The Securities and Exchange Commission (the SEC) has issued a concept release (the Release) to request comments on Section 3(c)(5)(C) under the Investment Company Act of 1940, as amended (the 1940 Act). 76 Fed. Reg. 55300, Investment Company Act Rel. No. 29778 (Aug. 31, 2011). In announcing the concept release, Chairman Mary Shapiro noted “in some cases, certain REITs and potentially other mortgage-related pools relying on the [mortgage] exclusion can to some investors – particularly retail investors – look very much like traditional investment companies.” The Release seeks information regarding how the Section 3(c)(5)(C) exclusion has been interpreted by certain REITs. The Release was issued at the same time as a companion release on Rule 3a-7 under the 1940 Act, which provides an exclusion for certain asset-backed securities issuers. The Release appears to be a precursor to a staff study similar to the 1992 “Protecting Investors: A Half Century of Investment Company Regulation” study. Comments are due November 11, 2011.

Background

Section 3(c)(5)(C) generally excludes from the definition of “investment company” any person “who is not engaged in the business of issuing redeemable securities, face-amount certificates of the installment type or periodic payment plan certificates” and who is primarily engaged in, among other things, “purchasing or otherwise acquiring mortgages and other liens on and interests in real estate.” The Release observes that Section 3(c)(5)(C) was enacted in 1940 to exclude from regulation under the 1940 Act companies that “were engaged in the mortgage banking business and did not resemble, or were not considered to be, issuers that were in the investment company business.” However, since that time, as the mortgage markets have evolved and expanded, a “wide variety of companies, many of them unseen in 1940, have relied upon Section 3(c)(5)(C).” The Release notes that the statutory exclusion provided by Section 3(c)(5)(C) lacks an extensive legislative history and has not been comprehensively addressed by the SEC since 1960. Rather, Section 3(c)(5)(C) has been addressed on a case-by-case basis by SEC staff.