Document ID: SEC-2011-1006-0001
Agency: sec
Document Type: Notice
Title: Order Approving Adjustment for Inflation of Dollar Amount Tests
Posted Date: 2011-07-15T04:00Z

[Federal Register Volume 76, Number 136 (Friday, July 15, 2011)]
[Notices]
[Pages 41838-41839]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2011-17854]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 3236/July 12, 2011]

Order Approving Adjustment for Inflation of the Dollar Amount 
Tests in Rule 205-3 Under the Investment Advisers Act of 1940

I. Background

    Section 205(a)(1) of the Investment Advisers Act of 1940 
(``Advisers Act'') generally prohibits an investment adviser from 
entering into, extending, renewing, or performing any investment 
advisory contract that provides for compensation to the adviser based 
on a share of capital gains on, or capital appreciation of, the funds 
of a client (also known as ``performance compensation'' or 
``performance fees'').\1\ Section 205(e) authorizes the Securities and 
Exchange Commission (``Commission'') to exempt any advisory contract 
from the performance fee prohibition if the contract is with persons 
that the Commission determines do not need the protections of the 
prohibition, on the basis of certain factors described in that 
section.\2\
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    \1\ 15 U.S.C. 80b-5(a)(1).
    \2\ Under section 205(e), the Commission may determine that 
persons do not need the protections of section 205(a)(1) on the 
basis of such factors as ``financial sophistication, net worth, 
knowledge of and experience in financial matters, amount of assets 
under management, relationship with a registered investment adviser, 
and such other factors as the Commission determines are consistent 
with [section 205].'' 15 U.S.C. 80b-5(e).
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    Rule 205-3 under the Advisers Act exempts an investment adviser 
from the prohibition against charging a client performance fees in 
certain circumstances, including when the client is a ``qualified 
client.'' The rule allows an adviser to charge performance fees if the 
client has at least $750,000 under the management of an investment 
adviser immediately after entering into the advisory contract 
(``assets-under-management test'') or if the adviser reasonably 
believes the client has a net worth of more than $1,500,000 at the time 
the contract is entered into (``net worth test''). The Commission last 
revised the level of these dollar amount thresholds to account for the 
effects of inflation in 1998.\3\
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    \3\ See Exemption To Allow Investment Advisers To Charge Fees 
Based Upon a Share of Capital Gains Upon or Capital Appreciation of 
a Client's Account, Investment Advisers Act Release No. 1731 (July 
15, 1998) [63 FR 39022 (July 21, 1998)].

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[[Page 41839]]

II. Adjustment of Dollar Amount Thresholds Under the Dodd-Frank Act

    The Dodd-Frank Wall Street Reform and Consumer Protection Act \4\ 
(``Dodd-Frank Act'') amended section 205(e) of the Advisers Act to 
provide that, by July 21, 2011 and every five years thereafter, the 
Commission shall adjust for inflation the dollar amount thresholds 
included in rules issued under section 205(e), rounded to the nearest 
$100,000.\5\ As discussed above, there are two dollar amount thresholds 
in rules issued under section 205(e), and they are in the assets-under-
management and net worth tests in rule 205-3's definition of 
``qualified client.''
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    \4\ Pub. L. 111-203, 124 Stat. 1376 (2010).
    \5\ See section 418 of the Dodd-Frank Act.
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    On May 10, 2011, the Commission published a notice of intent to 
issue an order revising the dollar amount thresholds of the assets-
under-management test and the net worth test.\6\ We stated that, based 
on calculations of inflation since 1998 when the dollar amount 
thresholds were last revised, we intended to revise the threshold in 
the assets-under-management test from $750,000 to $1 million, and in 
the net worth test from $1.5 million to $2 million.\7\ We also stated 
that these revised dollar amounts would take into account the effects 
of inflation by reference to the historic and current levels of the 
Personal Consumption Expenditures Chain-Type Price Index, which is 
published by the Department of Commerce and often used as an indicator 
of inflation in the personal sector of the U.S. economy.\8\ The revised 
dollar amounts would reflect inflation from 1998 to the end of 2010, 
and are rounded to the nearest $100,000 as required by section 205(e) 
of the Advisers Act, as amended by section 418 of the Dodd-Frank Act.
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    \6\ See Investment Adviser Performance Compensation, Investment 
Advisers Act Release No. 3198 (May 10, 2011) [76 FR 27959 (May 13, 
2011)] (``Proposing Release''). The Commission also proposed for 
public comment certain amendments to rule 205-3 that would reflect 
any inflation adjustments to the rule that we issue by order, as 
well as other rule amendments that would (i) provide that the 
Commission will issue an order every five years adjusting for 
inflation the dollar amount tests, (ii) exclude the value of a 
person's primary residence from the test of whether a person has 
sufficient net worth to be considered a ``qualified client,'' and 
(iii) add certain transition provisions to the rule. The deadline 
for comments on the proposed rule amendments was July 11, 2011. Id.
    \7\ See id. at nn.17-18 and accompanying text.
    \8\ See id. at nn.19-21 and accompanying text.
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    The Commission's notice established a deadline of June 20, 2011 for 
submission of requests for a hearing. No requests for a hearing have 
been received by the Commission.\9\
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    \9\ The Commission has received comments on the rule amendments 
that it proposed in May 2011, and those comments are available in 
the public rulemaking file S7-17-11 (available on the Commission's 
Web site at http://www.sec.gov/comments/s7-17-11/s71711.shtml). 
Several commenters expressed concern about the Commission's 
expressed intent to raise the dollar amount thresholds of rule 205-
3. The Dodd-Frank Act clearly mandates that the Commission adjust 
the dollar amount thresholds that are the subject of this Order. The 
Commission intends to evaluate the comments it receives on the 
rulemaking proposal in its consideration of any adoption of the 
proposed amendments. See Proposing Release, supra note 6.
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III. Effective Date of the Order

    This Order is effective as of September 19, 2011.

IV. Conclusion

    Accordingly, pursuant to section 205(e) of the Investment Advisers 
Act of 1940 and section 418 of the Dodd-Frank Act,
    It is hereby ordered that, for purposes of rule 205-3(d)(1)(i) 
under the Investment Advisers Act of 1940 [17 CFR 275.205-3(d)(1)(i)], 
a qualified client means a natural person who or a company that 
immediately after entering into the contract has at least $1,000,000 
under the management of the investment adviser; and
    It is further ordered that, for purposes of rule 205-3(d)(1)(ii)(A) 
under the Investment Advisers Act of 1940 [17 CFR 275.205-
3(d)(1)(ii)(A)], a qualified client means a natural person who or a 
company that the investment adviser entering into the contract (and any 
person acting on his behalf) reasonably believes, immediately prior to 
entering into the contract, has a net worth (together, in the case of a 
natural person, with assets held jointly with a spouse) of more than 
$2,000,000 at the time the contract is entered into.

    By the Commission.
Elizabeth M. Murphy,
Secretary.
[FR Doc. 2011-17854 Filed 7-14-11; 8:45 am]
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