The Proposal would, among other things:
- replace the “qualified client” dollar thresholds with the accredited investor standard and
- permit advisers to registered management investment companies and business development companies (BDCs, and together with registered management investment companies, “regulated funds”) to charge performance fees without regard to the qualified client status of a regulated fund’s shareholders, provided that fee-cap, governance, and board-determination conditions are satisfied.
An adviser to a regulated fund that satisfies the aforementioned conditions therefore could charge a performance fee to a regulated fund held by retail, non-accredited investors.
The Proposal, which is part of a broader SEC “retailization” package intended to expand investor choice and promote innovation in regulated fund structures, is subject to a 60-day comment period that ends on December 7, 2026.
Background
Section 205(a)(1) of the Advisers Act generally prohibits registered investment advisers from receiving compensation based on a share of capital gains upon, or capital appreciation of, a client’s funds (“performance fees”), subject to specified exceptions. Under the current Rule 205-3, a “qualified client” who may be charged a performance fee must satisfy a USD2.7 million net worth test or a USD1.4m assets-under-management test (each adjusted for inflation every five years) or satisfy another specified eligibility category.
The qualified client dollar thresholds as applied to natural persons are higher than the thresholds a natural person must meet to be an accredited investor. Under Rule 501(a) of Regulation D under the U.S. Securities Act of 1933, a natural person qualifies as an accredited investor if the person’s net worth exceeds USD1m (individually or with a spouse or spousal equivalent, excluding the primary residence) or the person’s income exceeds USD200,000 individually, or USD300,000 with a spouse or spousal equivalent, in each of the two most recent years and the person has a reasonable expectation of reaching the same income level in the current year.
Because the qualified client and accredited investor standards differ, an adviser that charges a performance fee in connection with a privately-offered investment must run two separate eligibility tests on the same investor: accredited investor status for the Regulation D offering and qualified client status before any performance fee may be charged.
Proposed changes
The Proposal would amend the “qualified client” definition to include any natural person or company (other than a private fund) that the adviser reasonably believes is an “accredited investor” at the time of entry into an investment advisory contract. This accredited investor requirement would replace the separate USD2.7m net worth test and USD1.4m assets-under-management test, as well as the related five-year inflation-adjustment mechanism.
Section 3(c)(1) Funds and Section 3(c)(7) Funds
Registered investment advisers to private funds that rely on Section 3(c)(1) of the U.S. Investment Company Act of 1940 (“Section 3(c)(1) Funds”), as well as registered investment advisers with separately managed account clients, would benefit directly from this change.
An adviser to a privately-offered Section 3(c)(1) Fund that charges a performance fee (e.g., carried interest) must today ensure the accredited investor and qualified client status of each relevant fund investor. The Proposal would make accredited investor status sufficient to satisfy the qualified client requirement, allowing for a single investor eligibility determination.
Private funds that rely on Section 3(c)(7) of the Investment Company Act (“Section 3(c)(7) Funds”) are unaffected by the Proposal. These funds—which are limited to investors that qualify as “qualified purchasers” (i.e., as relevant here, natural persons with at least USD5m in investments)—already fall outside the performance fee prohibition under the statutory exception in Section 205(b)(4) of the Advisers Act. As a result, Rule 205-3 and the Proposal’s changes to it do not affect Section 3(c)(7) Funds.
Regulated funds
The Proposal would give registered investment advisers to regulated funds two independent routes to charging a performance fee: the “accredited investor channel” and the “fund board channel.” The Proposal provides that a regulated fund is a qualified client:
- provided that each equity owner of any such regulated fund meets the requirements of the qualified client definition or
- on the basis of the regulated fund’s fee cap, governance, and board findings alone, without regard to the qualified client status of the fund’s shareholders.
The newly-introduced fund board channel is a consequential development, because it would allow a regulated fund with unaccredited investors to pay a performance fee with no look-through to the funds shareholders at all. Under the fund board channel, a regulated fund may pay performance-based compensation to its adviser provided three conditions are met:
- The performance compensation does not exceed 20% of the fund’s net capital gains or net capital appreciation over a specified period or as of definite dates.2
- The fund’s board satisfies the fund governance standards in Rule 0-1(a)(7) under the Investment Company Act.
- As part of the annual review and approval of the adviser’s advisory contract under Section 15(c) of the Investment Company Act, the fund’s board, including a majority of directors who are not interested persons, determines that the arrangement is in the best interests of the fund and its shareholders and makes written findings on the arrangement’s appropriateness, the basis on which the fee is calculated, and the adequacy of any investor protection features.
The Proposal would also amend (i) Investment Company Act Forms N-1A and N-2 to require separate fee table disclosure of performance fees and a detailed description of the performance fee arrangement and (ii) Investment Company Act Form N-CSR to require disclosure regarding the board’s approval that mirrors the board’s written findings.
The broader retailization package
Released at the same time as the Proposal, a separate Commission proposal would modernize the SEC’s interval fund framework by amending Rule 23c-3 under the Investment Company Act to loosen the requirements imposed on interval funds while seeking to maintain investor protections.3
Among other things, it would allow for monthly repurchase intervals, permit extended deferral of an interval fund’s first repurchase offer, allow more frequent discretionary repurchases, permit deduction of deferred sales loads from repurchase proceeds, and would replace the rule’s fixed liquidity requirement with a principles-based approach. The same proposal also would replace individual exemptive orders with a rules-based framework permitting registered closed-end funds and BDCs to offer multiple share classes.
A third “retailization” proposal—also released by the Commission on September 30—would expand “accredited investor” eligibility for natural person investors under Rule 501(a)(10) of Regulation D.4 This proposal would designate certain professional certifications, designations, and credentials (including passage of a newly-proposed FINRA-developed exam) as qualifying natural persons for purposes of accredited investor status.56789
Key takeaways
The Proposal would materially expand the ability of registered investment advisers to charge performance fees. For Section 3(c)(1) Fund advisers, the practical effect is a simpler, single qualified client status screen and access to a wider pool of investors.
For advisers to regulated funds, the change is more fundamental: performance fees on capital gains and capital appreciation would become available to advisers to retail funds, because the fund board channel dispenses with any look-through to shareholder qualified client status. The trade-off is that the regulatory burden shifts squarely onto regulated fund independent directors, who will need to make and document particularized findings each year as part of the Section 15(c) advisory contract review process, and regulated fund advisers, who should expect to build the supporting materials for that review.
Advisers with views on the Proposal should consider submitting comments during the 60-day comment period.
Footnotes
1. Investment Adviser Performance-Based Compensation Modernization, SEC Release Nos. 33-11443; 34-106533; IA-7022; IC-36350 (September 30, 2026), available at: https://www.sec.gov/files/rules/proposed/2026/33-11443.pdf
2. The Proposal would permit regulated fund advisers to charge this fee notwithstanding the Advisers Act express limitation on regulated fund performance fees to “fulcrum fees” described in Section 205(b)(2), and, unlike the statutory BDC performance fee exception in Section 205(b)(3), which is limited to realized gains, the amended Rule 205-3 would permit a performance fee to be calculated on both net realized and net unrealized appreciation.
3. Interval Fund Modernization; Expansion of Multiple Share Class to Registered Closed-End Management Investment Companies and Business Development Companies, SEC Release No. 33-11444 (September 30, 2026), available at: https://www.sec.gov/files/rules/proposed/2026/33-11444.pdf
4. See our alert on this proposal.
5. Potential Designation of Passage of an Accredited Investor Exam to Be Developed by FINRA as Qualifying Natural Persons for Accredited Investor Status, SEC Release No. 33-11445 (September 30, 2026), available at: https://www.sec.gov/files/rules/other/2026/33-11445.pdf
6. Potential Designation of U.S. Certified Public Accountant License as Qualifying Natural Persons for Accredited Investor Status, SEC Release No. 33-11446 (September 30, 2026), available at: https://www.sec.gov/files/rules/other/2026/33-11446.pdf
7. Potential Designation of Chartered Financial Analyst Designation as Qualifying Natural Persons for Accredited Investor Status, SEC Release No. 33-11447 (September 30, 2026), available at: https://www.sec.gov/files/rules/other/2026/33-11447.pdf
8. Potential Designation of Certified Financial Planner Certification as Qualifying Natural Persons for Accredited Investor Status, SEC Release No. 33-11448 (September 30, 2026), available at: https://www.sec.gov/files/rules/other/2026/33-11448.pdf
9. Potential Designations of the Investment Banking Representative License (Series 79) and the Research Analyst License (Series 86 and Series 87) as Qualifying Natural Persons for Accredited Investor Status, SEC Release No. 33-11449 (September 30, 2026), available at: https://www.sec.gov/files/rules/other/2026/33-11449.pdf
