As is required by the Dodd-Frank Act, the SEC has adjusted rule 205-3’s performance fee eligibility thresholds for inflation. These adjustments were announced by the SEC on July 12. The order will be published in the Federal Register and will go into effect 60 days post-publication, or September 19, 2011. The revised dollar amounts take into account inflation from 1998, the year in which it last was adjusted, to the end of 2010. Furthermore, the amounts will be revised more frequently from this point forward — every five years.
According to the SEC, rule 205-3 “permits investment advisers to charge certain clients performance or incentive fees.” However, in order for investors to charge these fees, clients must meet one of two criteria. The adviser must either have a minimum of $1 million of the client’s money under his or her management, or the client must have a minimum of $2 million net worth. When determining a qualified client based on their net worth, according to the SEC, “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.”
Under the same rule, as it was set in 1998, the client needed to have a minimum of $750,000 managed by the adviser or a net worth of at least $1.5 million to qualify for the fees.
In addition to the change in thresholds, there have been several amendments proposed to rule 205.3, including allowing previously-existing performance fee arrangements to be kept, excluding the value of a client’s main residence when determining their worth, and using the PCE index in calculating inflation in future inflation adjustments. These amendments are still under consideration.
If you believe your financial adviser is in violation of rule 205-3, contact investment attorney Christopher J. Gray, P.C. for more information.