Investment Company Act of 1940

What Is the Investment Company Act of 1940?

The Investment Company Act of 1940 is an act of Congress that directs the organization of investment companies and the activities they take part in and sets standards for the investment company industry.

The Act was endorsed into law by President Franklin D. Roosevelt alongside the Investment Advisers Act of 1940, with both giving the Securities and Exchange Commission (SEC) power to control investment trusts and investment advisors. The purpose of the acts was to safeguard investors.

How the Investment Company Act of 1940 Works

The legislation in the Investment Company Act of 1940 is upheld and regulated by the Securities and Exchange Commission (SEC). This legislation characterizes the obligations and requirements of investment companies and the requirements for any publicly traded investment product offerings, like open-end mutual funds, closed-end mutual funds, and unit investment trusts. The Act principally targets publicly traded retail investment products.

Understanding the Investment Company Act of 1940

The Investment Company Act of 1940 was passed to lay out and coordinate a more stable financial market regulatory system following the Stock Market Crash of 1929. It is the primary legislation administering investment companies and their investment product offerings. The Securities Act of 1933 was additionally passed in response to the crash, however it zeroed in on greater transparency for investors; the Investment Company Act of 1940 is centered principally around the regulatory structure for retail investment products.

The Act subtleties rules and regulations that U.S. investment companies must keep while offering and keeping up with investment product securities. Provisions of the Act address requirements for filings, service charges, financial disclosures, and the fiduciary duties of investment companies.

The Act additionally gives regulations to transactions of certain affiliated people and underwriters; accounting procedures; record-keeping requirements; auditing requirements; how securities might be distributed, reclaimed, and repurchased; changes to investment approaches; and actions in the event of fraud or breach of fiduciary duty.

The Investment Company Act of 1940 has greatly protected the retirement savings of people, as mutual funds are a large part of retirement plans, for example, 401(k)s, and annuities.

Further, it presents specific rules for various types of classified investment companies and incorporates provisions administering the rules of companies' operating products, including unit investment trusts, open-end mutual funds, closed-end mutual funds, and that's just the beginning.

Characterizing an Investment Company

The Act likewise characterizes what qualifies as an "investment company." Companies seeking to keep away from the product obligations and requirements of the Act might be eligible for an exemption. For instance, hedge funds in some cases fall under the Act's definition of "investment company" however might have the option to stay away from the Act's requirements by mentioning an exemption under sections 3(c)(1) or 3(c)7.

As per the Investment Company Act of 1940, investment companies must register with the SEC before they can offer their securities in the public market. The Act additionally spreads out the means an investment company is required to take during this registration cycle.

Companies register for various classifications in view of the type of product or the scope of products that they wish to oversee and issue to the investing public. In the U.S., there are three types of investment companies (arranged by federal securities laws): mutual funds/open-end management investment companies; unit investment trusts (UITs); and closed-end funds/closed-end management investment companies. Requirements for investment companies depend on their classification and their product offerings.

Dodd-Frank Act and Partial Repeal

After the Great Recession, President Obama marked the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010. A very large part of legislation brought about the creation of new government agencies to administer various parts of the act, and consequently, the whole financial system in the U.S. The act impacted several areas, including "consumer protection, trading limitations, credit ratings, financial products, corporate governance, and transparency."

Dodd-Frank impacted the Investment Advisers Act of 1940 a larger number of than it did the Investment Company Act of 1940, notwithstanding, hedge funds have been impacted by Dodd-Frank.

Under the Investment Company Act, hedge funds were not required to register. This gave hedge funds a lot of carte blanche in their trading activities. Dodd-Frank laid out new rules for hedge funds and private equity funds to register with the SEC and maintain certain disclosure requirements in light of their size.

Investment Company Act of 1940 FAQs

Why Was the Investment Company Act of 1940 Passed?

The Investment Company Act of 1940 was laid out after the 1929 Stock Market Crash and the Great Depression that continued to safeguard investors and carry greater stability to the financial markets in the U.S.

What Constitutes an Investment Company Under the 1940 Act?

The Act characterizes an investment company as "an issuer that is locked in or proposes to participate in the business of investing, reinvesting, claiming, holding, or trading in securities, and possesses or proposes to get 'investment securities' having a value surpassing 40% of the value of its total assets (exclusive of government securities and cash things) on an unconsolidated basis."

Which Companies Are Qualified for an Exemption?

There are various companies that can meet all requirements for exemptions in view of how they are structured, their activities, as well as their size. This incorporates companies that main offer with regards to about the economy yet not on securities, certain auxiliaries, and companies having under 100 investors.

How Did the Investment Company Act of 1940 Impact Financial Regulation?

The Act impacted the registration and requirements of numerous investment companies and made financial regulation more tight, providing the SEC more power to direct the financial markets. It made rules that protected investors and required investment companies to reveal certain information. Financial regulation turned out to be more robust under the Act.

The Bottom Line

The Investment Company Act of 1940 was passed by FDR in the consequence of the Great Depression after numerous people and families lost all that they had. The purpose of the Act was to furnish the SEC with the power to supervise investment companies and guarantee they are acting as per law and to the greatest advantage of their investors. The purpose of the Act was to safeguard investors no matter what. As financial markets have developed throughout the long term, so has the Investment Company Act, however at its core its purpose continues as before.

Features

The Investment Company Act of 1940 is an act of Congress that controls the formation of investment companies and their activities.
The Act has gone through many changes over the course of the a long time as financial markets have developed and become more complex.
The Act was endorsed into law by FDR who wanted to safeguard investors after the Stock Market Crash of 1929 and the Great Depression that followed.
The legislation in the Investment Company Act of 1940 is authorized and regulated by the Securities and Exchange Commission (SEC).
Companies seeking to keep away from the product obligations and requirements of the Act might be eligible for an exemption.