On September 30, 2026, the Securities and Exchange Commission proposed to change who may pay an investment adviser a performance fee, the first expansion of the rule’s client eligibility standard since it was adopted in 1985. Investment Adviser Performance-Based Compensation Modernization, Advisers Act Release No. IA-7022 (Sept. 30, 2026). The headline is that advisers to mutual funds, closed-end funds, and business development companies could charge hedge-fund-style performance fees, subject to a 20 percent cap and board findings. The provision that matters more to most advisers is quieter: the proposal would let an adviser charge a performance fee to any client who is an accredited investor under Regulation D, replacing the rule’s separate net worth and assets-under-management tests. A companion release the same day would loosen the repurchase rules for interval funds and let closed-end funds issue multiple share classes. Interval Fund Modernization; Expansion of Multiple Share Class to Registered Closed-End Management Investment Companies and Business Development Companies, Investment Company Act Release No. IC-36351 (Sept. 30, 2026). Comments on both are due 60 days after Federal Register publication.
What the rule prohibits today and who is exempt
Section 205(a)(1) of the Investment Advisers Act bars an SEC-registered adviser from charging a fee based on a share of capital gains or appreciation in a client’s account. 15 U.S.C. § 80b-5(a)(1). Congress wrote the prohibition in 1940 to stop arrangements it called “heads I win, tails you lose,” in which the adviser shared in gains but not losses. The statute itself exempts contracts with 3(c)(7) private funds, business development companies within a 20 percent cap, and certain fulcrum fee arrangements that rise and fall with performance against an index. Rule 205-3 adds the exemption most advisers use: a performance fee may be charged to a “qualified client,” meaning a person with at least $1.4 million under management with the adviser or a net worth above $2.7 million, a qualified purchaser, or a knowledgeable employee of the adviser. 17 C.F.R. § 275.205-3(d)(1). The dollar figures reflect the inflation adjustment the Commission ordered earlier in 2026; they were $1.1 million and $2.2 million from 2021 until then. When the client is a 3(c)(1) private fund, the adviser must look through to every investor, and each must independently be a qualified client.
Accredited investors would become qualified clients
The proposal would amend the definition so that any natural person or company the adviser reasonably believes is an accredited investor at the time the advisory contract is signed is a qualified client. The assets-under-management test would be deleted outright. The separate net worth test would go too, because the accredited investor definition carries its own: $1 million net worth excluding the primary residence, or $200,000 in income ($300,000 with a spouse), along with the professional credential, knowledgeable employee, and entity categories in Rule 501(a). The qualified purchaser and knowledgeable employee categories in Rule 205-3 would remain. Because the thresholds would now be fixed by Regulation D, the rule’s five-year inflation adjustment mechanism would be removed as well.
The Commission’s stated reason is that the two definitions have drifted apart. An investor who is accredited may buy into a 3(c)(1) fund sold under Regulation D but may not be charged a performance fee in that fund unless she also clears the higher qualified client bar. The release reports that about 75 percent of 3(c)(1) funds sold under Regulation D and managed by registered advisers limit themselves to qualified clients today. For those funds, and for advisers managing separate accounts for accredited clients, the change removes a second screening step and a second set of representations. The release is explicit that no new contractual conditions would attach to a performance fee charged to an accredited investor; the adviser’s fiduciary duty and its Form ADV disclosure obligations do the work instead. An adviser that charges performance fees to some clients and not others must already describe that conflict in Item 6 of its brochure, and would continue to.
The look-through for 3(c)(1) funds stays, but it would be satisfied if every investor is accredited, which the fund’s Regulation D offering already requires. The Commission would also conform the other rules that borrow the qualified client definition, including the definition of an investment adviser representative and the “high net worth individual” count in Form ADV.
Performance fees for registered funds and BDCs
For advisers to regulated funds, the proposal would permit a performance fee if three conditions are met: the fee does not exceed 20 percent of the fund’s net gains over a specified period; the fund meets the fund governance standards in Rule 0-1(a)(7) under the Investment Company Act, which require among other things an independent-director majority that selects its own nominees and has its own counsel; and the board, including a majority of the independent directors, finds that the arrangement is in the best interest of the fund and its shareholders and makes written findings on its structure and investor protection features, such as hurdle rates, high-water marks, and loss carryforwards. Funds would have to disclose the performance fee separately in their fee tables and expense examples. The Commission’s premise is that a registered fund’s board oversight, leverage limits, and annual fee approval supply the protection that individual qualified clients were presumed to supply for themselves, and that without a performance fee, advisers have little reason to bring private-markets strategies into a vehicle retail investors can buy.
Where the interval fund release fits
An interval fund is a closed-end fund that commits in its charter to buy back a set percentage of its shares from investors at net asset value on a fixed schedule. Rule 23c-3 today requires offers every three, six, or twelve months for between 5 and 25 percent of shares, and requires the fund to hold liquid assets equal to the full repurchase amount. The companion proposal would allow monthly intervals, let a new fund defer its first repurchase offer, permit more frequent discretionary repurchases, replace the fixed liquidity requirement with a principles-based one, and let the fund deduct deferred sales charges from repurchase proceeds. It would also write into rule form the exemptive relief that lets closed-end funds offer multiple share classes with different distribution fees, and rescind the individual orders that granted it. Read with the performance fee proposal, the point is a single structure: a fund that retail investors can buy, that can hold illiquid private assets, that can pay its adviser like a private fund, and that gives investors a scheduled exit.
California-licensed advisers
The proposal changes a federal rule that governs SEC-registered advisers. A California-licensed adviser may charge performance fees under 10 C.C.R. § 260.234, which permits them when every client is a qualified client as defined in Rule 205-3(d). If the federal rule is adopted, the Department of Financial Protection and Innovation will need to decide whether California follows, and to update its cross-reference, since the proposal moves the definition from paragraph (d) to paragraph (c). State-licensed advisers should not assume the new standard applies to them on the federal effective date.
What advisers should do now
Nothing changes until a final rule is adopted and effective, and an adviser charging a performance fee to a client who is accredited but not a qualified client before then violates Section 205. Advisers who have turned away performance fee arrangements with accredited clients, or who run 3(c)(1) funds with a two-tier screen, should identify what the change would allow and consider a comment letter; the request for comment asks specifically whether the assets-under-management test should survive. Advisers to registered funds and BDCs should expect their boards to want a framework for the written findings before any fee proposal reaches them.
For more information. Evans Law, PC advises registered and state-licensed investment advisers and private fund managers on fee arrangements, Rule 205-3 compliance, fund formation, and Form ADV disclosure. For an overview of the firm’s adviser practice, see our Investment Adviser Services page. To discuss a performance fee arrangement or a comment letter, contact Evans Law, PC.