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SEC Proposes Amendments to Fund Redemption Rule

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  • Baker, John
    The Securities and Exchange Commission today posted a release proposing amendments to Rule 22c-2 under the Investment Company Act of 1940. Release No.
    Message 1 of 1 , Mar 1, 2006
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      The Securities and Exchange Commission today posted a release
      proposing amendments to Rule 22c-2 under the Investment Company Act of
      1940. Release No. IC-27255 (Feb. 28, 2006). Rule 22c-2 allows mutual
      funds to impose a redemption fee of up to 2% of the amount redeemed and
      requires most mutual funds (including funds that do not charge a
      redemption fee) to enter into agreements with financial intermediaries
      that hold shares on behalf of other investors in omnibus accounts. The
      rule was adopted in March 2005 to help address abuses associated with
      short-term trading of fund shares. In response to public comments, the
      SEC proposes three changes to the rule:

      --The definition of "financial intermediary" is proposed to
      exclude any intermediary that the fund treats as an individual investor
      for purposes of the fund's policies intended to eliminate or reduce
      dilution of the value of fund shares. The proposed change is intended
      to mitigate the difficulty and expense of identifying and negotiating
      agreements with numerous small financial intermediaries.

      --The requirement to enter into a written shareholder
      information agreement is proposed to apply only to first-tier
      intermediaries - those that submit orders to purchase or redeem shares
      directly to the fund, its principal underwriter or transfer agent, or a
      registered clearing agency. Either the mutual fund or its principal
      underwriter, transfer agent, or registered clearing agency could enter
      into the agreement with a first-tier intermediary. If the first-tier
      intermediary maintains a shareholder account for another financial
      intermediary, the shareholder information agreement must obligate the
      first-tier intermediary to use its best efforts to identify, upon
      request by the fund, those accountholders who are themselves
      intermediaries, and obtain and forward (or have forwarded) the
      underlying shareholder identity and transaction information from those
      intermediaries farther down the chain (i.e., second- or third-tier
      intermediaries, or "indirect intermediaries").

      --If a mutual fund does not have an agreement with a particular
      intermediary, it is proposed that the fund must thereafter prohibit the
      intermediary from purchasing, on behalf of itself or other persons,
      securities issued by the fund. Redemptions would still be allowed.

      The proposing release also provides the SEC's interpretive views
      on several points. First, it will not be necessary for intermediaries
      such as broker-dealers and banks to provide new privacy notices or
      opt-out opportunities to their customers under the Gramm-Leach-Bliley
      Act privacy rules in order to comply with Rule 22c-2, either as adopted
      or as proposed to be amended. Second, although the SEC's proxy rules
      require banks and brokers to obtain customer consent to share certain
      customer information with issuers, these rules do not prohibit
      intermediaries from complying with agreements entered into pursuant to
      Rule 22c-2, even for shareholders who objected to their customer
      information being shared. Third, in the context of insurance company
      separate accounts, a holder of a variable annuity contract is a
      "shareholder" of a mutual fund in which the insurance company separate
      account invests. The SEC also offered its view that redemption fees
      charged pursuant to rule 22c-2 should not be interpreted to cause
      insurance companies to breach their contracts with annuity holders,
      since the redemption fees are imposed by the underlying funds and not
      the insurance companies. Of course, the SEC's view is hardly binding on
      this point of state law.

      Comments on the proposal are due on or before April 10, 2006.
      Rule 22c-2 has a compliance date of October 16, 2006. That compliance
      date remains in effect, although the SEC said it may revise or extend it
      if and when it adopts the proposed amendments. The proposing release is
      available online at


      For my post on the adoption of Rule 22c-2 last year, see


      John M. Baker <JMB@...>
      Stradley Ronon Stevens & Young, LLP http://www.stradley.com
      1220 19th Street NW, Suite 600
      Washington DC 20036
      202.822.0140 fax
      FundLaw Listowner http://groups.yahoo.com/group/fundlaw
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