The following are summaries of key developments in the investment management industry. More detailed coverage of these and other topics can be found using this link. 

SEC Issues Guidance on the “Testimonial Rule”

Following two recent cases involving investment advisers and social media, the SEC recently issued guidance regarding whether the publication of comments about investment advisers on social media sites would violate those portions of the Investment Advisers Act of 1940 that govern fraudulent communications by registered investment advisers (RIAs). The new guidance provides that:

• Publishing clients’ experiences on the RIA’s own website, or on the RIA’s social media site, is prohibited as a testimonial.
• Social media sites that include a listing of contacts or “friends” will generally not be considered a testimonial or endorsement of the RIA, unless the RIA attempts to infer that the list of friends have experienced favorable results as clients.
• Directing clients to social media services owned or operated by the RIA is not deemed to be soliciting testimonials from clients.
• Communications by third-party websites or content producers who are independent, i.e., have “no material connection” to the RIA, are not prohibited testimonials.

RIAs likely will have to conduct additional monitoring and adopt new policies and procedures to ensure compliance with the updated guidance. RIAs must weigh their obligation to comply with these conditions against the benefit of using social media commentary in advertisements.

SEC Focuses Independent Fund Trustees on Audit Quality

Paul Beswick, chief accountant of the SEC, recently urged fund audit committees to focus on audit quality rather than price, saying: “[I]f the audit committee is solely fee hunting and if there was a subsequent audit failure, beyond the obvious problems for the auditor and the company, this may raise questions about the diligence of the members of the audit committee in fulfilling their responsibilities.”

These comments came after the Public Company Accounting Oversight Board (PCAOB) issued a report critical of the adequacy of current auditor reviews. The report noted that audits were generally deficient due to a failure by audit committees and other designated company reviews to properly assess independent audits.

Proposed Changes to Taxation of Carried Interest

Though it is unlikely significant changes in tax law will be made during an election year, there are some small signs of a convergence of thinking regarding the nearly decade-long debate on the tax treatment of equity compensation paid to managers of hedge funds and private equity funds.

The Obama administration’s recent budget and revenue proposals would generally tax the “carried interest” amounts at ordinary income tax rates and subject them to self-employment tax without regard to a provider’s status as a limited partner. However, recent announcements from the administration suggest that it is willing to negotiate the percentage of the “carried interest” that may be recharacterized.

In the meantime, the Republican Chairman of the House Ways and Means Committee, U.S. Rep. David Camp (R-MI), has released a draft of the Tax Reform Act of 2014 that contains a similar proposal to recharacterize “carried interest” amounts when realized as ordinary income. The proposal limits the amounts to be recharacterized to a cumulative “recharacterization account” this is to be annually redetermined under a complex formula.

Although neither is likely to be adopted this year, the change in the Republican tax reform proposal suggests that the taxation of “carried interest” will be up for discussion in the 2015 budget and revenue negotiations.