New Corporations Commissioner Rule and You!

By N. Mitchell Feinstein, Esq.    


Many of you have received a cryptic e mail from a trade association or a law firm telling you that the California Department of Corporations has adopted a change in regulations(1) .  Here is the background.

This change affects PRIMARILY any entity that is selling interests in pools of loans, whether they be licensed as Real Estate Brokers, Consumer Finance Lenders or any other license, that have relied upon the PRIVATE PLACEMENT EXEMPTION in California Corporations Code Section25102 (f) and similar exemptions.  It also applies to those who have sought exemption from qualification by use of the SEC Regulation D procedure.

If you are currently selling interests in pools to private investors, some of the provisions of the new regulation will affect any sale to an investor after the effective date of the new regulation, August 27th, 2012.  If you are in this category, contact your counsel before taking any money from any investors.

This change DOES NOT AFFECT the real estate broker making or arranging loans sold to one to ten lenders pursuant to the real estate law.

While the below is a general review of the new regulation, there are many complications which could affect which parts of the new rule apply to a particular pool, including classification under Dodd- Frank of the different types of private funds.

Here is an explanation of the new regulation.
California State Law prohibits anyone from acting as an “Investment Adviser”(2) without registering with the DOC.   An investment adviser is defined as follows:

"Investment adviser" means any person who, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing or selling securities, or who, for compensation and as a part of a
regular business, publishes analyses or reports concerning securities.

Once someone is defined as an “Investment adviser” they must obtain a certificate from the California Commissioner of Corporations (3).  In order to get the certificate you must pass the tests and requirements which include:

…you have passed either the Series 65 licensing exam after Jan. 1, 2000, or a combination of the Series 7 and Series 66 licensing exams. California offers exceptions to these requirements for holders of advanced professional designations, such as the Certified Financial Planner, Chartered Financial Analyst, and Chartered Financial Consultant, Chartered Investment Counselor or Personal Financial Specialist designations.

Read more: California Registered Investment Adviser Requirements |

A manager of a “pool” who usually is defined as the person who directs which investments may be placed in a pool and therefore comes under the broad definition of “Investment adviser.”

Prior to the amendment just adopted on August 27th, the old regulation provided an exemption from the necessity of registering as an investment adviser in California if the adviser advised less than 15 clients.  A pool was considered one client.

Prior to the new regulation, many of those who organized pools to fund trust deed loans relied on this exemption.
The new regulation revoked that exemption.

There is a new exemption, but it is very arduous.

The requirements for the new exemption seem to include at least the following:

  1.  The beneficial interest in the pool can only be sold to those who meet the definition of “accredited investor” under Rule 501 (a) of Regulation D.
    1. a.   An “accredited investor, generally, is one who has a net worth of one million dollars exclusive of home and furnishings.
      b. Prior to the change,  a pool fund could be sold to no more than 35 investors with whom the issuer had a previous business and personal relationship and whom had demonstrated sufficient business acumen or experience so that the investment was a reasonable risk for them in light of their experience and knowledge.
  2.  The investment adviser has to file a notice with the Department of Corporations and pay an annual fee.
  3. The investment adviser must file reports annually with the DOC as if it were filing the reports required by the SEC.
  4. The investment adviser must disclose in a private placement memorandum or similar document all material facts as defined in the new regulation including the duty the investment adviser owes to the beneficial owner of the fund
  5. The Investment Adviser must obtain an audited financial statement of the fund each year and send it to each beneficial owner within 120 days after the end of the fiscal year.

The above is preliminary information and is subject to further study and verification.


(1) Section 260.204.9 of the Regulations under the Corporate Securities Act of 1968 s set forth in Chapter 3, Title 10, California Code of Regulations.

(2) California Corporation Code Section 25009

(3) California Corporations Code Section 25230