A state-registered investment adviser (IA) has decided to switch its fee structure from an asset-based fee to a performance-based fee for a specific client. The client is a wealthy individual with a net worth exceeding $2.5 million. Under the Uniform Securities Act, what condition must be met for the IA to charge a performance-based fee to this client?
- AThe IA must ensure the client is a 'qualified client' and enter into a written contract outlining the fee arrangement.
- BThe IA can charge a performance-based fee only if the client's account is a hedge fund or similar pooled investment vehicle.
- CPerformance-based fees are generally prohibited for state-registered IAs, regardless of client wealth.
- DThe IA must obtain a waiver from the State Administrator to charge a performance-based fee.
Show answer & explanationAnswer & explanation
Correct answer: A. The IA must ensure the client is a 'qualified client' and enter into a written contract outlining the fee arrangement.
Under the Uniform Securities Act, performance-based fees are generally prohibited for state-registered IAs unless certain conditions are met. One key exception is for 'qualified clients,' which typically includes individuals with a net worth exceeding $2.2 million (adjusted for inflation, but $2.5M is safely above). A written contract outlining the fee arrangement is also required.
Why the other options are wrong
- B. While common in hedge funds, the exemption for individual qualified clients is also a direct provision.
- C. While generally prohibited, there are specific exemptions for qualified clients.
- D. Waivers are not typically the mechanism for allowing performance fees; specific exemptions apply.
Performance-Based Fees (USA)
Performance-based fees are generally prohibited for state-registered IAs, but an exemption exists for 'qualified clients' (e.g., high net worth individuals) with a written contract.
- Generally prohibited for state IAs.
- Exemption for 'qualified clients'.
- Requires a written contract.
Memory trick: Fees can grow, but only for the big players and with a clear deal.