Rule 12d3-1 Supporting Statement 2019

SUPPORTING STATEMENT
For the Paperwork Reduction Act Information Collection Submission for
Rule 12d3-1
A.

JUSTIFICATION
1.

Necessity for the Information Collection

Section 12(d)(3) of the Investment Company Act of 1940 (15 U.S.C. 0a-1 et seq.)
(“Investment Company Act”) generally prohibits a registered investment company (“fund”) and
companies controlled by the fund from purchasing securities issued by a registered investment
adviser, broker, dealer, or underwriter (“securities-related businesses”). 1 Rule 12d3-1 (17 CFR
270.12d3-1) permits a fund to invest up to five percent of its assets in securities of an issuer
deriving more than fifteen percent of its gross revenues from securities-related businesses, but a
fund may not rely on rule 12d3-1 to acquire securities of its own investment adviser or any
affiliated person of its own investment adviser. 2
A fund may, however, rely on an exemption in rule 12d3-1 to acquire securities issued by
its subadvisers in circumstances in which the subadviser would have little ability to take
advantage of the fund, because it is not in a position to direct the fund’s securities purchases.
This exemption in rule 12d3-1 is available if: (i) the subadviser is not, and is not an affiliated
person of, an investment adviser that provides advice with respect to the portion of the fund that
is acquiring the securities; and (ii) the advisory contracts of the subadviser, and any subadviser
that is advising the purchasing portion of the fund, prohibit them from consulting with each other
concerning securities transactions of the fund, and limit their responsibility in providing advice

1

15. U.S.C. 80a-17(d)(3). 2

2

See 17 CFR 270.12d3-1(b); 17 CFR 270.12d3-1(c)(3).

See 17 CFR 270.12d3-1(b); 17 CFR 270.12d3-1(c)(3).

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to providing advice with respect to discrete portions of the fund’s portfolio. 3
2.

Purpose and Use of the Information Collection

The rule requires funds to amend their subadvisory contracts before they can rely on rule
12d3-1’s exemption to ensure that the subadviser that engages in the transaction does not
influence the fund’s investment decision to engage in the transaction.
3.

Consideration Given to Information Technology

To the extent the rule includes recordkeeping requirements, the Electronic Signatures in
Global and National Commerce Act 4 and the conforming amendments to recordkeeping rules
under the Investment Company Act permit funds to maintain records electronically.
4.

Duplication

The requirement regarding limitations in the subadviser’s contracts is similar to
conditions in exemptive rules 10f-3 5(permitting, under certain conditions, a fund to purchase
securities from underwriting syndicates whose members include affiliated persons of the
purchasing fund), 17a-10 6 (permitting a fund’s subadviser to enter into certain transactions with
their affiliated subadvisers), and 17e-1 7 (governing the receipt of compensation by a broker
affiliated with a fund in connection with securities transactions by the fund). To the extent that a
fund relies on more than one of these rules, its subadviser may use the same contract language to
satisfy the comparable condition in the other rules.
3

See 17 CFR 270.270.12d3-1(c)(3).

4

P.L. 106-229, 114 Stat. 464 (June 30, 2000).

5

17 CFR 270.10f-3.

6

17 CFR 270.17a-10.

7

17 CFR 270.17e-1.

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5.

Effect on Small Entities

Rule 12d3-1’s exemptive relief is conditioned upon funds including certain provisions in
their advisory contracts to ensure that fund interests are the primary consideration for otherwise
prohibited transactions; these conditions apply equally to all funds, including small entities.
6.

Consequences of Not Conducting Collection

Rule 12d3-1 requires that a fund’s subadvisory contract be either initially drafted or
amended to qualify for the rule’s exemption. This is not a recurring requirement; less frequent
collection is not possible.
7.

Inconsistencies with Guidelines in 5 CFR 1320.5(d)(2)

Not applicable. The collection is not inconsistent with 5 CFR 1320.5(d)(2).
8.

Consultation Outside the Agency

The Commission requested public comment on the collection of information
requirements in rule 12d3-1 before it submitted this request for approval to the Office of
Management and Budget. The Commission received no comments in response to this request.
More generally, the Commission and the staff at the Division of Investment Management
participate in an ongoing dialogue with representatives of the investment company industry
through public conferences, meetings, and informal exchanges. These various forums provide
the Commission and the staff with a means of ascertaining and acting upon paperwork burdens
confronting the industry.
9.

Payment or Gift
Not applicable.

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10.

Confidentiality
Not applicable.

11.

Sensitive Questions

No information of a sensitive nature, including social security numbers, will be required
under this collection of information. The information collection does not collect personally
identifiable information (PII). The agency has determined that a system of records notice
(SORN) and privacy impact assessment (PIA) are not required in connection with the collection
of information..
12.

Burden of Information Collection

The following estimates of average burden hours are made solely for the purposes of the
Paperwork Reduction Act. The estimates are not derived from a comprehensive or even a
representative survey or study of the costs of Commission rules.
The staff believes that all existing funds with subadvisory contracts amended those
contracts to comply with the rule following amendments to rule 12d3-1 in 2002 that conditioned
certain exemptions upon these contractual alterations, and that after that one-time change, there
is no continuing burden for those funds. However, the staff assumes that all newly formed
subadvised funds, and funds that enter into new contracts with subadvisers, will incur the onetime burden by amending their contracts to add the terms required by the rule.
Based on an analysis of fund filings, the staff estimates that approximately 216 funds
enter into such new subadvisory agreements each year. 8 Based on discussions with industry
8

Based on data from Morningstar Direct, as of December 31, 2018, there are 12,459 registered
funds (open-end funds, closed-end funds, and exchange-traded funds), 4,615 of which have
subadvisory relationships (approximately 37%). 583 new funds were established in 2018. 583
new funds x 37% = 216 funds.

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representatives, the staff estimates that it will require approximately 3 attorney hours to draft and
execute additional clauses in new subadvisory contracts in order for funds and subadvisers to be
able to rely on the exemptions in rule 12d3-1. Because these additional clauses are identical to
the clauses that a fund would need to insert in their subadvisory contracts to rely on rules 10f-3,
17a-10, and 17e-1 and because we believe that funds that use one such rule generally use all of
these rules, we apportion this 3 hour time burden equally to all four rules. Therefore, we
estimate that the burden allocated to rule 12d3-1 for this contract change would be 0.75 hours. 9
Assuming that all 216 funds that enter into new subadvisory contracts each year make the
modification to their contract required by the rule, we estimate that the rule’s contract
modification requirement will result in 162 burden hours annually, with an associated time cost
of approximately $64,962. 10
Table 1: Summary of Revised Annual Responses, Burden Hours, and Burden Hour
Costs Estimates for Each Information Collection
Annual No. of Re sponses
Previously
Requested
Change
approved

Annual Time Burden (Hrs.)
Previously Requested
Change
approved

Cost Burde n ($)
Previously
Requested
approved

Change

319

239

92,351

-27,389

216

-103

162

-77

64,962

9

This estimate is based on the following calculation (3 hours ÷ 4 rules = .75 hours).

10

These estimates are based on the following calculations: (0.75 hours × 216 funds = 162 burden
hours); ($401 per hour × 162 hours = $64,962 total cost). The Commission’s estimates
concerning the wage rates for attorney time are based on salary information for the securities
industry compiled by the Securities Industry and Financial Markets Association. The estimated
wage figure is based on published rates for in-house attorneys, modified to account for an 1,800hour work-year and inflation, and multiplied by 5.35 to account for bonuses, firm size, employee
benefits, and overhead, yielding an effective hourly rate of $401. See Securities Industry and
Financial Markets Association, Report on Management & Professional Earnings in the Securities
Industry 2013.

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13.

Cost to Respondents

We estimated that there is no cost burden of rule 12d3-1, other than the respondent
recordkeeping burden identified in Item 12 of this Supporting Statement. Compliance with the
rule is part of customary and usual investment company business practice to ensure compliance
with applicable laws and regulations.
14.

Cost to the Federal Government

The rule does not require anything to be filed with the Commission. Commission staff
may, in the course of routine fund inspections, monitor compliance with the rule.
15.

Changes in Burden

Rule 12d3-1 has a current annual burden of 239 hours and no costs. We estimate the
hour burden associated with rule 12d3-1 has decreased to 162 hours since our last burden
analysis due to a change in our estimate of the number of funds using subadvisers, for a total
decrease of 38 burden hours. The cost burden has not changed.
16.

Information Collection Planned for Statistical Purposes

The results of any information collected will not be published.
17.

Approval to Omit OMB Expiration Date

The Commission is not seeking approval to not display the expiration date for OMB
approval.
18.

Exceptions to Certification Statement for Paperwork Reduction Act

Submissions

The Commission is not seeking an exception to the certification statement.
B.

COLLECTIONS OF INFORMATION EMPLOYING STATISTICAL METHODS

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Not applicable.