# Understanding the 3(c)(7) Exemption From SEC Regulations

## What Is the 3(c)(7) Exemption?

The 3(c)(7) exemption, part of the [Investment Company Act of 1940](https://www.investopedia.com/terms/i/investmentcompanyact.asp), enables qualifying private investment funds to avoid certain SEC regulations. By meeting criteria such as having qualified purchasers, these funds gain flexibility not available to publicly traded funds.

### Key Takeaways

*   The 3(c)(7) exemption allows private funds to bypass certain SEC regulations if they meet specific criteria under the Investment Company Act of 1940.
*   To qualify for the 3(c)(7) exemption, a fund's investors must be qualified purchasers who meet stringent investment criteria.
*   Funds using the 3(c)(7) exemption can avoid registering with the SEC or issuing detailed disclosures, unlike public funds.
*   A fund that exceeds 1,999 investors must register with the SEC, even under the 3(c)(7) exemption.
*   Non-compliance with 3(c)(7) standards can lead to SEC enforcement and legal action against a fund.

## Evolution and Impact of the 3(c)(7) Exemption

The Investment Company Act of 1940 defines an "investment company" as an issuer that "holds itself out as being engaged primarily or proposes to engage primarily, in the business of investing, reinvesting or trading in securities." The Act regulates the organization of companies whose securities are offered to the public. Companies must disclose their financial condition and investment policies regularly. 

However, 3C7 is one of two exemptions from the Investment Company Act of 1940, allowing [hedge funds](https://www.investopedia.com/terms/h/hedgefund.asp),  venture capital funds, and other private equity funds to bypass SEC restrictions. This frees up these funds to use tools like leverage and derivatives that most publicly traded funds cannot. Typically, hedge funds, private equity funds, venture capital funds, and other private investment vehicles are structured to fall outside the Act's regulatory scope.

## How to Qualify for the 3(c)(7) Exemption

3C7 funds are not required to register with the Securities and Exchange Commission or provide ongoing disclosure. They don't need to issue a [prospectus](https://www.investopedia.com/terms/p/prospectus.asp) detailing investment positions. 

> **Important**
>
> Section 3(c)(7) doesn't limit investors, but funds with 2,000 or more investors must register under the Securities Exchange Act of 1934.

To qualify for the 3C7 exemption, the private investment company must show that they have no plans of making an initial public offering (IPO) and that its investors are qualified purchasers. A qualified purchaser is a higher standard than an [accredited investor](https://www.investopedia.com/terms/a/accreditedinvestor.asp) and is defined as:

*   Individuals or family-owned businesses that own no less than $5 million in investments
*   A trust managed by qualified purchasers
*   An individual acting for their account or the account of someone else who owns and invests at least $25,000,000 in investments
*   Any entity solely owned by qualified purchasers.

## Comparing 3(c)(7) Funds and 3(c)(1) Funds

Both 3C7 and 3C1 funds are exempted from the requirements imposed on "investment companies" under the Investment Company Act of 1940 (the "Act"). However, there are differences between them. 3C7 funds take investments from qualified purchasers, whereas 3C1 funds work with accredited investors.

Investors in 3C7 funds must meet higher wealth criteria compared to 3C1 funds, possibly narrowing the investor pool. Regulations limit 3C1 funds to 100 investors, constraining their potential investor pool.

## What Happens to a Fund That Does Not Comply With 3C7 Rules?

3C7 funds must maintain their compliance to continue utilizing the exemption from the 1940 Act. If a fund were to fall out of compliance by taking in investments from non-qualified purchasers, it would open itself to SEC enforcement actions and litigation from its investors and any other parties it has contracts with.

## What Types of Investments Are Not Defined As an Investment Company?

Some investment pools that do not qualify as an “investment company” in Section 3(a) of the Investment Company Act include charitable organizations, pension plans, and church plans. 

## What Is the Difference Between an Accredited Investor and a Qualified Purchaser?

Accredited investors typically must meet income and net worth requirements to purchase financial investments, such as securities or real estate. Companies such as financial institutions screen participants and must determine who is an accredited investor. The qualified purchaser is a legal term not based on net worth or income but on investment holdings. Qualified purchasers must meet higher standards so that funds with a small group of private equity investors can buy and sell public assets.

## The Bottom Line

The 3(c)(7) exemption, under the Investment Company Act of 1940, permits private funds like hedge funds and venture capital to bypass certain SEC regulations, including registration and public disclosure obligations. To qualify for this exemption, a fund must not intend to issue an IPO, and its investors must be qualified purchasers who meet higher financial thresholds than accredited investors.

While there is no limit on the number of investors, 3C7 funds must register with the SEC if they have over 1,999 investors. This exemption facilitates flexibility for private funds in using strategies like leverage and derivatives, which are not typically available to publicly traded funds.  

> **Article Sources**
>
> 1.  U.S. Securities and Exchange Commission. "[Investment Company Registration and Regulation Package](https://www.sec.gov/investment/fast-answers/divisionsinvestmentinvcoreg121504htm.html)."
>     
> 2.  U.S. Government Publishing Office. "[Investment Act of 1940](https://www.govinfo.gov/content/pkg/COMPS-1879/pdf/COMPS-1879.pdf)," Page 15.
>     
> 3.  U.S. Securities and Exchange Act. "[Exchange Act Reporting and Registration](https://www.sec.gov/smallbusiness/goingpublic/exchangeactreporting)."
>     
> 4.  Investor.gov. "[The Laws That Govern the Securities Industry](https://www.investor.gov/introduction-investing/investing-basics/role-sec/laws-govern-securities-industry#invcoact1940)."
>     
> 5.  Pillsbury Investment Fund. "[Is the Fund Relying on Section 3(c)(7) To Avoid Registration as an Investment Company? – Preserving the Exemption](https://www.investmentfundlawblog.com/resources/who-may-invest/fund-relying-section-3c7-avoid-registration-investment-company-preserving-exemption/)."
>     
> 6.  U.S. Securities and Exchange Commission. "[Private Fund](https://www.sec.gov/education/capitalraising/building-blocks/private-fund)."