On July 6, 2020, the US Securities and Exchange Commission (the SEC) announced that it voted to adopt rule amendments (the Amended Rule) intended to improve the efficiency of the exemptive application review procedures available under the Investment Company Act of 1940, as amended (the 1940 Act).1 The amendments (a) establish an expedited review process for “routine” exemptive applications, and (b) shorten the timeline for all other exemptive applications, herein referred to as “novel” applications. The rule amendments were originally proposed in October 2019 (the Proposed Rule) and were adopted with minor changes in response to comments received from the public. The Amended Rule will be effective 270 days following publication in the Federal Register.
Existing review procedures
The 1940 Act, which Congress originally passed with the intent of curtailing rampant abuse in the investment company industry, places a number of prohibitions on investment companies. However, to provide flexibility, the drafters of the 1940 Act empowered the SEC to grant exemptive relief from the provisions of the 1940 Act, provided the exemption is “necessary or appropriate in the public interest and consistent with the protection of investors….”2
Under the existing process, applicants file an application with the SEC to request exemptive relief. The staff of the SEC (the Staff) then reviews the application and may issue comments or request modifications to the application to ensure that the application meets the standards of the 1940 Act. The applicants then respond by filing an amended application. This process continues, and there can be multiple rounds of comments and amendments, until the Staff determines that the requisite standards have been met, or concludes to deny the application. If the Staff determines that the requisite standards have been met, the Staff must also conclude that the application does not present significant new issues of fact or policy (which would require additional review and approval). As the next step, which is generally the final step before an exemptive order is granted, the SEC will publish a notice in the Federal Register giving interested persons an opportunity to request a hearing on the application. If no hearing request is received by the expiration of the period set forth in the notice (which is typically 25 days), the SEC will issue an order granting the exemptive relief.
The comment process for exemptive applications can be lengthy, and the SEC and the Staff have made attempts over time to increase efficiency. In 1993, the SEC proposed amendments to Rule 0-5 to establish expedited review procedures for certain applications, but no final amendments were adopted.3 In 2008, the Staff implemented an internal performance target of providing initial comments on at least 80% of applications within 120 days.4 By 2010, the Staff was meeting this target on a consistent basis, and for exemptive applications filed on or after June 1, 2019, the Staff has said it intends to provide initial comments within 90 days of the filing.5 Based on our experience dealing with the historic 120-day review period, for the initial filing of an exemptive application, the Staff typically takes the full duration of the 120-day period to review. Each subsequent amendment filing typically takes less than 120 days for the Staff to review, but can still take the full 120 days. As noted above, most applications require multiple cycles of review and comment before the Staff can complete its review and issue a notice. As a result, depending on the nature of relief being sought, the process from filing an initial application to receiving a notice from the Staff can take six to nine months, or longer. The Amended Rule is expected to significantly reduce this timeline.
Amendments to Rule 0-5
The amendments to Rule 0-5 are intended to create efficiencies in the application review process by categorizing applications as either “novel” or “routine,” and establishing a timeline and review process for each category, as described below.
Expedited review of routine applications
Eligibility for expedited review
Amended Rule 0-5(d)(1) will allow applicants to request expedited review for “routine applications,” i.e., applications substantially similar to at least two other applications for which an order granting exemptive relief has been issued within three years of the application’s filing date—an extension from the Proposed Rule, which only contemplated a two-year lookback. Under Amended Rule 0-5(d)(2), a “substantially similar” application is defined as an application (i) requesting relief from the same sections of the 1940 Act, (ii) containing identical terms and conditions, and (iii) differing only in terms of factual differences that are not material to the requested relief.6
In the release accompanying the Amended Rule (the Adopting Release), the SEC elaborated that the use of “terms” in Amended Rule 0-5(d)(2) refers to the representations in an application that are material to the requested relief. The SEC noted that terms are separate and apart from any express conditions included in the application. The reference to “identical” terms and conditions means that not only must the substance of the application’s terms and conditions align with precedent, but the wording of such terms and conditions must also be the same. The SEC explained that based on the Staff’s experience, applications that involve the same types of entities, request the same relief, and are subject to the same terms and conditions as precedent would usually be “substantially identical” notwithstanding minor differences, such as different names and places of legal organization.
The Proposing Release discussed that some types of applications may be excluded from the expedited review process because they were generally too fact specific for expedited review. In the Adopting Release, the SEC noted that it was not explicitly excluding any particular types of applications from expedited review. However, the SEC does continue to believe, based on Staff experience, that certain lines of applications will generally not satisfy the “substantially identical” standard because they are too fact-specific to meet such standard. The SEC did explain that if circumstances were to arise, however, in which an application in those lines can satisfy the “substantially identical” standard, the Staff may be able to proceed under the expedited review process.
The SEC specifically noted in the Adopting Release that co-investment applications that meet the substantially identical standard would also be eligible for expedited review. In the Proposing Release, the SEC had noted that co-investment applications would usually not meet the standard for expedited review because co-investment applications typically include different terms and conditions than those of precedent applications. It appears, based on the Adopting Release, that the SEC recognizes that certain co-investment applications may be able to satisfy the substantially identical standard. In fact, most co-investment applications have the exact same conditions, so the question will be whether the other terms of the application are substantially similar enough to qualify for expedited review. This may be a difficult task as the terms of applications may vary based on the affiliations of the applicants. However, in the last three years the SEC has granted over 35 co-investment orders to applicants, so it may be possible to find precedent with substantially identical terms.
Additional information required for expedited review
Applicants seeking expedited review will need to include certain information with the application under Amended Rule 0-5(e).
- Rule 0-5(e)(1) requires that the cover page of the application include a notation prominently stating “EXPEDITED REVIEW REQUESTED UNDER 17 CFR 270.0-5(d).”
- Rule 0-5(e)(2) requires applicants to submit exhibits with marked copies of the application showing changes from the final versions of the two precedent applications.
- Rule 0-5(e)(3) requires an accompanying cover letter, signed, on behalf of the applicant, by the person executing the application, (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 17 CFR 270.0-5(d) (rule 0-5(d)) and that the marked copies required by rule 0-5(e)(2) are complete and accurate.
Expedited review timeframe
Amended Rule 0-5(f) establishes a 45-day timeline for expedited review, meaning that the notice of an application will be issued no later than 45 days from filing unless the SEC determines that the application is ineligible for expedited review or the Staff determines that further consideration is required. If the Staff notifies an applicant under Rule 0-5(f)(1)(ii) that the application is ineligible for expedited review, the applicant will have the option to either (a) withdraw the application, or (b) amend the application so it may proceed through the standard review process.
If the Staff requests that an applicant amend its application, the 45-day period will pause7]and will not resume until 14 days after the amended application was filed. If an applicant files an unsolicited amendment—to correct or update factual information, for example—the 45-day period will pause upon the filing of the amendment and will resume upon the 30th day after the amendment is filed.8 Additionally, if an applicant does not respond to a Staff request for modification of an application within 30 days, the exemptive application would be deemed withdrawn without prejudice.
Standard review of novel applications
The Amended Rule also includes a new internal timeline for all other “novel” exemptive applications that do not qualify for expedited review because they seek “largely unprecedented relief or relief for which some [SEC] precedent exists but that raises additional questions of fact, law, or policy.” Under the Amended Rule, the Staff will follow a “standard review” process for all such novel exemptive applications.
Under the standard review process, the SEC should take action on an application within 90 days of the filing of the initial application and each of the first three amendments thereto.9 After that, any subsequent amendment should be addressed within 60 days. The “action” may include issuing a notice, providing applicants with comments, or informing the applicants that the application will be forwarded to the Commissioners for review. In addition, the Staff may grant other 60-day extensions to the timeframe, and applicants should be notified of any such extension.10
If an applicant does not respond in writing to a request for modification within 120 days, the application will be deemed withdrawn. The applicant could refile the application and the 90-day timeframe would restart. Historically, the SEC Staff has deemed such applications to be “inactive” rather than “withdrawn.”
No public dissemination of comments
In the Proposed Rule, the SEC announced its intention to publicly disseminate the Staff’s comments on applications, and the applicant’s responses to those comments in order to improve the transparency of the application process. However, commenters overwhelmingly responded negatively to the suggestion, arguing that it would discourage innovation and that such information would provide little use to investors. Accordingly, in the Adopting Release, the SEC stated that the question of whether to publicly release comments and responses will require further consideration and comments and responses will not be released at this time.
Impact on business development companies and other investment companies
The Amended Rule is expected to greatly accelerate the timing of the processing of routine requests for exemptive relief, assuming they meet the requirements discussed above. Novel applications will still benefit from the new internal guidelines for the shorter standard review timeline.
The full text of the Adopting Release and the Amended Rule can be accessed at https://www.sec.gov/rules/final/2020/ic-33921.pdf.
1 Any section or rule references within this alert refer to the 1940 Act and the rules promulgated thereunder unless otherwise stated.
2 Section 6(c) of the 1940 Act.
3 See Expedited Procedure for Exemptive Orders and Expanded Delegated Authority, Investment Company Act Release No. 19362 (March 26, 1993).
4 See US Securities and Exchange Commission 2008 Performance and Accountability Report, at 40.
5 See Fiscal Year 2019, Congressional Budget Justification Annual Performance Plan, Fiscal Year 2017, Annual Performance Report, at 99.
6 Because the previous examples must be substantially similar to an applicant’s submission, applicants will not be permitted to mix and match precedent to achieve the relief requested.
7 The 45-day period will also pause upon any irregular closure of the SEC’s Washington, DC office to the public for normal business, including, but not limited to, closure due to a lapse in Federal appropriations, national emergency, inclement weather, or ad hoc Federal holiday. The 45-day period will resume upon the reopening of the SEC’s Washington, DC office to the public for normal business.
8This timeframe was reduced from the 45 days proposed under the Proposing Release.
9 The timeline provided by this proposed rule is intended to provide an internal, non-binding timeline and will not create an enforceable right by any interested party.
10 This rule provides informal non-binding guidelines for the Staff and procedures that the SEC anticipates the Staff following.