Staff Responses to Questions About the Family Office Rule
Oct. 12, 2017
Updated as of March 23, 2018
The staff of the Division of Investment Management has prepared the following responses to questions about rule 202(a)(11)(G)-1, the "family office rule" under the Investment Advisers Act of 1940, and expects to update from time to time our responses to additional questions. These responses represent the views of the staff of the Division of Investment Management. They are not a rule, regulation, or statement of the Securities and Exchange Commission, and the Commission has neither approved nor disapproved this information. The adopting release for the rule (dated June 22, 2011, the "Adopting Release") can be found at http://www.sec.gov/rules/final/2011/ia-3220.pdf.
I. Ownership and Control of Family Office
Q: A family office has a board of directors with seven directors, of which four are family members and three are non-family members. Under the governing documents of the family office, each director has an equal voting power and no minority veto power. Does this satisfy the standard set forth in rule 202(a)(11)(G)-1(b)(2) that a family office must be “exclusively controlled” by family members and/or family entities?
A: Yes, assuming there are no special shareholders agreements or other arrangements that would give someone that is neither a family member nor a family entity control over the management or policies of the family office. (Posted January 19, 2012)
Q: All members of the board of directors of the family office are neither family members nor family entities, but they are all appointed by family members that have the right to appoint, terminate, or replace the directors. Does this arrangement satisfy the “exclusively controlled” standard?
A: No, unless the governing documents of the family office provide that matters relating to the management or policies of the family office must be decided by shareholders that are family members or family entities. The right to appoint, terminate, or replace board members, by itself, does not satisfy the “exclusively controlled” standard. (Posted January 19, 2012)
Q: A family office plans to issue non-voting shares to a person that does not qualify as a family client. Would this affect the determination of whether the office is a family office under the new rule?
A: Yes, a family office must be wholly owned by family clients as defined under the rule. A non-family client owning non-voting shares would cause the office to lose its qualification as a family office under the rule. (Posted January 19, 2012)
II. Key Employees
Q: Does the key employee definition include key employees of a family-owned operating company that is not a family office?
A: No, only key employees of the family office or an affiliated family office that serves the same family are included in the definition. (Posted January 19, 2012)
Q: Clause (d)(4)(x) only lists as a family client a trust that is funded and managed by a key employee or, with respect to joint property, his or her spouse/spousal equivalent. What about a trust of a former key employee? Does the rule provide for the same treatment as other investments by a former key employee?
A: Yes, the trust may remain a family client as long as no new funds are transferred to the trust after the key employee became a former key employee. (Posted January 19, 2012)
Q: Clause (d)(4)(x) only lists as a family client a trust that is funded and managed by a key employee or, with respect to joint property, his or her spouse/spousal equivalent. What about a trust of a deceased key employee? Does the rule provide for the same treatment as the estate of a key employee, or would the rule provide for the same treatment as investments by a former key employee? Would it matter if no key employee could act as trustee or make authorized decisions with respect to the trust (i.e., upon the key employee’s death, it would not meet the definition in (d)(4)(x))?
A: Regardless of whether the trust continues to meet the definition in (d)(4)(x) upon the key employee’s death, the rule would provide for the same treatment of the trust as the estate of a key employee. That is, the trust may remain a family client and would not be subject to the limitations on contributing new funds to the trust that apply after a key employee becomes a former key employee. (Posted March 23, 2018)
Q: How would a family office determine the amount of a former key employee’s assets that it could advise as of the effective date of the family office rule (assuming this person invested through the family office both when he or she was a key employee of the family office and afterwards)?
A: The family office should apply the same investment limitations that are described under (d)(4)(iv) of the rule to the assets of this former employee, provided that the effective date of the rule (August 29, 2011) will be deemed to be the end of such individual’s employment. As a result, the family office need only consider the amount of assets this former key employee invested through the family office as of August 29, 2011, plus any additional investments that such person was contractually obligated to make, and that relate to a family-office advised investment existing, in each case prior to August 29, 2011. (Posted January 19, 2012)
Q: Several families that are unrelated through a common ancestor within 10 generations have established a separate family office for each of the families, but they would like to share the employees that provide investment advice to the families. Would such a sharing arrangement be permissible under the family office rule?
A: This kind of an arrangement would not be permissible under the rule. The family office exclusion is applicable only to single-family offices. If two or more families staff their family offices with the same or substantially the same employees that provide investment advice to the families, such employees would be managing a de facto multifamily office. As a result, these family offices would no longer be able to claim the family office exclusion. See the Adopting Release at footnote 114. See also Peter Adamson III, SEC Staff Letter (Apr. 3, 2012). (Posted April 27, 2012).
III. Family Members
Q: Under rule 202(a)(11)(G)-1, may in-laws related through the spouse of the common ancestor or through spouses or spousal equivalents that are family members qualify as family members?
A: No, the rule does not include in-laws as family members or family clients. (Posted January 19, 2012)
Q: Does the definition of family member include descendants of a step child whose parent later divorced the family member stepparent?
A: No. Because under the rule “family client” does not include the spouse or descendant of a former family member, a spouse who the stepchild married or a child born to the stepchild after the stepchild became a former family member is not a family member. However, a family office can continue to provide advisory services to the stepchild because the stepchild is still a family client. (Posted January 19, 2012)
Question III. 3
Q: What are examples of a “cohabitant occupying a relationship generally equivalent to that of a spouse” that would qualify as spousal equivalents under the family office exclusion?
A: Examples of spousal equivalents include same-sex domestic partners as well as opposite sex partners that have determined not to marry even though they live together in a relationship generally equivalent to married couples. (Posted January 19, 2012)
Question III. 4
Q: Would an individual that is part of a same-sex couple that qualifies as a domestic partnership under state law be a spousal equivalent under rule 202(a)(11)(G)-1?
A: Yes. (Posted January 19, 2012)
IV. Non-Advisory Services
Q: A family office provides non-advisory services (such as catering, tax filing, accounting, housekeeping) to non-family members. Do these activities affect the determination of whether the office is a family office under the rule?
A: No. However, advisory services cover a broad range of activities and a family office should consider carefully whether any of the services it provides to non-family members are advisory services that make it subject to the Advisers Act. (Posted January 19, 2012)
Question IV. 2
Q: A charitable organization that is a family client receives funds and securities from a third party contributor. The family office managing the charitable organization refrains from giving investment advice with respect to such assets by: (1) putting the assets in a separate account segregated from other accounts of the charitable organization managed by the family office, (2) providing only administrative services to such an account, and (3) entering into an agreement with the contributor that if any investment advice is needed with respect to such an account, the contributor will hire his or her own investment adviser. Would such an arrangement affect the determination of whether the office is a family office under the rule?
A: No. However, investment advice is broadly interpreted under the Advisers Act. A family office with these types of arrangements should consult with its legal counsel to make sure that any service provided by the family office with respect to such an account would not be the provision of investment advice. (Posted January 19, 2012)
V. Grandfathering Provision
Q: Certain family office employees do not meet the definition of “key employees” but they and their investments meet the conditions provided under paragraph (c) of rule 202(a)(11)(G)-1 (“grandfathering provision”). Will they be permitted to make new investments without affecting the determination of whether the office is a family office under the rule?
A: Yes, they may make new investments as long as they satisfy the conditions contained in the grandfathering provision. (Posted January 19, 2012)