SEC Tightens Rules on Investment Advisers' Performance Fees

by Glen Shapiro, LawAndTax-News.com, New York

21 February 2012

The United States Securities and Exchange Commission (SEC) has announced a tightening of its rules on investment advisory performance fees, raising the net worth requirement for investors who pay them.

Under the SEC’s rule, registered investment advisers may charge clients performance fees if the client’s net worth or assets under management by the adviser meet certain thresholds. Investors who meet the net worth or asset threshold are deemed to be “qualified clients,” able to bear the risks associated with performance fee arrangements.

The revised rule will require “qualified clients” to have at least USD1m of assets under management with the adviser (up from USD750,000), or a net worth of at least USD2m (up from USD1.5m). These rule changes conform its USD thresholds to the levels set by an SEC order in July 2011, and the increase in thresholds is as required by the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act.

In addition, the revised rule will exclude the value of a client’s primary residence and certain property-related debts from the net worth calculation. This change was not required by the Dodd-Frank Act, but is consistent with changes the SEC approved in December to net worth calculations for determining who is an “accredited investor” eligible to invest in certain unregistered securities offerings.

However, a new grandfather provision to the performance fee rule will permit registered investment advisers to continue to charge clients performance fees if the clients were considered “qualified clients” before the rule changes. In addition, the grandfather provision will permit newly registering investment advisers to continue charging performance fees to those clients they were already charging performance fees.

Finally, the revised rule provides that every five years, the SEC will issue an order making inflation adjustments to the USD thresholds used to determine whether an individual or company is a qualified client.

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