[Federal Register Volume 85, Number 224 (Thursday, November 19, 2020)]
[Rules and Regulations]
[Pages 73924-74007]
[FR Doc No: 2020-23355]

Vol. 85

Thursday,

No. 224

November 19, 2020

Part III

Securities and Exchange Commission

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17 CFR Parts 270 and 274

Fund of Funds Arrangements; Final Rule

Federal Register / Vol. 85, No. 224 / Thursday, November 19, 2020 /
Rules and Regulations

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 270 and 274

[Release Nos. 33-10871; IC-34045; File No. S7-27-18]
RIN 3235-AM29

Fund of Funds Arrangements

AGENCY: Securities and Exchange Commission.

ACTION: Final rule.

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SUMMARY: The Securities and Exchange Commission (the ``Commission'') is
adopting a new rule under the Investment Company Act of 1940
(``Investment Company Act'' or ``Act'') to streamline and enhance the
regulatory framework applicable to funds that invest in other funds
(``fund of funds'' arrangements). In connection with the new rule, the
Commission is rescinding rule 12d1-2 under the Act and certain
exemptive relief that has been granted from sections 12(d)(1)(A), (B),
(C), and (G) of the Act permitting certain fund of funds arrangements.
Finally, the Commission is adopting related amendments to rule 12d1-1
under the Act and to Form N-CEN.

DATES: Effective Date: This rule is effective January 19, 2021.
    Compliance Dates: The applicable compliance dates are discussed in
sections II.D, II.F and III of this final rule.

FOR FURTHER INFORMATION CONTACT: Bradley Gude, Terri G. Jordan, John
Lee, Adam Lovell, Senior Counsels; Jacob D. Krawitz, Branch Chief;
Melissa Gainor, Brian Johnson, Assistant Directors, at<PHONE_NUMBER>,
Investment Company Regulation Office, Division of Investment
Management, Securities and Exchange Commission, 100 F Street NE,
Washington, DC 20549.

SUPPLEMENTARY INFORMATION: The Commission is adopting 17 CFR 270.12d1-4
(new rule 12d1-4) under the Investment Company Act [15 U.S.C. 80a-1 et
seq.]; \1\ amendments to 17 CFR 270.12d1-1 (rule 12d1-1) under the
Investment Company Act; amendments to Form N-CEN [referenced in 17 CFR
274.101] under the Investment Company Act; and rescission of 17 CFR
270.12d1-2 (rule 12d1-2) under the Investment Company Act.
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    \1\ Unless otherwise noted, all references to statutory sections
are to the Investment Company Act, and all references to rules under
the Investment Company Act are to title 17, part 270 of the Code of
Federal Regulations [17 CFR part 270].
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Table of Contents

I. Introduction
    A. Regulatory Context
    B. Rule 12d1-4 Overview
II. Discussion
    A. Scope
    B. Exemptions From the Act's Prohibition on Certain Affiliated
Transactions
    C. Conditions
    D. Rescission of Rule 12d1-2 and Amendment to Rule 12d1-1
    E. Disclosures Relating to Fund of Funds Arrangements
    F. Compliance Dates
III. Rescission of Exemptive Relief; Withdrawal of Staff Letters
IV. Other Matters
V. Economic Analysis
    A. Introduction
    B. Economic Baseline
    C. Benefits and Costs and Effects on Efficiency, Competition,
and Capital Formation
    D. Reasonable Alternatives
VI. Paperwork Reduction Act
    A. Introduction
    B. Rule 12d1-4
    C. Rule 0-2
    D. Form N-CEN
VII. Final Regulatory Flexibility Analysis
    A. Need for and Objectives of the Rule and Form Amendments
    B. Significant Issues Raised by Public Comments
    C. Small Entities Subject to the Rule
    D. Projected Board Reporting, Recordkeeping, and Other
Compliance Requirements
    E. Agency Action To Minimize Effect on Small Entities
VIII. Statutory Authority

I. Introduction

    We are adopting new rule 12d1-4 under the Investment Company Act
and several related amendments to streamline and enhance the regulatory
framework applicable to fund of funds arrangements. This framework
reflects the Commission's decades of experience with fund of funds
arrangements and will create a consistent and efficient rules-based
regime for the formation, operation, and oversight of fund of funds
arrangements.\2\ We believe that this framework will provide investors
with the benefits of fund of funds arrangements, and will provide funds
with investment flexibility to meet their investment objectives
efficiently, in a manner consistent with the public interest and the
protection of investors.
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    \2\ As discussed in more detail below, section 12(d)(1) of the
Investment Company Act limits the ability of a fund to invest
substantially in securities issued by another fund. See 15 U.S.C.
80a-12(d)(1).
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    Funds increasingly invest in other funds as a way to achieve asset
allocation, diversification, or other investment objectives. According
to staff estimates, approximately 40% of all registered funds hold an
investment in at least one fund,\3\ and total net assets in mutual
funds that invest primarily in other mutual funds have grown from $469
billion in 2008 to $2.54 trillion in 2019.\4\ Retail investors
similarly use fund of funds arrangements as a convenient way to
allocate and diversify their investments through a single,
professionally managed portfolio. For example, a fund of funds may
provide an investor with the same benefits as separate direct
investments in several underlying funds, without the increased
monitoring and recordkeeping that could accompany investments in each
underlying fund.\5\
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    \3\ See infra Table 2. Of those funds investing in other funds,
48% invest at least 5% of their assets in other funds, and 26% hold
more than 90% of their assets in other funds. See infra Table 4. For
more data on fund of funds arrangements, see infra section VI.
    \4\ During this period the number of mutual funds utilizing this
arrangement grew from 838 to 1,469. See Investment Company
Institute, 2020 Fact Book: A Review of Trends and Activities in the
Investment Company Industry (``2020 ICI Fact Book''), at 244,
available at https://www.ici.org/pdf/2020_factbook.pdf.
    \5\ Target-date funds are a common type of fund of funds
arrangement and are designed to make it easier for investors to hold
a diversified portfolio of assets that is rebalanced over time
without the need for investors to rebalance their own portfolio. See
Investment Company Advertising: Target Date Retirement Fund Names
and Marketing, Investment Company Act Release No. 29301 (June 16,
2010) [75 FR 35920 (June 23, 2010)] (proposing disclosure
requirements for target date retirement funds' marketing materials).
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    In December 2018, we proposed rule 12d1-4, which would permit a
fund to acquire shares of another fund in excess of the limits of
section 12(d)(1) without obtaining an exemptive order from the
Commission, subject to certain conditions.\6\ Because the proposed rule
would provide a comprehensive exemption for funds of funds to operate,
the Commission also proposed to rescind rule 12d1-2 under the Act and
individual exemptive orders permitting certain fund of funds
arrangements. In connection with the proposed rescission of rule 12d1-
2, we proposed amendments to rule 12d1-1 under the

Act to allow funds that rely on section 12(d)(1)(G) of the Act to
invest in money market funds that are not part of the same group of
investment companies. Finally, the Commission proposed certain
disclosure amendments to Form N-CEN to provide the Commission
additional census-type information regarding fund of funds
arrangements.
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    \6\ See Fund of Funds Arrangements, Investment Company Act
Release No. 10590 (Dec. 19, 2018) [84 FR 1286 (Feb 1, 2019)] (``2018
FOF Proposing Release''). For purposes of this release and rule
12d1-4, we generally use the term ``funds'' to refer to registered
investment companies and business development companies (``BDCs'')
unless the context otherwise requires. A BDC is a closed-end fund
that: (i) Is organized under the laws of, and has its principal
place of business in, any state or states; (ii) is operated for the
purpose of investing in securities described in section 55(a)(1)-(3)
of the Act and makes available ``significant managerial assistance''
to the issuers of those securities, subject to certain conditions;
and (iii) has elected under section 54(a) of the Act to be subject
to the sections addressing activities of BDCs under the Act. See 15
U.S.C. 80a-2(a)(48). Section 6(f) of the Act exempts BDCs that have
made the election under section 54 of the Act from registration
provisions of the Act.
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    We received more than 100 comment letters on the proposal.\7\ Many
commenters supported the Commission's goal of simplifying the
regulatory framework for fund of funds arrangements.\8\ However,
commenters recommended modifications to the proposed rule.\9\ For
example, several commenters suggested changing the scope of
arrangements permitted by the rule or expanding the scope of certain
exemptions.\10\ Many commenters also recommended alternatives to the
proposed rule's conditions. For instance, commenters strongly opposed
the proposed redemption limit and recommended instead codifying certain
conditions in existing exemptive orders or applying the limitation only
to unaffiliated fund of funds arrangements.\11\ Several commenters
recommended modifications to the proposed rule's control and voting
provisions, while some commenters proposed changes to the proposed
rule's disclosure and board reporting requirements.\12\ Some commenters
expressed concern about the potential impact of the proposed rule's
conditions on existing fund of funds arrangements, particularly in
light of the proposed rescission of rule 12d1-2 and existing exemptive
orders.\13\
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    \7\ The comment letters on the 2018 FOF Proposing Release (File
No. S7-27-18) are available at https://www.sec.gov/comments/s7-27-18/s72718.htm.
    \8\ See, e.g., Comment Letter of Managed Funds Association
(April 30, 2019) (``MFA Comment Letter''); Comment Letter of
Investment Company Institute (April 30, 2019) (``ICI Comment
Letter''); Comment Letter of Investment Adviser Association (May 2,
2019) (``IAA Comment Letter''); Comment Letter of Consumer
Federation of America (May 2, 2019) (``CFA Comment Letter'');
Comment Letter of the Asset Management Group of the Securities
Industry and Financial Markets Association (May 2, 2019) (``SIFMA
AMG Comment Letter''); Comment Letter of Federal Regulation of
Securities Committee of the Business Law Section of the American Bar
Association (June 11, 2019) (``ABA Comment Letter'').
    \9\ See, e.g., ICI Comment Letter; ABA Comment Letter; SIFMA AMG
Comment Letter; Comment Letter of the Committee on Investment
Management Regulation of the New York City Bar Association (May 2,
2019) (``NYC Bar Comment Letter''); Comment Letter of Institute for
Portfolio Alternatives (May 1, 2019) (``IPA Comment Letter'');
Comment Letter of Fidelity Investments (May 2, 2019) (``Fidelity
Comment Letter'').
    \10\ See, e.g., MFA Comment Letter; NYC Bar Comment Letter; CFA
Comment Letter; Comment Letter of T. Rowe Price (May 2, 2019) (``TRP
Comment Letter'').
    \11\ See, e.g., Comment Letter of Guggenheim Investments (May 2,
2019) (``Guggenheim Comment Letter''); Comment Letter of Dimensional
Funds (May 2, 2019) (``Dimensional Comment Letter''); Comment Letter
of Wells Fargo Funds Management, LLC (May 2, 2019) (``Wells Fargo
Comment Letter''); Comment Letter of Federated Investors, Inc. (May
2, 2019) (``Federated Comment Letter''); SIFMA AMG Comment Letter;
Fidelity Comment Letter; NYC Bar Comment Letter.
    \12\ See, e.g., MFA Comment Letter; ICI Comment Letter; IPA
Comment Letter; SIFMA AMG Comment Letter; Fidelity Comment Letter;
Comment Letter of PGIM Investments LLC (May 2, 2019) (``PGIM Comment
Letter''); TRP Comment Letter.
    \13\ See, e.g., Comment Letter of Pacific Investment Management
Company LLC (May 1, 2019) (``PIMCO Comment Letter''); Federated
Comment Letter; SIFMA AMG Comment Letter; Fidelity Comment Letter;
NYC Bar Comment Letter.
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    After consideration of the comments we received, we are adopting
rule 12d1-4 with several modifications designed to increase the
workability of the rule's requirements, while enhancing protections for
investors in fund of funds arrangements. We are also rescinding rule
12d1-2 and exemptive relief that permitted certain fund of funds
arrangements, amending rule 12d1-1 under the Act, and amending Form N-
CEN.

A. Regulatory Context

    Section 12(d)(1) of the Act limits the ability of a fund to invest
substantially in securities issued by another fund. Section 12(d)(1)(A)
of the Act prohibits a registered fund (and companies, including funds,
it controls) from:
     Acquiring more than 3% of another fund's outstanding
voting securities;
     investing more than 5% of its total assets in any one
fund; or
     investing more than 10% of its total assets in funds
generally.\14\
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    \14\ See 15 U.S.C. 80a-12(d)(1)(A). Both registered and
unregistered investment companies are subject to these limits with
respect to their investments in a registered investment company.
Registered investment companies are also subject to these same
limits with respect to their investment in an unregistered
investment company. Sections 3(c)(1) and 3(c)(7) subject private
funds to the 3% limitation on investments in registered funds. 15
U.S.C. 80a-3(c)(1) and 3(c)(7)(D). A ``private fund'' is an issuer
that would be an investment company, as defined in section 3 of the
Act, but for section 3(c)(1) or 3(c)(7) of the Act. 15 U.S.C. 80b-
2(a)(29). In addition, section 60 of the Act makes section 12(d)
applicable to a BDC to the same extent as it if were a registered
closed-end fund. 15 U.S.C. 80a-60.
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    Section 12(d)(1)(B) of the Act addresses the other side of the
transaction by prohibiting a registered open-end fund,\15\ and any
principal underwriter thereof or broker-dealer registered under the
Securities Exchange Act of 1934 (the ``Exchange Act''), from knowingly
selling securities to any other investment company if, after the sale,
the acquiring fund would:
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    \15\ A registered open-end fund is a management company that is
offering for sale or has outstanding any redeemable security of
which it is the issuer. 15 U.S.C. 80a-5(a)(1) (defining ``open-end
company''). A registered closed-end fund is any management company
other than an open-end fund. 15 U.S.C. 80a-5(a)(2) (defining
``closed-end company''). Section 12(d)(1)(C) of the Act also
includes specific limitations on investments in registered closed-
end funds. See 15 U.S.C. 80a-12(d)(1)(C).
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     Together with companies it controls, own more than 3% of
the acquired fund's outstanding voting securities; or
     together with other funds (and companies they control),
own more than 10% of the acquired fund's outstanding voting
securities.\16\
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    \16\ See 15 U.S.C. 80a-12(d)(1)(B).
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    These restrictions are designed to prevent fund of funds
arrangements that allow the acquiring fund to control the assets of the
acquired fund and use those assets to enrich the acquiring fund at the
expense of acquired fund shareholders.\17\ Congress also was concerned
about the potential for duplicative and excessive fees when one fund
invested in another and the formation of overly complex structures that
could be confusing to investors.\18\
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    \17\ This practice is described as ``pyramiding.'' See 2018 FOF
Proposing Release, supra footnote 6, at 1287. Control could be
exercised either directly (such as through the voting power of a
controlling interest) or indirectly (such as coercion through the
threat of large-scale redemptions). See id.
    \18\ Controlling persons profited when acquiring fund
shareholders paid excessive fees due to duplicative charges at both
the acquiring and acquired fund levels. See Investment Trusts and
Investment Companies, Report of the Securities and Exchange
Commission, H.R. Doc. No. 136, 77th Cong., 1st Sess., at ch. 7,
2725-39, 2760-75, 2778-93, (1941) (``Investment Trust Study'') and
Exchange-Traded Funds, Investment Company Act Release No. 28193
(Mar. 11, 2008) [73 FR 14618 (Mar. 18, 2008)] (``2008 ETF Proposing
Release''), at n. 195. See also 2018 FOF Proposing Release, supra
footnote 6, at 9.
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    As discussed in the 2018 FOF Proposing Release, our views and those
of Congress have evolved over the years as fund of funds structures
developed that include investor protections and serve purposes that
benefit investors.\19\ As a result, Congress created three statutory
exceptions that permit different types of fund of funds arrangements
subject to certain conditions.\20\ Congress also gave the Commission
authority in section

12(d)(1)(J) of the Act to exempt any person, security, or transaction,
or any class or classes of transactions, from the restrictions of
section 12(d)(1) if the exemption is consistent with the public
interest and the protection of investors.\21\
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    \19\ See Fund of Funds Investments, Investment Company Act
Release No. 27399 (June 20, 2006) [71 FR 36640 (June 27, 2006)]
(``2006 FOF Adopting Release'') at n.7 and accompanying text; 2008
ETF Proposing Release, supra footnote 18. See also 2018 FOF
Proposing Release, supra footnote 6, at 10-13.
    \20\ See 15 U.S.C. 80a-12(d)(1)(E) (permitting master-feeder
arrangements whereby an acquiring fund invests all of its assets in
a single fund), 15 U.S.C. 80a-12(d)(1)(F) (permitting a fund to take
small positions (up to 3% of another fund's securities) in an
unlimited number of other funds), and 15 U.S.C. 80a-12(d)(1)(G)
(permitting an open-end fund or unit investment trust (``UIT'') to
invest in other open-end funds and UITs that are in the ``same group
of investment companies'').
    \21\ See National Securities Markets Improvement Act of 1996
(``NSMIA''), Public Law 104-290, 110 Stat. 3416 (1996), at Sec.
202(4) (codified at 15 U.S.C. 80a-12(d)(1)(J)); Comm. On Commerce,
Securities Amendments of 1996, H.R. Rep. No. 104-622 (1996), 104th
Cong., 2nd Sess., at 43-44 (``H.R. Rep. No. 622''). Congress added
section 12(d)(1)(J) to resolve questions regarding the scope of the
Commission's authority under section 6(c) of the Act.
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    We previously exercised this exemptive authority to adopt three
rules of general applicability that were based on relief we provided to
specific market participants in exemptive orders.\22\ We also have used
our authority under section 12(d)(1)(J) to issue exemptive orders
permitting fund of funds arrangements that the Act or our rules would
otherwise prohibit when we found those arrangements to be consistent
with the public interest and the protection of investors.\23\ These
exemptive orders permit fund investments in other funds, subject to
specified conditions that are designed to prevent the abuses that led
Congress to enact section 12(d)(1).\24\ Relief from sections
12(d)(1)(A) and (B) was included in exemptive orders permitting
exchange-traded funds (``ETFs'') and exchange-traded managed funds
(``ETMFs'') to operate.\25\
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    \22\ See 2006 FOF Adopting Release, supra footnote 19. Rule
12d1-1 allows funds to invest in shares of money market funds in
excess of the limits of section 12(d)(1). Rule 12d1-2 provides funds
relying on section 12(d)(1)(G) with greater flexibility to invest in
other types of securities. Rule 12d1-3 allows acquiring funds
relying on section 12(d)(1)(F) to charge sales loads greater than
1.5%.
    \23\ As the orders are subject to terms and conditions set forth
in the applications requesting exemptive relief, references in this
release to ``exemptive relief'' or ``exemptive orders'' include the
terms and conditions described in the related applications. See,
e.g., Schwab Capital Trust, et al., Investment Company Act Release
Nos. 24067 (Oct. 1, 1999) [64 FR 54939 (Oct. 8, 1999)] (notice) and
24113 (Oct. 27, 1999) (order) and related application (``Schwab'').
In addition to our section 12(d)(1)(J) authority, we have issued
these orders pursuant to our exemptive authority under sections
17(a) and 6(c) of the Act.
    \24\ The conditions include: (i) Limits on the control and
influence an acquiring fund can exert on the acquired fund; (ii)
limits on certain fees charged to the acquiring fund and its
shareholders; and (iii) limits on the acquired fund's ability to
invest in other funds. See Schwab, supra footnote 23.
    \25\ We recently adopted rule 6c-11, which permits certain ETFs
to operate without obtaining an exemptive order. 17 CFR 270.6c-11.
In adopting rule 6c-11, we did not rescind the portions of existing
ETF exemptive orders that provided relief from sections 12(d)(1)(A)
and (B) and stated that ETFs relying on rule 6c-11 that do not have
exemptive relief from sections 12(d)(1)(A) and (B) may enter into
fund of funds arrangements as set forth in recent ETF exemptive
orders, provided that such ETFs satisfy the terms and conditions for
fund of funds relief in those orders. Exchange-Traded Funds,
Investment Company Act Release No. 33646 (Sep. 25, 2019) [84 FR
57162 (Oct. 24, 2019)] (``2019 ETF Adopting Release''), at 57199.
For purposes of this release, we generally use the term ``ETFs'' to
refer to exchange-traded funds and exchange-traded managed funds
unless the context otherwise requires.
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    The combination of statutory exemptions, Commission rules, and
exemptive orders has created a regulatory regime where substantially
similar fund of funds arrangements are subject to different conditions.
For example, an acquiring fund could rely on section 12(d)(1)(G) and
rule 12d1-2 when investing in an acquired fund within the same group of
investment companies.\26\ Alternatively, the acquiring fund could rely
on relief provided by an exemptive order, which would allow it to
invest in substantially the same investments, but could require the
fund to comply with different conditions. Over time, industry
participants have experimented with new fund of funds structures,
relying on combinations of statutory exemptions and Commission
exemptive orders, and considering staff no-action letters, to create
novel fund of funds arrangements. For example, some commenters
described funds that have combined various forms of section 12(d)(1)
relief to create fund structures that include three or more layers of
funds.\27\
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    \26\ Such a fund would rely on section 12(d)(1)(G) to invest in
acquired funds within the same group of investment companies,
government securities, and short term paper. In addition, the fund
could rely on rule 12d1-2 to invest in: (i) Securities of funds that
are not in the same group of investment companies up to the limits
in section 12(d)(1)(A) or (F); (ii) securities of money market funds
in reliance on rule 12d1-1; and (iii) stocks, bonds, and other
securities.
    \27\ See, e.g., Fidelity Comment Letter; Federated Comment
Letter; Comment Letter of Federated Investors, Inc. (June 7, 2019)
(``Federated 2 Comment Letter'').
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B. Rule 12d1-4 Overview

    In order to create a more consistent and efficient regulatory
framework for fund of funds arrangements, rule 12d1-4 will permit a
registered investment company or business development company (``BDC'')
(collectively, ``acquiring funds'') to acquire the securities of any
other registered investment company or BDC (collectively, ``acquired
funds'') in excess of the limits in section 12(d)(1), subject to the
following conditions:
     Control. Rule 12d1-4 will prohibit an acquiring fund and
its ``advisory group'' from controlling an acquired fund, except in
certain limited circumstances.
     Voting. Rule 12d1-4 will require an acquiring fund and its
advisory group to use mirror voting if it holds more than 25% of an
acquired open-end fund or UIT due to a decrease in the outstanding
securities of the acquired fund and if it holds more than 10% of a
closed-end fund, with the ability to use pass-through voting when
acquiring funds are the only shareholders of an acquired fund.\28\
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    \28\ See infra section II.C.1.b.ii.
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     Required Findings. Rule 12d1-4 will require investment
advisers to acquiring and acquired funds that are management companies
to make certain findings regarding the fund of funds arrangement, after
considering specific factors. The final rule also will require certain
findings with respect to UITs and separate accounts funding variable
insurance contracts, taking into account the unique structural
characteristics of such entities.
     Fund of Funds Investment Agreement. Rule 12d1-4 will
require funds that do not have the same investment adviser to enter
into an agreement prior to the purchase of acquired fund shares in
excess of section 12(d)(1)'s limits (a ``fund of funds investment
agreement'').
     Complex Structures. Rule 12d1-4 will impose a general
three-tier prohibition with certain enumerated exceptions. However, in
addition to these exceptions, the rule will allow an acquired fund to
invest up to 10% of its total assets in other funds (including private
funds), without regard to the purpose of the investment or types of
underlying funds.
    As proposed, we are rescinding rule 12d1-2 under the Act, and
amending rule 12d1-1 to allow funds that rely on section 12(d)(1)(G) to
invest in money market funds that are not part of the same group of
investment companies in reliance on that rule.\29\ In addition, certain
staff no-action letters relating to section 12(d)(1) will be
withdrawn.\30\ The resulting regulatory framework will reduce confusion
and subject similar fund of funds arrangements to tailored conditions
that will enhance investor protection, while continuing to provide
funds with investment flexibility to meet their investment objectives.
In addition, the rule will allow the Commission, as well as funds and

advisers seeking exemptions, to focus exemptive order review resources
on novel products or arrangements.
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    \29\ With the rescission of rule 12d1-2, a fund relying on
section 12(d)(1)(G) will no longer have flexibility to: (i) Acquire
the securities of other funds that are not part of the same group of
investment companies; or (ii) invest directly in stocks, bonds, and
other securities, except in compliance with rule 12d1-4.
    \30\ The list of no-action letters to be withdrawn will be
available on the Commission's website.
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II. Discussion

A. Scope

1. Registered Funds and BDCs
    As proposed, rule 12d1-4 will permit registered investment
companies and BDCs to acquire the securities of other registered
investment companies or BDCs in excess of the limits in section
12(d)(1). As a result, open-end funds (including ETFs), UITs (including
ETFs organized as UITs), and closed-end funds (including BDCs), can
operate in accordance with rule 12d1-4, as both acquiring and acquired
funds.\31\ The scope of permissible acquiring and acquired funds under
rule 12d1-4 is greater than the scope of funds that was permitted by
the Commission's exemptive orders. For example, the rule will allow
open-end funds, UITs, and ETFs to invest in unlisted closed-end funds
and unlisted BDCs beyond the limits in section 12(d)(1).\32\ The rule
similarly will increase permissible investments for closed-end funds
beyond ETFs to allow them to invest in open-end funds, UITs, other
closed-end funds, and BDCs, in excess of the section 12(d)(1) limits.
BDCs, which currently may invest in ETFs in excess of the section
12(d)(1) limits, also will be permitted to invest in open-end funds,
UITs, other BDCs, other closed-end funds and ETMFs. Finally, the rule
will allow ETMFs to invest in open-end funds, UITs, BDCs and other
closed-end funds. Rule 12d1-4, therefore, will create a consistent
framework for all registered funds and BDCs and eliminate unnecessary
and potentially confusing distinctions among permissible investments
for different types of acquiring funds.
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    \31\ As proposed, the final rule will not be available to face-
amount certificate companies. Face-amount certificate companies are
registered investment companies that are engaged or propose to
engage in the business of issuing face-amount certificates of the
installment type, or which have been engaged in such businesses and
have any such certificates outstanding. See section 4(1) of the
Investment Company Act. There is only one face-amount certificate
company currently operating as an investment company and making
current filings pursuant to section 13 [15 U.S.C. 80a-13] or section
15(d) of the Exchange Act [15 U.S.C. 80a-15]. Given the very limited
universe of face-amount certificate companies and the nature of
their investments, face-amount certificate companies are not within
the scope of final rule 12d1-4 as either acquiring funds or acquired
funds. No commenters addressed this aspect of the proposal.
    \32\ We use the terms ``listed closed-end funds'' and ``listed
BDCs'' to refer to closed-end funds and BDCs that are listed and
traded on national securities exchanges. Our exemptive orders have
included a representation that acquiring funds will not invest in
reliance on the order in closed-end funds or BDCs that are not
listed and traded on a national securities exchange. See, e.g.,
Innovator ETFs Trust, et al., Investment Company Act Release Nos.
33214 (Aug. 24, 2018) [83 FR 44374 (Aug. 30, 2018)] (notice) and
33238 (Sept. 19, 2018) (order) and related application (``Innovator
ETFs'').
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    Several commenters supported including all open-end funds, UITs,
BDCs and other closed-end funds within the scope of permissible fund of
funds arrangements under the rule.\33\ The commenters noted that
proposed rule 12d1-4 would provide funds covered by the rule with
flexibility to meet their investment objectives and level the playing
field among registered funds and BDCs operating in accordance with the
rule. However, one commenter raised concerns with arrangements that the
Commission has not previously permitted in exemptive orders.\34\ This
commenter stated that the Commission lacks experience with funds of
funds arrangements that include unlisted closed-end funds and BDCs and
suggested that permitting these funds to rely on the rule as acquired
funds would increase retail investor exposure to higher cost
investments. The commenter also questioned whether one rule should
apply to all types of fund of funds arrangements, noting that several
of the statutory requirements of section 12(d)(1) apply differently to
open-end funds and closed-end funds, and the Commission's historical
exemptive relief also treated these types of funds differently. The
commenter additionally questioned whether the Commission has
appropriately analyzed the risks of fund of funds arrangements
involving ETMFs or ``non-transparent'' ETFs.
---------------------------------------------------------------------------

    \33\ See, e.g., ICI Comment Letter; Comment Letter of
Morningstar, Inc. (May 2, 2019) (``Morningstar Comment Letter'').
    \34\ See CFA Comment Letter.
---------------------------------------------------------------------------

    After considering these comments, we continue to believe that the
universe of permissible fund of funds arrangements generally should not
turn on the type of funds in the arrangement. Instead, the rule should
address differences in fund structures with tailored conditions that
protect investors in all types of covered investment companies against
the abuses historically associated with funds of funds. We believe the
conditions of rule 12d1-4 provide appropriate flexibility for
innovative fund of funds structures while creating a consistent and
streamlined regulatory framework that protects investors in all types
of funds. For example, for a management company to rely on the rule,
the investment advisers to both the acquiring and acquired fund must
make certain determinations before entering into the fund of funds
arrangement.\35\ Similarly, the rule will also require principal
underwriters or depositors of UITs and insurance companies offering
certain separate accounts to make findings tailored to their
characteristics.\36\ The rule also imposes a requirement that certain
acquiring funds and acquired funds enter into a fund of funds
investment agreement, and imposes voting requirements on acquiring
funds' holdings of acquired funds above certain ownership thresholds
that differ depending on the type of acquired fund, as described more
fully below.\37\
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    \35\ See infra section II.C.2.b.i.
    \36\ See infra section II.C.2.b.ii. For example, UITs do not
have a board of directors and do not engage in active management of
a portfolio. The rule therefore will require different
determinations for UITs.
    \37\ See infra sections II.C.1 and 2.
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    With respect to BDCs, we believe that the rule's conditions and
existing statutory provisions will protect investors from concerns
related to undue influence, fees that are excessive due to being
duplicative, or complex structures. For example, as we noted in the
proposal, an acquiring fund board already has a responsibility to see
that the fund is not overcharged for advisory services regardless of
any findings we require.\38\ Additionally, the rule will require fund
of funds arrangements involving BDCs to satisfy the other conditions of
rule 12d1-4, including the requirement to make certain findings as
described in section II.C.2.b. below. One element of these findings is
a determination that the fees and expenses associated with an
investment in an acquired fund, including an investment in an acquired
BDC, do not duplicate the fees and expenses of the acquiring fund.
Further, a BDC operating in accordance with the rule as an acquiring
fund is subject to other existing limitations on its ability to invest
in acquired funds.\39\
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    \38\ Specifically, section 15(c) of the Act requires the
acquiring fund's board of directors to evaluate any information
reasonably necessary to evaluate the terms of the acquiring fund's
advisory contracts (which information would include fees, or the
elimination of fees, for services provided by an acquired fund's
adviser). Section 36(b) of the Act imposes on fund advisers a
fiduciary duty with respect to their receipt of compensation. We
believe that to the extent advisory services are being performed by
another person, such as the adviser to an acquired fund, this
fiduciary duty would require an acquiring fund's adviser to charge a
fee that bears a reasonable relationship only to the services that
the acquiring fund's adviser is providing, and not to any services
performed by an adviser to an acquired fund. See 2018 FOF Proposing
Release, supra footnote 6, at 63-64.
    \39\ See 15 U.S.C. 80a-54(a) (prohibiting a BDC from making any
investment unless, at the time of the investment, at least 70% of
the BDC's total assets are invested in securities of certain
specific types of companies, which do not include funds).

---------------------------------------------------------------------------

    Similarly, we do not believe that including ETMFs or non-
transparent ETFs within the scope of the rule will present unique
investor protection concerns that we have not already extensively
considered and addressed with respect to traditional registered open-
end funds and fully transparent ETFs. Along with fully transparent
ETFs, ETMFs and non-transparent ETFs generally are subject to the
protections of the Act applicable to all registered open-end funds,
including governance and other requirements. Accordingly, we believe
that the conditions of rule 12d1-4, when combined with the protections
imposed by the Act on all investment companies, appropriately address
concerns of duplicative fees, undue influence, and complex structures
with respect to these products.
    Finally, one commenter suggested that the concerns underlying
section 12(d)(1) of the Act largely do not apply to ETFs as acquired
funds in a fund of funds structure.\40\ This commenter stated that
passive investments in ETFs do not implicate Congress' concerns
regarding duplicative fees and undue influence, particularly when an
investor holds an ETF to gain exposure to a particular market or asset
class in an efficient manner, to allocate and diversify investments, or
efficiently hedge a portion of a portfolio or balance sheet. The
commenter stated that ETFs have not been subject to influence from
activist investors despite ETF shares trading in the secondary market,
perhaps because ETF shares have not historically traded at a
significant discount to net asset value. Accordingly, the commenter
urged the Commission to exempt the sale of ETFs as acquired funds from
the limitations in section 12(d)(1)(B) of the Act.
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    \40\ Comment Letter of WisdomTree Asset Management, Inc. (Dec.
12, 2019) (``WisdomTree Comment Letter'').
---------------------------------------------------------------------------

    After considering comments, we continue to believe that investments
in ETFs should be subject to the limitations set forth in section
12(d)(1), and that any investments in excess of the 12(d)(1) limits
should be subject to protective conditions. As a threshold matter, ETFs
issue redeemable securities and are generally classified as open-end
funds under the Act.\41\ As we discussed in our 2008 ETF Proposing
Release, we believe that investments in ETFs, similar to investments in
traditional open-end funds, raise the same concerns of pyramiding and
the threat of large-scale redemptions as other types of open-end
funds.\42\ For example, an acquiring fund might seek to use its
ownership interest in an ETF to exercise a controlling influence over
the ETF's management or policies, or to enter into a transaction with
an affiliate of the acquiring fund. These concerns are most pronounced
when a fund invests in an ETF in a primary market transaction through
an authorized participant.\43\
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    \41\ While most ETFs are classified as open-end funds, some ETFs
are structured as UITs. Regardless of structure, we do not believe
that the redemption of ETF shares in creation unit-sized
aggregations by authorized participants insulates ETFs from the
abuses that section 12(d)(1) was designed to prevent.
    \42\ See 2008 ETF Proposing Release, supra footnote 18, at 69.
    \43\ See generally 2019 ETF Adopting Release, supra footnote 25,
at section I.B (explaining that an authorized participant that has a
contractual arrangement with the ETF (or its distributor) purchases
and redeems ETF shares directly from the ETF in blocks called
``creation units'' as a principal for its own account or as agent
for others, including institutional investors (such as funds)).
---------------------------------------------------------------------------

    ETFs, like other open-end funds, also operate pursuant to the
prohibition in section 12(d)(1)(B), which provides that it is unlawful
knowingly to sell or otherwise dispose of any securities of which the
ETF is an issuer to any other investment company in excess of the
limits in subsection (i) and (ii). Therefore, ETFs that receive
inquiries and other communications from persons identifying themselves
as potential purchasers of the ETF's shares as or through an authorized
participant may want to consider adopting and implementing policies and
procedures to determine whether those persons intend to purchase ETF
shares for investment companies.\44\ Further, principal underwriters
and broker-dealers that transact in an ETF's shares (including an ETF's
authorized participants), are subject to the requirements of section
12(d)(1)(B) of the Act. Accordingly, the final rule will treat ETFs
consistently with other open-end funds and will permit investments in
ETFs as acquired funds subject to the rule's conditions designed to
protect acquired funds and their shareholders.
---------------------------------------------------------------------------

    \44\ For example, an ETF that explains its obligations pursuant
to section 12(d)(1)(B) to potential purchasers who reach out
directly to the ETF, and documents that exchange with the potential
purchaser, generally would satisfy its obligation not to knowingly
sell or otherwise dispose of any of its securities in excess of
12(d)(1)(B) limits. Further, if an ETF intends to rely on rule 12d1-
4 to exceed the section 12(d)(1) limits, such ETF would be required
to comply with the conditions of the rule, including entering into a
fund of funds investment agreement with the acquiring investment
company.
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2. Private Funds and Unregistered Investment Companies
    As proposed, the final rule will not permit private funds and
unregistered investment companies, such as foreign funds, to rely on
the rule as acquiring funds.\45\ As a result, private funds and
unregistered investment companies may acquire no more than 3% of a U.S.
registered fund under the Act.\46\
---------------------------------------------------------------------------

    \45\ We use the term ``foreign fund'' to refer to an
``investment company'' as defined in section 3(a)(1)(A) of the Act
that is organized outside the United States and that does not offer
or sell its securities in the United States in connection with a
public offering. See section 7(d) of the Act (prohibiting a foreign
fund from using the U.S. mails or any means or instrumentality of
interstate commerce to offer or sell its securities in connection
with a public offering unless the Commission issues an order
permitting the foreign fund to register under the Act). A foreign
fund may conduct a private U.S. offering in the United States
without violating section 7(d) of the Act if the foreign fund
conducts its activities with respect to U.S. investors in compliance
with either section 3(c)(1) or 3(c)(7) of the Act (or some other
available exemption or exclusion). See 2018 FOF Proposing Release,
supra footnote 6, at 18-20.
    \46\ Sections 3(c)(1) and 3(c)(7) of the Act subject private
funds to the 3% limitation on investments in registered funds. 15
U.S.C. 80a-3(c)(1) and 3(c)(7)(D).
---------------------------------------------------------------------------

    Several commenters suggested that the Commission broaden the scope
of rule 12d1-4 to permit investments by private funds or unregistered
investment companies in acquired funds beyond the limits in section
12(d)(1).\47\ Some of these commenters highlighted the potential for
private and unregistered investment companies to invest in registered
funds for efficient allocation, diversification, and hedging purposes
and stated that such investments could benefit registered fund
shareholders by increasing the scale and liquidity of the registered
fund.\48\ Commenters that supported broadening the scope of the rule to
include private funds and unregistered investment companies stated that
such funds do not operate in a materially different manner from
registered funds and therefore the concerns underlying section 12(d)(1)
are not any more pronounced for private and unregistered investment
companies nor are different conditions warranted.\49\
---------------------------------------------------------------------------

    \47\ See, e.g., ICI Comment Letter; Comment Letter of American
Investment Council (May 2, 2019) (``AIC Comment Letter''); Comment
Letter of Dechert LLP (May 2, 2019) (``Dechert Comment Letter'');
Comment Letter of Clifford Chance US LLP (May 2, 2019) (``Clifford
Chance Comment Letter''); NYC Bar Comment Letter; IAA Comment
Letter; ABA Comment Letter.
    \48\ See MFA Comment Letter; Comment Letter of BlackRock, Inc.
(May 3, 2019) (``BlackRock Comment Letter'') (stating ``ETFs are
also frequently used as an alternative to futures and other market
beta instruments such as forwards and swaps, especially in markets
where derivatives may be less liquid or nonexistent, because ETFs
offer intraday liquidity''); WisdomTree Comment Letter; NYC Bar
Comment Letter.
    \49\ Comment Letter of Invesco Ltd. (Apr. 30, 2019) (``Invesco
Comment Letter''); MFA Comment Letter; ICI Comment Letter; Dechert
Comment Letter; Comment Letter of Parallax Volatility Advisers, L.P.
(May 1, 2019) (``Parallax Comment Letter''); Comment Letter of
Gracie Asset Management (May 2, 2019) (``Gracie Comment Letter'');
AIC Comment Letter; IAA Comment Letter; Comment Letter of Ropes &
Gray LLP (May 2, 2019) (``Ropes Comment Letter''). One commenter
stated that fee layering and complex structure concerns are not as
significant in the private fund context as they are in the
registered fund context because private fund investors must meet
sophistication standards and typically perform due diligence on a
private fund's structure and fees. Comment Letter of Massachusetts
Mutual Life Insurance Company (May 2, 2019).

---------------------------------------------------------------------------

    While commenters generally suggested subjecting private funds and
unregistered investment companies to the same conditions as other
acquiring funds, some commenters recommended additional conditions that
could apply to private funds and unregistered investment companies
under the rule.\50\ For example, commenters suggested that the rule
could include recordkeeping and reporting requirements tailored to
private funds and unregistered investment companies or limit the
availability of the rule to private funds and unregistered investment
companies with an adviser that is registered with the Commission.\51\
Some commenters suggested that the final rule allow private funds and
unregistered investment companies to invest in only certain types of
funds, such as ETFs, subject to appropriate conditions.\52\
---------------------------------------------------------------------------

    \50\ Some commenters stated that certain private funds have
sought to control closed-end funds that trade at a discount to their
NAV and suggested tailored control and voting conditions if private
funds could rely on the rule to invest in closed-end funds and BDCs.
See AIC Comment Letter; SIFMA AMG Comment Letter. See also infra
section II.C.1.a.ii.
    \51\ Invesco Comment Letter; MFA Comment Letter; ICI Comment
Letter; Gracie Comment Letter; AIC Comment Letter; BlackRock Comment
Letter; Clifford Chance Comment Letter; NYC Bar Comment Letter; IAA
Comment Letter; ABA Comment Letter.
    \52\ See, e.g., BlackRock Comment Letter; Parallax Comment
Letter; MFA Comment Letter (stating that the Commission has already
allowed private funds to invest in money market funds beyond the
limits of section 12(d)(1) of the Investment Company Act in rule
12d1-1, and that secondary market transactions in ETFs may be less
likely to raise certain abuses that section 12(d)(1) was designed to
prevent).
---------------------------------------------------------------------------

    Other commenters recommended that the rule exclude unregistered
investment companies as acquiring funds because the Commission has not
yet extended exemptive relief allowing such funds to acquire other
investment companies in excess of the section 12(d)(1) limits.\53\
These commenters stated that the Commission does not have experience
with this type of fund of funds arrangement, and recommended that the
Commission first provide relief to unregistered investment companies
through the exemptive application process. These commenters suggested
that this process would allow the Commission to weigh the facts and
circumstances of each particular applicant, and the type of underlying
fund in the proposed fund of funds arrangement. Two commenters
recommended that the rule exclude private funds as acquiring funds
because of concerns of undue influence over closed-end funds.\54\
---------------------------------------------------------------------------

    \53\ See Comment Letter of Kauff Laton Miller LLP (May 13, 2019)
(``Kauff Comment Letter''); Comment Letter of Law Office of William
Coudert Rand (May 14, 2019) (``Rand Comment Letter''); Comment
Letter of Cooper LLC (May 24, 2019) (``Cooper Comment Letter'').
    \54\ Comment Letter of Advent Capital Management, LLC (May 1,
2019 (``Advent Comment Letter''); Comment Letter of FS Investments
(May 2, 2019) (``FS Comment Letter'').
---------------------------------------------------------------------------

    After considering comments, we continue to believe that the rule
should not include private funds and unregistered investment companies
as acquiring funds. We acknowledge that permitting private funds and
unregistered investment companies to rely on the rule as acquiring
funds would provide these funds greater investment flexibility, and
would increase the scale of U.S. registered funds that were acquired by
private funds and unregistered investment companies. However, we do not
have sufficient experience tailoring conditions for private funds' and
unregistered investment companies' investments in registered funds to
address in a rule of general applicability the concerns such funds
present as acquiring funds, as described below. To date, few applicants
have requested relief to permit private funds or unregistered
investment companies to invest in registered funds beyond the limits in
section 12(d)(1) of the Act.\55\
---------------------------------------------------------------------------

    \55\ The exemptive application process provides an opportunity
to consider tailored conditions and limitations for a specific
applicant that seeks relief to permit private funds or unregistered
investment companies to invest in registered funds beyond the limits
in section 12(d)(1) of the Act. If granted, the Commission and its
staff could monitor fund of funds arrangements that operate pursuant
to such exemptive relief, determine whether the conditions and
limitations of the relief operate as intended, and consider whether
further rulemaking may be appropriate.
---------------------------------------------------------------------------

    We believe it would be more appropriate to consider designing
protective conditions through the exemptive application process because
including private funds and unregistered investment companies as
acquiring funds raises different concerns. Private funds and
unregistered investment companies are not registered with the
Commission, and their investments in registered funds would not be
subject to the reporting requirements under the Act. In particular,
private funds and unregistered investment companies are not subject to
periodic reporting on Form N-PORT or the new reporting requirements
that we are adopting on Form N-CEN regarding reliance on rule 12d1-
4.\56\
---------------------------------------------------------------------------

    \56\ Form N-PORT requires certain registered funds to report
information about their monthly portfolio holdings to the Commission
in a structured data format. See Investment Company Reporting
Modernization, Investment Company Act Release No. 32314 (Oct. 13,
2016) [81 FR 81870 (Nov. 18, 2016)] (``Reporting Modernization
Adopting Release''). Rule 31a-1 under the Act sets forth certain
other recordkeeping requirements for registered investment
companies.
---------------------------------------------------------------------------

    Additionally, while several commenters noted that many advisers to
private funds are required to disclose census-type information about
their private funds on Form PF, Form PF does not require advisers to
disclose the position-level information that would allow us to monitor
compliance with rule 12d1-4 and its impact on the fund industry.\57\ In
addition, smaller private fund advisers are not required to file Form
PF. Accordingly, under the existing regulatory framework, the
Commission does not receive routine reporting on the amount and
duration of private fund or unregistered investment company investments
in registered funds. As noted in the 2018 FOF Proposing Release, even
if private funds and unregistered investment companies provided basic
reporting on investments in underlying funds, that reporting alone may
not provide an adequate basis to protect against undue influence and
monitor compliance with the rule's conditions.\58\
---------------------------------------------------------------------------

    \57\ See AIC Comment Letter (noting that the Commission could
consider amending Form PF to require an adviser to report if any of
the private funds they advise relied on the rule during the
reporting period); Clifford Chance Comment Letter; NYC Bar Comment
Letter; ABA Comment Letter; Invesco Comment Letter; Parallax Comment
Letter; Gracie Comment Letter. See also 17 CFR 275.204(b)-1
(requiring certain registered investment advisers to private funds
to file Form PF to report information about the private funds they
manage).
    \58\ 2018 FOF Proposing Release, supra footnote 6, at 20.
---------------------------------------------------------------------------

    Private funds and unregistered investment companies are not subject
to many of the governance and compliance requirements of the Act that
are designed to protect investors and reduce conflicts of interest that
are inherent in a fund structure. Such requirements are integral to the
oversight and monitoring provisions of rule 12d1-4 for registered
funds. For example, private funds and unregistered investment companies
are not subject to the board governance requirements of sections 10 and
16 of the Act and the chief compliance officer requirements of rule
38a-1.\59\ We are

adopting rule 12d1-4 against the background of these existing
requirements and the protections they provide for shareholders in a
fund of funds arrangement. Without incorporating additional governance
and compliance obligations for private funds and unregistered
investment companies as acquiring funds, we do not believe rule 12d1-4
would have sufficiently protective conditions to address the undue
influence concerns that Congress raised with respect to fund of funds
arrangements.
---------------------------------------------------------------------------

    \59\ To protect shareholders and address conflicts of interest
that can arise from the management of investment companies, the Act
requires that a registered management investment company be governed
by a board of directors that has a general oversight role, with
certain exceptions. Rule 12d1-4 requires the adviser to an acquiring
fund or acquired fund to submit reports to such fund's board of
directors so that the board can review the adviser's analysis of the
fund of funds arrangement. While UITs are not subject to these
governance and oversight requirements, a UIT does not engage in
active management of its investment portfolio. Accordingly, we
believe that a UIT's investment in an acquired fund presents
different concerns than an investment by a private fund or
unregistered fund. Rule 38a-1 requires a fund (including a UIT) to
adopt and implement written policies and procedures reasonably
designed to prevent a violation of the federal securities laws by
the fund and designate one individual responsible for administering
the fund's policies and procedures as a chief compliance officer.
See Compliance Programs of Investment Companies and Investment
Advisers, Investment Company Act Release No. 26299 (Dec. 17, 2003)
[68 FR 74714 (Dec. 24, 2003)] (``Compliance Rule Adopting
Release''). Under rule 38a-1, a fund would adopt policies and
procedures reasonably designed to prevent a violation of rule 12d1-
4.
---------------------------------------------------------------------------

    We believe designing such protective conditions through the
exemptive application process would allow the Commission to weigh the
policy considerations described above in the context of the facts and
circumstances of the specific fund of funds arrangement described in
the application. The exemptive application process would allow the
Commission to consider appropriate investor protection provisions,
including governance and reporting requirements, applicable to any such
arrangement.\60\ The exemptive application process also would provide
the Commission with an opportunity to analyze the operation and effects
of these fund of funds arrangements before determining whether and how
to address such arrangements in a rule of general applicability. We
encourage interested parties to share their views on such arrangements
by contacting staff in the Division of Investment Management.
---------------------------------------------------------------------------

    \60\ One commenter pointed to rule 12d1-1 as a model for private
fund investments in registered funds. Prior to the adoption of that
rule, the Commission considered specific proposals for exemptive
relief for certain private funds to invest in affiliated money
market funds. See, e.g., Scudder Global Fund, Inc., et al.,
Investment Company Act Release Nos. 24276 (Feb. 3, 2000) [65 FR 6420
(Feb. 9, 2000)] (notice) and 24322 (Feb. 29, 2000) (order) and
related application; Pioneer America Income Trust, et al.,
Investment Company Act Release Nos. 25607 (Jun. 7, 2002) [97 FR
40757 (Jun. 13, 2002)] (notice) and 25647 (Jul. 3, 2002) (order) and
related application. However, the Commission has not yet granted
relief for private funds to invest in registered funds in excess of
the limits of section 12(d)(1) of the Act.
---------------------------------------------------------------------------

    In addition to the challenges applicable to unregistered funds
generally, foreign fund investments in registered funds present
additional concerns.\61\ Specifically, the Commission understands that
some foreign laws and regulations may limit or prevent disclosure of
information to the Commission.\62\ These types of restrictions may
include privacy laws and so-called ``blocking statutes'' (including
secrecy laws) that prevent the disclosure of information relating to
third parties and/or disclosure to the U.S. government.\63\
Additionally, abusive practices by unregistered investment companies
that were associated with such investments were a concern underlying
Congress's amendments to section 12(d)(1) in 1970.\64\ For example, a
Commission report stated that unregistered investment companies could
seek to redeem large holdings in acquired funds due to the instability
of certain foreign economies, political upheaval, or currency
reform.\65\ The Commission also noted that an unregistered investment
company could seek to exert undue influence through the shareholder
voting process.\66\ For these reasons, we also do not believe it is
appropriate at this time to include foreign funds in the scope of
acquiring funds under rule 12d1-4.
---------------------------------------------------------------------------

    \61\ The Commission has stated that a foreign fund that uses
U.S. jurisdictional means in the offering of the securities it
issues and that relies on section 3(c)(1) or 3(c)(7) of the
Investment Company Act would be a private fund. See 2018 FOF
Proposing Release, supra footnote 6, at n.52 (citing Dechert LLP,
Staff No-Action Letter (Aug. 24, 2009) at n.8 (noting that under
certain circumstances, a foreign fund may make a private U.S. offer
in reliance on the exclusion from the definition of ``investment
company'' in sections 3(c)(1) or 3(c)(7) of the Act, and such a
foreign fund is subject to section 12(d)(1) to the same extent as a
U.S. 3(c)(1) or 3(c)(7) fund)).
    \62\ See Recordkeeping and Reporting Requirements for Security-
Based Swap Dealers, Major Security-Based Swap Participants, and
Broker-Dealers, Exchange Act Release No. 87005 (Sep. 19, 2019) [84
FR 68550 (Dec. 16, 2019)], at 68557.
    \63\ Id. Data protection, privacy, confidentiality, bank
secrecy, state secrecy, and national security laws frequently create
obstacles to cross-border flows of information between regulators
and foreign-domiciled registrants. Some of these laws, for example,
prohibit foreign-domiciled registrants in certain jurisdictions from
responding directly to SEC requests for information and documents or
prevent the SEC from being able to conduct any type of examination,
either onsite or by correspondence. See Statement on the Vital Role
of Audit Quality and Regulatory Access to Audit and Other
Information Internationally--Discussion of Current Information
Access Challenges with Respect to U.S.-listed Companies with
Significant Operations in China, SEC Chairman Jay Clayton, SEC Chief
Accountant Wes Bricker, and PCAOB Chairman William D. Duhnke III
(Dec. 7, 2018) available at https://www.sec.gov/news/public-statement/statement-vital-role-audit-quality-and-regulatory-access-audit-and-other.
    \64\ See 2018 FOF Proposing Release, supra footnote 6, at 21,
citing Report of the Securities and Exchange Commission on the
Public Policy Implications of Investment Company Growth, H. Rep. No.
2337, 89th Cong., 2d Sess. (1966) (``PPI Report'') at 318.
    \65\ PPI Report, supra footnote 64, at 315.
    \66\ Id. at 324.
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B. Exemptions From the Act's Prohibition on Certain Affiliated
Transactions

    As proposed, rule 12d1-4 will provide an exemption from section
17(a) of the Act.\67\ In addition, the final rule will provide a
limited exemption from that section for in-kind transactions for
certain affiliated persons of ETFs. Section 17(a) of the Act generally
prohibits an affiliated person of a fund, or any affiliated person of
such person, from selling any security or other property to, or
purchasing any security or other property from, the fund.\68\ It is
designed to prevent affiliated persons from managing the fund's assets
for their own benefit, rather than for the benefit of the fund's
shareholders.\69\
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    \67\ See rule 12d1-4(a); 15 U.S.C. 80a-17(a). With respect to
BDCs, the rule provides an exemption from sections 57(a)(1)-(2) and
57(d)(1)-(2) of the Act for arrangements that comply with rule 12d1-
4. See 15 U.S.C. 80a-56(a)(1)-(2) and 80a-56(d)(1)-(2). The
Commission proposed rule 12d1-4(a) to provide an exemption from
section 57 for BDCs complying with the rule, but did not specify the
relevant subsections in section 57 that are analogous to section
17(a). See generally proposed rule 12d1-4(a) (providing an exemption
from section 57 of the Act). We did not receive comments on this
aspect of the proposal. We are adopting rule 12d1-4(a) with changes
to clarify and specify the relevant subsections of section 57.
    \68\ An affiliated person of a fund includes: (i) Any person
directly or indirectly owning, controlling, or holding with power to
vote, 5% or more of the outstanding voting securities of the fund;
and (ii) any person 5% or more of whose outstanding voting
securities are directly or indirectly owned, controlled, or held
with power to vote by the fund. See 15 U.S.C. 80a-2(a)(3)(A), (B).
Section 17(a) also restricts certain transactions involving funds
that are affiliated because both funds have a common investment
adviser or other person exercising a controlling influence over the
management or policies of the funds. See 15 U.S.C. 80a-2(a)(3)(C).
The determination of whether a fund is under the control of its
advisers, officers, or directors depends on all the relevant facts
and circumstances. See infra section II.C.1.
    \69\ See Investment Trusts and Investment Companies: Hearings on
S. 3580 Before a Subcomm. of the Senate Comm. On Banking and
Currency, 76th Cong., 3rd Sess. 37 (1940) (Statement of Commissioner
Healy).
---------------------------------------------------------------------------

    Absent an exemption, section 17(a) would prohibit a fund that holds
5% or more of the acquired fund's securities from making any additional
investments in the acquired fund, limiting the

efficacy of rule 12d1-4.\70\ Fund of funds arrangements involving funds
that are part of the same group of investment companies or that have
the same investment adviser (or affiliated investment advisers) also
implicate the Act's protections against affiliated transactions,
regardless of whether an acquiring fund exceeds the 5% threshold,
though the rule as adopted will not address all of these
situations.\71\
---------------------------------------------------------------------------

    \70\ If an acquiring fund holds 5% or more of the outstanding
voting shares of an acquired fund, the acquiring fund is an
affiliated person of the acquired fund and the acquired fund is an
affiliated person of the acquiring fund. In general, to the extent
that purchases and sales of acquired fund shares occur on the
secondary market and not through principal transactions directly
between an acquiring fund and an acquired fund, an exemption from
section 17(a) would not be necessary. But, generally, without an
exemption from section 17(a), an acquired fund could not sell its
shares to, or redeem or repurchase those shares from, an affiliated
acquiring fund, and an acquiring fund could not purchase from,
redeem, or resell shares from an affiliated acquired fund.
    \71\ As discussed below, the rule will allow fund of funds
arrangements when: (i) The acquiring fund is in the same group of
investment companies as the acquired fund; or (ii) the acquiring
fund's investment sub-adviser or any person controlling, controlled
by, or under common control with such investment sub-adviser acts as
the acquired fund's investment adviser. See infra section II.C.1.
However, as discussed further below, the final rule will not exempt
from section 17(a) ETF in-kind creations and redemptions involving
certain affiliates.
---------------------------------------------------------------------------

    Section 17(b) of the Act authorizes the Commission to exempt a
proposed transaction from the provisions of section 17(a) if the terms
of the transaction, including the consideration to be paid or received,
are fair and reasonable and do not involve overreaching on the part of
any person concerned, and the transaction is consistent with the policy
of the investment company as recited in the fund's registration
statement and the general purposes of the Act.\72\ We continue to
believe, as discussed in the 2018 FOF Proposing Release, that these
exemptions from section 17(a) meet the standards set forth in sections
17(b) and 6(c) and the rule's conditions make unlikely the prospect of
overreaching by an affiliated fund. For example, the rule prohibits the
acquiring fund and its advisory group from controlling the acquired
fund, which is designed to prevent a fund of funds arrangement that
involves overreaching.
---------------------------------------------------------------------------

    \72\ Section 6(c) of the Act permits the Commission to exempt
any person, security, or transaction or any class or classes of
persons, securities or transactions from any provision of the Act if
such exemption is necessary or appropriate in the public interest
and consistent with the protection of investors and the purposes
fairly intended by the policy and provisions of the Act. See 15
U.S.C. 6(c). The Commission has interpreted its authority under
section 17(b) as extending only to a single transaction and not a
series of transactions. See In re Keystone Custodian Funds, Inc., 21
SEC. 295 (1945) (exempting, under section 6(c) of the Act, a series
of transactions that otherwise would be prohibited by section
17(a)). The Commission's exemptive authority under section 6(c),
however, is not constrained to a single transaction. The Commission
looks to the standards set forth in section 17(b) when issuing
exemptions by rule from section 17(a).
---------------------------------------------------------------------------

    An acquired fund that is an open-end fund or UIT also is protected
from overreaching due to the Act's requirement that all purchasers
receive the same price.\73\ This ensures that the affiliated person
pays the same consideration for fund shares as non-affiliated persons,
consistent with the standards set out in section 17(b). We believe that
this would be true in the context of closed-end funds because the
acquired fund's repurchase of its shares would provide little
opportunity for the acquiring fund to overreach since all holders would
receive the same price.\74\
---------------------------------------------------------------------------

    \73\ See section 22(c) of the Act and 17 CFR 270.22c-1 (rule
22c-1). Primary transactions with an ETF would also be done at a
price based on NAV. 2018 FOF Proposing Release, supra footnote 6, at
n.67.
    \74\ See 2018 FOF Proposing Release, supra footnote 6, at n.68.
---------------------------------------------------------------------------

    As a result, we believe that this exemption is necessary and
appropriate in the public interest and consistent with the protection
of investors and the purposes fairly intended by the policy and
provisions of the Act.\75\ We also believe that the exemption from
section 17(a) is necessary in light of the goals of rule 12d1-4,
subject to the conditions set forth in the rule. Existing orders have
provided exemptive relief from the affiliated transaction provisions in
section 17(a) under similar conditions for many years.\76\
---------------------------------------------------------------------------

    \75\ See supra footnote 72.
    \76\ See 2018 FOF Proposing Release, supra footnote 6, at n.70.
---------------------------------------------------------------------------

    Commenters generally supported the proposed exemptions from section
17(a), agreeing with our view that the utility of the proposed rule
would be limited if it did not exempt fund of funds arrangements from
the affiliated transaction prohibitions in that section.\77\ These
commenters requested, however, that the Commission clarify the
availability of the exemption from section 17(a) when an acquired ETF
transacts on an in-kind basis with an affiliated acquiring fund. The
commenters noted that the 2018 FOF Proposing Release suggests,
consistent with fund of funds exemptive orders, that the rule would
provide relief for the delivery or deposit of basket assets on an in-
kind basis by an affiliated fund (that is, by exchanging certain assets
from the ETF's portfolio, rather than in cash), but the proposed rule
text referred only to relief to permit the purchase and sale of fund
shares between the acquiring fund and acquired fund.
---------------------------------------------------------------------------

    \77\ See, e.g., ICI Comment Letter; Comment Letter of Voya
Investment Management LLC (May 2, 2019) (``Voya Comment Letter'').
---------------------------------------------------------------------------

    After considering comments, we are adopting a modified exemption
from section 17(a) to clarify the rule provides relief from section
17(a) for in-kind transactions when an acquiring fund is purchasing and
redeeming shares of an acquired ETF under certain circumstances. As
adopted, the rule will provide exemptions from section 17(a) with
regard to the deposit and receipt of baskets by an acquiring fund that
is an affiliated person of an ETF (or who is an affiliated person of
such a person) solely by reason of holding with the power to vote 5% or
more of the ETF's shares or holding with the power to vote 5% or more
of any investment company that is an affiliated person of the ETF.\78\
Consistent with exemptive orders regarding ETF applicants, the
exemption will not be available where the ETF is in turn an affiliated
person of the acquiring fund, or an affiliated person of such person,
for a reason other than such power to vote.\79\
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    \78\ Rule 12d1-4(a)(3). ``Baskets'' for purposes of rule 12d1-4
will have the same meaning as in rule 6c-11(a)(1). See rule 12d1-
4(d).
    \79\ See, e.g., AQR Trust and AQR Capital Management, LLC,
Investment Company Act Release Nos. 33343 (Dec. 21, 2018) [83 FR
67441 (Dec. 28, 2018)] (notice) and 33346 (Jan. 28, 2019) (order)
and related application.
---------------------------------------------------------------------------

    We are adopting the rule with this exemption because we agree with
commenters that this rule text clarification is appropriate to permit
ETFs to engage in in-kind purchase or redemption transactions with
certain affiliated acquiring funds on the same basis that they would be
permitted to engage in a cash purchase or redemption transactions with
such affiliated acquiring fund under the rule.\80\ The provision is
similar to rule

6c-11(b)(3).\81\ Purchases and redemptions of ETF creation units are
typically effected in kind, and section 17(a) would prohibit these in-
kind purchases and redemptions by a fund affiliated with the ETF. We
believe that such an exemption is appropriate because all purchases and
redemptions of creation units with such an affiliated fund are at an
ETF's next-calculated NAV, and an ETF would value the securities
deposited or delivered upon redemption in the same manner, using the
same standards, as the ETF values those securities for purposes of
calculating the ETF's NAV. We do not believe that these transactions
will give rise to the policy concerns that section 17(a) is designed to
prevent.\82\
---------------------------------------------------------------------------

    \80\ An ETF would be prohibited under section 17(a)(2) from
purchasing securities and other property (i.e., securities and other
property in the ETF's basket assets) from the affiliated acquiring
fund in exchange for ETF shares. An acquiring fund would be
prohibited under section 17(a)(1) from selling any securities and
other property (i.e., securities and other property in the ETF's
basket assets) to an affiliated ETF in exchange for the ETF's
shares. The orders we have granted permitting investments in ETFs
provide relief from section 17(a) to permit these transactions. See
Barclays Global Fund Advisors, et al., Investment Company Act
Release Nos. 24394 (Apr. 17, 2000) [65 FR 21215 (Apr. 20, 2000)]
(notice) and 24451 (May 12, 2000) (order) and related application.
In addition, rule 6c-11 under the Investment Company Act and our ETF
exemptive orders provide separate affiliated transaction relief for
the acquisition or sale of an ETF's basket assets as part of the
creation or redemption of ETF creation units, but that relief would
not be sufficient to allow an ETF's in-kind transaction with another
fund. See 17 CFR 270.6c-11; 2019 ETF Adopting Release, supra
footnote 25.
    \81\ Rule 6c-11(b)(3). See supra footnote 73 and accompanying
text. See also 2019 ETF Adopting Release, supra footnote 25 at
section II.B.3.
    \82\ See also 2019 ETF Adopting Release, supra footnote 25, at
nn.130-134 and accompanying text.
---------------------------------------------------------------------------

    Further, similar to other fund of funds arrangements, without an
exemption from section 17(a), the rule would be limited in its utility.
In this case, section 17(a) would prohibit the delivery or deposit of
basket assets on an in-kind basis by certain affiliated funds (that is,
by exchanging certain assets from the ETF's portfolio, rather than in
cash). As a result, we also believe that the exemption from section
17(a) regarding this limited exception for ETF in-kind baskets is
necessary in light of the goals of rule 12d1-4, subject to the
conditions set forth in the rule.
    Some commenters also suggested the Commission clarify, or provide
exemptive relief from, section 17(a) for other affiliated transactions
that are within the statutory limits of section 12(d)(1) or fund of
funds arrangements that rely on a statutory exemption.\83\ A few
commenters stated that it would frustrate Congressional intent if the
Commission does not extend section 17(a) exemptive relief to these
types of fund of funds arrangements.\84\
---------------------------------------------------------------------------

    \83\ See Voya Comment Letter; ICI Comment Letter; PIMCO Comment
Letter; SIFMA AMG Comment Letter. Some commenters focused on
suggesting relief from sections 12(d)(1)(A) and 12(d)(1)(F). See ICI
Comment Letter. Other commenters stated relief should include
sections 12(d)(1)(A), (B), (C), (E), (F), and (G). See SIFMA AMG
Comment Letter; PIMCO Comment Letter.
    \84\ See SIFMA AMG Comment Letter; PIMCO Comment Letter; ICI
Comment Letter.
---------------------------------------------------------------------------

    Section 12 and section 17 address different concerns under the Act.
Section 12 addresses concerns regarding ``pyramiding,'' where investors
in the acquiring fund could control the assets of the acquired fund and
use those assets to enrich themselves at the expense of acquired fund
shareholders by virtue of their stake in the acquired fund. Section
17(a) addresses self-dealing and other types of overreaching of a fund
by its affiliates. Although an arrangement may not raise pyramiding
concerns, it may still give rise to self-dealing concerns. As a result,
we do not believe it would frustrate congressional intent, as asserted
by commenters, for some fund of funds arrangements that are within the
limits of, or exempt from section 12(d)(1) to be subject to the
prohibitions of section 17(a).
    However, we recognize that certain fund of funds arrangements are
nearly impossible to utilize absent relief from section 17(a). In the
past, we have considered relief to be implied in these circumstances.
We believe that it is appropriate to imply relief under sections
12(d)(1)(E) and 12(d)(1)(G) because, without this relief, these
statutory provisions would be inoperable.\85\ Transactions permitted by
sections 12(d)(1)(E) and 12(d)(1)(G) are typically affiliated
transactions prohibited by section 17(a).\86\
---------------------------------------------------------------------------

    \85\ See, e.g., 2018 FOF Proposing Release, supra footnote 6, at
n.70.
    \86\ See, e.g., Section 12(d)(1)(E)(ii) (limiting the exception
to situations where the acquiring fund only owns the acquired fund)
and section 12(d)(1)(G)(i)(I) (limiting the exception to situations
where the two funds are part of the same group of investment
companies). For fund of funds arrangements relying on section
12(d)(1)(E), Commission staff has taken the position that
application of section 17(a) of the Act to a registered feeder
fund's cash redemption from a registered master fund would not be
consistent with the basic relationship that section 12(d)(1)(E) is
intended to permit. See Signature Financial Group, Inc., SEC Staff
No-Action Letter (Dec. 28, 1999) (``Signature Financial No-Action
Letter''). Section 12(d)(1)(G) of the Act codified certain exemptive
orders that the Commission had issued permitting funds to purchase
other funds in the same group of funds beyond the limits in section
12(d)(1). The Commission issued those orders generally to funds of
funds where the acquiring and acquired funds were related because
they shared a common investment adviser or the advisers were
affiliated persons within the meaning of section 2(a)(3)(C) of the
Act. Those orders provided relief from section 17(a) of the Act.
See, e.g., T. Rowe Price Spectrum Fund, Inc., Investment Company Act
Release Nos. 21371 (Sept. 22, 1995) [60 FR 50654 (Sep. 22, 1995)]
(notice) and 21425 (Oct. 18, 1995) (order) (``T. Rowe Spectrum
Order''); Vanguard Star Fund, Investment Company Act Release Nos.
21372 (Sept. 22, 1995) (notice) and 21426 (Oct. 18, 1995) (order);
see also MassMutual Institutional Funds, SEC Staff No-Action Letter
(Oct. 19, 1998).
---------------------------------------------------------------------------

    We are not issuing an interpretation that there is an implied
exemption from section 17(a) for fund of funds arrangements that
involve affiliated persons but do not exceed the limits of sections
12(d)(1)(A), (B), or (C), or that meet the statutory exemption in
section (F) of the Act. The section 17(a) exemptions provided in this
rule are limited in scope to those necessary for a fund of funds
structure to operate under the rule and are consistent with the
exemptive relief that we have provided under our exemptive orders. The
types of arrangements that are otherwise permissible under section
12(d)(1) could include arrangements where funds are affiliated persons
for reasons other than holding 5% or more of the acquired fund's
securities. For example, under section 12(d)(1)(A) of the Act, an
acquiring fund that acquires only 3% of the total outstanding voting
stock of an acquired fund generally would not be an affiliated person
by virtue of its holdings.\87\ Expanding section 17(a) relief to all
transactions that are permitted by section 12(d)(1), without the
transaction being subject to protections addressing the relevant
concerns underlying section 17(a), raises issues that would require a
careful consideration of whether additional conditions are necessary to
sufficiently address any risks posed by these transactions.
---------------------------------------------------------------------------

    \87\ An acquiring fund's percentage of outstanding shares of the
acquired fund owned could increase without further acquisition, such
as when there is a decrease in the outstanding securities of the
acquired fund, resulting in the acquiring fund exceeding the 5%
threshold.
---------------------------------------------------------------------------

    Also, unlike transactions permitted by sections 12(d)(1)(E) and
12(d)(1)(G), transactions under these other provisions are possible
without an implied exemption from section 17(a). We have historically
considered whether an exemption from section 17(a) is appropriate (and
subject to appropriately protective conditions) separately. Thus, while
we are not providing the requested interpretation, affiliated
arrangements within the statutory limits of section 12(d)(1) or that
rely on section 12(d)(1)(F) may continue to apply separately for an
exemptive order pursuant to section 17(b).\88\ In addition, funds that
comply with the conditions in rule 12d1-4 may rely upon the rule's
exemption from section 17(a) even if they are not relying upon it for
an exemption from section 12(d)(1).
---------------------------------------------------------------------------

    \88\ For example, some arrangements investing in both affiliated
and unaffiliated underlying funds in amounts not exceeding the
limits in section 12(d)(1)(F) have received an exemption from
section 17(a) for investments in affiliated funds. See, e.g.,
Hennion & Walsh, Inc., et al., Investment Company Act Release Nos.
26207 (Oct. 14, 2003) [68 FR 59954 (Oct. 20, 2003)] (notice) and
26251 (Nov. 10, 2003) (order).
---------------------------------------------------------------------------

    Two commenters requested that we provide an exemption from section
17(d) and rule 17d-1 for affiliated arrangements that rely upon rule
12d1-4, or otherwise comply with section 12(d).\89\ We decline to do
so. Section

17(d) and rule 17d-1 prohibit first- and second-tier affiliates of a
fund, the fund's principal underwriters, and affiliated persons of the
fund's principal underwriters, acting as principal, from effecting any
transaction in which the fund or a company controlled by the fund is a
joint or a joint and several participant.\90\ They are designed to
prevent these persons from managing the fund for their own benefit,
rather than for the benefit of the fund's shareholders. Unlike section
17(a) relief, our fund of funds orders do not currently include
exemptions from section 17(d) and rule 17d-1.\91\ Further, given the
fact-specific nature of many rule 17d-1 applications, and the fact that
we do not normally provide such relief as part of our fund of funds
exemptive orders, we believe it is appropriate to address requests for
relief from section 17(d) and rule 17d-1 separately from rule 12d1-4.
Fund of funds arrangements within the statutory limits of section
12(d)(1) may apply separately for relief through an application for an
order under rule 17d-1 under the Act.
---------------------------------------------------------------------------

    \89\ See SIFMA AMG Comment Letter; PIMCO Comment Letter. Section
17(d) of the Act makes it unlawful for first- and second-tier
affiliates of a fund, the fund's principal underwriters, and
affiliated persons of the fund's principal underwriters, acting as
principal, to effect any transaction in which the fund or a company
controlled by the fund is a joint or a joint and several participant
in contravention of such rules and regulations as the Commission may
prescribe for the purpose of limiting or preventing participation by
such registered or controlled company on a basis different from or
less advantageous than that of such other participant. See 15 U.S.C.
80a-17(d). Rule 17d-1(a) prohibits first- and second-tier affiliates
of a fund, the fund's principal underwriter, and affiliated persons
of the fund's principal underwriter, acting as principal, from
participating in or effecting any transaction in connection with any
joint enterprise or other joint arrangement or profit-sharing plan
in which any such fund or company controlled by a fund is a
participant ``unless an application regarding such joint enterprise,
arrangement or profit-sharing plan has been filed with the
Commission and has been granted.''
    \90\ First-tier affiliates are investment companies and their
affiliated persons. Second-tier affiliates are affiliated persons of
their affiliated persons.
    \91\ In the past, some fund of funds exemptive orders included
relief from section 17(d) and rule 17d-1 for certain service
arrangements. See, e.g., T. Rowe Spectrum Order, supra footnote 86.
---------------------------------------------------------------------------

C. Conditions

    Consistent with the public interest and the protection of
investors, rule 12d1-4 includes conditions designed to prevent the
abuses that historically were associated with fund of funds
arrangements and that led Congress to enact section 12(d)(1). These
conditions are based on the conditions in prior fund of funds exemptive
orders \92\ and commenters' suggestions. The rule establishes a
framework that will subject fund of funds arrangements to a tailored
set of conditions that address differences in fund structures.\93\ The
following table sets forth a general overview of the differences among
the conditions under our current exemptive relief, proposed rule 12d1-
4, and the final rule:
---------------------------------------------------------------------------

    \92\ Schwab, supra footnote 23; Innovator ETFs, supra footnote
32.
    \93\ For example, the conditions regarding layering of fees vary
based on the structure of acquiring fund. See infra section
II.C.2.b.i.

----------------------------------------------------------------------------------------------------------------
                                     Condition under existing
         Concern addressed               exemptive orders       Proposed rule condition    Final rule condition
----------------------------------------------------------------------------------------------------------------
Undue Influence....................  Voting conditions         Voting conditions do not  Voting conditions
                                      (including the point at   differ based on the       (including the point
                                      which the voting          type of acquired fund     at which the voting
                                      condition is triggered)   and would require an      condition is
                                      differ based on the       acquiring fund and its    triggered) differ
                                      type of acquired fund.    advisory group to use     based on the type of
                                     Once an acquiring fund     pass-through or mirror    acquired fund. Voting
                                      (and any other funds      voting when they hold     conditions will
                                      within the advisory       more than 3% of the       require an acquiring
                                      group) holds more than    acquired fund's           fund and its advisory
                                      3% of the acquired        outstanding voting        group to use mirror
                                      closed-end fund's         securities.               voting when they hold
                                      outstanding voting                                  more than: (i) 25% of
                                      securities, the                                     the outstanding voting
                                      acquiring fund must                                 securities of an open-
                                      vote shares of acquired                             end fund or UIT due to
                                      closed-end funds in the                             a decrease in the
                                      manner required by                                  outstanding securities
                                      section 12(d)(1)(E)                                 of the acquired fund;
                                      (i.e., either pass-                                 or (ii) 10% of the
                                      through or mirror                                   outstanding voting
                                      voting), while non-fund                             securities of a closed-
                                      entities within the                                 end fund. In
                                      advisory group must use                             circumstances where
                                      mirror voting.                                      acquiring funds are
                                     For acquired open-end                                the only shareholders
                                      funds or UITs, an                                   of an acquired fund,
                                      acquiring fund (and its                             however, pass-through
                                      advisory group) must                                voting may be used.
                                      vote their shares using
                                      mirror voting only if
                                      the acquiring fund and
                                      its advisory group
                                      become holders of more
                                      than 25% of the
                                      acquired fund's
                                      outstanding voting
                                      securities due to a
                                      decrease in the
                                      outstanding securities
                                      of the acquired fund.
                                     Fund boards must make     An acquiring fund's       Requires a fund of
                                      certain findings and      ability to quickly        funds investment
                                      adopt procedures to       redeem or tender a        agreement between
                                      prevent overreaching      large volume of           acquiring and acquired
                                      and undue influence by    acquired fund shares is   funds unless they have
                                      the acquiring fund and    restricted (replacing     the same investment
                                      its affiliates.           the requirements for      adviser that includes
                                     Requires an agreement      participation             any material terms
                                      between acquiring and     agreements and board      necessary for each
                                      acquired funds agreeing   findings/procedures).     adviser to make the
                                      to fulfill their                                    appropriate finding
                                      responsibilities under                              under the rule, a
                                      the exemptive order (a                              termination provision,
                                      ``participation                                     and a requirement that
                                      agreement'').                                       the acquired fund
                                                                                provide fee and
                                                                                expense information to
                                                                                the acquiring fund.
Complex Structures.................  Limits the ability of an  Limits the ability of     Adviser(s) of acquiring
                                      acquired fund to invest   funds relying on          and acquired funds
                                      in underlying funds       certain exemptions to     that are management
                                      (that is, it limits       invest in an acquiring    companies must make
                                      structures with three     fund and limits the       certain findings
                                      or more tiers of          ability of an acquired    regarding the fund of
                                      funds), subject to        fund to invest in other   funds structure.
                                      certain enumerated        funds, subject to        The principal
                                      exceptions.               certain enumerated        underwriter or
                                                                exceptions.               depositor of a UIT
                                                               Requires an evaluation     must analyze the fund
                                                                of the complexity of      of funds structure and
                                                                the fund of funds         determine that the
                                                                structure and aggregate   arrangement does not
                                                                fees. Specific            result in duplicative
                                                                considerations vary by    fees.
                                                                acquiring fund           Allows an acquired fund
                                                                structure.                to invest up to an
                                                                                additional 10% of its
                                                                                assets in other funds.

Layering of Fees...................  Caps sales charges and    Requires an evaluation    Generally the same as
                                      service fees at limits    of the complexity of      proposed, but the
                                      under current FINRA       the fund of funds         investment adviser to
                                      sales rule (rule 2341)    structure and aggregate   an acquiring
                                      even in circumstances     fees. For management      management company
                                      where the rule would      companies, the adviser    must find that the
                                      not otherwise apply.      must determine that it    aggregate fees and
                                     Requires an acquiring      is in the best interest   expenses are not
                                      fund's adviser to waive   for the acquiring fund    duplicative.
                                      advisory fees in          to invest.
                                      certain circumstances
                                      or requires the
                                      acquiring fund's board
                                      to make certain
                                      findings regarding
                                      advisory fees.
----------------------------------------------------------------------------------------------------------------

    The conditions in rule 12d1-4 as adopted are substantially similar
to the conditions that have been included in our exemptive orders since
1999.\94\ We discuss each of the conditions below.
---------------------------------------------------------------------------

    \94\ See, e.g., Schwab, supra footnote 23.
---------------------------------------------------------------------------

1. Control and Voting
a. Control
    In order to address concerns that a fund could exert undue
influence over another fund, as proposed, rule 12d1-4 will prohibit an
acquiring fund and its advisory group from controlling, individually or
in the aggregate, an acquired fund, except in the circumstances
discussed below.\95\ This condition generally comports with the
conditions of the exemptive relief the Commission has previously
issued.\96\
---------------------------------------------------------------------------

    \95\ See rule 12d1-4(b)(1)(i); rule 12d1-4(d) (defining
``advisory group''). See also infra section II.C.1.b.iii.
(discussing exceptions to the control condition)].
    \96\ See, e.g., Wells Fargo Funds Trust, et al., Investment
Company Act Release Nos. 30201 (Sept. 12, 2012) [77 FR 57597 (Sept.
18, 2012)] (notice) and 30231 (Oct. 10, 2012) (order) and related
application (prohibiting an acquiring fund (and its advisory group
and sub-advisory group) from controlling an acquired fund).
---------------------------------------------------------------------------

    The Act defines control to mean the power to exercise a controlling
influence over the management or policies of a company, unless such
power is solely the result of an official position with such
company.\97\ The Act also creates a rebuttable presumption that any
person who, directly or indirectly, beneficially owns more than 25% of
the voting securities of a company controls the company and that any
person who does not own that amount does not control it.\98\ A
determination of control is not based solely on ownership of voting
securities of a company and depends on the facts and circumstances of
the particular situation.\99\ We have long held that ``controlling
influence'' includes, in addition to voting power, a dominating
persuasiveness of one or more persons, the act or process that is
effective in checking or directing action or exercising restraint or
preventing free action, and the latent existence of power to exert a
controlling influence.\100\
---------------------------------------------------------------------------

    \97\ 15 U.S.C. 80a-2(a)(9).
    \98\ Id. These presumptions continue until the Commission makes
a final determination to the contrary by order either on its own
motion or on application by an interested person.
    \99\ ``[N]o person may rely on the presumption that less than
25% ownership is not control when, in fact, a control relationship
exists under all the facts and circumstances.'' Exemption of
Transactions by Investment Companies with Certain Affiliated
Persons, Investment Company Act Release No. 10698 (May 16, 1979) [44
FR 29908 (May 23, 1979)], at n.2.
    \100\ See 2018 FOF Proposing Release, supra footnote 6, at 32-
33, nn.81-82 (discussing facts and circumstances that may constitute
controlling influence).
---------------------------------------------------------------------------

    We proposed that an acquiring fund and its advisory group could not
control (individually or in the aggregate) an acquired fund.
Accordingly, an acquiring fund and its advisory group's beneficial
ownership of up to 25% of the voting securities of an acquired fund
would be presumed not to constitute control over the acquired fund. The
acquiring fund, therefore, generally could make a substantial
investment in an acquired fund (i.e., up to 25% of the acquired fund's
shares). If, however, facts and circumstances gave an acquiring fund
and its advisory group the power to exercise a controlling influence
over the acquired fund's management or policies (other than as
discussed below), the acquiring fund and other funds in its advisory
group would not be able to rely on the rule even if the fund and its
advisory group owned 25% or less of the acquired fund's voting
securities.
    Commenters generally supported using the concept of ``control'' as
defined under the Act to guard against potential coercive behavior by
an acquiring fund, and agreed that this condition is consistent with
the conditions of existing exemptive relief.\101\ One commenter stated
that the proposed control provision protects acquired funds from undue
influence concerns without disrupting investment strategies or creating
difficult compliance requirements.\102\ We also received more
particularized comments relating to control of closed-end funds, as
discussed below.
---------------------------------------------------------------------------

    \101\ See, e.g., ICI Comment Letter; BlackRock Comment Letter.
    \102\ Invesco Comment Letter.
---------------------------------------------------------------------------

    Reflecting these comments, rule 12d1-4 will prohibit an acquiring
fund and its advisory group from acquiring, and therefore exercising,
control over an acquired fund as proposed.\103\ We believe this
condition will limit a fund's ability to exert undue influence over
another fund.\104\ As discussed in more detail below, we addressed
commenters' concerns regarding undue influence of acquired closed-end
funds by imposing a lower ownership threshold that triggers the rule's
voting conditions for such funds, and by requiring mirror voting when
an acquiring fund exceeds the threshold.
---------------------------------------------------------------------------

    \103\ Like the limits under section 12(d)(1) of the Act, rule
12d1-4's control limitation is an acquisition test. In some
circumstances, an acquiring fund's holdings may trigger the Act's
control presumption through no action of its own. For example, if
the acquiring fund and its advisory group become a holder of more
than 25% of the outstanding voting securities of an acquired fund as
a result of net redemptions and a decrease in the outstanding voting
securities of the acquired fund, the rule does not require the
acquiring fund to dispose of acquired fund shares. However, the
acquiring fund and other entities within its advisory group may not
rely on the rule to acquire additional securities of the acquired
fund when the acquiring fund and other entities within its advisory
group, in the aggregate, hold more than 25% of the acquired fund's
voting securities.
    \104\ If an acquiring fund has a controlling influence over an
acquired fund's management or policies, the acquiring fund would not
be able to rely on the proposed rule even if the fund and its
advisory group owned 25% or less of the acquired fund's voting
securities.
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i. Advisory Group Definition
    The rule will require an acquiring fund to aggregate its investment
in an acquired fund with the investment of the acquiring fund's
advisory group to assess control as proposed.\105\ This aggregation
requirement is consistent with past exemptive orders and is designed to
prevent a fund or adviser from circumventing the control condition by
investing in an acquired fund through multiple controlled

entities, e.g., other funds in the fund complex.
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    \105\ See rule 12d1-4(d) defining ``advisory group'' to mean
either: (1) An acquiring fund's investment adviser or depositor, and
any person controlling, controlled by, or under common control with
such investment adviser or depositor; or (2) an acquiring fund's
investment sub-adviser and any person controlling, controlled by, or
under common control with such investment sub-adviser. Under the
rule, an acquiring fund would not combine the entities listed in
clause (1) with those in clause (2).
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    Commenters recommended that the Commission alter its definition of
``advisory group'' or revisit the requirement to aggregate affiliated
entities for purposes of determining control.\106\ For example, several
commenters suggested that we adopt a narrower definition of ``advisory
group,'' stating that an acquiring fund's investment adviser or
depositor may not direct the investments of the affiliates that fall
within the proposed definition of ``advisory group,'' and in fact could
be unaware of investments by such affiliates.\107\ One of these
commenters stated that this definition of advisory group could be
particularly problematic for large financial services organizations
that have many affiliates under common control, but that operate
independently.\108\ Some commenters recommended that the aggregation
requirement exclude affiliates that are not subject to actual control
by the investment adviser or exclude certain control affiliates where
there are information barriers or other limits.\109\ One commenter
stated that section 12(d)(1)(A) of the Act does not require an
investment adviser to aggregate holdings across its private funds for
purposes of determining control and suggested that rule 12d1-4 follow a
similar approach.\110\ This commenter suggested that the Commission
instead prevent an acquiring fund from seeking to exert control over an
acquired fund by including a general provision in the rule prohibiting
an entity from doing anything indirectly which, if done directly, would
violate the rule.
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    \106\ See, e.g., ICI Comment Letter; BlackRock Comment Letter.
Another commenter generally supported a requirement that funds
advised by the same adviser cannot in the aggregate hold in excess
of 3% of the outstanding voting securities of a given acquired fund.
Comment Letter of General American Investors Company, Inc. (May 2,
2019).
    \107\ ICI Comment Letter; ABA Comment Letter; Voya Comment
Letter.
    \108\ ICI Comment Letter (noting that many affiliates may have
firewall restrictions that prevent the affiliates from coordinating
their investments).
    \109\ See, e.g., ABA Comment Letter; SIFMA AMG Comment Letter;
Dechert Comment Letter. One commenter further suggested that the
Commission clarify that a feeder fund that invests in an acquired
fund in reliance on Section 12(d)(1)(E) should not be included in
the advisory group's ownership calculation, noting that a feeder
fund is already required to use pass-through or mirror voting
pursuant to 12(d)(1)(E)(iii)(aa). Comment Letter of Capital Research
and Management Company (May 2, 2019) (``Capital Group Comment
Letter'').
    \110\ MFA Comment Letter.
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    On the other hand, some commenters suggested that the Commission
should adopt a broader definition of advisory group than proposed.\111\
Specifically, these commenters recommended that the Commission expand
the aggregation requirement to include all accounts managed by the
acquiring fund's adviser, subadviser or their respective affiliates.
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    \111\ Advent Comment Letter; Comment Letter of Skadden, Arps,
Slate, Meagher & Flom LLP (May 2, 2019) (``Skadden Comment
Letter'').
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    Upon considering the comments received, we continue to believe
requiring an acquiring fund to aggregate its holdings with its advisory
group will help prevent a fund or adviser from circumventing the
control condition. Because the control condition effectively allows an
acquiring fund and its advisory group to obtain a significant ownership
stake in an acquired fund by investing through multiple related
entities, we believe it is appropriate to subject all of the affiliates
in an advisory group to this condition. Our exemptive orders include a
similar condition, and funds relying on those orders likely already
have established policies and procedures to monitor compliance with the
aggregation requirement embedded in the definition of the term
``advisory group.'' \112\
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    \112\ See, e.g., Symmetry Panoramic Trust and Symmetry Partners,
LLC, Investment Company Act Release Nos. 33317 (Dec. 6, 2018) [83 FR
63918 (Dec. 12, 2018)] (notice) and 33364 (Feb. 1, 2019) (order) and
related application.
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    We acknowledge that the definition of ``advisory group'' may
capture many affiliates of an acquiring fund and its investment adviser
in a complex financial services firm, and will result in monitoring and
compliance burdens that are greater than if the definition only looked
to the holdings of an acquiring fund and its adviser. To the extent
that a particular advisory group has not already established policies
and procedures pursuant to an exemptive order, we also acknowledge that
the advisory group may need to restructure information barriers to
permit entities within the advisory group to share the necessary
information to comply with the rule. However, other provisions of the
Act and our rules also extend to affiliated persons of an investment
adviser.\113\ These provisions apply to affiliated persons, regardless
of the complexity that may arise because of the way in which a
financial services firm has determined to structure itself. Funds (and
their advisers) have experience developing compliance policies and
procedures in those circumstances.\114\ We believe that requiring the
entities that fall within this definition to aggregate their holdings
in an acquired fund for purposes of the control condition will more
effectively address the risk of undue influence over an acquired fund.
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    \113\ See, e.g., section 17(a) of the Act (prohibiting first-
and second-tier affiliates of a fund from borrowing money or other
property, or selling or buying securities or other property to or
from the fund, or any company that the fund controls). See also
supra footnote 68 and accompanying text.
    \114\ See 17 CFR 270.38a-1 (rule 38a-1 under the Act) (requiring
registered investment companies to adopt, implement and periodically
review written policies and procedures reasonably designed to
prevent violations of the federal securities laws). See also
Compliance Rule Adopting Release, supra footnote 59 (noting that
funds or their advisers should have policies and procedures in place
to identify affiliated persons and to prevent unlawful transactions
with them).
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    The breadth of entities that are included within an advisory group
will reduce the risk that an acquiring fund and its advisory group will
exert undue influence over an acquired fund by accumulating a
controlling ownership position across the advisory group's accounts. We
believe that the condition's definition of advisory group strikes an
appropriate balance between the flexibility for efficient market
activity and protection of acquired funds and their shareholders.
    Additionally, we continue to believe that the advisory group
definition should not encompass funds managed by unaffiliated sub-
advisers. Absent common control, there is little risk that an advisory
group and sub-advisory group would coordinate to exert undue influence
on an acquired fund.\115\ Consistent with past exemptive orders,
therefore, rule 12d1-4 will not require an acquiring fund to aggregate
the ownership of an acquiring fund advisory group with an acquiring
fund sub-advisory group. Instead, each of these groups will consider
its ownership percentage separately and will be subject to the voting
provisions as discussed below.\116\
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    \115\ However, if the sub-adviser or any person controlling,
controlled by, or under common control with such investment sub-
adviser acts as an acquired fund's investment adviser or depositor,
then the sub-advisory group and advisory group will be required to
aggregate their ownership for purposes of determining control
pursuant to rule 12d1-4(b)(1)(i).
    \116\ See rule 12d1-4(b)(1)(ii).
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ii. Closed-End Funds
    Rule 12d1-4 will include voting requirements specific to acquired
closed-end funds in response to concerns raised by commenters with
respect to undue influence over closed-end funds.\117\ The proposed
rule included voting requirements, as described in section II.C.1.b
below, and would have required that an acquiring

fund and its advisory group not control (individually or in the
aggregate) any acquired fund, whether open-end or closed-end.\118\ As
discussed above, the rule 12d1-4 control prohibition also applies if
facts and circumstances exist that give an acquiring fund and its
advisory group the power to exercise a controlling influence over an
acquired closed-end fund's management or policies, even if the
acquiring fund and its advisory group owned 25% or less of the acquired
closed-end fund's voting securities.\119\
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    \117\ These voting conditions will also apply to voting of
shares of acquired BDCs. See rule 12d1-4(b)(1)(ii).
    \118\ Proposed rule 12d1-4(b)(1).
    \119\ See 2018 FOF Proposing Release, supra footnote 6, at 32-
33.
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    In the 2018 FOF Proposing Release, we requested comment on whether
the rule's control and voting requirements should vary depending on the
type of acquired fund, including whether there should be a lower or
higher threshold for closed-end funds, and whether the threshold should
differ for listed and unlisted closed-end funds.\120\ As adopted, the
rule does not impose a lower investment limit on investments in a
closed-end fund by an acquiring fund and its advisory group; however,
the rule will impose a mirror-voting requirement at a lower ownership
threshold than the voting requirements applicable to open-end funds and
UITs. Specifically, the rule will require mirror voting if an acquiring
fund and its advisory group hold more than 10% of the voting securities
of a closed-end fund. This voting requirement is designed to protect an
acquired closed-end fund from undue influence through the shareholder
vote mechanism. In addition, the rule will require an acquiring fund to
enter into a fund of funds investment agreement with an acquired fund
prior to exceeding the investment limits set forth in section 12(d)(1).
Together, these provisions are designed to protect acquired closed-end
funds from undue influence by acquiring funds and their advisory
groups.
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    \120\ Id. at 45. We requested comment on whether the proposed
control and voting conditions sufficiently protect acquired funds,
and whether there may be other conditions that would address the
potential for undue influence by an acquiring fund and its
controlling persons, including a lower limit on investments by an
acquiring fund and its advisory group in an acquired fund. Id. at
43.
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    Several commenters recommended alternatives to the proposed control
condition for fund of funds arrangements with acquired closed-end
funds. For example, commenters recommended that, instead of relying on
the concept of ``control'' for acquired closed-end funds, rule 12d1-4
should limit the aggregate ownership by an acquiring fund and its
advisory group to 10% of an acquired closed-end fund's voting
securities in order to protect these funds from undue influence.\121\
One commenter stated that an acquiring fund that holds approximately
15% of an acquired closed-end fund could dictate certain actions of the
acquired closed-end fund.\122\ The commenter also recommended expanding
the definition of advisory group and requiring an acquiring fund (and
the expanded advisory group) to reduce its holdings in an acquired fund
to less than 25% within a defined period of time in order to discourage
activist investors from increasing their holdings in target funds just
prior to effectiveness of the rule.\123\
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    \121\ Advent Comment Letter; Comment Letter of TPG Specialty
Lending, Inc. (May 2, 2019) (``TPG Comment Letter.'').
    \122\ Advent Comment Letter (stating that holdings below the 25%
level result in the type of undue influence the Commission is
seeking to prevent, such as a large holder being able to dictate
various events including the initiation of a proxy contest). See
also PIMCO Comment Letter (recommending that, if private funds and
foreign funds are permitted to rely on the rule, such funds must act
within the limits of section 12(d)(1)(C) as if they were registered
funds); Skadden Comment Letter; ICI Comment Letter. Section
12(d)(1)(C) prohibits funds (together with companies or funds they
control and funds that have the same adviser) from acquiring more
than 10% of the outstanding voting stock of a closed-end fund. 15
U.S.C. 80a-12(d)(1)(C).
    \123\ Advent Comment Letter.
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    Two commenters encouraged the Commission to allow acquired funds
and their boards, at their option, to set their own limit for an
acquiring fund's investments.\124\ These commenters suggested that an
agreement between an acquiring and acquired fund (similar to a
participation agreement under current fund of funds exemptive relief)
could allow the acquired fund and its board to evaluate the effects of
the acquiring fund's investment, including any risks of undue
influence, and set an appropriate limit.\125\ Similarly, commenters
suggested that the rule should provide acquired funds with the ability
to grant consent to potential investments by acquiring funds,
effectively permitting acquired funds to screen their investors and
refuse investments by acquiring funds based on undue influence
concerns.\126\
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    \124\ Dimensional Comment Letter (noting that a higher
discretionary investment limit might be beneficial for a newly
formed or smaller fund that seeks large investments by acquiring
funds in order to achieve economies of scale); Advent Comment Letter
(explaining that an acquired fund might use a participation
agreement to permit an acquiring fund to purchase more than 10% of
its voting securities, and the participation agreement can require
passive investment).
    \125\ Dimensional Comment Letter, Advent Comment Letter.
    \126\ ABA Comment Letter; AIC Comment Letter; Dimensional
Comment Letter (explaining that the participation agreement
requirement of existing exemptive relief has been helpful for a
potential acquired fund to refuse large investments by an acquiring
fund that may present a risk of undue influence, and recommending
the preservation of such a control).
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    Other commenters suggested the Commission adopt a passive investor
certification and reporting regime similar to that under Section 13 of
the Securities Exchange Act of 1934 and Schedules 13D and 13G to
protect acquired closed-end funds against undue influence.\127\ Under
such a regime, an acquiring fund would certify to the Commission, or
would only be able to operate in accordance with rule 12d1-4, if it
holds the acquired fund's securities in the ordinary course of business
and not for the purpose of or with the effect of changing or
influencing the management or policies of the acquired fund. Commenters
representing closed-end funds or their investors also recommended that,
if rule 12d1-4 were to permit private funds to acquire closed-end
funds, it should incorporate additional protections specific to closed-
end funds.\128\
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    \127\ Skadden Comment Letter; BlackRock Comment Letter.
    \128\ See, e.g., Comment Letter of Nuveen, LLC (May 2, 2019)
(``Nuveen Comment Letter''); SIFMA AMG Comment Letter; PIMCO Comment
Letter; Skadden Comment Letter; Voya Comment Letter; Guggenheim
Comment Letter; Advent Comment Letter.
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    Rule 12d1-4, as adopted, will prohibit an acquiring fund and its
advisory group from exercising control over an acquired closed-end fund
and will impose a mirror-voting requirement if an acquiring fund and
its advisory group hold more than 10% of the voting securities of a
closed-end fund.\129\ We believe these conditions will more effectively
address undue influence concerns regarding acquired closed-end funds
than a reporting or certification requirement on acquiring funds, and
they will avoid potential duplicative reporting requirements on certain
acquiring funds.\130\
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    \129\ See rule 12d1-4(b)(1). This voting requirement applies at
a 10% ownership threshold, while the Act creates a rebuttable
presumption that any person who directly or indirectly beneficially
owns more than 25% of the voting securities of a company controls
the company.
    \130\ See, e.g., Part C of Form N-PORT (requiring monthly
disclosure of certain registered management investment companies'
portfolio holdings, including disclosure of investments in other
investment companies).
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    As an additional protective condition, discussed below in section
II.C.2, the rule will require an acquiring fund and an acquired closed-
end fund that do not share an investment adviser to enter into a fund
of funds investment agreement prior to the acquiring fund exceeding the
investment limits of section 12(d)(1)(A). This agreement will

enable an acquired closed-end fund to screen potential acquiring fund
investors and set conditions on investments in the acquired fund, if
desired. The agreement also will allow an acquired closed-end fund to