SEC Provides Guidance on Determining Investment Company Status in SPAC Rule Release

Who may be interested: Registered Investment Companies, SPACs, Investment Advisers

Quick Take: Following a 3-2 vote, the SEC adopted final rules to enhance disclosure and provide additional investor protections in IPOs by special purpose acquisition companies (SPACs) and in subsequent business combination transactions between SPACs and their target companies (de-SPAC transaction). In the adopting release (Release), the SEC also addressed the status of SPACs under the 1940 Act. Notably, the SEC declined to adopt proposed Rule 3a-10 under the 1940 Act, which would have provided a safe harbor from designation as an “investment company” for certain SPACs. However, the Release provided guidance to assist a SPAC in determining whether it meets the definition of an investment company under the 1940 Act.


The SEC began its analysis in the Release by noting that whether a SPAC is an investment company under the 1940 Act is based on the particular facts and circumstances, which a SPAC should evaluate both at its inception and throughout its existence. The SEC specifically addressed how a SPAC may apply the Tonopah factors (five factors used to determine investment company status under the 1940 Act). These five factors include:

1. the nature of the issuer's assets;

2. the sources of the issuer's income;

3. the activities of the issuer's directors, officers and employees;

4. the issuer's public statements concerning the nature of its business; and

5. the issuer's historical development.

Analyzing the Tonopah factors, and noting that no one factor is solely determinative, the SEC described activities that would raise questions about a SPAC’s status as an investment company under the 1940 Act.

The Nature of SPAC Assets and Income: The Release stated that a SPAC that holds only the sort of securities typically held by SPACs today, such as U.S. Government securities, money market funds and cash items prior to the completion of a de-SPAC transaction, and that does not propose to acquire “investment securities,” would be more likely not to be considered an investment company than a SPAC that holds other types of investment securities or whose primary business is to achieve investment returns on such assets.

Management Activities – Actions of officers, directors and employees: The Release noted that the SEC would have serious concerns if a SPAC held its investors’ money in securities, but the SPAC’s officers, directors and employees did not actively seek a de-SPAC transaction or spent a considerable amount of their time actively managing the SPAC’s portfolio for the primary purpose of achieving investment returns. The Release noted that such activities would affect the analysis as to whether the SPAC was primarily engaged in seeking to complete a de-SPAC transaction and weigh more in favor of the SPAC being primarily engaged in the business of investing, reinvesting, or trading in securities such that it would be an investment company under the Investment Company Act.

Duration: The Release specified that the length of time a SPAC has been operating prior to entering into an agreement with a target company and then completing a de-SPAC transaction with that company could impact a determination of the SPAC’s investment company status. The Release stated that the longer a SPAC operates without entering into a de-SPAC transaction, the more difficult it may be to distinguish the SPAC’s activities from those of an investment company. The Release explained that after a certain period of time, a SPAC’s historical development and director, officer, and employee activities, together with its asset composition and sources of income may suggest that the SPAC is primarily engaged in the business of investing, reinvesting, and trading in securities. It also noted that a SPAC that operates beyond the timelines set forth in Rule 3a-2 (1-year) and Rule 419 (18 months) raises concerns that the SPAC may be an investment company, and these concerns increase as the departure from these timelines lengthens.

Holding Out: The Release stated that a SPAC which holds itself out in a manner that suggests investors should invest in the SPAC primarily to gain exposure to its portfolio of securities prior to a de-SPAC transaction would likely be an investment company under the 1940 Act.

Merging with an Investment Company: The Release also stated that if a SPAC were to engage, or propose to engage, in a de-SPAC transaction with an investment company, such as a closed-end fund or a business development company, the SPAC is likely to be considered an investment company under the 1940 Act because it would be proposing to be engaged in the business of investing, reinvesting and trading in securities.

The Release can be found here.

The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm or its clients, or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.