Private Funds Law: Registration, Regulation D, and Reporting

Private funds law is the body of federal securities regulation that governs how hedge funds, private equity funds, venture capital funds, and similar pooled vehicles raise money, manage assets, and deal with their investors. Two statutes do most of the work: the Investment Advisers Act of 1940 regulates the people who manage the funds, and the Investment Company Act of 1940 regulates the funds themselves and sets out the exclusions that let them operate outside the rules written for mutual funds and other retail products.¹

The Two Statutes That Structure Everything

The Investment Advisers Act reaches the manager. Any firm exercising discretion over a private fund’s investments is an investment adviser and picks up registration duties, ongoing compliance obligations, and the anti-fraud provisions of Section 206, which prohibit any deceptive scheme or practice against a client.²

The Investment Company Act reaches the fund. Its default rule treats any entity pooling investor money to buy securities as an “investment company” that must register with the SEC and accept strict limits on leverage, affiliated transactions, and portfolio structure. Private funds avoid that fate by fitting inside specific statutory exclusions. Without them, a hedge fund would face the same operational constraints as a mutual fund.

Fiduciary Duty Owed by Fund Managers

Every investment adviser owes its clients a fiduciary duty made up of a duty of care and a duty of loyalty.³ The duty of care requires investment decisions made with the skill and diligence the fund’s strategy demands, and advice grounded in the client’s objectives. The duty of loyalty requires full disclosure of conflicts. A manager collecting transaction fees from portfolio companies has to disclose that income rather than pocket it silently. Breaches can produce SEC enforcement actions, disgorgement, civil fines, industry bars, and criminal prosecution where fraud is involved.

Who Has to Register as an Adviser

The registration line runs mostly through assets under management. Advisers with at least $110 million in AUM register with the SEC as Registered Investment Advisers.⁴ Below that, firms generally register with their home-state securities regulator.

Two groups can file instead as Exempt Reporting Advisers. First, advisers whose only clients are venture capital funds. Second, advisers to private funds whose combined private fund assets stay under $150 million.¹ Exempt Reporting Advisers still file a limited Form ADV with identifying information, organizational structure, disciplinary history, and private fund details, updated annually. They remain fully subject to the Advisers Act’s anti-fraud rules. The label means lighter paperwork, not freedom from the law.

Exclusions From Investment Company Registration

Private funds sidestep Investment Company Act registration through Section 3(c). Three exclusions carry most of the traffic.

Section 3(c)(1): The 100-Owner Limit

Section 3(c)(1) excludes any issuer whose securities are beneficially owned by no more than 100 persons and that does not make a public offering.⁵ Counting the owners has traps. If another fund owns 10% or more of the issuer and is itself an investment company (or would be but for its own 3(c)(1) exclusion), the statute looks through that fund and counts its individual investors against the cap. Managers have to track transfers, estate distributions, and downstream ownership changes. Crossing the line strips the exclusion and forces restructuring or full registration.

Section 3(c)(7): Qualified Purchasers Only

Section 3(c)(7) removes the owner cap but requires every investor to be a qualified purchaser at the time they acquire their interest.⁶ Qualified purchaser status requires at least $5 million in investments for an individual, or at least $25 million for an entity investing on a discretionary basis.⁷ The threshold sits well above the accredited investor standard because these funds operate with minimal guardrails and their investors need to be able to absorb a total loss.

Qualifying Venture Capital Funds

A qualifying venture capital fund can have up to 250 beneficial owners so long as its total capital contributions and uncalled commitments stay at or below $12 million.¹ The dollar limit is indexed to inflation, and the SEC adjusts it every five years.⁵ This carve-out fits early-stage venture funds that want a wider investor base but raise small amounts.

Knowledgeable Employees

Employees in investment roles at a fund’s manager can invest in the fund without counting against the 100-owner cap under 3(c)(1) or having to qualify as a qualified purchaser under 3(c)(7). Rule 3c-5 under the Investment Company Act allows the exception for “knowledgeable employees,” defined broadly to include people involved in the fund’s investment activities and those in policy-making positions at the adviser. It lets key employees put money alongside investors without jeopardizing the fund’s exclusion.

Raising Capital Under Regulation D

Private funds cannot offer their securities to the general public the way a company running an IPO can. They rely on exemptions from the Securities Act of 1933, almost always through Regulation D. Two safe harbors dominate.

Rule 506(b): No General Solicitation

Under Rule 506(b), no advertising or general solicitation. Capital comes through pre-existing relationships, referrals, and direct outreach. The fund can accept up to 35 non-accredited investors, but each must be financially sophisticated enough to evaluate the investment alone or with a representative.⁸ In practice, few funds take any non-accredited investors, because doing so triggers additional disclosure and compliance risk that isn’t worth the smaller checks.

Rule 506(c): Advertising Allowed, Verification Required

Rule 506(c) permits general advertising, but every purchaser must be a verified accredited investor. Verification cannot rest on the investor’s word. Safe harbor methods include reviewing IRS forms reporting income for the two most recent years, examining bank or brokerage statements to confirm net worth, or getting written confirmation from a licensed attorney, CPA, or registered broker-dealer.⁹ The verification friction is why many funds still prefer 506(b) even with the advertising restriction.

Form D and the PPM

Once the first investor is irrevocably committed, the fund must file Form D with the SEC within 15 calendar days.¹⁰ A deadline that lands on a weekend or holiday rolls to the next business day. Form D is a short notice filing, not a registration statement, but missing it invites SEC scrutiny and state-level consequences. Most states also require their own notice filings for Regulation D offerings, with fees that vary by jurisdiction.

Regardless of which rule the fund uses, managers typically deliver a Private Placement Memorandum describing strategy, risks, fees, and key terms. The PPM isn’t legally mandatory under Regulation D, but it functions as the fund’s main defense against claims that investors weren’t adequately informed.

Investor Eligibility Standards

Accredited Investors

Most private fund investors qualify as accredited investors under Rule 501. An individual needs annual income above $200,000 (or $300,000 combined with a spouse or partner) in each of the two most recent years with a reasonable expectation of maintaining that level, or a net worth exceeding $1 million excluding the primary residence.¹¹ Holders of Series 7, Series 65, and Series 82 licenses also qualify, regardless of income or net worth.

Qualified Purchasers

Funds relying on Section 3(c)(7) need every investor to clear the qualified purchaser bar. An individual must own at least $5 million in investments. A family-owned company faces the same $5 million threshold. An entity investing on a discretionary basis must own and invest at least $25 million.⁷ “Investments” here excludes a primary residence and business property used for operations, but covers stocks, bonds, fund interests, and investment real estate.

Getting eligibility wrong is not a paperwork problem. A 3(c)(1) fund that admits its 101st investor, or a 3(c)(7) fund that lets in someone who isn’t a qualified purchaser, may lose its exclusion entirely and be forced to register as an investment company or wind down.

Ongoing Reporting

Form ADV

Form ADV is the adviser’s principal registration and disclosure document. Part 1 collects quantitative information: assets under management, number of employees, ownership, affiliations. Part 2, the “brochure,” is a narrative covering services, fees, strategies, and disciplinary history.¹² Registered advisers update it annually within 90 days of fiscal year-end and file interim amendments promptly when material information changes.

Form PF

Advisers with at least $150 million in private fund assets also file Form PF, which reports fund leverage, counterparty exposure, investor concentration, and sector exposure. Most filers submit annually. Large hedge fund advisers managing $1.5 billion or more in hedge fund assets file quarterly.¹³ The SEC and the Financial Stability Oversight Council use the data to monitor systemic risk, not to evaluate performance. Errors and omissions can produce enforcement actions and significant fines.

Custody Rule and the Audit Alternative

Private fund managers almost always have “custody” of client assets, because they can withdraw funds from fund accounts or deduct management fees. The custody rule (Rule 206(4)-2) requires any adviser with custody to keep client assets at a qualified custodian such as a bank or broker-dealer.¹⁴

Most managers meet their custody obligations through the audit provision. Instead of arranging surprise examinations, the manager has the fund audited annually by an independent PCAOB-registered public accountant, and distributes the audited financial statements to all investors within 120 days of the fund’s fiscal year-end.¹⁴ Funds of funds get an extra 60 days, moving the deadline to 180. A manager that skips the audit provision must instead arrange quarterly custodian account statements to each investor and submit to an annual surprise examination. Most take the audit path because it’s simpler.

Marketing Rule

Rule 206(4)-1 governs how advisers advertise. The performance rule is the one to remember: any presentation of gross performance must also show net performance (after fees and expenses) with equal prominence, over the same time period, using the same methodology.¹⁵ The intent is to keep managers from flashing gross returns while burying the fee drag.

Testimonials and endorsements are permitted, but the adviser must disclose whether the person is a current client or investor, whether they were compensated, and any material conflicts.¹⁵ Hypothetical performance, including backtested strategies, faces its own restrictions: the adviser must adopt policies to confirm the hypothetical results are relevant to the intended audience and must disclose the assumptions and limitations.

Pay-to-Play Restrictions

Rule 206(4)-5 targets political contributions aimed at winning public pension and government advisory business. If an adviser or any of its “covered associates” (executives, solicitors, or employees who solicit government business) contributes to an official with influence over public investments, the adviser is barred for two years from providing advisory services to that government entity.¹⁶

A de minimis exception lets a covered associate who is eligible to vote for the official contribute up to $350 per election without triggering the ban, and up to $150 per election for officials they cannot vote for.¹⁶ The thresholds are low and the two-year penalty is heavy relative to the amounts involved. A single employee’s modest donation to the wrong candidate can cost the firm an eight- or nine-figure advisory relationship.

Tax Rules That Shape Fund Structure

Carried Interest

Managers typically earn a management fee (often around 2% of assets annually) and a performance allocation known as carried interest (often around 20% of profits). Under Section 1061 of the Internal Revenue Code, carried interest allocated to an investment professional qualifies for long-term capital gains rates only if the underlying assets were held for more than three years. If the fund sells an investment held less than three years, the manager’s share of the gain is taxed at the short-term rate, regardless of how long the manager has held the carry itself. Three years is longer than the standard one-year long-term threshold and applies specifically to profits flowing through a carried interest arrangement.

UBTI

Tax-exempt investors, including endowments, foundations, and pension plans, run into a trap in private funds. Most funds are partnerships, so income flows through to investors. When a fund uses leverage to acquire investments, a portion of the resulting income becomes unrelated business taxable income (UBTI) for tax-exempt investors, proportional to the debt used. Income from fund-level borrowing and from investments in operating businesses structured as partnerships can also generate UBTI. Managers seeking tax-exempt capital often provide leverage covenants or use blocker entities to shield those investors.

ERISA 25% Test

Funds that accept investments from ERISA-covered employee benefit plans pick up another compliance layer. If benefit plan investors hold 25% or more of any class of equity, the fund’s assets are treated as “plan assets” under ERISA. That designation pulls the manager into ERISA fiduciary and prohibited-transaction rules, which are considerably more restrictive than the Advisers Act. Most funds either cap benefit plan participation below 25% or structure themselves to qualify for an exemption such as the venture capital operating company or real estate operating company exceptions.

Where the 2023 SEC Private Fund Rules Stand

In August 2023 the SEC adopted a sweeping package of new rules for private fund advisers. The rules would have required quarterly performance statements to investors, restricted certain adviser activities (including borrowing from funds and charging fees for services not performed), mandated fairness opinions for adviser-led secondary transactions, and imposed new requirements around preferential treatment provided to certain investors through side letters. The industry sued almost immediately.

On June 5, 2024, the Fifth Circuit vacated the entire rulemaking. The court held the SEC exceeded its statutory authority on two grounds. Section 211(h) of the Advisers Act, which the SEC relied on heavily, applies to retail customers and not to sophisticated private fund investors. And the SEC failed to identify the specific fraudulent acts the rules were designed to prevent, as required by Section 206(4). Congress, the court said, deliberately exempted private funds from the prescriptive framework applied to retail products, and the SEC could not use general rulemaking authority to reverse that design.¹⁷

None of the 2023 rules are in force. Private fund advisers continue under the pre-2023 framework. The SEC has not announced a new rulemaking, though the existing fiduciary, anti-fraud, and disclosure obligations under the Advisers Act remain fully enforceable.

Anti-Money Laundering Rules Postponed to 2028

Private fund advisers historically have not been subject to Bank Secrecy Act anti-money laundering program requirements, a notable gap compared with banks and broker-dealers. FinCEN finalized a rule in 2024 that would have required both Registered Investment Advisers and Exempt Reporting Advisers to establish AML programs and file Suspicious Activity Reports, with an original effective date of January 1, 2026. FinCEN has since issued a final rule postponing the effective date to January 1, 2028.¹⁸ The date could shift again. If and when the rule takes effect, advisers will need to implement risk-based programs to identify suspicious transactions, designate compliance officers, and file SARs when they know or suspect a transaction involves illicit funds.

1
U.S. Securities and Exchange Commission. Private Funds
2
Office of the Law Revision Counsel. 15 USC 80b-6 – Prohibited Transactions by Investment Advisers
3
U.S. Securities and Exchange Commission. Commission Interpretation Regarding Standard of Conduct for Investment Advisers
4
Securities and Exchange Commission. Transition of Mid-Sized Investment Advisers from Federal to State Registration
5
Office of the Law Revision Counsel. 15 USC 80a-3 – Definition of Investment Company
6
Office of the Law Revision Counsel. 15 U.S. Code 80a-3 – Definition of Investment Company
7
Legal Information Institute. Qualified Purchaser from 15 USC 80a-2(a)(51)
8
U.S. Securities and Exchange Commission. Private Placements – Rule 506(b)
9
U.S. Securities and Exchange Commission. Private Placements – Rule 506(b) – Section: Rule 506 of Regulation D
10
U.S. Securities and Exchange Commission. Filing a Form D Notice
11
U.S. Securities and Exchange Commission. Accredited Investors
12
Securities and Exchange Commission. Form ADV General Instructions
13
Securities and Exchange Commission. Form PF
14
eCFR. 17 CFR 275.206(4)-2 – Custody of Funds or Securities of Clients by Investment Advisers
15
eCFR. 17 CFR 275.206(4)-1 – Investment Adviser Marketing
16
eCFR. 17 CFR 275.206(4)-5 – Political Contributions by Certain Investment Advisers
17
United States Court of Appeals for the Fifth Circuit. National Association of Private Fund Managers v. SEC
18
FinCEN.gov. FinCEN Issues Final Rule to Postpone Effective Date of Investment Adviser Rule to 2028