The Hedge Fund Law Report

Self-employed individuals must pay Social Security and Medicare tax on their net earnings from self-employment (NESE). The distributive share of partnership income of a limited partner (LP) is generally excluded from NESE, except to the extent it constitutes guaranteed payment for services rendered to the partnership. There is ongoing debate, however, over when that exception applies. In tax years?2016 and?2017, private fund manager Denham Capital Management,?LP (Denham) reported less than one-tenth of its LPs’ distributive share of partnership income as NESE. The IRS subsequently issued final adjustments for both years characterizing all such income as NESE, which Denham challenged. On December?23,?2024, affirming a 2023?decision on the same issue, the U.S. Tax Court (Court) upheld the IRS’ determination, ruling that all of the LPs’ distributive share of Denham’s income constituted NESE. The fact that the individuals in question were LPs under state law was not dispositive. Instead, the Court applied a functional test to determine whether the LPs’ income was passive or employment-related. This article parses the Court’s decision. #HFLR #taxes https://lnkd.in/ewDY8ZyP

“Traditional hedge funds are returning to digital asset investing after last year’s drop-off, and they are doing so in increasingly sophisticated ways,” notes the sixth annual study of when and how hedge funds invest in digital assets (Report) conducted by the AIMA - The Alternative Investment Management Association and PwC. The study explored funds’ trading strategies and venues; use of derivatives, stablecoins and bitcoin exchange traded products; institutional investor interest; trends in tokenization; key risks to growth of the digital asset ecosystem; barriers to entry; and needed infrastructure improvements. “Given recent market activity, the industry finally appears ready to move past the events of?2022, which saw several high-profile fraud cases and a general lack of maturity across the wider digital assets landscape,” AIMA managing director Tom Kehoe, CAIA told the Hedge Fund Law Report. This article discusses the key takeaways from the Report, with additional commentary from Kehoe.?#HFLR #digitalassets https://lnkd.in/eeqCMbPD

With the publication of “An Open Letter to the Hedge Fund Industry” (Letter), the issue of cash hurdles in incentive fee arrangements for private funds has gotten wider attention. The signatories to the Letter, 29?of the world’s largest institutional investors and pension funds, along with three investment consulting firms, addressed what they see as a fundamental misalignment between the interests of investors and fund managers, which, in their view, permits the managers to take home outsized fees that bear little or no relationship to how the funds have actually performed and how much alpha managers have delivered to investors. As a remedy, the Letter calls for the incorporation of cash hurdles into performance fee arrangements across the industry. This article, the first in a two-part series, explains what cash hurdles are and summarizes the advantages and challenges posed by their implementation.?#HFLR #cashhurdles #performancefees https://lnkd.in/eEwA4h6T

The SEC has fined 12?registrants $63.1?million in a new round of settlements under its risk-based initiative (Initiative) to investigate registrants’ preservation of electronic communications on unapproved electronic devices and systems (off-channel communications). As in other settlements under the Initiative, the latest respondents allegedly failed to preserve their employees’ off-channel communications and supervise employees with a view to preventing violation of SEC recordkeeping requirements. Separately, the SEC announced it had commenced a record-setting number of enforcement actions in the first quarter of its 2025?fiscal year, which ran from October through December?2024. This article discusses the increased enforcement activity and the eight new settled enforcement orders. #HFLR #booksandrecords #electroncommunications https://lnkd.in/eXDX2ezk

So excited to highlight these incredible women. Their contributions and advice are so inspiring. Thank you, Anne-Gabrielle HAIE of Steptoe LLP; Micaela McMurrough, Covington & Burling LLP; Jessica B. Lee, Loeb & Loeb LLP; Laura Perkins, Cadwalader, Wickersham & Taft LLP; Amanda Raad, Ropes & Gray LLP; Madelyn Calabrese, Haynes and Boone, LLP; Ranah Esmaili, Sidley Austin LLP; Genna Garver, Troutman Pepper Locke LLP. See post below for link to all of the wonderful interviews. Loved working with my colleagues, Megan Zwiebel at the Anti-Corruption Report and Jill Abitbol at the The Cybersecurity Law Report on this. #InternationalWomensDa

On January?16,?2025, the SEC announced it had reached a settlement (Order) in an enforcement action against hedge fund managers Two Sigma Investments?LP and Two Sigma Advisers?LP (collectively, Two Sigma). The SEC accused the advisers of failing to act on internal information that employees brought to their attention concerning improper employee access to daily live trading algorithms; to reasonably supervise their personnel; and to maintain policies and procedures that would have resolved such issues promptly. The SEC also alleged violations of the Securities Exchange?Act of?1934 whistleblower provisions relating to disclosures that departing employees had to make about whether they had made complaints to regulators. Though legal experts broadly concur on the need for robust whistleblower protections, the SEC has, in the view of some, aggressively enforced whistleblower protections in recent years without always providing detailed guidance to help fund managers grasp what practices are or are not legal when it comes to separation agreements. To understand the issues at the heart of the SEC’s enforcement action against Two Sigma, and to draw lessons regarding compliance best practices, this article outlines the Order and presents key takeaways from the case.?#HFLR #whistleblowers https://lnkd.in/e4EYT_UB

Publishing marketing materials that are subject to Rule?206(4)?1 under the Investment Advisers?Act of?1940 (Marketing Rule) brings a new level of risk to firms, and reviewing those materials can be complex and time consuming. There are steps that legal and compliance departments can take, however, to efficiently create a review process that brings those materials into alignment with Marketing Rule requirements by leveraging technology and adopting a business-minded approach to find solutions. A panel at the CFA Institute’s 28th?Annual Global Investment Performance Standards Conference, entitled “Marketing Material Reviews Dos and Don’ts,” provided three different perspectives on how to mitigate risks around marketing materials. The program was moderated by Karyn?Vincent, senior head, global industry standards at CFA, and featured Johanna Anders, head of regulatory compliance at Harris Associates; Janice Kitzman, CIPM, partner at Cascade Compliance; and Christine Ayako Schleppegrell, partner at Morgan, Lewis & Bockius LLP. This article summarizes the key takeaways for private fund managers.?#HFLR #marketing https://lnkd.in/eNjfPMKa

Although the new Trump administration is widely expected to favor business interests and ease regulatory burdens, the SEC is sure to continue its work rooting out misconduct in the financial markets. At this year’s Securities Enforcement Forum New York, a panel of present and former SEC attorneys discussed the critical stages of an investigation by the SEC Division of Enforcement. They offered guidance on preparing for initial contact with SEC staff; avoiding friction during the course of an investigation; preparing for interviews and on-the-record testimony; obtaining reverse proffers by the SEC; and managing the Wells process, negotiations and settlements. This article distills the key takeaways from the program. #HFLR #enforcement https://lnkd.in/ekk4hf7J

The role of the CCO has long been defined by labor-intensive, manual tasks – from monitoring insider trading risks to ensuring regulatory filings are both accurate and timely. Artificial intelligence (AI) offers the promise of automating a substantial portion of those routine processes, freeing CCOs to focus on higher-level strategic responsibilities, such as ethical risk management, policy development and stakeholder engagement. Effective use of AI in compliance can transform a CCO from a reactive “policeman” role to that of a strategic partner – an “Algorithmic CCO” for the digital age. This second article in a two-part guest series by Brian Meyer, partner at AirGC | Fractional General Counsel, discusses the changing skill set required of the modern CCO, practical steps for implementing AI in compliance functions and the future of AI in hedge fund governance.?#HFLR #AI #CCOs https://lnkd.in/eWwmPk32

Because financial statement audits provide important assurance to investors, it is no surprise that the SEC considers representations as to whether and when a fund is audited to be material. The SEC settled an enforcement proceeding against an investment adviser and its principal in which the regulator alleged that, from about July?2020 through late?2023, the defendants breached their fiduciary duty and falsely told investors and prospective investors in private funds they advised that the funds were subject to an annual audit by an independent auditing firm. Consequently, “investors in the [funds] were led to believe that there was a safeguard in place surrounding their investments – a third party audit – that did not exist,” claimed the SEC. This article discusses the SEC charges and the final judgments entered against the defendants.?#HFLR #audit https://lnkd.in/eeTHVYNd