The US private real estate fund compliance guide

THE US PRIVATE REAL ESTATE
FUND COMPLIANCE GUIDE
How to register and maintain an active and effective
compliance program

Edited by

Charles Lerner, Fiduciary Compliance Associates


Published in May 2012 by
PEI
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© 2012 PEI
ISBN 978-1-908783-10-3
eISBN 978-1-908783-60-8
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Disclaimer: This publication contains general information only and the contributors are not, by means of this publication,
rendering accounting, business, financial, investment, legal, tax, or other professional advice or services. This publication is
not a substitute for such professional advice or services, nor should it be used as a basis for any decision or action that may

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PEI editor: Wanching Leong
Production editor: Julie Foster
Printed in the UK by: Hobbs the Printers (www.hobbs.uk.com)


Contents
Introduction
SECTION I: REGULATIONS
1

SEC registration for private real estate advisers
By Doug Cornelius, Beacon Capital Partners, LLC
Introduction
Are you an investment adviser?
What is a security?
Exclusions and exemptions
Private funds
State registration
Form ADV
Should you register as an investment adviser?

2

Form ADV Parts 1 and 2
By Erik A. Bergman and Justin J. Shigemi, Finn Dixon & Herling LLP
Introduction
Preparing to file Form ADV – IARD entitlement
Registration thresholds
Part 1A of Form ADV
Part 2A of Form ADV

3

Marketing, advertising and fund solicitations for private real estate
fund advisers
By Charles Parsons and Stephen M. Meli, Proskauer Rose LLP
Introduction
The Advisers Act
Other US regulatory considerations
Conclusion

4

The EU AIFMD and its impact on private real estate fund managers
outside the EU
By Tamasin Little, SJ Berwin LLP
Scope of the Directive
Timing


Marketing funds in the EEA
Reporting to investors in the EEA

Reporting to regulators in the EEA
Acquiring control of companies in the EEA
More extensive provisions applicable to EEA fund managers
Proposed future application of broader provisions to non-EEA fund managers
Conclusion
Checklist 1: Pre-investment information disclosures to investors (Article 23 of the
AIFMD)
Checklist 2: Annual report of the AIF (Article 22 of the AIFMD)
Checklist 3: Other ongoing reporting obligations to investors (Article 23(4)(5) and
Article 28(5) of the AIFMD)
Checklist 4: Other ongoing reporting obligations to regulators (Article 24 of the
AIFMD)
Checklist 5: Additional disclosure obligations relating to controlled portfolio companies
and acquiring participations in non-listed companies

5

Form PF: Private real estate fund impact assessment
By Karl Ehrsam, Brian Ruben and Craig Friedman, Deloitte & Touche LLP
Background
Overview of Form PF
Impact of Form PF on real estate fund advisers
Solution design
Conclusion
Appendix: Summary of Form PF requirements

6

Custody
By Edwin C. Laurenson, McDermott Will & Emery LLP

Introduction
Definition of custody
The audited fund exception
Requirements when custody is present
Additional compliance considerations

7

Foreign Corrupt Practices Act
By Joel M. Cohen and Anya R. Grossmann, Gibson, Dunn & Crutcher LLP
Introduction
The FCPA
Risks for private real estate funds
Suggested practices for private real estate funds


Conclusion

SECTION II: AFTER REGISTERING AND BEYOND
8

Setting up a compliance program
By Cary J. Meer and Deborah A. Linn, K&L Gates LLP
Introduction
Specific compliance issues
Code of ethics
Further topics
Recent enforcement actions
Appendix I: Compliance manual checklist
Appendix II: Code of ethics checklist

9

Identifying and managing conflicts of interest in private real estate
funds
By Laura S. Friedrich and Zachary W. Bodmer, Shearman & Sterling LLP
Introduction
Legal and regulatory requirements
Discussion of certain potential conflicts of interest
Conclusion
Appendix: Questionnaire for private real estate fund managers and sponsors to assist
with identifying conflicts of interest

10

Compliance for multi-strategy private real estate firms
By Anthony Conte and David Harpest, PricewaterhouseCoopers LLP
Introduction
Direct investments in real property
Private real estate debt
Public REITs
Collateralized mortgage-backed securities and collateralized mortgage obligations
Cross-strategy compliance issues
Conclusion

11

Creating and maintaining books and records
By Scott D. Pomfret, Highfields Capital Management and Matthew T. Nullet,
PricewaterhouseCoopers LLP

Introduction
Required books and records
Books and records that are not required
Form, storage and duration requirements


Recommended practices for a compliant regime
Electronic books and records
Emerging books and records issues

12

Selecting and managing service providers
By Nicholas Tsafos, EisnerAmper LLP
Introduction
Considerations for selecting a service provider
Request for proposal
Evaluating a service provider
Managing the relationship
Conclusion

13

Valuation and pricing for private real estate
By John N. Marshall, Constantine Korologos and Lev Yagudayev, Deloitte Financial
Advisory Services LLP
Introduction
Regulatory requirements and accounting standards
Valuation methodologies and considerations
Processes and controls

Conclusion

14

Limited partner advisory committees
By Joel A. Wattenbarger, Ropes & Gray LLP
Introduction
Composition
Member duties and indemnification
Responsibilities
Operational issues
Conclusion

15

SEC examinations of private real estate fund advisers
By Daniel New and Danielle Ryea, Ernst & Young LLP
Introduction
Legal and regulatory requirements
Overview of SEC examinations
Areas of examination focus
Conclusion

About PEI


Introduction

The Dodd-Frank Wall Street Reform and Consumer Protection Act in the US mandated
many changes affecting financial service firms, including a requirement for hedge fund and

private equity fund investment to register with the Securities and Exchange Commission
(SEC). The effective date for the new registrants was March 30, 2012. Advisers to private
equity funds making investments in real estate have been confronted with making what can
be a complex factual and legal determination of whether they are required to register with
the SEC. This publication, The US Private Real Estate Fund Compliance Guide, will
provide a framework for the review of whether a real estate adviser is required to be SEC
registered and regulated and then, if so, provide the necessary guidance for preparing and
filing the Form ADV registration form with SEC and establishing the necessary compliance
program.
The first chapter, SEC registration for private real estate advisers, works through an
analysis of whether an investment adviser is required to register. The analysis starts with
the Investment Advisers Act of 1940 (the Advisers Act) definition of an adviser as:
[A]ny person who, for compensation, engages in the business of advising others,
either directly or through publications or writings, as to the value of securities or as to
the advisability of investing in, purchasing, or selling securities, or who, for
compensation and as part of a regular business, issues or promulgates analyses or
reports concerning securities…
The important issue for the real estate advisers is what is a ‘security.’ This process involves
complex legal determinations. And then the question is at what level of holdings in securities
does an adviser reach the requirement to register. According to the Form ADV Part 1
registration form definition, a:
‘Real estate fund’ means any private fund that is not a hedge fund, that does not
provide investors with redemption rights in the ordinary course, and that invests
primarily in real estate and real estate related assets.
An initial examination point once the adviser determines to register is to establish written
policies and procedures in a compliance manual (see chapter titled Setting up a compliance
program). The SEC recognizes that an adviser’s compliance program should be designed
for the particular adviser, taking into consideration such factors as the size of the firm in
assets under management, number of employees and offices, and the nature of the
business and investments. The development of the compliance program should begin with a

review of risk and an analysis of conflicts of interest. The information in the chapters
Identifying and managing conflicts of interest in private real estate funds and Compliance


for multi-strategy private real estate firms will help the adviser analyze those issues that
should be considered as an important step in designing its compliance policies and
procedures. For example, there is an inherent and possible conflict of interest a real estate
adviser may face if a property owner has financial difficulties, or if the adviser holds a
security in several funds with differing seniority rights.
Multi-strategy funds, which have become popular as advisers diversify their investment
strategies to take advantage of opportunities resulting from the recent financial crisis, may
be involved in potentially conflicting investment instruments including:
(i) Private real estate equity, including direct and indirect interests in real property.
(ii) Private real estate debt, including mortgage loans and mezzanine debt.
(iii) Public real estate equity, including securities related to real estate such as real estate
investment trust (REIT) securities.
(iv) Public real estate debt instruments such as commercial mortgage-backed securities
(CMBS) and collateralized mortgage obligations (CMOs).
Once an adviser is registered, it is subject to the same legal and regulatory requirements of
any SEC registered adviser. The chapters Form ADV Parts 1 and 2, Marketing, advertising
and fund solicitations for private real estate fund advisers, Creating and maintaining books
and records, and SEC examinations for private real estate fund advisers contain
information on some of the regulatory and compliance issues faced by every adviser. Then
there are particular issues that must be addressed by the real estate adviser that it may not
have directly or completely confronted before and which are clearly stated focus issues in
any SEC examination – Custody and Valuation and pricing for private real estate. Finally, a
more recent development and one that provides a measure of regulatory protection is for a
private fund to establish a Limited partner advisory committee to provide an advisory
function in conflict of interest situations and in the valuation of portfolio holdings.

Any adviser that markets its funds in Europe, particularly in European Economic Area (EEA)
countries, will find itself subject to the Alternative Investment Fund Managers Directive. In
the chapter The EU AIFMD and its impact on private real estate fund managers outside
the EU, real estate advisers would be wise to start investigating the potential impact this
new regulatory regime will have on their marketing, investor reporting, and reporting to
regulators and acquiring EEA companies activities as soon as July 2013.
We have endeavored to be both comprehensive so that advisers to private real estate
funds have a compliance guide that encompasses the general SEC requirements for
registered investment advisers, but also provides specialized, dedicated guidance for real
estate funds.
My appreciation goes to the legal, consulting and chief compliance officer authors who have
generously and willingly shared their knowledge and perspective to assist the real estate
adviser understand these regulatory requirements as a SEC-registered investment adviser.
My special appreciation goes to Wanching Leong, my co-editor at PEI, who calmly and


effectively helped all of us stay on track in putting together this publication for real estate
advisers to private funds.
We all hope that you will find this Guide helpful.
Charles Lerner


Section

I
Regulations


1
SEC registration for private real estate advisers

By Doug Cornelius, Beacon Capital Partners, LLC

Introduction

The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank)
dramatically changed the decision-making process for whether a private real estate fund
manager needs to register with the Securities and Exchange Commission (SEC) as an
investment adviser. Prior to July 2010, the Investment Advisers Act of 1940 (the Advisers
Act) had an exemption for private fund advisers. If the manager had fewer than 15 clients
and did not hold itself out generally to the public as an investment adviser, the manager
could rely on the private adviser exemption. Dodd-Frank removed that exemption.
With the changes to the registration requirements and the new concept of a private fund
under the Advisers Act, private real estate fund managers should evaluate whether they are
required to register with the SEC as an investment adviser. This chapter intends to be an
introduction to the registration requirements and to the legal framework for evaluating the
registration requirements together with the manager’s legal counsel.

Are you an investment adviser?
A private real estate fund is typically structured as a limited partnership, with the fund
sponsor acting as the general partner. The limited partnership can only take actions as
directed by the general partner. In this fund structure, the general partner is generally
considered to be giving investment advice to the fund.1 A fund structure may be more
complicated than one simple limited partnership, in which case there may be multiple layers
of advisers or the formal appointment of an investment adviser. There is some type of
investment advice being given within the fund structure.
According to the Advisers Act, an investment adviser is defined as:
[A]ny person who, for compensation, engages in the business of advising others,
either directly or through publications or writings, as to the value of securities or as to
the advisability of investing in, purchasing, or selling securities, or who, for
compensation and as part of a regular business, issues or promulgates analyses or

reports concerning securities…2
There are three key elements in this definition: (1) being in the business, (2) receiving
compensation and (3) giving advice concerning securities.


1. In the businesss
A person or company must be ‘in the business’ of giving investment advice. That keeps the
shoeshine boy who doles out stock tips from falling within the definition of an investment
adviser, but not a fund manager. The giving of advice need not be the principal business
activity; the legal analysis will focus on the frequency and regularity of the advice. Since the
general partner of the fund is most likely a single purpose entity, it is doing nothing but
providing investment advice and therefore is in the business.
2. Compensation
An investment adviser must receive compensation. It may be a combination of management
fees, acquisition fees and/or carried interest. The SEC has construed the definition of
compensation very broadly to include the receipt of any economic benefit.3 The actual
amount of compensation is not relevant to the analysis.
3. Advice concerning securities
A fund manager is clearly giving investment advice to the fund and is using its judgment in
selecting investments for the fund. The decision about what assets to buy, sell and finance
come from the fund manager. Even if the fund manager needs the consent of its investors
to approve a transaction, it is still the fund manager who is responsible for selecting the
investment. The difficult question is whether the investment advice from the private real
estate fund manager concerns ‘securities.’

What is a security?
A private real estate fund manager will need to sit down with its attorney to analyze the
fund portfolio to determine whether it contains securities. The Advisers Act uses a very
broad definition of a ‘security:’
[A]ny note, stock, treasury stock, security future, bond, debenture, evidence of

indebtedness, certificate of interest or participation in any profit-sharing agreement,
collateral-trust certificate, preorganization certificate or subscription, transferable
share, investment contract, voting-trust certificate, certificate of deposit for a security,
fractional undivided interest in oil, gas or other mineral rights, any put, call, straddle,
option or privilege on any security (including a certificate of deposit) or on any group
or index of securities (including any interest therein or based on the value thereof), or
any put, call, straddle, option or privilege entered into on a national securities
exchange relating to foreign currency, or, in general, any interest or instrument
commonly known as a ‘security,’ or any certificate of interest or participation in,
temporary or interim certificate for, receipt for, guaranty of, or warrant or right to
subscribe to or purchase any of the foregoing.4
Hard assets, like real estate, are noticeably missing from this definition of a security.
Private real estate funds cover a broad spectrum of investment strategies, structures and


selections. A fund that makes a direct investment in bricks and mortar is likely not giving
investment advice about securities in that transaction. On the other extreme, a fund making
an investment in the shares or bonds of a publicly traded real estate investment trust (REIT)
would be providing investment advice about securities. Even private real estate funds
making direct investment in bricks and mortar have limited liability companies, corporations,
REITs and partnerships in between the fund and the hard asset. Sometimes a transaction is
structured as a purchase of the real estate-owning entity instead of the underlying real
estate. As a fund adds more levels of ownership and more organizational boxes between
the fund and the real estate, the analysis becomes less clear.
Corporations
Stock is explicitly listed as a security in Section 202(a)(18) of the Advisers Act. In theory,
any corporation under the private real estate fund will be considered a security owned by
the fund. There is a strong argument that this position is true even if the corporation is
wholly owned.
Investment contract

One of the seminal Supreme Court cases on the definition of a security involves a real
estate deal. The 1946 decision in SEC v WJ Howey Co.5 involved an offering of units of a
citrus grove development, coupled with a contract for cultivating, marketing and remitting
the net proceeds to the investor. The Supreme Court held that it was an offering of an
‘investment contract’ within the meaning of that term as used in the provision of Section 2(1)
of the Securities Act of 1933 defining security as including any investment contract, and was
therefore subject to the registration requirements of the Act. This definition is also
applicable to the definition of an investment contract in the Advisers Act:
The test is whether the scheme involves an investment of money in a common
enterprise with profits to come solely from the efforts of others.6
Later decisions have carved away ‘solely’ from the requirement to a standard of primarily or
substantially from the entrepreneurial or managerial efforts of others.7
Passive investments, where investors do not have material and significant decision-making
power, are securities. Investments made by the principals who are actively involved in the
management of the enterprise are generally not securities. Of course, that leaves a
multitude of common business arrangements in between these two extremes.
Limited partnership
Limited partnership interests are not listed in the definition of a security and should be
analyzed as an investment contract. Therefore, a traditional limited partnership interest
would likely be considered a security. Historically, the limited partner(s) would rely on the
general partner to exclusively manage the partnership, and the limited partnership interest
was considered security. However, the modernized limited partnership statutes in Delaware


and other states allow limited partners to have more power in the management of the
partnership and still retain their liability shield. The general presumption still holds that a
limited partnership interest is a security; the more control held by the limited partner, the
less likely that the partnership interest will be considered a security. It is not clear how
much control is needed to move a limited partnership out of the securities category, but it is
generally thought to require some level of control far in excess of the rights a shareholder

has in a corporation. Nominal involvement is not enough.
General partnership
Usually all general partners have decision-making power with respect to the affairs of the
partnership. This level of control will generally create enough management authority so that
the general partnership interest will not be considered a security. It is possible that the
powers of the general partner could be so limited by the terms of the partnership
agreement that the interest could be considered a security (for example, if a particular
partner’s management rights are limited to those equal to a limited partner).
Limited liability companies
As with limited partnership interests, ownership in a limited liability company is not
enumerated in the definition of a security. Therefore, the analysis should be the same as for
an investment contract. If the limited liability company (LLC) is member-managed, those
membership interests would not be merely relying on the efforts of others for success. On
the other hand, if the LLC is manager-managed, then members may be merely passive
investors depending on the efforts of others for success. The inherent flexibility in
structuring a LLC makes it difficult to make a blanket conclusion about whether an interest
in one is a security. Typically, a detailed legal analysis will be required.
Debt
Notes are explicitly listed in the Advisers Act definition of securities. However, there is a
distinction to be drawn between a loan and note. Loans fall outside the definition of a
security, while notes held for investment are considered securities. To some extent, it
depends on the level of control that can be exercised by the noteholder or lender. The note
documenting a conventional real estate mortgage would generally not be considered a
security, but the notes issued by the trustee in a syndicated loan would more likely be
considered securities.
Deal structure
Deal structure may influence the analysis. It is common in some jurisdictions to structure the
transaction as a sale of interests in the owner of the real estate instead of a sale of the
asset itself. That transaction structure could be viewed as a sale of securities, instead of a
sale of real estate.

Real estate investment trust


An entity gets the benefit of a REIT through tax elections and compliance with the REIT
rules. There are several ways to structure an entity and still have it qualify for tax treatment
as a REIT. If structured as a corporation, those shares would likely be treated as
securities.
Cash management
Some choices for parking cash on a short-term basis could be considered giving advice
about securities. If the choice is other than a bank account, it could be considered a
security. For example, causing the fund to purchase US Treasuries or a short-term bond
fund would be considered giving advice about securities.

Exclusions and exemptions
The Advisers Act has many nooks and crannies where a fund manager may find relief from
registration.
Exclusions
The definition of ‘investment adviser’ in Section 202(a)(11) of the Advisers Act specifically
excludes several types of organizations from its definition. However, a typical private real
estate fund manager is unlikely to fit into one of these categories. The list includes: banks,
lawyers, teachers, broker/dealers, newspaper publishers, advisers solely dealing with US
treasuries, family offices and nationally recognized statistical rating organizations.
Exemptions
The exemptions from registration under Section 203(b)(3) of the Advisers Act still remain,
but offer little relief for a private real estate fund manager. There is, however, a new
exemption for foreign private advisers. To meet that standard, the adviser has to have a
place of business outside the US, have fewer than 15 clients and fund investors in the US,
and have less than $25 million in US client assets under management.
Exempt reporting
If a private real estate fund manager has less than $150 million in assets under

management, the adviser can look to Section 203(m) of the Advisers Act for the new midsized adviser exemption. This new category of ‘exempt reporting’ advisers also includes
venture capital fund managers. However, the fund manager is still subject to a subset of
Advisers Act requirements and must file the Form ADV with the SEC.

Private funds
A private fund manager with less than $150 million in assets under management can take
advantage of the exempt reporting status. A private fund manager with more than $150
million in assets under management is subject to the full registration and regulatory
requirements of the Advisers Act.


A ‘private fund’ is an issuer that would be an investment company, as defined in Section 3 of
the Investment Company Act of 1940 (the Investment Company Act), but for the exclusions
under Section 3(c)(1) or 3(c)(7) of that Act.8
Is the fund an investment company?
The definition of private fund switches the analysis to the Investment Company Act. Under
that law, the definition of an ‘investment company’ has three parts:9
1. is or holds itself out as being engaged primarily, or proposes to engage primarily, in the business of investing,
reinvesting or trading in securities;
2. is engaged or proposes to engage in the business of issuing face-amount certificates of the installment type, or has
been engaged in such business and has any such certificate outstanding; or
3. is engaged or proposes to engage in the business of investing, reinvesting, owning, holding or trading in securities,
and owns or proposes to acquire investment securities having a value exceeding 40 percentum of the value of
such issuer’s total assets (exclusive of government securities and cash items) on an unconsolidated basis.

Based on the definition, we need to revisit what constitutes a security and analyze the
composition of the fund’s portfolio. If more than 40 percent of the fund’s investments are
securities, then the fund could be considered an investment company.
Historically, many private real estate funds have avoided the question of whether they are
an investment company under the general definition by citing either the Investment Company

Act Section 3(c)1 or 3(c)7 exclusions. Taking advantage of these exclusions triggers the
definition of private fund, assuming the fund already meets the definition of investment
company.
Under Section 3(c)(1), the main limitations are that the fund have 100 or fewer holders of
beneficial interest in the fund and does not propose to sell interests in a public offering.
Under Section 3(c)(7) the fund can exceed the 100 owners limit, but all investors need to be
‘qualified purchasers.’
A fund may have a trail of paperwork stating that it meets the Section 3(c)(1) or Section
3(c)(7) exclusion, even though it could claim to fit under one of the other exclusions. Only
one of the other exclusions is likely to offer a safe harbor for a private real estate fund.
The exclusion under Section 3(c)(5) is possibly available for real estate funds:
Any person who is not engaged in the business of issuing redeemable securities,
face-amount certificates of the installment type or periodic payment plan certificates,
and who is primarily engaged in one or more of the following businesses: … (C)
purchasing or otherwise acquiring mortgages and other liens on and interest in real
estate.
Traditionally, private fund managers have looked at the Section 3(c)(1) or Section 3(c)(7)
exclusions from the definition of investment company to avoid the restrictions of being
regulated under the Investment Company Act. Those exclusions provide very bright lines
and clear tests. However, the standard in Section 3(c)(5) is not as clear.


In a 1984 no-action letter,10 the SEC took the position that the Section 3(c)(5) exclusion
was not available for a requestor that was seeking to invest as a limited partner in a limited
partnership that would own and operate a building. The SEC took the position that the
interests would be ‘investment contracts’ and therefore securities, not real estate, for
purposes of Section 3(c)(5).
In another no-action letter focused on Section 3(c)(5),11 the SEC agreed not to take action
against Premier Mortgage Corporation for a mortgage pooling fund where Premier would
acquire whole mortgage loans secured by first liens on the property. The SEC found that

investing in the mortgage notes would be ‘the same investment experience that it would
have were it directly investing in the mortgage loans.’
In contrast, the SEC issued a no-action letter12 in 1989 in response to a fund’s investment
strategy, allowing it to qualify for the exclusion under Section 3(c)(5). The fund would invest
only in fee interest real estate, joint ventures formed to acquire real estate, mortgage loans
secured by real estate, and interests in joint ventures formed to make mortgage loans
secured by real estate. At least 55 percent of the investments would be exclusively backed
by real estate. The remainder would be mortgage loans secured primarily, but not
exclusively, by real estate. The fund’s joint venture interests would be exclusively general
partnership interests and would be active in the management and operation, including
consent for major decisions.
It is not clear whether a lesser amount of real estate would be acceptable. It is also not
clear whether a more complicated structure of ownership would change the analysis.
Private real estate funds often have layers of entities for other reasons (for example, to
satisfy tax, ERISA, financing and management issues).
The other thing to keep in mind is that using the Section 3(c)(5) exclusion may get the
manager out from under the definition of a private fund, but not necessarily from under the
definition of investment adviser. It just means that the fund manager is not an adviser to a
private fund.

State registration
At the time of writing, the state laws on registration of investment advisers are undergoing
rapid changes in response to Dodd-Frank. Some states are adding exclusions for private
fund managers. If a fund manager chooses not to register with the SEC, it should look at
applicable state law on investment advisers.

Form ADV

Does the SEC think private real estate fund managers should register? Form ADV requires
an investment adviser to disclose information about the private funds it manages. Item 7.B.

(1) A 10. requires the adviser to select a category designation for the fund. The choices
are: real estate fund, hedge fund, liquidity fund, private equity fund, venture capital fund and


securitized asset fund. If the SEC was not expecting real estate funds to be listed as
private funds, the SEC would not have included it as an option.
The definition for Part 1A of Form ADV reads:
‘Real estate fund’ means any private fund that is not a hedge fund, that does not
provide investors with redemption rights in the ordinary course, and that invests
primarily in real estate and real estate related assets.
Under a plain meaning, the term ‘primarily’ in that definition should mean more than 50
percent. The definition of ‘private fund’ in the Form ADV Glossary is the same definition as
in the Adviser Act: ‘An issuer that would be an investment company as defined in Section 3
of the Investment Company Act but for Section 3(c)(1) or 3(c)(7) of that Act.’ That still
leaves open the position that the fund could be excluded from the definition of Investment
Company Act under Section 3(c)(5). As discussed above, the exclusion for 3(c)(5) is not as
clearly demarcated as the ones provided by 3(c)(1) or 3(c)(7).
Previously, the calculation of assets under involvement had a 50 percent cutoff per account.
If less than 50 percent of an account was invested in securities, the account was a deemed
to have a value of $0 for purposes of calculating assets under management on Form ADV.
A private fund has a different method for calculation of assets under management:
For purposes of this definition, treat all of the assets of a private fund as a securities
portfolio, regardless of the nature of such assets. For accounts of private funds,
moreover, include in the securities portfolio any uncalled commitment pursuant to
which a person is obligated to acquire an interest in, or make a capital contribution to,
the private fund.
If the fund qualifies under the 3(c)(5) exclusion, it would have a value of $0 for purposes of
assets under management on Form ADV.

Should you register as an investment adviser?

Having reviewed these considerations, many private real estate fund managers may still be
unsure whether they have to register with the SEC as an investment adviser. Many will have
a reasonable argument that they are not giving investment advice about securities and thus
not register. Others may have enough applicable activity that they could also make the
argument that they could register.
Perhaps the question could be re-phrased as not whether they must register, but whether
they should register. By including ‘real estate fund’ as a choice for identifying a private fund,
the SEC has indicated a willingness to accept real estate fund managers under its
regulatory umbrella.
Are other private real estate fund managers registered as investment advisers?


A May 9, 2011 survey13 by the author looked at the top 30 private equity real estate
managers published by PERE magazine14 to determine which were registered with the
SEC. Of the managers listed, 18 of the 30 were already registered with the SEC as
investment advisers. With the passing of the Dodd-Frank registration deadline, 28 of the 30
were registered as investment advisers as of April 2, 2012.15
Limited partner expectations
Prior to Dodd-Frank, private fund managers of all types were often not registered as
investment advisers. Private equity, hedge funds and venture capital managers also looked
to the old 203(b)(3) private adviser exemption. That is no longer the case. Hedge fund
managers and private equity fund managers have registered as investment advisers.
Venture capital fund managers can fall under a the new category of exempt reporting
advisers. When a potential investor requests a Form ADV, a venture capital fund manager
will be able to deliver a copy of its Form ADV, although with the limited information required
of an exempt reporting adviser.
Private real estate fund managers and other alternative fund managers have not stood out
from the crowd by not being registered with the SEC. Many, if not most, were not
registered with the SEC. Now, private real estate fund managers are in the minority. Most
other fund managers will be able to deliver a copy of the Form ADV and display their badge

of SEC registration, even if it is the limited form decreed on venture capital fund managers
and mid-size private fund managers.

The unanswered question as the time of writing is what will limited partners expect from
real estate fund managers? The majority of the largest private real estate fund managers
have registered with the SEC. It is possible that not being registered with the SEC could be
a competitive disadvantage for a fund manager and cause a potential investor to decide not
become a limited partner in a fund offering. In reading through the rest of this guide you can
evaluate the costs of establishing a compliance program. Then you can balance those costs
against the cost and likelihood of losing a potential investor as a limited partner.

Doug Cornelius is the chief compliance offer at Beacon Capital Partners, LLC in Boston. In this role, Doug oversees the
development and management of the compliance program. The focus of the program is on regulatory compliance, antifraud, business ethics, anti-corruption, insider trading, records management and privacy. Prior to joining Beacon Capital
Partners, Doug was a senior attorney at Goodwin Procter LLP, where he helped clients invest in real estate through a variety
of investment vehicles. Doug is a graduate of Brandeis University and Boston University School of Law.

1

2
3

Abrahamson v. Fleschner 568 F.2d 862 (2d Cir. 1977), overruled in part on other grounds by Transamerica Mortgage
Advisors, Inc. v. Lewis, 444 US 11 (1979)]. ‘[W ]e believe that the general partners as persons who managed the funds of
others for compensation are ‘investment advisers’ within the meaning of the statute. This is borne out by the plain
language of Section 202(a)(11) and its related provisions, by evidence of legislative intent and by the broad remedial
purposes of the Act.’
Section 202(a)(11) of the Advisers Act.
Investment Adviser Release 1092 (October 8, 1987).

4
5
6
7
8
9
10

11
12
13

14

15

Section 202(a)(18) of the Advisers Act.
328 US 293.
Id at 300.
See SEC v. Glenn W. Turner Enterprises, Inc., 474 F.2d 476 (9th Cir. 1973).
Section 202(a)(29) of the Advisers Act.
Section 3 of the Investment Company Act.
Realex Capital
Corporation (February 16, 1984).
Premier Mortgage Corporation (February 10, 1983).
United States Property Investments NV (April 14, 1989).
Are Real Estate Fund Managers Registered with the SEC? />The PERE 30 calculates capital raised for direct real estate investment through commingled vehicles, together with coinvestment capital, in five-year rolling periods.
Which Real Estate Funds Registered with the SEC? / />

2

Form ADV Parts 1 and 2
By Erik A. Bergman and Justin J. Shigemi, Finn Dixon & Herling LLP

Introduction

As a result of the Dodd-Frank Wall Street Reform and Consumer Protection Act (DoddFrank), many investment advisers to private investment funds, including advisers to many
private real estate funds, are now required to either register with the SEC or state
securities authorities as an adviser or, for those advisers that qualify for registration
exemptions under Sections 203(l) and 203(m) of the Investment Advisers Act of 1940, as
amended (Advisers Act) and Rules 203(l)-1 and 203(m)-1 promulgated thereunder (exempt
reporting advisers), to file with the SEC as an exempt reporting adviser. In each case, the
registration or filing is accomplished through the filing of Form ADV.
Part 1 of Form ADV requires the disclosure of information about the adviser’s business,
ownership, clients, employees, business practices, affiliations and any disciplinary events of
the adviser or its employees. It is organized in a check-the-box, fill-in-the-blank format, and
is divided into two subparts. Part 1A of Form ADV must be completed by SEC- and stateregistered advisers and exempt reporting advisers. The SEC reviews the information in Part
1A to process registrations; manage its regulatory and examination programs; and identify
the owners and business models of, and potential risks to investors associated with,
exempt reporting advisers. Part 1B of Form ADV is only completed by state-registered
advisers and is not addressed in this chapter.
Part 2 of Form ADV requires information about the types of investment advisory services
offered by an adviser, a description of the adviser’s fees or fee schedule, disciplinary
information, conflicts of interest, and the educational and business background of
management and certain advisory personnel. It must be written in plain English using a
narrative format, and is divided into two subparts. Part 2A of Form ADV is a brochure
designed to inform the adviser’s clients about the adviser itself, and Part 2B of Form ADV is
a brochure supplement designed to inform the adviser’s clients about the advisory personnel
who provide investment advice. Part 2 is intended to serve as an easy to understand
brochure that describes an adviser’s advisory services, fees and material conflicts of
interest.

Part 1 and Part 2A are available to the public on the SEC’s Investment Adviser Public
Disclosure (IAPD) web site at www.adviserinfo.sec.gov.
This chapter will provide a broad overview of Form ADV, the disclosure requirements of


Parts 1A and 2 of Form ADV and Form ADV’s delivery and amendment requirements.1

Preparing to file Form ADV – IARD entitlement
The process by which an adviser registers with the SEC or files as an exempt reporting
adviser is fairly straightforward. The initial step is referred to as ‘IARD Entitlement,’ and
involves the preparation of a short application that includes certain basic information
regarding the adviser. The purpose of the application is to establish an IARD ‘account’ for
the adviser and to generate a related username and password that will enable the adviser
to access its account. The IARD account will be used as a conduit for the submission of
certain filings required to be made by the adviser and fees required to be paid by the
adviser to maintain its IARD account (as well as fees that may become payable by the
adviser to one or more state securities regulators).

Registration thresholds
For purposes of completing Part 1A, Section 203A of the Advisers Act prohibits an adviser
that is regulated by the state securities authority in which it maintains its principal office and
place of business from registering with the SEC unless the adviser has at least $100 million
in regulatory assets under management. Advisers with $25 million to $100 million in
regulatory assets under management (mid-sized advisers) are (generally) required to
register with the relevant state securities authorities, although the SEC has adopted a
registration buffer that allows certain advisers with more than $100 million but less than
$110 million in regulatory assets under management to maintain their registration with a
state and permits advisers with at least $90 million in regulatory assets under management
to maintain their registration with the SEC.2 A foreign adviser that has a place of business in

the US will generally be required to register with the SEC if it has $25 million or more in
regulatory assets under management unless an exemption is available. Advisers with less
than $25 million in regulatory assets under management may be required to register with
one or more states.

Part 1A of Form ADV

Part 1 of Form ADV (Uniform Application for Investment Adviser Registration and Report
by Exempt Reporting Advisers) is one of two primary application documents that an adviser
is required to file with the SEC in connection with the registration process. It is the only
portion of Form ADV that an exempt reporting adviser must file with the SEC. Under certain
circumstances, certain general partners, managing members or other special purpose
entities of real estate funds and advisers under common control may be eligible to file as
‘relying advisers’ with respect to an affiliated registered adviser’s (or affiliated exempt
report adviser’s) Form ADV.3
Part 1A
Part 1A Part 1A of Form ADV is comprised of 12 disclosure items, which, along with their


corresponding schedules, are summarized below:

• Item 1 – Identifying Information. Requires an adviser to provide its basic information,
including: the address of the adviser’s principal office and place of business (as well as
the address of any other office(s) from which the adviser conducts its advisory
business); mailing address (if different from the principal office address); normal
business days and hours; telephone and facsimile numbers; web site address(es), if any;
SEC filing number; Central Registration Depository (CRD) number and legal entity
identifier (a unique number that companies use to identify each other in the financial
marketplace) if it has received one;4 the name and contact information for the adviser’s
chief compliance officer; the names and contact information of other contact employees

who are authorized to receive information and respond to questions about the adviser’s
Form ADV; whether or not the adviser qualifies as a public reporting company under
Sections 12 or 15(d) of the Securities Exchange Act of 1934, as amended (the Exchange
Act); whether the adviser had $1 billion or more of assets on the last day of its most
recent fiscal year; the location of any places at which the adviser maintains some or all
of the books and records that it is required to keep under Section 204 of the Advisers
Act, or similar state law (other than its principal office and place of business); and the
names of any foreign financial regulatory authorities with which the adviser is registered.
• Item 2 – SEC Registration, SEC Reporting by Exempt Reporting Advisers and State
Securities Authority Notice Filings and State Reporting by Exempt Reporting Advisers.
Item 2.A. requires an adviser to check the boxes indicating one or more of the basis on
which it is eligible to register with the SEC. Item 2.B. requires an adviser to check a box
indicating the basis on which it is an exempt reporting adviser. In addition, both SECregistered advisers and exempt reporting advisers must identify in Item 2.C. those state
securities authorities to which they must provide a copy of their Form ADV and any
amendments filed with the SEC (notice filings).
• Item 3 – Form of Organization. Requires an adviser to identify its form of organization,
the month in which its fiscal year ends and the state or country under which it is
organized.
• Item 4 – Successions. Requires an adviser to state whether, at the time of filing, it is
succeeding to the business of another adviser, and if so, the date of such succession.
• Item 5 – Information About Your Advisory Business. Asks for information about an
adviser’s employees, clients, compensation arrangements, regulatory assets under
management and advisory activities.5
– Items 5.A and 5.B. require an adviser to provide the total number of its employees, as
well as the number of its employees who fall into certain categories (for example,
employees who perform investment advisory functions or solicit advisory clients on the
adviser’s behalf).
– Items 5.C. and 5.D. require an adviser to indicate the number of clients to which it
provides investment advisory services and the percentage of its clients that are nonUS persons, identify the types of clients it services, and indicate the approximate
amount (expressed as a percentage) of regulatory assets under management that are

•
•

•

•

attributable to each type of such clients.
– Item 5.E. requires an adviser to indicate how it is compensated for its advisory
services (such as performance-based fees).
– Item 5.F. requires an adviser to disclose its ‘regulatory assets under management.’
Regulatory assets under management is a technical term and the amount determines
whether an adviser can or must register with the SEC or a state securities authority,
or is eligible to file as an exempt reporting adviser. (For information about how to
calculate regulatory assets under management, please see the section titled
Calculating regulatory assets under management below.)
– Items 5.G., 5.H., 5.I. and 5.J. require an adviser to disclose the types of advisory
services it offers. For example, portfolio management for investment companies,
selection of other advisers, the number of clients (if any) to which it provides financial
planning services, and its role (if any) in any wrap fee program as well as whether the
adviser indicated in Item 2.B. of Part 2A of Form ADV that it provides investment
advice only with respect to limited types of investments.
Item 6 – Other Business Activities. Asks the adviser to identify and describe any other
business(es) in which it is actively engaged.
Item 7 – Financial Industry Affiliations and Private Fund Reporting.
– Item 7.A. asks the adviser to provide information about itself and its related persons,6
including foreign affiliates, such as whether any of the adviser’s related persons is a
broker-dealer; major security-based swap participant; registered and exempt

commodity pool operator and commodity trading advisor; or sponsor, general partner,
managing member or equivalent of a pooled investment vehicle. Information must be
provided by an adviser about its relationship with the related person and the related
person’s business activities in Section 7.A. of Schedule D unless the relationship with
the related person meets certain criteria. Regardless of the nature of an adviser’s
relationship with a related person, if the related person serves as a qualified custodian
in connection with advisory services that the adviser provides to its clients, the adviser
must complete Section 7.A. of Schedule D for that person.
– Item 7.B. asks for the names and certain other information regarding investment funds
(such as, for instance, real estate funds) that are sponsored by the adviser. (For
information about Item 7.B.’s private fund reporting requirements, please see the
section titled Private fund reporting below.)
Item 8 – Participation or Interest in Client Transactions. Requires an adviser to identify
potential conflicts of interest.
– Items 8.A. and 8.B. ask whether the adviser or any related person engages in certain
kinds of transactions with clients.
– Items 8.C. through 8.I. ask whether an adviser or any related person has discretion to
determine the securities to be purchased or sold for a client’s account, the amount of
such securities bought or sold and elicit information regarding use of broker-dealers.
Item 9 – Custody. Asks whether an adviser or any related person has custody of client
assets and about its custodial practices (excluding clients that are investment companies
registered under the Investment Company Act), including whether the adviser or any