Fifth Circuit Puts the Brakes on SEC’s Private Fund Rules: What’s Next For Private Fund Advisers

In a continuation of recent court decisions overturning the rule-making authority of federal agencies, a recent decision by the U.S. Court of Appeals for the Fifth Circuit vacated the Securities and Exchange Commission’s (SEC) Private Fund Adviser Rules (the “Rules”), which had been adopted in August 2023. The Rules were aimed at increasing regulatory requirements for private fund advisers. Specifically, the Rules, which we have written about previously, would have, among other things, required additional transparency and prohibited certain side letter arrangements that private fund advisers have long utilized.

In the decision, the Fifth Circuit rejected the SEC’s claim that it had authority to adopt the Rules under both Sections 211(h) and 206(4) of the Investment Advisers Act (the “IAA”). Related to Section 211(h) of the IAA, the Court stated bluntly that the statute “applies to ‘retail customers,’ not private fund investors. It has nothing to do with private funds…”.

With respect to Section 206(4) of the IAA, which is the general anti-fraud rule relied upon by the SEC, the Court agreed with the petitioners that the rule did not establish a “close nexus with statutory aims”. More specifically, the Court held that the SEC conflated a lack of disclosure with fraud or deception in the Rules. In stating that private fund advisers were not investment advisers subject to regulation, the Court found that such private fund advisers therefore had no duty to disclose certain information which could lead to a fraud or failure to disclose claim.

This ruling has significant implications for the regulatory landscape affecting private fund advisers by removing the burdensome compliance and reporting requirements that would have been imposed by the Rules. The vacated Rules had been scheduled for compliance starting in September 2024, and while private fund advisers should still familiarize themselves with the Rules in the event the ruling is overturned, this decision halts any immediate need for compliance efforts. The SEC may seek further review, potentially requesting an en banc hearing or appealing to the Supreme Court​; however, as of the date of this Insight, the SEC has not yet announced whether it will appeal the Fifth Circuit’s decision.

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