Private mortgage fund managers run recurring questions on the §3(c)(5)(C) exemption framework. This article answers the questions on the framework discipline, the asset-classification framework, the testing framework, and the corrective-action framework against a §3(c)(5)(C) violation.

What does §3(c)(5)(C) exempt the fund from?

Section 3(c)(5)(C) runs the Investment Company Act registration framework off the fund. The fund runs no SEC registration as an investment company, runs no Form N-1A or N-2 reporting framework, and runs no 1940 Act operational framework. The fund runs the offering framework against Reg D Rule 506 under the Securities Act and runs the operational framework against the fund’s offering documents and operating agreement.

What qualifies as a qualifying interest?

Qualifying interests run three asset categories. The first category runs whole mortgage loans — first-position notes secured by real estate. The second category runs fee interests in real estate — direct ownership of real-property assets. The third category runs other interests classified as qualifying under the SEC no-action position framework — fully-secured installment land contracts and similar instruments that run as the economic equivalent of a whole mortgage loan against the underlying real-estate collateral.

Are B-notes and mezzanine loans qualifying?

The SEC no-action framework runs B-notes and mezzanine loans as real-estate-related interests rather than qualifying interests. The instruments run against the eighty-percent real-estate-related floor but do not run against the fifty-five-percent qualifying-interest floor. A fund that runs a heavy B-note and mezzanine framework runs the qualifying-interest floor against the whole-mortgage-loan and fee-interest framework on the discipline.

How often does the fund run the test?

The standard runs the §3(c)(5)(C) test on the quarterly cycle against the fund’s balance sheet. The fund runs the asset-classification framework against the loan-by-loan and investment-by-investment inventory, and the fund runs the documentation framework against the test result on each measurement date. The annual review framework runs against the fund’s auditor and SEC counsel on the calendar-year cycle.

How does the fund document the test?

The fund runs the documentation framework against four elements. First, the asset inventory on the measurement date. Second, the classification framework against each asset — qualifying, real-estate-related, or miscellaneous. Third, the two-tier ratio against the fifty-five-percent qualifying-interest floor and the eighty-percent real-estate-related floor. Fourth, the documented rationale against the SEC no-action position framework on each classification. The fund runs the documentation against the auditor and SEC counsel on each measurement date.

What happens on a test failure?

A fund that runs below the fifty-five-percent qualifying-interest floor or the eighty-percent real-estate-related floor on a measurement date runs into a §3(c)(5)(C) exemption framework violation. The fund runs the corrective-action framework against the asset-rebalancing cycle — additional whole-mortgage-loan acquisition, divestiture of non-qualifying assets, or reclassification under the no-action framework. The fund runs the corrective framework on a defined cure-period framework — the standard runs a thirty- to sixty-day cure period on the fund’s SEC counsel discipline.

Does §3(c)(5)(C) preempt state securities law?

Section 3(c)(5)(C) runs the Investment Company Act framework off the fund and runs no state-level preemption on the fund’s offering framework. The fund runs the Securities Act offering framework under Reg D Rule 506 and runs the NSMIA preemption framework on the Rule 506 offering against state registration. The fund runs the Form D filing framework with the SEC and runs the state notice-filing framework against each state where the fund runs an offer.

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This article is educational and does not constitute legal advice. The §3(c)(5)(C) framework runs under the Investment Company Act of 1940 against an entity primarily engaged in the business of purchasing or acquiring mortgages and other liens on and interests in real estate. The qualifying-interest classification runs against the SEC no-action position framework. Consult qualified SEC counsel on the specific asset-classification and operational framework against any private mortgage fund.

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