- New Concerns for Vertically-Integrated Real Estate Fund Sponsors
- July 9, 2015
- Law Firm: Sutherland Asbill Brennan LLP - Washington Office
In the past, the real estate fund industry has rarely been in the SEC’s crosshairs, absent exceptional circumstances. Now, however, one set of real estate fund sponsors may have some cause for concern, albeit in a fairly narrow area.
In October 2012, the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) began its presence exam initiative for private fund managers. Since then, it has undertaken more than 150 such exams. From those exams, OCIE has identified a number of areas of interest. One of them, now, are vertically-integrated real estate fund managers.
Such a manager typically sponsors a private real estate fund while also, either directly or through affiliates, managing the buildings the fund owns. For instance, the manager may provide property management or construction management, and may also provide leasing services for the buildings. Generally, each of these services are provided for a fee.
According to a recent speech by the Acting Director of OCIE, fund investors “have allowed the manager to charge these additional fees based on the understanding that the fees would be at or below a market rate.” See http://www.sec.gov/news/speech/private-equity-look-back-and-glimpse-ahead.html. However, when OCIE conducted its presence exams, it “rarely” saw that the manager had data to prove that its fees where in fact at or below market. Some managers collected no data at all. Others collected data either informally or without sufficient documentation. Finally, some managers had data that was actually inconsistent with their own explicit disclosure. From the context in the speech, it seems that this is an area where enforcement action may be forthcoming.
Not surprisingly, the moral of this story is that, if you say your ancillary fees are at or below market, be prepared to prove it. Even if you say nothing at all about ancillary fees, given the staff’s expressed views about the “understanding” investors have, be prepared to address the issue.