Despite the mutual fund industry's best efforts, it does not appear the haze surrounding the Securities and Exchange Commission's controversial redemption fee rule is about to clear.
Adopted last March, the mandate is meant to sniff out instances of market timing that might be illegal or costly to long-term fund shareholders. At its core, the provision lets funds impose a 2% redemption fee on shareholders that sell their stakes within seven days of purchase.
But it also requires that funds draft and enter into legally binding information-sharing agreements with literally thousands of financial intermediaries, many of which could be buried in huge omnibus accounts at a fund's brokerage house. That would include, for instance, tiny employer-sponsored 401(k) accounts. The cost of complying with this aspect of the rule, fund companies have argued, is much too burdensome.
The SEC this month submitted for comment an amendment to the rule, however, that would narrow the definition of financial intermediary to exclude investors that a fund might treat as an individual investor, such as those tiny 401(k) accounts. This could reduce the number of agreements needed to hundreds rather than thousands.
And late last week, the Investment Company Institute began offering its members a model agreement for information sharing.
Narrowing the definition of financial intermediary could slash hundreds of millions of dollars from the rule's estimated price tag, experts have said. And the ICI's 28-page model agreement package should help moderate the legal costs incurred for drafting individual agreements. It also should educate financial intermediaries about their obligations under the rule and ease their concerns about sharing sensitive client information such as Social Security and tax identification numbers.
But Victor Siclari, a partner in the Reed Smith law firm in Pittsburgh, said the industry is not nearer to getting its arms around the rule than it was 12 months ago.
"The whole approach the SEC has taken with this rule has been very disruptive to the fund industry," said Mr. Siclari, a former fund attorney and SEC regulator. "There are a lot of operations and technology problems that accompany this rule. The SEC just doesn't understand this industry as well as it should. It took an entire year for them to provide additional clarity to the rule, and there's still this Oct. 16 deadline out there.
"Fund complexes have been left scratching their heads," he said.
For its part, the SEC has indicated that it would consider pushing the compliance deadline ahead, but a decision is not likely until after a comment period closes next month.
Without a detailed rule, Mr. Siclari said, it has been very difficult to advise fund boards on whether they should consider adopting a redemption fee policy. For starters, he said, it is impossible to determine an exact compliance cost. Some funds have already adopted comprehensive measures to police market timing, so it might be more cost-effective for them to ignore redemption fees.
Mr. Siclari also said that funds are uncertain whether they can even collect redemption fees they have imposed. "Who is going to collect it?" he asked. "How much is it going to cost to track these investors down?"
And though the amendment would narrow the SEC's definition of financial intermediary, the regulator would leave it to the funds to decide whom they should police.
" … isn't that exactly what got them into trouble in the first place?" Mr. Siclari remarked. "Things are just getting cloudier, and time is running out."
The ICI hopes its model agreement package will help. It includes an introductory note from its authors and a pair of cover letters. One is an execution agreement, the other is a negative consent form.
The package also includes a list of the documents that a financial intermediary would receive from a fund and an explanation of what would be needed in return. Accompanying that list is a packet of documents including model agreements, a summary of the SEC rule, a legal outline of potential privacy issues, and information regarding a recent data exchange solution from Depository Trust Clearing Corp.
"Rather than have all of these fund complexes out there come up with their own agreements, their own cover letters, their own packages, we hoped that by providing some uniformity to the process, a package they could tailor to their individual needs, we would greatly facilitate their ability to begin communicating with their intermediaries about the rule," said Tami Salmon, a senior associate counsel at the Washington-based trade group.
Extending a comprehensive package to intermediaries, she added, would give them an opportunity to prepare for data requests from funds.
"They'll know the kinds of information funds are going to be expecting them to provide, and what their role and responsibilities are under the rule," Ms. Salmon said.
She said she expects an executive summary covering privacy issues will be particularly helpful to intermediaries that have feared state and federal law might preclude them from sharing customer information.
"The disclosures of Social Security numbers and other information about individual shareholders mandated by the rule are consistent with applicable federal and state law," according to an analysis from the Washington law firm Alston & Bird.
Kathy Joaquin, the director of operations and distribution at the ICI, said the package's information regarding the Depository Trust technology for transmitting customer data should further alleviate intermediaries' concerns.
"Making financial intermediaries aware that a low-cost, secure method for transmitting that data exists is certainly important," she said.
This article appeared in the March 20 issue of
