Financial Services Alert - September 2, 2014

Securities registration fee rates for mutual funds registered under the Investment Company Act of 1940 (the “1940 Act”) will be decreasing nearly 10%, effective October 1, 2014.  Mutual fund registration fees are calculated based on the rate that is in effect on the date of their annual fee filing on Form 24F-2.  Pursuant to Rule 24f-2 under the 1940 Act, a mutual fund is required to file a Form 24F-2 accompanied by the registration fee within 90 days after its fiscal year.  The fee rate in effect at the time of filing Form 24F-2 applies to all securities sold during the fiscal year.  Accordingly, mutual funds that, by virtue of the timing of their fiscal year end, are in a position to defer the payment of registration fees (in particular, funds with fiscal years ending in July or August that might ordinarily make an early filing in September)  should consider making Form 24F-2 filings on or after October 1, 2014.  Form 24F-2 filings submitted to the SEC before 5:30 p.m. ET on Tuesday, September 30, 2014 will be subject to the current fee rate of $128.80 per million dollars.  Filings submitted after that time will be subject to the new fee rate of $116.20 per million dollars.

This article relates specifically to mutual fund filers.  Other public companies should also consider whether they can achieve cost savings by deferring an upcoming filing.

Additional information on the fee rate increase is available on the SEC website at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370542803095.

The SEC announced  that it adopted new rules and rule amendments (collectively, the “Final Rules”) that revise the offering process, disclosure and reporting requirements for publicly-offered asset-backed securities (“ABS”).  In part, the Final Rules implement mandates under the Dodd-Frank Act.  Among other things, the Final Rules (1) require issuers to provide standardized asset-level information for ABS backed by residential mortgages, commercial mortgages, auto loans, auto leases, and debt securities (including resecuritizations), (2) require ABS issuers using a shelf registration statement to give investors additional time to analyze the specific structure, assets, and contractual rights for an ABS transaction, (3) replace the existing investment grade requirement for ABS shelf offering eligibility with transaction requirements and make other changes to ABS shelf offering procedures and forms, and (4) revise ABS prospectus disclosure and ongoing reporting requirements.  Although the definitive adopting release is not yet publicly available, additional detail can be found in a draft final rule.

The Final Rules become effective 60 days after the date the adopting release is published in the Federal Register (the “Publication Date”).  The compliance date for the new asset-level disclosure requirements is two years after the Publication Date.  The compliance date for remainder of the Final Rules is one year after the Publication Date.

The SEC adopted new rules and rule amendments (collectively, the “Final Rules”) that impose a range of additional requirements on credit rating agencies registered as nationally recognized statistical rating organizations (“NRSROs”) and create new obligations for issuers, underwriters, and third-party due diligence services with respect to third-party due diligence regarding asset-backed securities.  The Final Rules respond to a number of rulemaking mandates under the Dodd‑Frank Act.

The new requirements for NRSROs address (a) considerations and reporting related to internal controls, (b) conflicts of interest relating to sales and marketing activities, (c) disclosure of credit rating performance statistics, (d) procedures relating to the approval, implementation and transparency of rating methodologies, (e) quantitative and qualitative disclosures to accompany credit ratings, (f) standards for training, experience, and competence of credit analysts and (g) annual certifications by NRSRO CEOs as to the effectiveness of internal controls and certifications to accompany credit ratings attesting that the rating was not influenced by other business activities.

The Final Rules have multiple effective dates with the earliest being 60 days after publication of the adopting release in the Federal Register.

The staff of the SEC’s Division of Investment Management (the “Staff”) granted no-action relief for the implementation of an adjustment in the fee paid by a mutual fund’s adviser to the fund’s subadviser, without shareholder approval.

Background.  RiverNorth/DoubleLine Strategic Income Fund (the “Fund”) is a registered open‑end fund.  RiverNorth Capital Management, LLC (the “Adviser”) serves as the Fund’s adviser under an advisory agreement with the Fund (the “Advisory Agreement”).  The Adviser has entered into a subadvisory agreement (the “Subadvisory Agreement”) with the Fund’s sole subadviser, Doubleline Capital, LP (the “Subadviser”).  The Adviser allocates a portion of the Fund’s portfolio to the Subadviser for it to manage, and manages the remainder itself.  The Subadviser’s fee under the Subadvisory Agreement, which is paid by the Adviser, is currently based on the value of the assets the Subadviser manages net of Fund expenses.

Subadvisory Fee Amendment.  Without seeking the approval of Fund shareholders under Section 15(a) of the Investment Company Act of 1940 (the “1940 Act”), the Adviser has proposed to implement an amendment to the Subadvisory Agreement under which the Subadviser’s fee would be calculated based on the gross value of the assets it manages, without any deduction for Fund expenses (the “Amendment”).  As a reason for this change, the Adviser cited the fact that the Subadviser has little control over Fund operating expenses.  As a justification for the requested relief, the Adviser noted that the adjustment would have no effect on the advisory fee paid by the Fund under the Advisory Agreement or the services performed.  The Fund’s board of trustees, including a majority of the trustees who are not interested persons (as defined by Section 2(a)(19) of the 1940 Act), determined that the Amendment would be in the best interests of the Fund and its shareholders and approved the implementation of the Amendment, pending receipt of assurance from the Staff regarding the need for a shareholder vote.

Basis for Relief.  In granting the requested relief with respect to shareholder approval of the Amendment, the Staff stated that its position was based particularly on the following representations from the Adviser:

• there will be no increase in advisory fees rates charged to the Fund and its shareholders;
• neither the Adviser or the Subadviser will reduce or modify in any way the nature and level of its services with respect to the Fund;
• the Amendment will be approved in accordance with the provisions of Section 15 of the 1940 Act, other than the shareholder vote requirement; and
• the Fund will provide appropriate notice about the Amendment to existing and prospective shareholders.

RiverNorth, SEC No-Action Letter (pub. avail. July 28, 2014).

The OCC released an interpretive letter (“Letter #1142”) in which it concluded that a national bank’s proposal to arrange for third-party repair and maintenance service providers to service on-lease railcars and act as an intermediary between railcar lessees and third-party service providers is permissible and meets the OCC’s requirements (including the “net lease” requirement) under 12 C.F.R. Part 23, the OCC’s property leasing regulations.

The OCC authorizes national banks under 12 U.S.C. § 24 (Seventh) to engage in personal property leasing because such leases, generally, are the functional equivalent of a secured loan.  Under Section 23.3(a) of the OCC’s regulations, however, to be permissible, a personal property lease must be a “net lease,” i.e., a lease “ under which the national bank will not, directly or indirectly, provide or be obligated to provide for…servicing, repair or maintenance of the leased property during the leased term.”  An exception to this requirement is provided by the OCC in Section 23.3(b)(3), which allows a national bank to arrange for third parties to provide servicing, repair and maintenance of the property, provided that the costs of the services are to be borne by the lessee rather than the national bank.  In Letter #1142, the OCC concluded that the national bank that made the inquiry satisfied the requirements of Part 23 because the bank’s role would be limited to:

• arranging for the service and maintenance;
• establishing and maintaining a segregated cash account for the expected repair and maintenance costs;
• collecting additional rent charges from the lessees to cover expected expenses; and
• seeing that the balance of the segregated account is high enough to cover one month’s anticipated maintenance and repair expenses (plus a reasonable cushion).

Finally, the OCC also stated that it was reaching its conclusion in Letter #1142 with the expectation that the bank making the inquiry would conduct its lending business in a safe and sound manner.

The Office of Foreign Assets Control (“OFAC”) posted a summary of a settlement with a bank (the “Bank”) relating to a transaction that OFAC alleged was processed by the Bank in violation of OFAC’s Sudanese Sanctions Regulations.  According to the summary, the Bank’s interdiction screening software flagged a wire transfer transaction requested by the Bank’s customer for manual review due to an apparent match with an entry on OFAC’s list of Specially Designated Nationals and Blocked Persons.  A compliance specialist at the Bank reviewed the transaction and determined that the individual referenced was a Sudanese national but did not request additional information, such as a physical address.  The compliance specialist then added the notation “Nationality: Sudanese” to the payment details and approved the wire for processing.  According to the OFAC summary, the Bank’s interdiction screening software rescreened the transaction but failed to generate an alert because the software did not contain the words “Sudanese” or other similar terms (such as “Burmese,” “Cuban” or “Iranian”) related to country-based sanctions programs.  OFAC’s Sudanese Sanctions Regulations generally prohibit, among other things, the facilitation by a U.S. person of the exportation or re-exportation of goods, technology, or services from Sudan to any destination or to Sudan from any location.  As described in OFAC’s summary, it turned out that the Sudanese national referenced in the payment order was physically located in Sudan and that the requested payment was related to merchandise being shipped to Sudan.  Another financial institution rejected the transaction.

Although this was apparently an isolated violation by the Bank, and the civil money penalty imposed was relatively small, this matter serves as a reminder that it is important for financial institutions and other U.S. persons required to comply with OFAC administered sanctions programs to recognize that certain OFAC sanctions programs are country based and that transactions may be prohibited even if a participant in the transaction is not actually named in OFAC’s list of Specially Designated Nationals and Blocked Persons.  

Beginning later this month, Goodwin Procter’s weekly Financial Services Alert will have a new look, a new name and expanded national and international coverage. The new publication will be called the Financial Services Weekly News Roundup, and will provide headlines and brief summaries of legislative, regulatory, judicial, and industry developments of note with links to primary sources.  We will continue to distribute more detailed analyses of financial industry news and trends through regular and timely client alerts, and of course, are always pleased to respond to requests for more information on any particular topic of interest.

Goodwin Procter has a long history of serving the financial services industry, and has been reporting on legal and regulatory developments for more than 15 years.  We look forward to continuing to keep you informed and updated.  We hope you find the new format, which was based in part on reader feedback, easier to use and share and, as always, we welcome your suggestions on ways we can further improve the publication.