Financial intermediaries want more time to comply with Securities and Exchange Commission's Rule 22c-2, slated to take effect Oct. 16.
Rule 22c-2 permits mutual funds to charge a redemption fee of 2% of the amount withdrawn or transferred within five days after shares are purchased. The rule is aimed, at best, at dissuading short-term shareholders from market timing funds designed for long-term shareholders, and, at least, getting short-term shareholders to reimburse a mutual fund's direct and indirect costs. It exempts money funds, any fund that issues shares listed on a national exchange and any fund that permits short-term trading as disclosed in its prospectus.
A delay of at least six to eight months is being sought by financial intermediaries that maintain mutual fund omnibus accounts, such as pensions, variable life and annuity products and managed accounts. Among those impacted are pension funds, insurance companies, trust companies, broker/dealers, transfer agents and registered clearing agencies.
At issue is which financial intermediaries must report trading information directly to the mutual funds, so that redemption charges can be levied on market timers, said Tamara Salmon, senior associate counsel at the Investment Company Institute of Washington. It is unclear whether first-tier intermediaries, such as broker/dealers, insurance companies and retirement plans, or second-tier intermediaries, such as institutional accounts, managed accounts or retirement plans that are omnibus accounts at brokerage firms, should report trading activity.
"There are still outstanding questions as to who qualifies as financial intermediaries," Salmon said. "Fund companies started sending out agreements to get a dialogue started so they can get agreements when the rules are finalized."
Another reason the financial services industry is requesting an extension is because the systems necessary to comply with the rules are not ready.
A substantial majority of retirement plan recordkeepers will not have Rule 22c-2 required amendments in place by the current SEC deadline, reports the SPARK Institute of Simsbury, Conn., an organization of retirement plan service providers.
That organization wants the information-sharing agreement compliance deadline to be extended to April 30, 2007 and the information-reporting compliance deadline moved to July 31, 2007. The request for a delay follows a survey of its members.
"More than 70% of the recordkeepers responding to the survey indicated that they cannot reasonably be ready to provide Rule 22c-2 information reporting by Oct. 16," said SPARK Institute General Counsel Larry H. Goldbrum.
SPARK members, he said, have not gotten contracts from mutual funds, so compliance systems can not be implemented.
"Many of the institute's members indicated that the fund companies are driving the amendment process, [so] whether or not a six-month extension will be sufficient will largely depend on how quickly the fund companies act."
In addition, "retirement plan recordkeepers are waiting for added guidance from the SEC," Goldbrum said. "The overwhelming majority don't have contracts in place."
On the insurance side, Mike DeGeorge, general counsel for the National Association of Variable Annuities of Reston, Va., said the variable annuity and life insurance industry wants the deadline expanded 18 months because there needs to be a set of uniform fee assessment standards. In addition, the rule needs to address variable annuity and life insurance automatic rebalancing programs, which result in mutual fund trading activity that might trigger fees.
"The lack of uniformity for redemption fees and shareholder information agreements continue to hinder companies' ability to develop systems and procedures," DeGeorge said. "The rule in its present form will require insurance companies to make substantial and costly changes to their existing administrative systems to accommodate redemption fees that may be imposed by underlying funds to comply with shareholder information-sharing requirements of the rule."
Broker/dealers also have problems with Rule 22c-2. An SEC comment letter by David J. Lekich, senior corporate counsel of Charles Schwab of San Francisco, said questions about first-tier and second-tier intermediaries need to be resolved.
"It would be inappropriate for a fund to treat Schwab or other broker/dealers that maintain an omnibus account with the fund for the benefit of its many brokerage customers, as an individual investor," Lekich said. "If a fund imposed a redemption fee on Schwab's omnibus account, it could unfairly result in certain long-term shareholders subsidizing the short-term trading activity of other fund investors. The same inequitable result would occur in situations where a fund treats retirement plans as individual investors rather than charging redemption fees on the plan-participant level."
Lekich also said that the SEC should not require financial intermediaries to identify indirect intermediaries because it would place a substantial administrative burden on first-tier financial intermediaries to conduct an analysis of accounts on their books and records to determine whether an account holder is an indirect financial intermediary. That, he said, is the very same task the SEC agreed was overly burdensome to mutual fund companies.
"Schwab sees no justifiable basis for relieving the funds of those burdens and imposing the same burdens on first-tier intermediaries," he said. "Schwab therefore strongly supports the Securities Industry Association's recommendation that the Commission revise the definition of shareholder information agreement' to exclude the requirement that first-tier intermediaries use best efforts to identify indirect intermediaries."
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