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 Yesterday newspapers reported that the Obama administration would send draft legislation to the Congress which would require advisers to hedge funds and other private pools of capital, including advisers to venture capital funds, to be registered with the SEC as investment advisers.  A copy of the proposed legislation can be found here.  

You can find the press release accompanying the release of draft legislation here.  

An excerpt from the press release:  

"Continuing its push to establish new rules of the road and make the financial system more fair across the board, the Administration today delivered proposed legislation to Capitol Hill to require all advisers to hedge funds and other private pools of capital, including private equity and venture capital funds, to register with the Securities and Exchange Commission (SEC)."

The Act is titled the "Private Fund Investment Advisers Registration Act of 2009."  It accomplishes its goal of requiring registration by eliminating the private adviser exemption for private funds with assets under management of $30 million or more.  Section 203(b) of the Investment Advisers Act of 1940 currently exempts from registration:

"any investment adviser who during the course of the preceding twelve months has had fewer than fifteen clients and who neither holds himself out generally to the public as an investment adviser nor acts as an investment adviser to any investment company registered under title I of this Act..."

The Obama bill would eliminate this exemption and in its place exempt "any investment adviser that is a foreign private adviser."  The eliminated exemption is the exemption that most venture capital funds rely upon to exempt themselves from registration as investment advisers.

From the press release:

"Protect Investors From Fraud And Abuse

Require Advisers To Private Investment Funds to Register With The SEC. Although some advisers to hedge funds and other private investment funds are required to register with the Commodity Futures Trading Commission (CFTC), and some register voluntarily with the SEC, current law generally does not require private fund advisers to register with any federal financial regulator. The Administration's legislation would, for the first time, require that all investment advisers with more than $30 million of assets under management to register with the SEC.  Once registered with the SEC, investment advisers to private funds will be subject to important requirements such as:

• Substantial regulatory reporting requirements with respect to the assets, leverage, and off-balance sheet exposure of their advised private funds
• Disclosure requirements to investors, creditors, and counterparties of their advised private funds
• Strong conflict-of-interest and anti-fraud prohibitions
• Robust SEC examination and enforcement authority and recordkeeping requirements
• Requirements to establish a comprehensive compliance program

Require Increased Disclosure Requirements. The Administration's legislation would require that all investment funds advised by an SEC-registered investment adviser be subject to recordkeeping requirements; requirements with respect to disclosures to investors, creditors, and counterparties; and regulatory reporting requirements."

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The Obama Administration is continuing (see prior blog entry re this) to propose that venture capital firms be required to register with the SEC.  In general, under current law, most venture capital firms are not required to register with the SEC as investment advisors.  Requiring registration would impose additional costs and burdens on the venture capital industry, and would probably crimp industry participation to some degree, and slow down the flow of capital to and through funds to startup companies.

The Obama Administration also wants to subject venture capital funds "carried interest" to tax at ordinary income tax rates and self-employment taxes.  For information on this, see here.

The below quoted material is from the Obama Administration's Financial Regulatory Reform proposal.  See also this article from the Wall Street Journal.  See also this article.  Also see this bill introduced which would set the threshold for mandatory SEC registration of venture funds at $30 million.  Finally, see John Cook's article here.

The below quoted text is from Obama's financial regulatory overhaul proposal:

"F. Require Hedge Funds and Other Private Pools of Capital to Register

All advisers to hedge funds (and other private pools of capital, including private equity funds and venture capital funds) whose assets under management exceed some modest threshold should be required to register with the SEC under the Investment Advisers Act. The advisers should be required to report information on the funds they manage that is sufficient to assess whether any fund poses a threat to financial stability.

In recent years, the United States has seen explosive growth in a variety of privately owned investment funds, including hedge funds, private equity funds, and venture capital funds. Although some private investment funds that trade commodity derivatives must register with the CFTC, and many funds register voluntarily with the SEC, U.S. law generally does not require such funds to register with a federal financial regulator. At various points in the financial crisis, de-leveraging by hedge funds contributed to the strain on financial markets. Since these funds were not required to register with regulators, however, the government lacked reliable, comprehensive data with which to assess this sort of market activity. In addition to the need to gather information in order to assess potential systemic implications of the activity of hedge funds and other private
pools of capital, it has also become clear that there is a compelling investor protection rationale to fill the gaps in the regulation of investment advisors and the funds that they manage.

Requiring the SEC registration of investment advisers to hedge funds and other private pools of capital would allow data to be collected that would permit an informed assessment of how such funds are changing over time and whether any such funds have become so large, leveraged, or interconnected that they require regulation for financial stability purposes. 

We further propose that all investment funds advised by an SEC-registered investment adviser should be subject to recordkeeping requirements; requirements with respect to disclosures to investors, creditors, and counterparties; and regulatory reporting requirements. The SEC should conduct regular, periodic examinations of such funds to monitor compliance with these requirements. Some of those requirements may vary across the different types of private pools. The regulatory reporting requirements for such funds should require reporting on a confidential basis of the amount of assets under management, borrowings, off-balance sheet exposures, and other information necessary to assess whether the fund or fund family is so large, highly leveraged, or interconnected that it poses a threat to financial stability. The SEC should share the reports that it receives from the funds with the Federal Reserve. The Federal Reserve should determine whether any of the funds or fund families meets the Tier 1 FHC criteria. If so, those funds should be supervised and regulated as Tier 1 FHCs."
 

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