What Is Section 12D-1?
Section 12D-1, under the Investment Company Act of 1940, restricts investment companies from investing in one another. The rule was enacted to prevent fund of funds arrangements from one fund acquiring control of another fund to benefit its investors at the expense of the shareholders of the acquired fund. This use of control could come through exercising controlling power of voting shares or under the threat of large-scale redemptions out of the acquired fund.
Congress also created exemptions to this rule in the form of investing limits, which allows for fund of funds arrangements as long as the limits are met. In 2018, Congress updated the rules with new terms under Section 12D-1, allowing for greater flexibility in investing. Congress has also proposed to implement new rules that would rescind Section 12D-1-2 and implement a new standard set of rules.
Key Takeaways
- Section 12D-1 of the SEC Investment Company Act was created to restrict investment funds from investing in each other.
- Sections 12D-1A and B stipulated rules that allowed for investing under certain limits.
- In 2018, Congress refined the rules under 12D-1 to allow greater flexibility in fund of funds arrangements.
- Congress has proposed Section 12D-1-4 to completely replace and rescind 12D-1-2.
Understanding Section 12D-1
Section 12D-1 was created with sub-rules that allow for specific exemptions to the restriction of investment funds investing in each other. Section 12D-1A stipulates the exemption limits in which a registered fund can invest into another fund. Section 12D-1B stipulates the exemption limits in which an open-ended fund can sell its securities to another fund.
In 2018, Congress decided to change the way in which funds can invest in each other. They created Section 12D-1E-G, allowing various fund of funds arrangements under specific conditions, which effectively rescinded Section 12D-1A-B. In doing so, Congress realized it had created a framework that was inconsistent and inefficient. To streamline the rules, Congress has proposed to abolish 12D-1-2 and the exemption orders and to replace them with a new Section 12D-1-4.
How the Section 12D-1 Limit Is Applied
Section 12D-1A's restrictions limits state that a fund cannot:
- Acquire more than 3% of a registered investment company's voting shares.
- Invest more than 5% of its assets in a single registered company.
- Invest more than 10% of its assets in registered investment companies
Section 12D-1B applies to the selling of securities by a fund and prohibits the sale if it results in the acquiring company owning more than 3% of the acquired fund's voting securities.
Updating Section 12D-1
In 2018, Congress revisited its approach to fund of funds arrangements. In the 1960s, when the initial limits were established under the Investment Company Act, Congress believed that fund of funds arrangements served no real financial purpose. In the time since, they believe that the fund of funds structures have incorporated dynamics to protect investors as well as providing a financial purpose. As such, Congress drafted new rules to permit certain structures that met certain conditions.
Section 12D-1E allows an investment fund to invest all of its assets into one fund. This would make the fund a vessel by which investors can access the acquired fund. Section 12D-1F allows a registered fund to take positions, up to 3% of another fund's assets, in any number of funds without limit. Section 12D-1G allows a registered open-ended fund to invest in other open-ended funds that are in the same "group of investment companies." Furthermore, Congress enacted section 12D-1J, which allows the Securities and Exchange Commission (SEC) to exempt any person, transaction, or asset from Section 12D-1-A-B.
Rescinding 12D-1-2
In conjunction with its updates to Section 12D-1, Congress realized that the many rules and exemptions exist as a patchwork that is inefficient and only covers specific funds while not including others with similar characteristics. To resolve the situation, Congress has proposed to rescind 12D-1-2 and replace it with 12D-1-4, which would provide a consistent framework, reduce operational costs, and open up new investment opportunities.
Investments Allowed Under 12D-1-4
Under the proposed new standards, the rules would permit:
- A registered investment fund to acquire the securities of another registered investment fund above the limits stated in 12D-1
- An acquired fund to sell its securities to an acquiring fund
- An acquired fund to redeem its securities in the acquiring fund
Currently, the type of fund of funds arrangements allowed depends entirely on the type of acquiring fund. The new rule would broaden the scope of permitted funds allowed in a fund of funds arrangement and therefore increase investment opportunities for investors. The new arrangements would only be allowed if certain conditions are met in the areas of voter control, redemption limits, fees, and avoidance of complex structures.
FAQs
Understanding Section 12D-1
Section 12D-1A's restrictions limits state that a fund cannot: Acquire more than 3% of a registered investment company's voting shares. Invest more than 5% of its assets in a single registered company. Invest more than 10% of its assets in registered investment companies3
What is the 12d1-4 exemption? ›
Rule 12d1-4 also provides an exemption from section 17(a) of the Investment Company Act, which would otherwise prohibit an affiliated person of a fund, or any affiliated person of such person, from selling any security or other property to, or purchasing any security or other property from, the fund.
What is the holding limit for 12d1-4? ›
Rule 12d1-4 permits an acquired fund in a fund of funds arrangement to invest in securities of investment companies or private funds in an amount not to exceed 10 percent of the acquired fund's total assets, subject to certain limited exceptions, such as master-feeder arrangements or money market fund investments.
What is Section 12 of the Investment Company Act of 1940? ›
Section 12(d)(1)(C) of the 1940 Act prohibits an investment company from acquiring any security issued by a registered closed-end fund, if immediately after such purchase or acquisition the acquiring company, other investment companies having the same investment adviser, and companies controlled by such investment ...
What is the adopting release rule 12d1 4? ›
EXECUTIVE SUMMARY. Rule 12d1-4 (the “Rule”) permits fund of funds arrangements subject to various conditions, including limits on control and voting, required evaluations and findings, required fund investment agreements and limits on complex (i.e., more than two tier) fund of funds structures.
What is the rule 12d 3? ›
Section 12(d)(3) of the Act generally prohibits funds, and companies controlled by funds, from purchasing securities issued by a registered investment adviser, broker, dealer, or underwriter ("securities-related businesses").
What is the SEC exemption Regulation D? ›
Regulation D lets companies doing specific types of private placements raise capital without needing to register the securities with the SEC. SEC Reg D should not be confused with Federal Reserve Board Regulation D, which limits withdrawals from savings accounts.
How much may an offering be no larger than to qualify for an exemption under Regulation A Tier 1? ›
table on the following page highlights the key provisions of Tier 1 and Tier 2 offerings. Annual Offering Limits $20 million, including no more than $6 million on behalf of selling securityholders that are affiliates of the issuer.
What is Rule 501 A of Regulation D under the securities Act? ›
The law prohibits fraud, deceit, and misrepresentation in the sale of securities, such as bonds or stocks. Rule 501(a) is the part of Regulation D of the '33 Act that defines who and what qualifies to invest in unregistered securities, or an accredited investor.
What is the 125% rule for growth bonds? ›
This growth is effectively reinvested to deliver a compounding effect. Bonds have a valuable taxation status; as long as any additional investments you make do not exceed 125 per cent of the investments made in the previous year, then the taxation status will not be jeopardised. This is called the 125% rule.
A business with more than 2,000 distinct shareholders, totaling $10 million or more in capital, must file with the SEC even if it is a privately-held company. The increased investor limit has opened greater possibility for equity crowdfunding.
What is the bond allocation rule? ›
To determine this number, you simply take 110 minus your age. So, if you are 40, then the rule states that 70% of your portfolio should be kept in stocks. The remaining 30% should be kept in bonds and cash. This rule of thumb can be adjusted to reflect your own personal risk tolerance.
What is the SEC rule 12d 1? ›
Section 12(d)(1)(C) prohibits registered funds (together with companies or funds they control and other registered funds that have the same adviser) from acquiring more than 10% of the outstanding voting stock of a registered closed-end fund.
What is Rule 12 B 1 of the Investment Company Act of 1940? ›
In 1980, the Securities and Exchange Commission (SEC) adopted Rule 12b-1 under the Investment Company Act of 1940. This rule permits funds to compensate brokers and other financial intermediaries out of fund assets for services they provide shareholders related to the distribution of fund shares.
Who is exempt from the Investment Company Act of 1940? ›
The 3(c)(7) exemption refers to the Investment Company Act of 1940's section permitting qualifying private funds exemption from some SEC regulations. Private funds must not plan to issue an IPO, and their investors must be qualified purchasers to qualify for the 3C7 exemption.
What is the rule 12b 1? ›
In 1980, the Securities and Exchange Commission (SEC) adopted Rule 12b-1 under the Investment Company Act of 1940. This rule permits funds to compensate brokers and other financial intermediaries out of fund assets for services they provide shareholders related to the distribution of fund shares.
What is rule of three 13d? ›
Under Rule 13d-3, “beneficial ownership” of a security means that a person has or shares the power, directly or indirectly, through any contract, arrangement, understanding, relationship or otherwise, (a) to vote or direct the voting of a security (“voting power”), or (b) to dispose of or direct the disposition of a ...
What is Regulation D exemptions? ›
Regulation D under the Securities Act provides a number of exemptions from the registration requirements, allowing some companies to offer and sell their securities without having to register the offering with the SEC.
What is Rule 501 of Regulation D under the US Securities Act? ›
SEC Rule 501 defines the terms used to talk about and define Reg D exemptions, including who are accredited investors—the most important definition contained in Rule 501. If you are considering issuing a Reg D offering, it's important to fully understand each of the key SEC Regulation D Rule 501 terms.
