Investment advisers are required to register with the SEC under the Investment Advisers Act of 1940 (“Advisers Act”) when certain assets under management thresholds are met. Passed on July 21,2010, the Dodd Frank Act (Dodd-Frank) modified the exemptions for investment advisers to private funds as part of an effort have the SEC focus its regulatory scrutiny on large fund managers while state regulatory agencies given primary responsibility for oversight of small and midsize fund managers within their states.
Dodd-Frank eliminated the longstanding “Private Adviser Exemption” under the Advisers Act, which exempted from registration advisers with fewer than 15 clients and replaced it with a “regulatory assets under management” (“RAUM”) test. Specifically, private fund investment advisers are exempted from registration with the SEC under 203(l) when advising only venture capital funds, and under 203(m) when they advise funds with RAUM of less than $150 million.
Thus, investment advisers to funds with less than $150 million RAUM, or that meet another exemption, are generally precluded from SEC registration but may still be subject to state registration.
State Regulation – NASAA Model Rule
Along with potential SEC regulatory oversight, every investment adviser is subject, absent an exemption, to registration in the state(s) where they provide investment advice. Since the adoption of
Dodd-Frank, states have sought to realign their regulatory regimes with the federal rules. In an effort to encourage state regulators to harmonize their rules the North American Securities Administrators Association (NASAA) adopted a private fund adviser exemption model rule meant to serve as a guideline for states (the “Model Rule”).
Under the Model Rule, a private fund adviser is exempt from registration if each of the following conditions is satisfied:
- Neither the adviser nor any of its affiliates are subject to certain disqualifications 
- The adviser files form ADV with the state pursuant to SEC Rule 204-4 ; and
- The adviser pays the relevant state fees.
Additional Requirements for 3(c)(1) funds
A fund owned by less than 100 people qualifies for the exclusion from the definition of an investment company under section 3(c)(1) of the Investment Company Act. The Model Rule imposes the following additional conditions for 3(c)(1) funds:
- The fund’s outstanding securities must owned entirely by persons who meet the definition of a “qualified client” in SEC Rule 205-3 
- The adviser shall disclose the following in writing to each owner of the fund:
a. all services provided to the owners;
b. all duties the adviser owes to the owners; and
c. any other material information affecting the owners.
3. The adviser shall deliver annual audited financial statements to each fund owner Transition When an exempt reporting adviser loses the private fund exemption by, for instance, adding a client that does not meet the definition of a “qualified client”, the adviser is required to register within 90 days.
The Model Rule provides that an adviser to a 3(c)(1) fund that has one or more beneficial owner(s) who are not qualified clients is still eligible for the exemption if the following conditions are satisfied:
- The Fund existed prior to the effective date of the state’s regulation;
- As of the date of the regulation, the fund ceases to accept non-qualified clients
- The adviser discloses in writing the information described in Section (2) above; and
- As of the date of the regulation the investment adviser delivers audited financial statements.
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Other conditions not in NASAA:
“qualified client”; and does not deduct the value of primary residence from net worth
solely by qualified purchasers)
1. Also known as “bad boy” disqualifications, the relevant provisions are described in Rule 262 of SEC Regulation A. These disqualifications include the conviction of any felony or misdemeanor in connection with the purchase or sale of any security within 5 years and the filing of a registration statement, which has been the subject of any refusal or stop order.
2. Section 204-4 requires that an adviser relying on the exemption under either 203(l) or (m) must file reports on Form ADV electronically with the Investment Adviser Registration Depository (IARD).
3. Under Rule 205-3 a “qualified client” has at least $1 million under management with the adviser OR the adviser reasonably believes that the client has a net worth of more than $2 million at the time the contract is entered into. When calculating such person’s net worth, the value of that person’s primary residence excluded from the net worth test.