undergoing an evolution similar to what 

transpired years ago in the mutual fund industry wherein up-front costs are declining. 

Enabled by rulings by the Internal Revenue Service which permit multi-share class 

REITs and motivated by the increased transparency of up-front distribution costs which 

will result from recent amendments by FINRA to its account statement rules (discussed 

below), NL REITs are increasingly offering a second share class with a significantly 

lower up-front distribution cost and trailing shareholder servicing fees which are paid 

from the earnings of the NL REIT. Among Public Products which offer such share 

classes, the up-front cost ranges as low as 3.2% with trailing fees of 80 to 100 basis 

points. Unlike the cumulative fees which can be paid to advisors for recommending 

many of the Assets on the Department’s proposed list, Public Products are restricted by 

the aforementioned overall FINRA limitation on total distribution costs as to how long 

advisors can be paid such trailing fees. 

Finally, it is also noteworthy that such a significant structural evolution which 

benefits retail and retirement investors would be discouraged within a regulatory 

framework which called for a static Asset List.

B. Federal and State Regulation of Public Product Sales Protect 

Investors and Require Consideration of the Investor’s Best Interest

Broker-dealers, whether registered or not, are subject to federal and state 

securities regulations that are designed to protect investors from fraudulent or deceptive 

sales of securities.51

In addition, broker-dealers who advise investors with respect to Public Products 

are subject to guidelines adopted by NASAA setting forth high standards of honest and 

ethical conduct of broker-dealers.52 Such guidelines require, among other things, that 

 51 For instance, Rule 10b-5 under the 1934 Act, states in part: “It shall be unlawful for any person 

. . . (a) to employ any device, scheme, or artifice to defraud, (b) to make any untrue statement of a material 

fact or to omit to state a material fact necessary in order to make the statements made, in the light of the 

circumstances under which they were made, not misleading, or (c) to engage in any act, practice or course 

of business which operates or would operate as a fraud or deceit upon any person, in connection with the 

purchase or sale of any security.” See, e.g., Employment of Manipulative and Deceptive Devices, Rule 

10b-5 (17 CFR 240, 10b-5) under the 1934 Act, available at: http://www.ecfr.gov/cgi-bin/testidx?SID=552e7ef9c5c468e8332fd1b21dbe884c&mc=true&node=se17.4.240_110b_65&rgn=div8.

52 See, e.g., NASAA policy statements on “Dishonest or Unethical Business Practices of BrokerDealers and Agents” and supplement “Dishonest or Unethical Business Practices by Broker-Dealers and 

Agents in Connection with Investment Company Shares,” available at: http://www.nasaa.org/wp-
28

broker-dealers: provide investors with a timely disclosure document during the offering 

period (e.g., a prospectus), charge investors reasonable fees for services provided, and 

provide written disclosure of any affiliation or common control with the issuer of any 

security before entering into any transaction. FINRA imposes rules on broker-dealers 

that require them to conduct due diligence on the products they offer, provide full 

disclosure, provide fair and balanced communications, and assess the suitability of the 

products they offer, when dealing with investors. A broker-dealer’s failure to comply 

with any of the foregoing may result in disciplinary actions, fines, and enforcement 

referrals to the SEC for the each violation.53

Federal law and FINRA rules require brokers to “adhere to high standards of 

conduct in their interactions with investors.”54 As a general matter, the suitability 

requirements of FINRA Rule 2111 and the FINRA Rule 2310(b)(2)55 mandate that 

broker-dealers have a reasonable basis to believe that a recommended transaction or 

investment involving securities is suitable for each customer based on reasonable 

diligence56 into the investor’s investment profile. Broker-dealers must believe that the 

customer has the financial ability to meet the commitment of the investment. The 

suitability obligation requires that broker-dealers make an assessment of: (1) reasonable 

basis suitability; (2) customer-specific suitability; and (3) quantitative suitability.57

Reasonable basis suitability means that, based on reasonable diligence, the 

broker-dealer must have a reasonable basis to believe that the recommendation is suitable 

for investors. FINRA views the participation of the broker-dealers in a securities 

transaction as a representation by such broker-dealers that reasonable basis suitability has 

been satisfied with respect to that transaction. What constitutes reasonable diligence 

varies depending on, among other things, the complexity of and risks associated with the 

security and transaction. Reasonable diligence must provide the broker-dealers (and 

 content/uploads/2011/07/4-Dishonest_Practices_of_BD_or_Agent.83.pdf and http://www.nasaa.org/wpcontent/uploads/2011/07/35-Dishonest_Practices.pdf.

53 See, e.g., FINRA Sanctions Guidelines, available at: 

http://www.finra.org/sites/default/files/Sanctions_Guidelines.pdf.

54 See, e.g., Securities and Exchange Commission, Study on Investment Advisers and Broker–

Dealers at 13 (Jan. 2011), available at: http://sec.gov/news/studies/2011/913studyfinal.pdf.

55 See, e.g., FINRA Rule 2111 and FINRA Regulatory Notice 11-02, available at: 

http://finra.complinet.com/en/display/display_viewall.html?rbid=2403&element_id=9859&print=1.

56 For example, broker-dealers have a duty to “to conduct reasonable investigation of securities, 

including those sold in a Regulation D offering. See, e.g., FINRA Regulatory Notice 10-22, available at: 

http://www.finra.org/industry/notices/10-22.

57 See, e.g., FINRA Rule 2111.
29

employees participating in a transaction) with an understanding of the potential risks and 

rewards associated with the recommended security or transaction.

Customer-specific suitability means the broker-dealers must have a reasonable 

basis to believe that the recommendation is suitable for a particular customer, based on 

that customer’s investment profile. Customer-specific information must be obtained and 

analyzed when making recommendations to customers.

Quantitative suitability means the broker-dealers with actual or de facto control 

over a customer account must have a reasonable basis for believing that a series of 

recommended transactions (even if individually suitable) are not excessive or unsuitable 

in the aggregate in light of the customer’s investment profile. FINRA enumerates several 

factors that might suggest excessive activity, such as turnover rate, cost-equity ratio, and 

the use of in-and-out trading in a customer’s account.58

To further protect Public Product investors, state “blue sky” laws impose their 

own suitability requirements. Many states model a broker-dealer’s responsibility for 

determining and affirming the suitability of a product after the NASAA Guidelines, 

which include: (1) a product-specific determination as to whether an investor reasonably 

meets the product-specific net worth and income minimums; (2) evaluating the extent to 

which an investor would benefit from the product if its investment objectives were met; 

(3) evaluating the investor’s ability to tolerate the product’s risks; (4) assessing whether 

the product’s expected liquidity is suitable for the investor; and (5) maintaining records 

of how reasonable investor suitability was determined.59

Furthermore, several states impose stricter suitability limitations on an investor’s 

ability to purchase Public Products.60 These states “require either a diversification 

standard that the investment cannot exceed 10% of the purchaser’s liquid net worth or 

impose a net worth test that provides that the investor’s net worth must be at least 10 

times their investment” amount in these products.61 Thus, at the state level, investor 

safeguards are designed to ensure that investors are purchasing only products that are 

suited for them and are protected from investing more than they should in these products. 

 58 See, e.g., FINRA Rule 2111, Supplementary Material, Section .05 “Components of Suitability 

Obligations.”

59 NASAA REIT Guidelines, Section III.A-C; NASAA Omnibus Guidelines, Section III.A-C.

60 Peter M. Fass & Derek A. Wittner, Securities Law Handbook Series: Blue Sky Practice For Public 

and Private Direct Participation Offerings § 2.2 (2013) (stating the states that impose limitations that are 

stricter than the NASAA requirements are: California, Iowa, Kansas, Kentucky, Maine, Massachusetts, 

Michigan, Missouri, Nebraska, Ohio, Oregon, Pennsylvania, and Tennessee). 

61 Id.
30

C. Broker-dealers Offering Public Products are Subject to Additional 

Disclosure Requirements and Investor Safeguards

Broker-dealers offering products, such as the Public Products, are subject to 

additional product-specific disclosure requirements pursuant to FINRA Rule 2310. Prior 

to investing, Section (b)(3) of the Rule requires “that all material facts are adequately and 

accurately disclosed [to offerees] and provide a basis for evaluating the program.”62 In 

determining the adequacy of disclosure, FINRA sets minimum guidelines for brokerdealers, such as requirements for disclosure of: “(i) items of compensation; (ii) physical 

properties; (iii) tax aspects; (iv) financial stability and experience of the sponsor; (v) the 

program’s conflicts and risk factors; and (vi) appraisals and other pertinent reports”.63 In 

dealing with conflicts of interest, the SEC takes the position that a broker-dealer’s duty of 

fair dealing falls within the above-mentioned suitability obligation, which generally 

requires a broker-dealer to make recommendations that are consistent with the interests of 

its customers. Broker-dealers, when making a recommendation, must disclose material 

conflicts of interest to their customers.64 Also, the federal securities laws and FINRA 

rules restrict broker-dealers from participating in certain transactions that may present 

particularly acute potential conflicts of interest.65 Moreover, broker-dealers who fail to 

adequately disclose conflicts of interest may be subject to the SEC’s “remedial sanctions 

such as censures, suspensions, injunctions and limitations on business, and violators may 

be required to pay disgorgement and civil penalties.”66

In addition, Section (b)(4) of Rule 2310 imposes a fair and reasonableness 

standard upon the organizational and offering expenses, which together with aggregate 

underwriting compensation may not exceed 15% of the gross proceeds of the offering.67 

In practice, the total combined underwriting compensation and organizational and 

offering expenses typically do not exceed between 11% and 12.5% for Public Programs. 

 62 See, e.g., Disclosures for Direct Participation Programs, which includes REITs discussed herein, 

Section (b)(3)(A) of FINRA Rule 2310, available at: 

http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=8469.

63 See, e.g., Disclosures, Section (b)(3)(B)(i)-(vi) of FINRA Rule 2310.

64 See, SEC, Study on Investment Advisers and Broker–Dealers, at 6.

65 See, e.g., FINRA, Conflict of Interest Report (Oct. 2013), available at: 

http://www.finra.org/file/conflict-interest-report/.

66 See, SEC, Study on Investment Advisers and Broker–Dealers, at 8.

67 See, e.g., Organization and Offering Expenses, Section (b)(4) of FINRA Rule 2310 (detailing the 

fair and reasonableness standards governing organization and offering expenses, compensation, and other 

fees associated with Public Products, among others). Note that of this 15% limit, only 10% may constitute 

underwriting compensation.
31

As previously observed, this limit reflects the aggregate (and highly transparent) charge 

for advisory services which extend over the five to ten year life of the Public Product and 

therefore compare favorably to many investments on the Department’s proposed Asset 

List for which advisory fees may be charged over indeterminately long periods, and for 

which such fees can and do exceed the percentage typically incurred by Public Programs. 

As such, Public Programs have an added protection of a lifetime cap which does not exist 

in other forms of compensation for other securities. Pursuant to disclosure requirements 

associated with registration under the 1933 Act, such fee structures are fully disclosed 

within each product’s registration statement.

Moreover, recent amendments to FINRA Rule 2310 and NASD Rule 234068 will, 

once effective in April 2016, impose additional transparency requirements on Public 

Products.69 These rules prohibit broker-dealers from participating in a public offering of 

Public Products unless the issuer has agreed to disclose a per-share estimated value in its 

periodic report that has been developed in a manner reasonably designed to ensure its 

reliability.70 The amended rules will also require that customer account statements 

provide the investment’s estimated value, net of up-front fees. In addition, broker-dealers 

are required to show the methods used for determining the estimated per-share value on a 

customer account statement, with the use of an independent third-party valuation expert 

and industry standard valuation methodologies required to obtain accurate valuations 

after closing of the initial offering.71 The primary focus of the rules is to increase the 

transparency of the costs associated with broker-dealer distributed products and improve 

the “price discovery” and reliability of valuations on customer account statements. 

Ultimately, these enhanced disclosures will provide more meaningful information to 

investors, particularly with respect to understanding the cost of brokerage services and 

 68 See, e.g., Customer Account Statements, NASD Rule 2340 (which requires a member to include 

on customer account statements an estimated value of products, such as the Public Products, from an 

annual report, an independent valuation service or any other source), available at: 

http://finra.complinet.com/en/display/display.html?rbid=2403&element_id=3647.

69 See, e.g., FINRA Rule 2310, amended effective April 2016, available at: 

http://finra.complinet.com/en/display/display_main.html?rbid=2403&record_id=16009; NASD 2340, 

amended effective April 2016, available at: 

http://finra.complinet.com/en/display/display_main.html?rbid=2403&record_id=16008.

70 See FINRA Regulatory Notice 15-02 (discussing how amended NASD Rule 2340 will provide 

two different options for calculating estimated per share values of products, such as the Public Products, on 

customer account statements: (a) the net investment methodology (“NIM”) which is good for 150 days 

after the second year following the break of escrow; and (b) the appraised value methodology (“AVM”) 

which must be performed annually). Available at: 

http://www.finra.org/sites/default/files/notice_doc_file_ref/Notice_Regulatory_15-02.pdf.

71 See, e.g., FINRA Rule 2310 and NASD Rule 2340.
32

the value of their investments, and will exert downward pressure on distribution costs. 

Broker-dealers selling interests in NL BDCs are required by the SEC to publish their 

current net asset value (NAV) on a regular basis (i.e., in reports that are publicly 

disclosed not less than quarterly).72 As described elsewhere herein, the valuation of NL 

BDC securities is governed by strict requirements of the 1940 Act. In addition, the SEC 

imposes disclosure requirements in connection with the offering of NL REITs, including 

disclosures with respect to distributions, dilution, redemptions, NAV, and prior 

performance.73

In addition to federally required disclosures, many states follow the NASAA 

Guidelines74 and, as discussed above, require that extensive and specific disclosures be 

made in product offering documents. 

In addition to the foregoing, the IPA has adopted standardized guidelines that 

address both NL BDCs and NL REITs. The NL BDC Performance Guideline 

incorporates comments and input from FINRA on the calculation and reporting of NL 

BDC investment performance.75 The Guideline addresses, among other things, the basis 

and reporting of performance figures, and the methodology and disclosure of shareholder 

returns and NAV.76 The IPA Practice Guideline on Valuations of Publicly Registered 

Non-Listed REITs, which also incorporated comments and input from FINRA, provides a 

uniform methodology for valuing NL REITs, guidelines to insure independence and 

avoid conflicts of interest in the process of determining valuations, and enhancements of 

the valuation disclosures for investors.77

Finally, in addition to fulfilling regulatory requirements, many broker-dealers 

impose their own internal investor safeguards. Examples include client-level 

concentration limits linked to specific client profiles, firm-level concentration limits 

 72 See, e.g., NASD 2340, amended effective April 2016.

73 CF Disclosure Guidance, Topic No. 6: Staff Observations Regarding Disclosures of Non-Listed 

Real Estate Investment Trusts (providing clarification on Rule 4-14 and 3-05 disclosures of broker-dealer 

placements of public, Non-listed REITs), available at: 

https://www.sec.gov/divisions/corpfin/guidance/cfguidance-topic6.htm.

74 See, e.g., NASAA’s Omnibus Guidelines, Statement of Policy on Real Estate Investment Trusts, 

and Statement of Policy Regarding Oil and Gas Programs.

75 See, IPA Non-Listed BDC Performance Guideline, available at: http://www.ipa.com/policyissues/guidelines.

76 See, e.g., IPA Non-Listed BDC Performance Guideline, available at: http://www.ipa.com/policyissues/guidelines/.

77 See, e.g., IPA Practice Guideline on Valuations of Publicly Registered Non-Listed REITs, 

available at: http://www.ipa.com/policy-issues/guidelines/.
33

related to certain types of products or asset classes, and mandatory advisor education 

requirements related to each specific category of Public Program asset focus prior to 

placing a Public Product with that asset focus with investors. 

VI. Public Products are Common for Retail Investors

The Public Products are not only a common investment for retail investors 

generally, but are also a common investment for IRAs. As of the end of 2014, there was 

over $66 billion of outstanding equity investment in NL REITs and over $12 billion in 

NL BDCs.78 Of these amounts, approximately 41% of the non-listed REIT investments 

were held by IRAs and approximately 48% of the NL BDC investments were held by 

IRAs.79 There are over 2.8 million retail accounts invested in NL BDCs and NL REITs 

alone.80 Of these retail accounts, 43%, or over 1.2 million, are IRAs. Over 30,000 

advisers currently provide advice for portfolios that invest in either BDCs or NL 

REITs.81 (See also statistics cited on page 13 hereof and included in Attachment A.)

The Department has not set a standard for what constitutes a “common” retail 

investment, but it would seem that a product with millions of accounts and billions of 

dollars invested should be considered common. If the Department does not revise the 

definition of “Assets” as currently provided within the Proposed BIC Exemption, it will 

deprive retirement investors of the opportunity to invest in products which may be 

particularly favorable for their individual situations.

As previously mentioned, the Public Products are direct investment programs 

which typically invest in tangible assets such as real estate, equipment leasing, or energy, 

or as in the case of NL BDCs, invest primarily in loans to certain U.S. businesses. 

 78 See Attachment A, at page 3. 

79 Id at pp. 2-3. At our June 4 information meeting with the Department, Messrs. Hauser and Canary 

and Mmes. Hall and Lloyd asked if we could provide additional information regarding the types of pension 

investors in each of these products. We have determined that these products would almost certainly not be 

investment options in an employer-sponsored 401(k) plan, other than through a brokerage window, in large 

part because for Public Products regulatory agencies impose individual investor suitability requirements 

which would be next to impossible to apply on a plan-wide basis. We are unaware of any available studies 

that quantify the number of defined benefit plans that invest in these products, but based on anecdotal 

evidence from our membership, we believe that a small number of defined benefit plans invest in NL 

REITs. Of the number of “qualified accounts” invested in Public Products as shown in the attached 

supplemental data, the vast majority of these qualified accounts are IRAs.

80 Id. at p. 6

81 Id. at p. 8.
34

Traditionally, these types of investments are intermediate to long-term with a focus on 

current income, preservation of capital and potential growth. As non-listed investments, 

the Public Products typically have less daily volatility than their exchange-listed 

counterparts, and tend to have a low correlation to other financial asset classes. These 

features, together with the added diversification Public Products bring to financial asset 

portfolios, can help to enhance an investor’s overall portfolio return while reducing risk. 

Moreover, the Public Products offer many benefits to investors, including the potential 

for superior current yields, the potential for competitive total returns, and access to 

experienced management teams which specialize in the asset class.

The Public Products clearly serve an important purpose in a retirement or other 

portfolio. As many financial advisors have learned, the investment performance of these 

Public Products justifies their inclusion in investor portfolios. For example, in the most 

recent and comprehensive study of performance, the average annual returns for NL 

REITs outperformed both the S&P 500 and a typical bond fund benchmark.82 The 

performance of Public Products also does not correlate directly with the S&P 500, thus 

providing the type of diversification recommended by Modern Portfolio Theory. Given 

these attributes and as discussed in more detail below, there seems to be no principled 

reason why an IRA investor should be denied the ability to choose to invest in NL REITs 

or NL BDCs, not to mention have the option to invest in Other DPPs, because these 

investments are not on the Department’s Assets List.

VII. Fees and Expenses of Public Products

The fees and expenses associated with Public Product investments can be 

segregated into two distinct categories: (1) fees and expenses associated with the 

formation of the Public Product and sale of its securities to the investing public through 

financial intermediaries (referred to herein as “Offering and Organizational Costs”; and 

(2) fees and expenses associated with the management and operation of the entity and its 

assets (referred to herein as “External Management Costs”). The first category of fees 

and expenses include compensation to the broker-dealers, registered representatives and 

investment advisers who make investment recommendations to investors. The second 

category of fees and expenses are paid exclusively to External Management or other third 

parties and are not related to the process of recommending investments to individual 

investors. 

 82 Id. at p. 15.
35

When evaluating the nature and level of fees and expenses for Public Products, it 

is important to understand the overall structure of management of the enterprise. For 

example, NL REITs and NL BDCs, like their exchange-traded counterparts, can be either 

internally or externally managed. Simply put, internally managed entities are operated by 

employees of the entity and the overall costs of management, including the salaries, 

benefits and incentive compensation of these employees, are subsumed into the entity’s 

reported “general and administrative expense” reporting. In contrast, externally managed 

entities typically have no employees and instead contract with a separate company 

experienced in the asset class to provide management services and conduct the day-today operations of the entity. The costs of such external management are separately 

reported (typically categorized by the nature of the service provided – e.g., acquisitions, 

asset management, property management, etc.) in financial statements as fees paid to the 

contracted management entity. As such, while potentially giving the false impression of 

higher management costs, externally advised NL REITs and NL BDCs have considerably 

more transparency than their exchange traded, internally managed counterparts.

Exchange traded REITs and BDCs which are externally managed also differ in 

important respects from NL REITs and NL BDCs which are externally managed. For 

example, the management contracts entered into by externally managed exchange traded 

REITs are not subject to any regulatory limits with respect to the compensation paid to 

the External Management or the length of the management contract. In contrast, NL 

REITs are subject to numerous and detailed NASAA Guideline limitations on fees and 

expense reimbursements which can be charged by the External Management. Unlike 

their exchange traded counterparts, any incentives paid to the management of an NL 

REIT must be subordinated to a full return of the investor’s capital and a minimum 

average annual return to the investor – a very significant investor protection which 

exchange traded REITs (which are on the Department’s proposed Asset list) do not have. 

NASAA Guidelines also impose requirements that the management contracts must be 

reviewed annually by the independent directors and must be cancellable without cause 

and without penalty on sixty days prior notice. These regulatory rules provide an added 

level of investor protections designed to insure reasonable and competitive pricing for 

specific services rendered. 

The determination of which management structure, internal or external, to use is 

made initially by the issuer, and is reviewed and decided upon by the independent 

directors. Since Public Products commence their existence as initial public offerings 

which have not yet raised capital nor made investments, external management structures 

are preferred in that they avoid the challenge of attempting to attract an experienced 

management team and incur the associated full overhead expenses for a company which 
36

has not yet raised capital, acquired a portfolio, or generated revenues over which to 

spread such employment costs.

Below is a description of the fees and expenses to which Public Products are 

typically subject. It is important to keep in mind that, as discussed in Parts IV and V of 

this letter, unlike many of the products on the Department’s proposed Asset list, the fees 

and expenses of Public Products are subject to limitations imposed by both federal and 

state regulations.

A. NL BDCs

Separate and apart from the offering and organizational costs incurred in 

connection with the formation of the product and the distribution of its shares (see

Section V), externally-managed NL BDCs are typically charged the following types of 

fees and expenses: (a) general and administrative expenses associated with the provision 

of certain services to the BDC by third-parties (e.g., professional fees) and the External 

Management; (b) a management fee payable to the NL BDC’s External Management, 

which is calculated based on a percentage of the NL BDC’s average gross assets; and (c) 

incentive fees on income, which are typically subject to a hurdle rate of return to 

investors, and on capital gains.83 The methodologies for calculating incentive fees vary 

among NL BDCs.84 A depiction of an example of the structure of a BDC and the flow of 

fees and expenses is illustrated on Attachment B.

 83 The Public Products generally provide to those responsible for managing those products 

compensation that is based on performance, in addition to a fee that is based on a percentage of the assets 

under management in the vehicle. This form of compensation (which is commonly referred to as a 

“performance fee”) can be calculated in a variety of ways, including as a percentage of realized gains or the 

increase in value of a vehicle’s assets during a specified period, and may be paid as a fee pursuant to a 

management agreement or as capital gains. The payment of performance fees to registered investment 

advisers is governed by Section 205 of the U.S. Investment Advisers Act of 1940 and certain of the rules 

thereunder. For a detailed discussion on the topic of performance fees, see the report of the U.S. Securities 

and Exchange Commission’s Division of Investment Management, Protecting Investors: A Half Century 

of Investment Company Regulation, pp. 237-251 (May 1992), available at: 

www.sec.gov/divisions//investment/guidance/icreg50-92.pdf. For those Public Products that provide for 

the payment of performance fees, that fact, along with the details of the calculations methodology, is 

disclosed to the investors in the product’s offering documents.

84 In the case of internally-managed BDCs (i.e., BDCs that are managed by their officers and 

employees), which are far less common, fees and expenses may include: general and administrative 

expenses (e.g., professional fees, marketing and research expenses, and travel expenses), employee salaries 

and benefits, and performance-based compensation to officers and employees (e.g., options and restricted 

stock awards).
37

B. NL REITs

Separate and apart from the offering and organizational costs incurred in 

connection with the formation of the product and the distribution of its shares (see

Section V), there are a variety of fees and expenses charged in connection with the 

operation of an NL REIT. While not all NL REITs are subject to the same fees and 

expenses, examples of the types of fees and expenses payable by most NL REITs to the 

External Management and its affiliates include: acquisition fees for the selection, 

evaluation, structuring and purchase of real estate assets or acquisition of securities; in 

the case of mortgage REITs origination fees in connection with the evaluation and 

structuring of loans; the reimbursement of expenses incurred in connection with the 

selection, purchase development or construction of properties or the making of loans 

(often subject to a cap except to the extent waived by the NL REIT’s independent 

directors); an asset management fee based on a percentage of the cost or value of the NL 

REIT’s assets; property management fees, oversight fees, and construction management 

fees to affiliates of the investment adviser; a financing coordination fee as a percentage 

of the amount of any original financing or refinancing is coordinated by the External 

Management; reimbursement of personnel costs for the provision of administrative 

services to the NL REIT (e.g., facilitation and coordination of transfer agency services, 

call center activities, and reporting and trouble-shooting activities); disposition fees 

where substantial services have been provided in connection with the sale of the NL 

REIT’s real property assets; and incentive fees upon the successful completion of a 

liquidity event typically limited to 15% of investor returns in excess of a full return of 

investor capital plus an average annual return on investment. As previously described, 

many of the fees described above as being paid to the manager of an externally managed 

NL REIT would be paid in the form of compensation, benefits and related overhead to 

employees of an internally managed NL REIT. A depiction of an example of the 

structure of an NL REIT and the flow of fees and expenses is illustrated on Attachment 

B.

C. Other DPPs

The fee structures of Other DPPs parallel those of Public, Non-Listed REITs and 

BDCs, with a virtually identical distribution process and cost limitations. Other DPPs 

also typically have an external management structure in the form of a general partner 

organization and incur fees and expenses specific to the operation of the assets and 

businesses they conduct. A full recitation of these fees and expenses for the various asset 
38

classes and business undertakings of Other DPPs is beyond the scope of this letter but 

will be provided to the Department upon request.

VIII. Liquidity and Redemption of the Public Products

While there is an informal secondary market for interests in many Public 

Products, this market cannot be described as active or efficient. Therefore, and because 

Public Products are not initially listed on a national securities exchange, they are 

appropriately described as “non-listed.” This, however, does not mean that Public 

Products are fully illiquid.

Although these Public Products are clearly marketed as illiquid securities subject 

to intermediate to long-term holding periods, and are subject to strict suitability 

requirements (including minimum levels of income and net worth and maximum 

concentration limits) imposed by the NASAA Guidelines, the states and broker-dealers to 

insure the financial qualifications of investors, Public Products do allow for early 

redemption by an investor. While the terms and limitations may vary, it is typical for NL 

BDCs and NL REITs to offer share repurchase programs to provide investor liquidity in 

advance of the occurrence of a final liquidity event, such as a stock exchange listing, 

merger or sale of the assets. These share repurchase programs are limited in that they 

often are legally required to impose caps on the number of shares to be acquired (e.g., a 

maximum percentage of the number of shares outstanding). While share redemption 

programs are typically discretionary on the part of the fund, they have a record of 

honoring redemption requests under normal economic and capital market conditions.

The vast majority of NL REITs provide liquidity for shareholders that seek it 

upon exigent circumstances. Shareholder redemption programs offer liquidity through 

the repurchase of up to 5% of outstanding shares on an annual basis. As previously 

observed, a recently introduced form of NL REIT that is gaining momentum in equity 

fundraising, the Daily NAV REIT, will accommodate the redemption of up to 20% of the 

REIT’s NAV each year – indicating an on-going trend toward the provision of greater 

liquidity among Public Products. NL REIT share repurchase programs typically require a 

minimum hold of one year except for redemptions upon the death or disability of the 

investor. While each NL REIT may offer different redemption terms, many provide 

liquidity through shareholder redemption programs beginning in year 2 at 92.5% of the 

NAV or offering price, increasing to 95% in year 3 and scaling similarly for the 

remainder of the holding period. Exceptions exist for death and disability hardship 

redemptions that pay the shareholder 100% of original investment or NAV regardless of 

the holding period. NL BDCs typically offer liquidity through the repurchase of up to 
39

10.0% of outstanding shares on an annual basis via quarterly tender offers. Repurchases 

by NL BDCs are typically made based on the fund’s current NAV. 

Public Products also seek to provide complete investor liquidity at the end of their 

terms. For example, Public Products may seek to list their shares on a national securities 

exchange, effect a merger whereby shareholders would receive cash or listed securities, 

or effect a sale of all or substantially all of their assets.

The fact that Public Products do not offer the full liquidity associated with 

exchange-traded securities and mutual funds is not a sufficient reason to exclude them

from IRA portfolios, and in fact relates to the reason why they should be included in 

retirement portfolios. As retirement accounts are generally designed for long-term 

holding, there is no reason why a less liquid investment would be per se improper. In 

fact, the lack of immediate liquidity discourages “churning” and “market timing” and 

further reduces volatility and the investment portfolio’s correlation to the stock market. 

Further, the inherently illiquid nature of real properties dictates that any real estate 

investment vehicle designed to provide the portfolio benefits of diversification and low 

correlation with exchange-traded financial assets, whether it be an institutional separate 

account or comingled fund or an NL REIT, will by its nature have limited liquidity. So, 

retirement investors seeking an optimally diversified portfolio cannot achieve that 

objective using solely exchange-traded REITs or mutual funds which invest in exchangetraded REITs and real estate companies.

Finally, as previously observed, the potential portfolio volatility which, of 

necessity, accompanies portfolios of directly or indirectly owned exchange-traded 

securities which, in turn, are subject to the vagaries of the traded markets, can force 

investors who are taking retirement plan distributions to effectively liquidate their 

investments at times of depressed market conditions, thereby jeopardizing the future 

income-generating potential of their retirement savings and compromising their lifestyles.

IX. Discarding the “Legal List”

A. The Department Should Discard the List of “Assets”

A list of “Assets” will deprive investors of choice and will render the Department 

unable to easily adapt to market changes. New investment products are continually 

introduced to the market. It is not feasible to expect that the Department will have the 

means or ability to regularly and continually consider and analyze new investment 
40

products for inclusion as an Asset. As a result, the Asset list process will create a 

category of investors who are not able to take advantage of market evolutions and 

improvements. Further, this will result in those investors being precluded from seeking 

the same return available to other investors or from being able to diversify their 

investment portfolios on the same basis as other investors. This outcome could both 

lower returns and increase risk through lack of portfolio diversification—the exact 

opposite of the Department’s objectives.

Some of the emerging Public Products and structural changes among existing 

Public Products demonstrate this precise principle. NL Public Energy Partnerships, for 

instance, share many of the same qualities as NL REITs, but have not yet captured the 

same level of market interest. IPA believes that it is only a question of time and that a list 

of approved Assets would effectively hamper the development of this product. Similarly, 

NL IFs are an emerging public product. NL REITs have recently introduced multi-share 

class products which provide optionality to the investor to select a product with 

significantly lower front-end distribution costs. Given the evolution of various 

investment products over the past decades, placing artificial restrictions on what options 

are open to IRA investors seems designed to tamp down market growth and limit options 

for investors.85

In the Proposed BIC Exemption, the Department emphasized that it intended to 

adopt a “principles-based” or “standards-based” approach that “would flexibly 

accommodate a wide range of current business practices” while minimizing conflicts of 

interest.86 Yet while the Proposed BIC Exemption is designed to accommodate a wide 

range of compensation, and to be adaptable over time to market changes in the way 

investment advisers are compensated, the Department abandoned a principles-based 

approach when it came to the types of assets covered by the exemption. By proposing a 

fixed list of acceptable “Assets”, the Department chose to freeze in time the types of 

investments that may be offered to retail retirement investors. We urge the Department 

to reconsider the “legal list” approach, which is inconsistent with the history of ERISA 

and modern trust law. We urge the Department instead to adopt a flexible, principlesbased approach to the types of assets to which the Proposed BIC Exemption applies and 

to allow retail retirement investors to continue to invest in Public Products.

 85 Any suggestion that this problem could or should be resolved through the individual exemption 

process is unworkable. If every time a new product evolved, the industry sponsor was required to submit 

an application for an individual exemption, it would cause enormous administrative burdens on both the 

Department and the industry.

86 Proposed BIC Exemption, at 21961.
41

Until the early 1940’s, many states required trustees to select investments from a 

statutory list of supposedly safe investments (a so-called “legal list”). Painful experience 

from the Great Depression showed, however, that virtually no investment is immune 

from risk, and that even the safest bonds and traditional investments could become 

worthless.87 Legal lists failed to adapt to changing economic and business conditions, 

and reflected the since-discredited assumption that past performance is a reliable 

predictor of risk. As a result, the legal lists tended to prohibit relatively safe investments 

in companies with an arguably risky past but a stable future, while permitting investment 

in more risky companies with a stable past but risky future. This history led the drafters 

of Restatement (Third) of Trusts to conclude that “knowledge, practices, and experience 

in the modern investment world have demonstrated that arbitrary restrictions on trust 

investments are unwarranted and often counterproductive.”88

The modern trend of fiduciary investment principles was driven in part by 

dissatisfaction with poor investment performance in legal list jurisdictions, and in part by 

a large body of academic research that resulted in what is known as modern portfolio 

theory.89 Modern portfolio theory demonstrates that portfolios of risky (i.e., more 

volatile) stocks can be combined in such a way that the portfolio as a whole could be less 

risky than the individual stocks in it.90

 87 See, e.g., Edward C. Halbach, Jr., Trust Investment Law in the Third Restatement, 27 Real Prop. 

Prob. & Tr. J. 407 (1992) (summary of the background, development and criticism of tradition trust 

doctrine regarding investments, plus an overview of modern portfolio theory and other modern 

developments, from the Reporter for the Restatement (Third) of Trusts); H. Bines, Modern Portfolio 

Theory and Investment Management Law : Refinement of Legal Doctrine, 76 Columbia L. Rev. 721 (1976) 

(describing the disastrous performance of “legal list” portfolios during the Great Depression in comparison 

to more flexible prudent man jurisdictions).

88 Restatement (Third) of Trusts, Ch. 17, Investment of Trust Funds (Introductory Note, Edward C. 

Halbach, Jr., Reporter); See, also, Edward C. Halbach, Jr., Trust Investment Law in the Third Restatement, 

27 REAL PROP. PROB. & TR. J. 407 (1992); Jeffrey N. Gordon, The Puzzling Persistence of the 

Constrained Prudent Man Rule, 62 N.Y.U.L. REV. 52 (1987); B. Longstreth, Modern Investment 

Management and the Prudent Man Rule (1986).

89 See, e.g., Edward C. Halbach, Jr., Trust Investment Law in the Third Restatement, supra; H. Bines, 

Modern Portfolio Theory and Investment Management Law: Refinement of Legal Doctrine, supra; John H. 

Langbein & Richard A. Posner, Market Funds and Trust-Investment Law, Yale Law School Faculty 

Scholarship Series (1976); John H. Langbein & Richard A. Posner, Market Funds and Trust-Investment 

Law II, Yale Law School Faculty Scholarship Series, Part I (1977) (describing the evolution of trust law, 

evidence for the notion that modern investment theory may be superior to conventional trust investment 

structures, and has served as evidentiary backing for modern reforms in trust law and the investment 

duties).

90 A good general discussion of modern portfolio theory can be found in Burton G. Malkiel, A 

Random Walk Down Wall Street, Ch. 8 (9th edition 2007).
42

ERISA was the first legislation to apply modern portfolio theory to fiduciary 

standards of investment and has been an influential landmark in the development of 

modern fiduciary law.91 The Department can justifiably be proud of the leading role 

ERISA has played in applying flexible and modern principles to the investment duties of 

fiduciaries. In this regard, perhaps the most significant development beyond the adoption 

of ERISA itself was the express reliance on modern portfolio theory in the final 

regulations under Section 404 of ERISA:

[I]t is the Department’s view that an investment reasonably 

designed—as part of the portfolio—to further the purposes 

of the plan, and that is made upon appropriate consideration 

of the surrounding facts and circumstances, should not be 

deemed to be imprudent merely because the investment, 

standing alone, would have, for example, a relatively high 

degree of risk . . . . Accordingly . . . “appropriate 

consideration” shall include a determination by the 

fiduciary that the particular investment or investment 

course of action is reasonably designed, as part of the 

portfolio for which the fiduciary is responsible, to further 

the purposes of the plan, taking into account the risk of loss 

and opportunity for gain (or other return) associated with 

the investment or investment course of action. (footnote 

omitted).92

Most important to the present discussion, the Department emphasized that its 

approach to prudent investing reflected a conscious decision to depart from legal lists and 

other traditional, restrictive applications of trust law:

 91 See, W. Brantley Phillips, Jr., Chasing Down the Devil: Standards of Prudent Investment Under 

the Restatement (Third) of Trusts, 54 Wash. & Lee L. Rev. 335 (1997) (describing how the passage of 

ERISA prompted the modernization effort of the third Restatement and uniform state laws on prudent 

investment); Samuel D. Cheris, Making Responsible Investment Decisions in Light of the Prudent Person 

Rule, 14 Est. Plan. 338 (1987) (describing how Congress adopted ERISA after hearing extensive testimony 

to the effect that traditional interpretations of prudence were too restrictive when applied to employee 

benefit plans).

92 44 Fed. Reg. 31639 (June 1, 1979), reprinted in CCH, Pension and Employee Benefits, Vol. 3, par. 

24,038 (2015).
43

[T]he Department does not consider it appropriate to 

include in the regulation any list of investments, classes of 

investment, or investment techniques that might be 

permissive under the ‘prudence’ rule. No such list could be 

complete; moreover, the Department does not intend to 

create or suggest a ‘legal list’ of investments for plan 

fiduciaries.

The preamble to the proposed regulation stated (as does 

this preamble) that the risk level of an investment does not 

alone make the investment per se prudent or per se

imprudent.93

The impartial conduct standards embodied in the Proposed BIC Exemption were 

designed to mirror the ERISA duty of prudence, combined with the duty of loyalty94. It 

would be a mistake (and more than a bit ironic) to require broker-dealers in the retail 

retirement market to adhere to ERISA’s standard of prudence while at the same time 

preventing them from considering investment products which, under the Department’s 

own prudence regulations, they may be required to take into account in serving the best 

interests of their customers. Moreover, the Department’s list would invariably – and in 

all likelihood quickly – suffer the same fate as the legal lists of the past, falling behind 

ever-changing market conditions, failing to adapt to new products and advances in 

knowledge, and consequently relegating the Proposed BIC Exemption to the margins of 

the retail marketplace:

Trust investment law should reflect and accommodate 

current knowledge and concepts. It should also avoid 

repeating the mistake of freezing its rules against future 

learning and developments.95

However, the Asset list does exactly the opposite. It explicitly does act to create 

by regulation a list of investments that are or are not appropriate. The list places the 

Department in the position of weighing which investments represent a suitable level of 

 93 Id.

94 Proposed BIC Exemption, at 21970.

95 Restatement (Third) of Trusts, Ch. 17, Investment of Trust Funds (Introductory Note, Edward C. 

Halbach, Jr., Reporter).
44

risk and which ones do not, as well as dictating the limits by which certain investors can 

access investment products in order to diversify their portfolios.

Finally, we would like to point out that in the preamble to the Proposed BIC 

Exemption, the Department said that it expects the best interest standard to be interpreted 

by courts in light of forty years of judicial experience with ERISA’s fiduciary 

standards.96 However, if the Department insists on inserting a legal list into the Proposed 

BIC Exemption, and thereby departing from a core principle of ERISA, it would virtually 

assure that interpretation of the best interest standard will diverge over time from 

otherwise applicable ERISA fiduciary standards.

B. If the Department maintains the “legal list” it should add the Public 

Products to that list.

If the Department determines that a return to the “legal lists” of the past best 

serves the purposes of the Regulation and the Proposed BIC Exemption, IPA respectfully 

requests that the Department include the Public Products on that list. As noted above, 

Public Products are common, indeed ubiquitous, in the retirement investment 

marketplace and commonly included in many investor portfolios, providing access to 

investment opportunities once only available to wealthy investors and institutions, as well 

as diversification and protection against market volatility. To accomplish IPA’s request 

in the most clear manner possible, IPA suggests that the list of “Assets” be amended to 

include NL REITs and also NL BDCs and Other DPPs as such direct participation 

programs are defined by FINRA in Rule 2310 and regulated by FINRA.”

The other terms and conditions of the Proposed BIC Exemption are already robust 

and flexible enough to protect retail investors, regardless of the product type. For 

example, if a recommended investment has different characteristics than “Assets” on the 

current list – such as less liquidity, lack of a public market, or different fee structure –

those characteristics would have to be disclosed and taken into account by the adviser in 

order to meet ERISA’s fiduciary obligations, and the stringent best interest standard and 

other conditions of the Proposed BIC Exemption. Certainly, not all investments would 

be in the best interest of all retail investors, but the investment adviser’s newly imposed 

fiduciary status combined with the conditions of the exemption already require the 

adviser to consider those factors before making a recommendation. Since the conditions 

of the exemption are both flexible and demanding, the Department need not attempt to 

 96 Id. at 21970.
45

determine in advance which assets are appropriate to particular retirement investors, or 

under what circumstances.

Moreover, the definition of “Adviser” in the exemption already requires 

compliance with applicable federal and state securities laws and licensing requirements 

with respect to the covered transaction. Thus, for example, any additional disclosure 

requirements or suitability standards of FINRA or other regulatory authorities with 

respect to NL REITs, NL BDCs or Other DPPs are effectively incorporated into the 

Proposed BIC Exemption.97 Consequently, the exemption is flexible enough to 

accommodate different types of investment on the “Asset” legal list. At a minimum this 

should favor the inclusion of Public Products on the legal list.

A comparison of some of the items on the list of “Assets” with the Public 

Products illustrates some of the deficiencies of relying on a pre-established list of 

products, as opposed to providing a list of factors (and perhaps some baseline criteria) 

that industry participants can take into account in deciding for themselves whether a 

product complies with their fiduciary duties under the Proposed BIC Exemption and 

Proposed Conflict of Interest Rule. While the Department has expressed some concern 

about the liquidity of retirement investments, it has nevertheless included products on the 

legal list which impose penalties if the investor wishes to exit the investment early. 

Public Products offer share repurchase programs which provide limited liquidity for 

investors in exigent circumstances and have a record of honoring such redemption 

requests under normal economic and capital market conditions. To the extent that any of 

the externally managed Public Products invest in securities, their managers are subject to 

the fiduciary duties imposed upon investment advisers under the Investment Advisers Act 

of 1940. In addition, NL BDCs are subject to the strict fiduciary standards imposed by 

the 1940 Act regardless of whether they are listed (and thereby constitute “Assets” under 

the proposed rule) or unlisted (as is the case with the NL BDCs that constitute Public 

Products). Like any of the “Assets” that are sold by a broker-dealer or investment adviser 

(as defined by the Advisers Act), including corporate bonds, exchange traded funds and 

interests in registered investment companies, those selling the Public Products are also 

subject to the basic FINRA imposed suitability and disclosure requirements (in the case 

of brokers) or the Advisers Act’s imposed fiduciary standards (in the case of investment 

advisers). Despite being illiquid securities, NL BDCs currently have, and NL REITs 

pursuant to newly adopted regulations will have, regularly determined prices, like the 

majority of the items on the list of Assets. Any justification or authority the Department 

has for including some investment products as Assets, while excluding others, such as the 

Public Products, is far from clear.

 97 See, e.g., FINRA Rule 2310, discussed above at Section V.C.
46

X. Other Suggestions to make Proposed BIC Exemption more workable

A. The Department should reconcile its use of “best interest” with the 

existing guidance regarding ERISA’s fiduciary obligations in order to 

avoid inconsistent and confusing interpretations.

In the preamble to the Proposed Conflict of Interest Rule, the Department states 

that the best interest standard “is not intended to add to or expand the ERISA section 404 

standards of prudence and loyalty as they apply to the provision of investment advice to 

ERISA covered plans”, but is instead intended to apply existing ERISA standards of 

prudence and loyalty to the IRA market.98 Similarly, the preamble to the Proposed BIC 

Exemption provides that the best interest standard is intended to mirror the ERISA duty 

of prudence, combined with the duty of loyalty.99 Yet the language of the best interest 

standard does not exactly mirror the standards of prudence and loyalty from ERISA 

section 404. While we understand that the Department believes that its departures from a 

literal blending of the duties of prudence and loyalty are simply uncontroversial glosses 

on those duties under existing law, it is not reasonable to expect that the differences in 

language between ERISA section 404 and the best interest standard will not lead to 

different meanings in the hands of courts and litigants. Accordingly, if the Department 

truly intends for the best interest standard to mirror the duties of prudence and loyalty 

under ERISA, it should do so directly by using the same words, or through a cross 

reference to the duties of loyalty and prudence under ERISA. Any additional explanatory 

gloss, such as “based on investment objectives, risk tolerance, financial circumstances 

and needs” of the investor, and “without regard to the financial or other interests” of the 

adviser and related parties, should be covered in the preamble or through examples, 

rather than in the text of the best interest standard itself.

B. The Department should clarify the use of typical revenue sharing 

payments.

The preamble to the Proposed BIC Exemption states that the Department intends 

for the exemption to facilitate the continued use of types of fees and compensation 

common in the retail market, including brokerage commissions, 12b-1 fees and revenue 

sharing payments. One of the conditions of the exemption is that a financial institution’s 

policies and procedures must not authorize compensation or incentive systems that would 

 98 Proposed Conflict of Interest Rule, at 21938.

99 Proposed BIC Exemption, at 21970.
47

tend to encourage individual advisers to make recommendations that are not in the best 

interest of retirement investors. The final BIC Exemption should make clear – through 

safe harbors or examples − that such common forms of compensation, by themselves, do 

not “tend to encourage” advisers to make recommendations that are not in the best 

interest of investors or otherwise fail to meet the best interest standard.

C. The Department should re-evaluate the timing of the contract 

requirement between investor and investment adviser.

We are also concerned that the requirement that the adviser enter into a written 

contract with the retirement investor prior to making a recommendation is impractical. 

Given the breadth of the concept of a “recommendation” under the Proposed Conflict of 

Interest Rule, advisers may be unwilling even to talk to a retirement investor without first 

requiring the potential investor to sign a written contract. Prospective investors may well 

be intimidated or generally put off by an adviser requiring them to sign a detailed 

contract at the beginning of their first conversation.

Moreover, the prior-to requirement could encourage some advisers to preface 

their introductory conversations by stating that they are speaking to the investor only with 

respect to her non-IRA or non-plan accounts, bringing out the contract only if the 

investor later says she wants to invest from her IRA. Either way, the prior-to rule leads 

to unintended results.

We believe that the written contract requirement should be revised to require a 

written contract prior to the receipt of any compensation to which the Proposed BIC 

Exemption is intended to apply. In that way, if the contract satisfying the exemption is 

not in place before the compensation is received, the compensation would not be covered 

by the exemption. But advisers and potential investors would be free to have preliminary 

conversations without the need for a written contract. This would also eliminate any 

confusion about when the adviser is providing advice and when she may just be 

providing investment education that does not require the adoption of fiduciary status.

D. The Department should expand the “seller’s carve-out” to include 

sophisticated IRA and 401(k) plan investors.

The rationale for providing a seller’s carve out for large plans in the Proposed 

Conflict of Interest Rule should be extended to sophisticated plan participants and IRA 

owners. A participant or IRA owner with a large balance, or with substantial assets or 
48

income, should be able to understand after basic disclosure that a broker or other sales 

representative is selling a product, and that there is no reasonable expectation of a 

fiduciary relationship. At some level of account balance or other measure of 

sophistication, a plan participant or IRA owner should – subject to similar disclosure 

obligations – be treated the same as a large plan for purposes of a carve-out from the 

Conflict of Interest Rule.

XI. Conclusion

Public Products meet the Department’s apparent requirement of commonality 

with respect to retail investors and also contribute to the overall U.S. economy. As we’ve 

explained above, the controls and requirements imposed upon those who distribute the 

Public Products and on the products themselves (e.g., FINRA rules and NASAA 

Guideline requirements as to the suitability, expense limitations, related party 

transactions, disclosure, investor qualifications and suitability, maximum investment 

amounts, and merit state reviews) provide even higher standards than the regulatory 

standards placed on most of the investment products currently defined as “Assets” under 

the Proposed BIC Exemption. The suitability and maximum dollar investment thresholds 

imposed have the impact of lessening the possibility that unqualified investors will invest 

or that qualified investors will invest more than they should.

The Public Products generally perform well, enhance diversification, and improve 

the risk-adjusted return potential of an investment portfolio by adding a product in an 

asset class that does not correlate with the traded stock market. Public Products are also 

less volatile than many products that are currently defined as “Assets”. They are highly 

transparent, provide per share valuations determined in accordance with regulatory 

requirements and industry standards of independence and methodology designed to result 

in the disclosure of reliable values, and the limited liquidity offered by Public Products is 

not inappropriate for a retirement account where the goal, unlike perhaps for a standard 

brokerage account, is to buy and hold for a long period of time.

For all the reasons set forth above, the IPA urges the Department to revise the 

Proposed BIC Exemption in order to include Public Products within the scope of the 

Proposed BIC Exemption either by doing away with a legal list of Assets or by adding 

the Public Products, as defined above, to that list. We appreciate your time and attention 

in ensuring that retirement investors are provided with the broadest array of investment 

options, while taking all reasonable measures to avoid conflicted advice.
49

Respectfully submitted,

Kevin Shields

Chairman, Investment Program Association
Attachment A

Comment Letter of the

Investment Program Association

THE NON-LISTED REIT AND BDC MARKET
-2-

Source: DST Systems, US Investment Record Keeping Solutions1

In 2014, individual investors invested a total of $21.7 billion in non-listed REITs and non-listed BDCs. Qualified percentage 

represents the dollar amount held in retirement accounts. 
-3-

Source: DST Systems, US Investment Record Keeping Solutions1

Equity Investment Outstanding represents the cumulative investment in previous years less monetization events such as 

listings, mergers or acquisitions of the programs represented. It is a measurement very similar to assets under management or

AUM.
-4-

Investors received a total of $5.9 billion in distributions from non-listed REIT and BDC firms in 2014.
-5-

Source: DST Systems, US Investment Record Keeping Solutions1

Non-listed REIT and BDC firms distributed a total of $2,549,304,895 to retirement account holders in 2014.
-6-

Source: DST Systems, US Investment Record Keeping Solutions1
-7-

Retirement and Non-Retirement Account Information

Of 2,810,065 open accounts as of December 31, 2014, 43% of those, or 1,208,328, were retirement accounts. The retirement 

accounts are predominantly IRAs. This percentage represents the number of accounts that are considered retirement accounts 

and differs from earlier percentages that reflected dollars invested. As an example in 2014 43% of all accounts were 

retirement accounts while 41% of dollars invested in non-listed REITs were in retirement accounts and 48% of dollars 

invested in BDCs were in retirement accounts. One measure is for accounts represented while the other represents dollar 

investment. Because they represent different metrics, they will not be equal. 

The chart above demonstrates the number of accounts that were open across both non-listed REITs and BDCs for each year. As 

each year represents the total number of open accounts, not simply accounts opened in that year, some accounts will be 

included in multiple years. When a non-listed REIT or BDC lists on an exchange or otherwise provides a shareholder with an 

exit event, those accounts are no longer included in the annual tally. Though annual account totals will provide context, 2014 

totals will demonstrate the most accurate view of current client usage of non-listed REITs and BDCs.
-8-

Source: DST Systems, US Investment Record Keeping Solutions1

The above chart shows the number of advisors with at least one client account invested in either non-listed REITs or BDCs under 

supervision in each year. These may include both retirement and non-retirement accounts.

2013 2014

Number of Advisors 23939 30809

0

5000

10000

15000

20000

25000

30000

35000

Number of Advisors
-9-

PORTFOLIO CONSTRUCTION USING NON-LISTED REITS AND BDCS

Index Returns and Standard Deviation (Quantifiable Risk)

*Arithmetic mean

For 10 year period January 1, 2005 through December 31, 2014
-10-

Source: Morningstar EnCorr2

The indices above represent the 4 primary asset classes that we will use for portfolio analysis. The S&P 500 is a common 

representative of domestic equities and the BarCap Aggregate Bond Index does the same for domestic debt in the form of 

bonds. The National Council of Real Estate Investment Fiduciaries (NCREIF) Property index is an index of commercial real 

estate and the BofA Merrill Lynch High Yield Master II Index does the same for small company US debt, the primary 

investment for non-listed BDCs. 

The NCREIF Index provides the closest measure of the commercial real estate performance that occurs inside a non-listed 

REIT. In addition, it is the preferred index for FINRA reviewed client materials demonstrating REIT performance. NAREIT is 

used in the public space for portfolio analysis but because the market determines the REIT net asset value while non-listed 

REITs primarily use professional real estate appraisals to derive NAV, NAREIT is not an appropriate benchmark. Additional 
-11-

information about NCREIF can be found in the source notes following the full analysis.

Similarly, the BofA Merrill Lynch High Yield Master II Index is a common benchmark for BDCs that concentrate holdings on 

debt investments. While BDCs do have the flexibility to invest in equity, non-listed BDCs are focused on debt and the use of this 

index is an appropriate measure of performance.

Average annual return is the average of each individual year from 2005 through 2014 using arithmetic mean. Standard 

deviation is used to quantify risk. Standard deviation represents the amount that an asset class has fluctuated around the 

mean in the time period measured. Using standard normalized statistical distribution, that would mean that 68% of 

occurrences are within one standard deviation and 95% of occurrences are within 2 standard deviations. Therefore a higher 

standard deviation represents higher volatility resulting in higher overall risk.
-12-

Income Needs

Investment Vehicle Yield

10 Year US Treasury 2.26%

US Aggregate Bond Index 2.34%

S&P 500 Dividend Yield 1.93%

Traded REITs Dividend Yield 3.72%

Non-Listed REITs Average 6.39%

Non-Listed BDCs Average 7.33%

Yields are as of market close on June 19, 2015 and net of fees. Sources: Various
-13-

Asset Class Correlation Matrix

For 10 year period January 1, 2005 through December 31, 2014

Because standard deviation calculates the expected movement, or volatility, of an asset class, it is often used to quantify risk. 

As we know from Dr. Harry Markowitz’s Modern Portfolio Theory, the addition of a risky asset class can have the effect of 

paradoxically reducing risk of the entire portfolio. So while standard deviation is useful, we must also know how the asset 

classes move relative to each other to maximize the benefit of real estate (non-listed REITs) and small company debt (nonlisted BDCs) in a portfolio. 

Correlation is helpful in portfolio analysis so that we can more fully understand how different asset classes move in relation to 

each other. A correlation of ‘1’ means that the asset types move in tandem while a correlation of ‘-1’ would mean that they 

move exactly inversely to each other. In other words, a 10% drop in one asset class is offset by a 10% gain in the perfectly 

negatively correlated asset class. A correlation of ‘0’ means that no correlative effect can be derived and that the asset types do 

not move relative to each other in any way.

Correlation quantifies the most impactful diversifiers for a portfolio. In the chart above for instance, small company debt is 

correlated closely to stocks (.74) but has almost no correlation (.07) to bonds. That would suggest that adding debt focused 

Asset Class Index Stocks Bonds Non-Listed 

REITs

Non-Listed 

BDCs

Stock Proxy S&P 500 TR USD - - - - 

Bond Proxy Barclays US Agg Bond TR USD (0.35) - - - 

Commercial Real 

Estate NCREIF Property 0.15 (0.13) - - 

Small Company Debt BofAML US HY Master II TR USD 0.74 0.07 (0.38) - 
-14-

non-listed BDCs to a portfolio of bonds will diversify the risk in the portfolio. This is because the small company debt index 

will not move the same way that bonds do because they have almost no correlation (.07) to each other. However, the closely 

mirrored movement to stocks means that the addition of debt focused non-listed BDCs to a stock portfolio, while still 

beneficial, will not have the proportionate diversifying effect since they move very similarly as indicated by a correlation of 

.74. Commercial real estate has a very low correlation to all other asset classes. It is for this reason that commercial real estate 

remains a powerful diversifier in portfolio construction. The chart above illustrates similar conclusions about any pairing of 

the 4 asset classes we are examining. Each of the correlations is sufficiently large to signify that when compared to stocks, both 

small company debt and commercial real estate add a diversifying component to a portfolio.
-15-

Portfolio Models with Varying Commercial Real Estate and Small Company Debt Allocations

For 10 year period January 1, 2005 through December 31, 2014

This chart is a comparison of 8 different portfolios and how a $100,000 investment would fare over the 10 year time period covering 2005 – 2014. 
-16-

The returns above represent the 4 primary asset classes that we are using for portfolio analysis. The S&P 500 is a common representative of domestic 

equities and the BarCap Aggregate Bond Index does the same for domestic debt in the form of bonds. The NCREIF Property index is an index of 

commercial real estate and the BofA Merrill Lynch High Yield Master II Index does the same for small company US debt, the primary investment for nonlisted BDCs. 

In each portfolio the largest percentage is represented by the S&P 500 as a domestic equity investment and the second largest percentage is a bond 

investment represented by the BarCap Aggregate Bond Index. We have then used varying, small allocations to commercial real estate and small 

company debt as represented by the NCREIF Property index and the BofA Merrill Lynch High Yield Master II Index. These allocations highlight the effect 

of commercial real estate and small company debt in a conventional stock/bond portfolio.

None of the indices being used are available for direct purchase. Even purchases of an S&P 500 index security are mutual funds or ETFs that mirror but, 

due to fees, cannot replicate the index. However, each of these indices is the most common benchmark for asset managers investing in the respective 

asset class. In 2014, only 13.56% of large cap mutual fund managers beat the benchmark S&P 500 index (Source: S&P Dow Jones Indices LLC, CRSP) and 

over the 10 year period ending December 31, 2014 only 17.93% beat the index. However, 31% of non-listed REIT managers outperformed the NCREIF 

index after fees as reported by Dr. Jay Hartzell and Dr. Jung-Eun Kim in the 2014 Full Cycle Performance Study published by Blue Vault and the 

University of Texas. Roughly twice as many non-listed REIT managers outperformed their index in comparison to large cap equity managers.
-17-

Portfolio Returns and Standard Deviation (Quantifiable Risk)

Return Standard Deviation

For 10 year period January 1, 2005 through December 31, 2014

This chart is a comparison of 8 different portfolios and the average annual return with standard deviation over the 10 year 

time period covering 2005 – 2014. The portfolios mirror the previous chart demonstrating a $100,000 investment.

The indices above represent the 4 primary asset classes that we are using for portfolio analysis. The S&P 500 is a common 

representative of domestic equities and the BarCap Aggregate Bond Index does the same for domestic debt in the form of 

bonds. The NCREIF Property index is an index of commercial real estate and the BofA Merrill Lynch High Yield Master II Index 

does the same for small company US debt, the primary investment for non-listed BDCs. 
-18-

The NCREIF Index provides the closest measure of the commercial real estate performance that occurs inside a non-listed 

REIT. In addition, it is the preferred index for FINRA reviewed client materials demonstrating REIT performance. NAREIT is 

used in the public space for portfolio analysis but because the market determines the REIT net asset value while non-listed 

REITs primarily use professional real estate appraisals to derive NAV, NAREIT is not an appropriate benchmark. Additional 

information about NCREIF can be found in the source notes following the full analysis.
-19-

Model Portfolio Detail
-20

-
-21-

Model Portfolio Detail, continued
-22-

Source Notes and Explanations

Investor Information

1

Source: DST Systems, US Investment Record Keeping Solutions. DST is the primary recordkeeper for non-listed alternative 

investments. This information represents the activity of 55 programs out of 62 total programs open to new investors during 2014. 

While not a complete representation of the entirety of REITs and BDCs it represents 88.7% of total programs that raised capital in 

2014 and 97.0% of capital raised. Data is available through the following DST services rendered to the REIT and BDC industry: Fund 

Accounting, Fund Administration, Shareholder Servicing, Compliance, Legal, Medallion Distribution, Series Trust Solution, Tax

Administration, Customer Communication, Tender Offer Services. DST’s primary responsibility is to report on financial transactions 

to individual customers. Because DST generates client reports for statements and distribution of dividends they serve as a conduit for 

recordkeeping between the non-listed REITs and BDCs and the investor. By aggregating this data we are able to view the entirety of 

financial transactions including raising capital, paying distributions, number of total accounts and the delineations between retirement 

and non-retirement investments or distributions.

Explanation of Indices

2

Source: Institutions worldwide use Morningstar® EnCorr® to research, create, analyze, and implement optimal asset allocation 

strategies within a single software. This advanced analytical software unites proven finan- cial models, sophisticated Ibbotson 

methodologies, and comprehensive Morningstar investment data. 

An innovative solution for conducting advanced statistical and graphical analyses, Morningstar EnCorr helps build portfolios designed 

to generate robust returns at varying risk levels. The software provides invaluable support to institutional investment professionals 

conducting in-depth portfolio research, including analysts, investment consultants, Registered Investment Advisors, and portfolio 

managers. 

Stocks are represented by the Standard & Poor’s 500®; Bonds by the BarCap Aggregate Bond Index; REITs by the NCREIF Property 

Index; BDCs by the BofA ML High Yield Master II. All portfolio allocations are rebalanced on a monthly frequency.

S&P Dow Jones U.S. indices are designed to reflect the U.S. equity markets and, through the markets, the U.S. economy. The S&P 

500 focuses on the large-cap sector of the market; however, since it includes a significant portion of the total value of the market, it 

also represents the market. Companies in the S&P 500 are considered leading companies in leading industries. The S&P 500 is a 
-23-

member of the S&P Global 1200 family of indices. Source: S&P Dow Jones Indices: Index Methodology, March, 2015

The Barclays US Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, US dollardenominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS 

(agency fixed-rate and hybrid ARM pass-throughs), ABS and CMBS (agency and non-agency). Provided the necessary inclusion rules 

are met, US Aggregate- eligible securities also contribute to the multi-currency Global Aggregate Index and the US Universal Index, 

which includes high yield and emerging markets debt. The US Aggregate Index was created in 1986 with history backfilled to January 

1, 1976. Source: Barclays Index, Portfolio & Risk Solutions Benchmark Indices, May, 2014

The flagship index of NCREIF is the NPI, which is a quarterly index tracking the performance of core institutional property markets in 

the U.S. 

The NCREIF Property Index is a quarterly time series composite total rate of return measure of investment performance of a 

very large pool of individual commercial real estate properties acquired in the private market for investment purposes only.

The objective of the NPI is to provide a historical measurement of property-level returns to increase the understanding of, and lend 

credibility to, real estate as an institutional investment asset class. 

Comprised exclusively of operating properties acquired, at least in part, on behalf of tax‐ exempt institutions and held in a fiduciary 

environment. 

Start date is the 4th Quarter of 1977; as of 2nd Quarter 2013 consisted of 7,099 properties with a gross fair market value of over $336 

billion. Each property’s return is weighted by its market value. 

Includes properties with leverage, but all returns are reported on an unleveraged basis. 

Includes Apartment, Hotel, Industrial, Office and Retail properties, and sub‐ types within each type. 

A “composite” index defined by the membership of NCREIF analogous to the NYSE Composite Index based on the stocks listed on 

that exchange. 

Source: NCREIF DATA, INDEX AND PRODUCTS GUIDE 2015 National Council of Real Estate Investment Fiduciaries
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Bank of America Merrill Lynch High Yield Master II Index consists of below investment grade U.S. dollar denominated corporate

bonds that are publicly issued in the US domestic and yankee bonds. Issues included in the index have maturities of one year or more 

and have a credit rating lower than BBB-/Baa3, but are not in default. The index includes domestic high-yield bonds, including 

deferred interest bonds and payment-in-kind securities. Source: Credit Suisse AG Glossary of Indices

Yield Sources

310 year Treasury is the current yield on the United States Treasury 10 year Note and is a common benchmark for a US dollar 

denominated government-backed income source.

US Aggregate Bond Index is The Barclays US Aggregate Bond Index, a broad-based flagship benchmark that measures the 

investment grade, US dollar-denominated, fixed-rate taxable bond market.

S&P 500 Dividend Yield as reported by Standard & Poor’s by aggregating paid dividends of the 500 stocks represented in the S&P 

500.

Traded REITs Dividend Yield is the yield of the the FTSE NAREIT US Real Estate Index Series and is calculated by FTSE 

International Limited.

Non-listed REITs and Non-listed BDCs are not represented directly by an index and, therefore, do not have a published yield like the 

other asset types reported in the table. Therefore, the yield has been calculated using the declared cash distributions of all programs 

that raised investment capital in 2014 as reported in the 10K filed with the SEC for the calendar year ending 12/31/2014. Stock 

distributions are not counted toward the yield, only cash distributions. In addition, the yield is reported on a weighted average basis 

based using the amount of investment for 2014 against the total investment for that asset type. 
Attachment B to

the Comment Letter of the

Investment Program Association

NAI-1500446305v1

NL BDCs and NL REITs:

Structures and

Fees of Related Service Providers*

____________________________________

* The descriptions of the types of financial products included in this Attachment B are not drawn from a broad market survey. Some forms of the 

types of financial products depicted in this Attachment B may vary from the examples described herein with respect to structure, compensation 

arrangements and regulatory framework depending upon factors such as the circumstances of the sponsor, distributor or potential investor 

groups and the product distribution methodology. This Attachment B does not include a complete recitation of fees. For more information, 

please see the comment letter to which this Attachment B is attached.
Public, Non-Listed Business Development Company (“NL BDC”)

2 VISIO (revise Visio Chart NAI-1500381524v1)

NAI-1500446305v1

Small

Business

Corporation/Trust

Business

Development

Company

Investors

Board of

Directors

Delaware Limited 

Liability Company

Investment

Adviser

Dealer

Manager

Selected

Dealers

Financial

Associates

Investment Interest in BDC and 

Periodic Cash Distributions

Dealer Manager Agreement

Reallowance 

of Selling 

Commission

Selected 

Dealer 

Agreements

Arrangements 

with Financial 

Associates

Securities and 

Return on 

Investment

Investment

(typically, 

senior debt)

Management Fee 

and Incentive Fee

Investment Advisory Agreement

$

$

$

$

$

$

$

Dealer Manager Fee and Selling 

Commission
Public, Non-Listed Real Estate Investment Trust (“NL REIT”)

3 VISIO (right click – Visio object/open)

NAI-1500446305v1

Real Estate

Investments

Corporation/Trust

Real Estate 

Investment Trust

Investors

Board of

Directors

Delaware Limited 

Liability Company

Investment

Adviser

Dealer

Manager

Selected

Dealers

Financial

Associates

Investment

Interest in REIT and 

periodic cash distributions

Dealer Manager Agreement

Reallowance 

of Selling 

Commission Selected 

Dealer 

Agreements

Arrangements 

with Financial 

Associates

Interests in 

Assets and 

Return on 

Investment

Investment

Management Fee 

and Incentive Fee

Investment Advisory Agreement

$

$

$

$

$

$

$

$

Dealer Manager Fee and Selling 

Commission