Capital Management Services Group Offering Advice & Services to Traders | Investors | Funds Qualified Clients
Qualified Clients and Performance Fees SEC registered (and many state registered) hedge fund managers can charge a performance fee (also referred to as an incentive allocation or performance allocation) only to qualified clients. The performance fee cannot be charged to accredited or non accredited investors. Currently, Rule 205-3 issued under the Investment Advisers Act of 1940 defines a qualified client as:
1. A natural person who or a company that has at least $1,000,000 under the management of the investment adviser; or 2. A natural person who or a company that the investment adviser reasonably believes has a net worth (together, in the case of a natural person, with assets held jointly with a spouse) of more than $ 2,000,000.
Under prior law, a qualified client was defined as an investor that: (i) had at least $750,000 in AUM with the RIA that held the advisory contract; or (ii) has a net worth of more than $1.5 million.
Grandfathered Qualified Clients A new grandfather provision to the performance fee rule permits registered investment advisors to continue to charge clients performance fees if the clients were considered “qualified clients” before the February 2012 rule changes. It is unclear whether this would also extend to additional investments made by such clients.
Newly Registered Investment Advisers This provision affect investment advisers who are required to register with the SEC for the first time as a result of Dodd-Frank. If a previously exempt adviser subsequently registers, the new thresholds would not apply to contracts entered into prior to registration.
Exclusion of the Value of Primary Residence from Net Worth Determination A person's primary residence shall not be included as an asset. Indebtedness that is secured by the primary residence (i.e. a mortgage or home equity loan), up to the estimated fair market value of the primary residence shall not be included as a liability, unless indebtedness was incurred less than 60 days prior to the purchase of the securities; and indebtedness that is secured by the person's primary residence that is in excess of the fair market value of the residence shall be included as a liability. The SEC added the 60-day look-back rule for any indebtedness incurred on the primary residence to discourage people from borrowing against their homes in order to qualify as a qualified client. Consequently, any investor who converts home equity, which otherwise is excluded, into cash or other assets must exclude this indebtedness as if it was incurred within 60 days of purchasing the securities. The SEC believes that having a look-back period will make it more difficult for advisers to encourage investors to manipulate their net worth by borrowing against their primary residence.
Hedge Fund Subscription Agreement Explanation of Qualified Client
Below are the Qualified Client categories:
Individual or Company with Net Worth In Excess of $2 Million. A natural person or company whose net worth (or, in the case of a natural person, joint net worth with his or her spouse) at the time of entering into this Agreement exceeds $2,000,000. Explanation: In calculating net worth, you may include your equity in personal property and real estate, including your principal residence, cash, short-term investments, stock and securities. Your inclusion of equity in personal property and real estate should be based on the fair market value of such property less debt secured by such property.
or
Individual or Company with $1,000,000 under Management. A natural person or company who has at least $1,000,000 under the management of the General Partner immediately after entering into this Agreement.
or
Individual or Company who is a Qualified Purchaser under 1940 Act. A natural person or company who is a qualified purchaser as defined in Section 2(a)(51)(A) of the 1940 Act at the time of entering into this Agreement.
or
Executive Officer, Director, Partner etc. of General Partner. A natural person who is an executive officer, director, trustee, general partner, or person serving in a similar capacity, of the General Partner.
or
Employee of General Partner. A natural person who is an employee of the General Partner (other than an employee performing solely clerical, secretarial or administrative functions with regard to the General Partner) who, in connection with his or her regular functions or duties, participates in the investment activities of the General Partner, provided that such employee has been performing such functions and duties for or on behalf of the General Partner, or substantially similar functions or duties for or on behalf of another company, for at least 12 months.
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