On April 29, 2024, the SEC announced the settlement of administrative proceedings brought against a registered investment adviser for alleged violations of Section 17(d) of the Investment Company Act of 1940, Rule 17d-1 thereunder, and Section 206(2) of the Investment Advisers Act of 1940 related to an impermissible joint legal fee arrangement with its mutual fund client.
According to the order, the adviser and the fund began receiving inquiries from the SEC and another regulator beginning in February 2017 related to the fund’s recent significant losses, and this was followed by two private lawsuits filed in April 2017 and August 2017. The SEC alleged that the adviser and the fund retained the same legal counsel because the regulators’ inquiries and the private lawsuits involved overlapping facts and legal issues. The SEC further alleged that the adviser did not have an insurance policy to cover its legal costs from the inquiries and lawsuits, while the fund did have an insurance policy that would cover its legal costs from these matters. According to the order, the adviser initially arranged for the fund to pay all legal fees and costs related to the regulatory inquiries and private lawsuits, including for the adviser’s legal representation, without the approval or knowledge of the fund’s independent trustees, and that between May 2017 and March 2020 the fund paid approximately $2.5 million in legal fees and costs associated with counsel’s representations of both entities. The adviser subsequently reimbursed the fund for a portion of the legal expenses. The SEC alleged that the adviser benefitted from the impermissible joint arrangement by, among other things, deferring payment of its legal bills for multiple years.
The SEC found that the adviser willfully violated Section 17(d) of the Investment Company Act and Rule 17d-1 thereunder, which generally prohibit any affiliated person of a registered investment company, acting as principal, from participating in or effecting any transaction in any joint enterprise with the registered investment company, and Section 206(2) of the Advisers Act, which makes it unlawful for an adviser to engage in fraud or deceit upon any client or prospective client. Without admitting or denying the allegations, the adviser agreed to cease and desist from future violations, to be censured, and to pay disgorgement and interest totaling approximately $310,000 (offset by a prior payment to the fund) and a civil monetary penalty of $200,000.
The SEC’s order is available here, and a related press release is available here.
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