On June 22, 2011, the Securities and Exchange Commission adopted rules under the Investment Advisers Act of 1940 (“Advisers Act”) implementing provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) with respect to an exclusion for family offices from the definition of an investment adviser under the Advisers Act.

Prior to Dodd-Frank, a common exemption from registration many persons relied on, referred to as the “private adviser” exemption, exempted from registration persons (i) with 14 or fewer clients during the preceding 12 months, (ii) who did not hold themselves out to the public as investment advisers, and (iii) who did not act as an investment adviser to an investment company registered under the Investment Company Act of 1940 (“Investment Company Act”) or a business development company. The private adviser exemption was repealed by Dodd-Frank.

As modified by Dodd-Frank, the Advisers Act now excludes “family offices” from the definition of an investment adviser. To meet the exclusion, the family office must (i) have no clients other than family clients, 1 (ii) be wholly owned by family clients and exclusively controlled by one or more family members, 2 and (iii) not hold itself out to the public as an investment adviser

The important definition is “family client”. The SEC defines a “family client” to include:

• related family members (including all lineal descendants of a common ancestor who is no more than ten generations removed from the youngest generation of family members);
• key employees of the family office 3 ; certain trusts, estates, companies or other entities, including:
  • a charitable foundation or trust whose only current beneficiaries are other family clients and such charitable foundation’s or trust’s funds came exclusively from one or more other family clients;
  • an estate of a family member or key employee;
  • an irrevocable trust in which family clients are the only current beneficiaries; a charitable foundation or trust funded exclusively by family clients in which other family clients and other charitable organizations are the only current beneficiaries;
  • a revocable trust of which a family client is the sole grantor; a trust of which each trustee is a key employee,
  • and each settlor is a key employee or the key employee’s spouse;
  • or a company wholly owned exclusively by, and operated for the sole benefit of, other family clients, provided it is excepted from the definition of “investment company” under the Investment Company Act.

There are grandfather provisions for an adviser who was neither registered nor required to be registered on January 1, 2010, solely because such person provided investment advice to:

• natural persons who (i) at the time of their applicable investment, were officers, directors, or employees of the family office, (ii) who had invested with the family office before January 1, 2010, and (iii) are accredited investors;
• any company owned exclusively and controlled by family members;
• or any registered investment adviser that provides investment advice to the family office and who identifies investment opportunities to the family office, and invests in such transactions on substantially the same terms as the family office invests, but does not invest in other funds advised by the family office, and whose assets as to which the family office directly or indirectly provides investment advice represent, in the aggregate, not more than 5% of the value of the total assets as to which the family office provides investment advice.

Family offices that previously relied on the private adviser exemption must either register as an investment adviser with the SEC or with the applicable state regulators by March 30, 2012, or otherwise fit within the “family office” exclusion or another exemption under the Advisers Act.

In addition, any company existing on July 21, 2011 that would qualify as a family office but for it having as a client a non-profit organization, charitable foundation, charitable trust, or other charitable organization that has received funding from persons that are not family clients may continue to rely on the family office exclusion until December 31, 2013, provided that such non-profit or charitable organization does not accept any additional funding from any non-family client after August 31, 2011 (excluding donations in fulfillment of any earlier pledge).

Investment managers need to compare the new rules with their particular circumstances to see if they meet every element of the rule and determine what, if any, action needs to be taken to transition non-family clients to other advisers.

^{1 If a person who is not a family client becomes a client of the family office as a result of the death of a family member or key employee or other involuntary transfer from a family member or key employee, that person shall be a family client for one year following the transfer of legal title to the assets resulting from the involuntary event. Family members also include certain former family members, such as an ex-spouse.}

^{2 The family office may also be controlled by certain charitable foundations or trusts, other trusts, estates or other entities controlled by, and for the benefit of, family members.}

^{3 Key employees include executive officers, directors, trustees, general partners, or persons serving in a similar capacity of the family office who, in connection with his or her regular functions or duties, participated in the investment activities of the family office for at least the prior 12 months.}