SEC Adopts Amendments to Exemptive Applications Procedures

Ethan CoreyLegal Insights

Imitation is the Sincerest Form of Flattery Charles Caleb Colton

 

On July 6, 2020, the Securities and Exchange Commission (SEC) issued a release adopting an expedited review procedure for exemptive and other applications under the Investment Company Act of 1940, as amended (1940 Act) that are substantially identical to recent precedent, as well as a new informal internal procedure for applications that would not qualify for the new expedited process.1  The SEC is also adopting amendments that would deem a 1940 Act exemptive application not subject to expedited review to be withdrawn if the applicant fails to respond in writing to comments within 120 days.  The amendments will take effect 270 days after they are published in the Federal Register.

Set forth below is a chart summarizing the SEC’s amended process with respect to 1940 Act exemptive applications:

Background

The exemptive order process has played a central role in the regulation of investment companies since the enactment of the 1940 Act.  David Schenker, the principal author of the Investment Trust Study that led to the 1940 Act, testified that:

you cannot possibly anticipate a transaction which you feel should not come within any specific provision of this bill, and you cannot possibly anticipate any person who may or may not come within the specific provisions of this bill . . . . if conditions exist or arise which manifestly are not within the legislative intent of this legislation, then the Commission should be in a position to exempt those in that situation, and the industry should not be required to go to Congress to get a statutory enactment to meet that specific situation.2

While the 1940 Act includes several grants of exemptive authority, the industry has frequently complained about the manner in which the SEC and its staff have exercised that exemptive authority as well as the amount of time that it can take to obtain even a routine exemption.  For its part, the SEC and its staff have frequently complained about applications that do not meet all procedural requirements, fail to cite applicable precedent or to explain why the application is requesting relief that differs from that granted to past similarly situated applicants.

The SEC and its staff have articulated time frames for processing exemptive applications, but these have been honored more in the breach than in the observance.  For example, the SEC issued a release in 1985 in which it stated that the Division of Investment Management’s (IM) guidelines called for:

  • initial comments on a routine application to be given within 45 days of its receipt;
  • the applicant to file any amendments to the application within 60 days of receipt of comments;
  • notices of routine applications which require no amendment to be published within 60 days; and
  • applications to be placed on inactive status if no amendments were filed within 60 days of receipt of comments.3

In 1992, the SEC staff recommended an expedited procedure for applications based on precedent, if the applicant met certain procedural requirements and specifically requested expedited treatment.4  In 1993, the SEC proposed amendments to implement these recommendations.  However, the amendments were never adopted. 

In 2006, the SEC’s Inspector General issued a report examining the processing of exemptive applications within IM.  It found that “the timeliness of the [exemptive application] process can be improved” and made several recommendations to increase timeliness.5 

Discussion

Expedited Review Procedure

The SEC adopted amendments to Rule 0-5 under the 1940 Act to expedite the review of routine 1940 Act exemptive applications.  An applicant will be able to request expedited review if its application is “substantially identical” to two other applications for which an order granting the requested relief has been issued within three years of the date of the application’s initial filing. 

The SEC defines “substantially identical” to mean applications involving the same types of entities, requesting the same relief, and subject to the same terms and conditions as precedent, notwithstanding minor differences, such as different names and places of legal organization.  The Adopting Release states that “not only [must] the substance of the terms and conditions be the same, but also . . . their wording [must] be the same.”6 

As proposed, the rule would have required that the two precedents have been issued within two years of the initial filing of the application.  However, the SEC determined to permit the two precedents to have been issued within three years of the initial filing of the application.  Applicants must explain in their cover letter why they chose the particular precedents they are using.  If more recent precedents are available, the applicant must explain why it chose to rely on older precedents, rather than the more recent ones.   

The Adopting Release notes that the SEC is not explicitly excluding any particular type of applications from expedited review.  The SEC stated, however, that it expects that certain types of applications will tend to be fact-dependent and consequently, would not be able to qualify as substantially identical to prior precedents.  Examples of these types of applications include declarations regarding control under Section 2(a)(9), inadvertent investment companies (Section 3(b)(2)), employee securities companies (Section 6(b)), companies disqualified from serving as investment advisers or principal underwriters (Section 9(c)) and unit investment trust substitution applications (Section 26(c)).

The SEC will require applicants to provide additional information to qualify for expedited review.  First, the cover page must include a prominent legend stating “EXPEDITED REVIEW REQUESTED UNDER 17 CFR 270.0-5(d).”  Applicants must also submit exhibits with marked copies of the application showing changes from the final versions of the two precedent applications.  The application must include an accompanying cover letter:  (i) identifying the two substantially identical applications that serve as precedent, explaining why the applicant chose those particular precedents, and, if more recent applications of the same type have been approved, why the precedents chosen, rather than the more recent applications, are appropriate; and (ii) certifying that the applicant believes the application meets the requirements of Rule 0-5(d)) and that the marked copies required by rule 0-5(e)(2) are complete and accurate.

If an application satisfies the requirements for expedited review, the SEC must issue notice of the application not later than 45 days from the date of filing, unless the staff notifies the applicant that additional time is required for appropriate consideration of the application.  The Adopting Release identified situations such as the SEC considering a change in policy or investigating potential violations of Federal securities laws as examples of situations that would cause the staff to take longer than 45 days to consider the application.  If the staff does so, the applicant would be given the right to withdraw the application or to make changes so that the application could proceed outside of the expedited review process. 

If an applicant files an unsolicited amendment (not in response to SEC comments), the 45 day review period pauses for 30 days upon the filing of the amendment, and then begins to run again.  However, the staff may act before 30 days have elapsed if the amendment encompasses only minor changes. 

In addition, if the staff provides a comment requesting a modification to the application, the comment will pause the 45-day period.  The Adopting Release envisions the Staff requesting these types of modifications to reflect an event that occurred after the filing of an application, to resolve technical matters, or to reflect a revision to a term or condition that the staff has begun to request.  In these instances, the 45-day period would begin to run again 14 days after the applicant has filed an amended application that is responsive to the staff’s request.  If, however, an applicant does not file an amendment that is responsive to the staff’s request for modification within 30 days of receiving the staff’s request, including a marked copy showing any changes made and a certification that the marked copy is complete and accurate, the SEC will deem the application to be withdrawn.  The applicant may submit a new application, but a new timeframe would begin.


PRACTUS NOTE: When the SEC proposed Rule 6c-11 to govern exchange-traded funds, both the SEC and industry commenters noted that with respect to existing ETF exemptive orders, the terms of the exemptive relief evolved over time and subjected ETFs that pursue the same or similar investment strategies to different operational requirements, depending on when relief was sought.  Differences in the terms of its various orders have had varying impact on the structure and costs of an ETF.  It appears that the SEC is willing to take the risk that the same sorts of competitive imbalances arise in connection with expedited review applications as have occurred most notably with ETFs.

Timeframe for “Standard Review” of Applications

Rule 0-5 now calls for the SEC staff to act on a standard review application within 90 days of its initial filing, as well as within 90 days of the filing of each of the first three amendments to the application, and within 60 days of any subsequent amendment to the application.  “Action” on an application or an amendment means:  (i) issuing notice of the application; (ii) providing comments on the application; or (iii) informing the applicants that the staff intends to forward the application to the SEC for its review.  If the staff does not support the requested relief, the staff typically will notify the applicant that it is recommending that the SEC deny the application and provides the applicant with the opportunity to withdraw the application before the recommendation is made. 

If the staff issues comments on an application and the next amendment filed is not responsive to those comments, the staff will repeat such comments, direct the applicant to explain why it did not address the comments, or potentially recommend that the SEC deny the application.

The SEC is also amending Rule 0-5 to deem an application withdrawn if the applicant does not respond in writing to staff comments.  An application will be deemed to be withdrawn if the applicant has not responded in writing to a request for clarification or modification of an application within 120 days after the request was made.  The withdrawal will be without prejudice and the applicant would be free to refile, however the timeline would restart with the new application.

Release of Comments

The SEC stated that it continues to consider publicly disseminating staff comments and responses.  However, because commenters expressed concern about public disclosure possibly chilling the willingness to broach novel products with the SEC and could lead to increased requests for confidential treatment and increased oral communication with the staff, the SEC elected to defer public dissemination of comments and responses at this point. 

Conclusion 

We are cautiously optimistic that the amendments to Rule 0-5 will markedly improve the exemptive application process.  Why only cautiously optimistic?  With respect to expedited processing applications, it will be possible for the staff to slow down the processing of applications by tweaking terms and conditions and insisting on amendments, as well as by taking a very stingy view of what constitutes a substantially identical application.  With regard to standard applications, it will be possible to slow down the processing of applications by issuing a few comments just before the 90-day period elapses, in order to restart the 90 day clock.

Then why not full-on pessimism?  Because we believe that the SEC staff is motivated to implement the rule amendments in good faith.  And because we believe that any stratagems to slow the processing of exemptive applications will make the staff’s processing statistics look worse.  So we see a glass that is half-full (and maybe more than half-full), not half-empty.

 

Expedited Review

Standard Review

Eligibility Application substantially identical to > 2 other applications for which order granting requested relief has been issued < 3 years the application was first filed. All other applications.
What is “Substantially Identical”
  • Same types of entities
  • Same relief requested
  • Same terms
  • Same conditions
 
What if Application is “Substantially Identical”, but there are more recent precedents available? Applicants must explain in cover letter why they chose those precedents and not the more recent ones.  
Procedural Requirements for Expedited Review
  • Cover page legend requesting expedited review.
  • Cover letter identifies relevant precedents.
  • Cover letter certifies the application meets eligibility requirements for expedited review.
 
Review Time Frame
  • Notice < 45 days from filing
  • Unsolicited amendments = 30 day pause
  • Requested amendment = time to file amendment + 14 day pause
< 90 days (60 days after 3rd amendment to application), staff will:
  • Notice application;
  • Give comments; or
  • Notify applicants that application will be forwarded to SEC.
Deemed Withdrawal of Application If Applicant does not respond in writing to staff comments within 30 days of receipt. If Applicant does not respond in writing to staff comments within 120 days of receipt.
Refiling of Applications Deemed Withdrawn Permitted; Review Timeframe begins again. Permitted; Review Timeframe begins again.
Public Release of Staff Comments and Responses No. No.

 


1 Amendments to Procedures With Respect to Applications Under the Investment Company Act of 1940, Investment Company Act Rel. No. 33921 (July 6, 2020).

2 Investment Trusts and Investment Companies: Hearings on S. 3580 Before a Subcomm. of the Senate Comm. on Banking and Currency, 76th Cong., 3d Sess. 197 (1940).

3 Commission Policy and Guidelines for Filing of Applications for Exemption, Investment Company Act Rel. No. 14492 (Apr. 30, 1985), 50 FR 19339, 19340 (May 8, 1985).

4 Division of Investment Management, SEC, Protecting Investors: A Half Century of Investment Company Regulation, Procedures for Exemptive Orders, 510 (1992)  5 SEC Inspector General Report, IM Exemptive Application Processing (Audit No. 408), 1 (Sept. 29, 2006).  6 Adopting Release, supra note 1, at 17.        

5 SEC Inspector General Report, IM Exemptive Application Processing (Audit No. 408), 1 (Sept. 29, 2006).

6 Adopting Release, supra note 1, at 17.