Private Equity, Venture Capital and Hedge Funds: What are 3(c)(1) Funds?

Under the Investment Company Act of 1940 (the “Act”), investment companies must register with the Commission, unless legally exempted from doing so.

The Act defines an “investment company” as an issuer that is or holds itself out as being engaged primarily in the business of investing, reinvesting, or trading in securities.

The so-called “3(c)(1) exception” excludes from the definition of an “investment company” any issuer – such as a private fund—whose outstanding securities are beneficially owned by no more than one hundred (100) persons (and whose securities are not publicly offered).

Many venture capital, private equity and hedge funds rely on the exceptions from the definition of investment company that are set forth in Section 3(c)(1).

Thus, for example, a fund with a typical LP structure may set a limit so that no more than 99 limited partners are permitted into the fund.  It is important to note, however, that that certain “look through provisions” may cause some types of owners to be counted not as one owner, but as multiple owners based on that entity’s ownership structure.  Fund managers should be aware of these provisions if their objective is to operate under the 3(c)(1) exception.

Although a fund may be excepted from the definition of an investment company under the 3(c)(1) exception– and therefore, from the requirement to register under the Act—the fund manager may still be required to register as an investment adviser under the Investment Advisers Act of 1940.   In addition, the investment adviser must remain complaint with State and Federal reporting requirements, as well as with limitations on the offering of securities to the public.

As an alternative to the 3(c)(1) exception and, often in conjunction therewith, funds often rely on additional exceptions set forth under the Act, such as 3(c)(7).

Fund formation and structuring is a complex legal area that involves various legal and regulatory considerations.  Contact our firm today for a consultation on what type of fund works best for your desired structure.