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We specialize in providing clients with comprehensive legal counsel regarding all aspects of launching and operating a private investment fund. Educating you on the various structural and regulatory considerations one should consider when launching a fund — especially in light of recent market events and today’s rapidly evolving regulatory climate — is a central focus of our practice. As an introduction to our services, this section addresses some of the most frequently asked questions we receive from clients. If you have any questions for us not addressed below or would like to schedule a free consultation, please do not hesitate to contact us.
1) How long does it take to launch a fund?
It depends on the complexity of the fund and the manager’s timeframe. However, for a standard fund with no registration requirements, the process of forming the legal entities and preparing the fund offering documents can typically be completed in 3-4 weeks.
2) What is the standard legal structure?
The fund is typically formed in Delaware as a limited partnership (or, in certain circumstances, as a limited liability company). The management company and general partner of the fund is typically a separate limited liability company formed in the manager’s state of residence. Depending on the manager’s residence (e.g., New York City residents), it may be more tax-efficient to domicile the general partner in Delaware and create a third entity in the manager’s state of residence to serve as the investment manager of the fund. We will work with your accountant to determine which structure is most appropriate for your particular situation.
3) How many investors can I accept in the fund?
It depends. Interests in private funds relying on the section 3(c)(1) exclusion from the definition of an “investment company” under the Investment Company Act of 1940 (“Company Act”) can be beneficially owned by not more than 100 persons. Private funds relying on the section 3(c)(7) exclusion under the Company Act or falling outside the scope of the Company Act altogether can generally accept up to 1,999 investors, provided each investor is a “qualified purchaser,” as defined under the Company Act.
4) Can I accept non-accredited investors in the fund?
Generally, yes. You can accept up to 35 non-accredited investors in the fund and still remain within the private offering exemption “safe harbor” under Regulation D of the Securities Act of 1933. However, accepting non-accredited investors triggers additional disclosure requirements and liability concerns; you should always consult qualified legal counsel beforehand to determine whether accepting non-accredited investors is appropriate for your fund.
5) What is the standard fee structure for a fund?
Fee structures vary depending on multiple factors, including the type of fund (traditional hedge fund, private equity fund, real estate fund, etc.), the trading strategy utilized, and the manager’s ability to raise capital, but the industry standard is to charge a monthly or quarterly management fee equal to 2% of the assets under management and an annual performance allocation equal to 20% of the net profits of the fund, subject to a high-water mark.
6) What is an incubator fund?
An incubator fund is a popular alternative for managers who prefer to gradually transition to a full-fledged fund. To establish an incubator fund, a manager typically capitalizes the fund solely with his or her own assets and manages the fund for 6 to 12 months in order to create a marketable track record and test investment strategies. Establishing an incubator fund allows the manager to reach out to prospective investors and obtain indications of interest using the fund’s track record prior to incurring the full expenses of launching a full-fledged hedge fund. We offer incubator fund formation services to all our clients.
7) Do I need an administrator?
Generally, yes. Although the higher end administrators tend to be cost-prohibitive for smaller funds, there are various retail administration firms that market predominately to start-up managers. Hiring a third-party administrator is vital to marketing the fund to outside investors, especially considering the enormous red flag associated with self-administered funds in light of recent current events. Administrators typically provide net asset value calculations for the fund and each investor, calculate the fees payable to the manager, and oftentimes process subscription and withdrawal requests, as well, depending on the scope of services obtained. We have relationships with various competitively priced local and national administration firms, and will work with you to select the firm best suited to your needs.
8) Do I need a prime broker?
You will most likely need a retail or introducing broker that utilizes a clearing firm for custody and clearing services. Smaller to medium-sized funds typically lack access to the larger prime brokerage firms; engaging an introducing broker bridges the gap between your fund and the custody and clearing services provided by traditional prime brokers.
9) Do I need an annual audit?
It depends, oftentimes on registration status and the types (and timing) of investors accepted in the fund. However, investors will generally be reluctant to invest in a fund that does not engage an independent accounting firm to conduct an annual audit. As with administration firms, there are various boutique firms we can refer you to that offer competitively priced auditing services.
10) Can my fund have a website?
Qualified legal counsel should review all marketing and promotional materials before they are used, including websites. Funds relying on the private offering exemption from registration under Regulation D are prohibited from offering or selling securities in the fund by any form of general solicitation or general advertising (unless structured as a Rule 506(c) exempt offering). As such, it is important that the website be properly structured to avoid direct or indirect references to the fund in non-password protected areas.
11) How can I find investors and raise capital?
You should initially focus on friends, family and other members of your personal network with whom you have a preexisting relationship. Third-party marketers may be used to raise capital for the fund provided each such individual is properly licensed (Series 7) as a registered representative of a broker-dealer. In any event, all marketing efforts should be discussed first with qualified legal counsel to confirm the activities would not be deemed a general solicitation or general advertising of interests in the fund.
12) Can I accept money from IRAs?
Yes. However, if 25% or more of the aggregate interests in the fund are held by benefit plan investors (IRAs, pension plans, 401(k) plans, etc.) and one of those benefit plan investors is subject to ERISA, you will be deemed an ERISA fiduciary with respect to the plan assets; being deemed an ERISA fiduciary imposes significant restrictions and fiduciary responsibilities on you in connection with the fund. One important distinction is that IRAs are not subject to ERISA but do count towards the 25% threshold to the extent any ERISA subject benefit plans are investors in the fund.
13) Do I need any registrations or licenses to manage the fund?
It depends. If you will be investing in securities, you may need to pass the Series 65 exam and register your firm as an investment adviser with the SEC or at the state level, depending on the total assets under management and your state of residence. Many states are currently overhauling their respective securities laws to keep pace with the still evolving federal securities laws under Dodd-Frank, which places an even greater premium on engaging qualified legal counsel to guide you through the applicable federal and state requirements. In addition, if you will be trading futures contracts, options on futures or retail off-exchange forex contracts, you may need to pass the Series 3 exam and/or Series 34 exam and register your firm with the CFTC as a commodity pool operator and/or a commodity trading advisor.
14) Should I establish an offshore fund?
It depends on the types of investors you expect to have in the fund. Offshore funds are often preferable for non-U.S. investors concerned about confidentiality, particularly by avoiding disclosure to U.S. tax and regulatory authorities. Offshore funds are also preferable for U.S. tax-exempt investors who want to avoid unrelated business taxable income. The offshore fund may be established as a stand-alone fund, a side-by-side structure with an existing domestic fund, or a master-feeder structure in which the domestic feeder fund and offshore feeder fund invest their assets in an offshore master fund that conducts all the portfolio trading. We will walk you through each available option and help you determine the most appropriate fund structure for your particular situation.