SEC Rule 12d1-1

Overview and Regulatory Purpose

Section 12(d)(1)(A) of the Investment Company Act prohibits any registered investment company from acquiring shares of another investment company if, after the acquisition, the acquiring fund would own more than 3% of the acquired fund's outstanding voting stock, have invested more than 5% of its total assets in the acquired fund, or have invested more than 10% of its total assets in the securities of investment companies generally.

These limits were designed to prevent the pyramided fund structures whose specific investor protection abuses — excessive fee layering, obscured beneficial ownership, and controlling influence over acquired funds — Congress identified when enacting Section 12(d)(1) in 1940.

Applied literally to money market fund investments, Section 12(d)(1)'s limits would prevent large registered funds from maintaining cash positions in money market funds that in aggregate exceed 10% of their total assets — a limitation that would severely impair the cash management function that money market funds serve for other registered funds.

A large equity mutual fund or ETF that maintains a meaningful cash position to facilitate redemptions, to hold between investments, and to manage portfolio transitions might routinely need to invest 5% to 15% of its assets in money market funds — an entirely legitimate and operationally necessary practice that bears no relationship to the pyramiding and self-dealing concerns that Section 12(d)(1) addresses. Rule 12d1-1 enables this cash management practice by providing a standing, self-effectuating exemption from Section 12(d)(1)'s limits for money market fund investments, conditioned solely on the absence of fee layering through the sales charge and service fee prohibition.

Statutory Authority and Rulemaking History

Rule 12d1-1 derives its statutory authority from Sections 6(c) and 12(d)(1)(J) of the Investment Company Act of 1940. Section 6(c) provides the Commission's general exemptive authority to exempt any person, security, or transaction from any provision of the Act to the extent consistent with the public interest and investor protection. Section 12(d)(1)(J) — added by the National Securities Markets Improvement Act of 1996 — specifically authorises the Commission to exempt by rule any person, security, or transaction from Section 12(d)(1)'s fund investment limits, providing the most directly applicable statutory basis for Rule 12d1-1's money market fund investment exemption.

Rule 12d1-1 was adopted June 20, 2006 — Investment Company Act Release No. IC-27399, published at 71 FR 36655, June 27, 2006 — as a dedicated money market fund investment exemption that superseded prior individual exemptive orders and provided a uniform, accessible framework for all registered funds seeking to use money market funds as cash management vehicles.

The rule was amended November 19, 2020 — as part of the Rule 12d1-4 fund-of-funds rulemaking — to update its cross-references and confirm that money market fund investments remain outside Rule 12d1-4's comprehensive framework.

A conforming amendment adopted June 12, 2023 — 88 FR 37987 — updated Rule 12d1-1's cross-references to reflect the July 2023 Rule 2a-7 Money Market Fund Reform amendments. No further substantive amendments have been adopted — no changes have been made up to the present time.

Key Provisions and Operative Requirements

Rule 12d1-1(a) establishes the foundational exemptive relief. If the conditions of paragraph (b) of the rule are satisfied, notwithstanding Sections 12(d)(1)(A), 12(d)(1)(B), 12(d)(1)(G), 17(a), and 57 of the Act and Rule 17d-1: an investment company acting as an acquiring fund may purchase and redeem shares issued by a money market fund; and a money market fund, any principal underwriter thereof, and any broker or dealer may sell or otherwise dispose of money market fund shares to any acquiring fund. This broad exemptive relief encompasses both directions of the transaction — the acquiring fund's purchase and redemption activity is permitted regardless of the Section 12(d)(1) limits, and the money market fund's sale activity is permitted regardless of Section 17(a)'s affiliated transaction prohibition and Rule 17d-1's joint transaction restrictions.

Rule 12d1-1(b) establishes the two categories of conditions — one applicable to investments in registered money market funds and one applicable to investments in unregistered money market funds meeting Rule 2a-7 equivalent standards.

Rule 12d1-1(b)(1) — the fees condition applicable to all money market fund investments — is the rule's primary and most commercially significant operative provision. The acquiring fund must pay no sales charge, as defined in FINRA Rule 2341(b)(8), or service fee, as defined in FINRA Rule 2341(b)(9), charged in connection with the purchase, sale, or redemption of securities issued by the money market fund. Alternatively, where a money market fund does charge sales charges or service fees — which registered money market funds rarely do in practice — the acquiring fund's investment adviser must waive its advisory fee in an amount necessary to offset any such charge or fee paid. This adviser fee waiver alternative ensures that even where a money market fund's fee structure includes a small distribution or service charge, the acquiring fund's shareholders are not doubly charged through both the adviser's management fee and the money market fund's distribution fee — the adviser must absorb the money market fund's fee through its own advisory fee waiver, preventing the investor harm from fee layering that Section 12(d)(1) was designed to address.

Rule 12d1-1(b)(2) — the conditions applicable to investments in unregistered money market funds — addresses the specific scenario where the acquiring fund wishes to invest in a cash management vehicle that functions as a money market fund but is not itself a registered investment company. The primary commercial context for this provision is the use of Government Liquidity Funds and similar unregistered liquidity vehicles offered by bank-affiliated entities, Treasury management platforms, and similar providers that operate outside the Investment Company Act registration framework but that invest in the same categories of short-term, high-quality instruments that Rule 2a-7's registered money market fund framework encompasses.

For an unregistered money market fund, the acquiring fund must reasonably believe that the unregistered fund satisfies substantially equivalent conditions to those required of a registered money market fund: it must be limited to investing in the types of securities and other investments in which a money market fund may invest under Rule 2a-7; it must undertake to comply with Rule 2a-7's other requirements except that, if the company has no board of directors, its investment adviser performs the board's duties; it must comply with the affiliated transaction, senior securities, and redemption provisions of Sections 17(a), (d), (e), 18, and 22(e) of the Act; it must have adopted procedures designed to ensure compliance with those sections; the unregistered fund's investment adviser must be registered under the Investment Advisers Act; and the acquiring fund must preserve permanently the records required by the rule and make them available for Commission examination.

This unregistered money market fund framework operates as a principles-based reasonable belief standard rather than an absolute verification requirement — the acquiring fund must reasonably believe that the unregistered vehicle satisfies the specified conditions, undertake due diligence proportionate to that belief, and maintain records supporting the reasonableness of its assessment. The acquiring fund is not required to independently verify every aspect of the unregistered fund's compliance with the Rule 2a-7 equivalent conditions but must have a substantive and documented basis for its reasonable belief.

Scope of Application

Rule 12d1-1 applies to all registered investment companies acting as acquiring funds — encompassing open-end mutual funds, Exchange-Traded Funds, closed-end funds, interval funds, BDCs, and unit investment trusts — seeking to invest in registered or unregistered money market funds for cash management purposes. The exemption is available without any limit on the amount that can be invested in a money market fund — unlike Section 12(d)(1)'s 3%/5%/10% limits, which Rule 12d1-1 supersedes entirely — reflecting the Commission's recognition that the cash management rationale for money market fund investments does not create investor protection concerns that require percentage-based investment limits.

ETFs that invest a portion of their portfolios in cash equivalents between portfolio rebalancing periods, during portfolio construction following new share creation, or as a liquidity reserve to facilitate redemptions routinely rely on Rule 12d1-1 to maintain those cash positions in registered government money market funds without triggering Section 12(d)(1)'s investment limits. This application is among the most commercially significant uses of Rule 12d1-1 in the modern fund industry, given the ETF market's scale and the frequency with which actively managed ETFs and even index ETFs maintain meaningful cash positions during the portfolio management lifecycle.

Relationship to Related Rules and Regulations

Rule 12d1-1's relationship with Rule 12d1-4 is structurally complementary — the two rules operate as distinct exemptive frameworks governing different categories of fund-of-funds investment, with Rule 12d1-1 providing the specific, simpler framework for money market fund investments and Rule 12d1-4 providing the comprehensive framework for all other registered fund investments beyond Section 12(d)(1)'s limits. Rule 12d1-4 explicitly excludes money market fund investments from the acquired fund's 10% limitation on its own fund investments, preserving the ability of acquired funds to invest in money market funds under Rule 12d1-1's framework without triggering Rule 12d1-4's structural limits on multi-tier fund arrangements.

Rule 12d1-1's money market fund investment exemption depends directly on the portfolio quality and liquidity standards of Rule 2a-7 — the conditions that make money market funds safe and appropriate vehicles for cash management by other registered funds. Both the registered money market fund framework — whose compliance with Rule 2a-7's standards is established by registration and ongoing regulatory oversight — and the unregistered money market fund equivalent framework — whose compliance must be reasonably believed by the acquiring fund based on its own assessment — depend on the integrity of the Rule 2a-7 portfolio standards as the basis for treating money market fund investments as categorically different from the general fund-of-funds investments that Rule 12d1-4 governs.

Rule 17d-1's joint enterprise prohibition — which would otherwise restrict joint transactions between a registered fund and its affiliates — is specifically exempted by Rule 12d1-1(a) for money market fund transactions. This exemption from Rule 17d-1 parallels the Section 17(a) affiliated transaction exemption and enables affiliated fund complexes to use a single money market fund as the cash management vehicle for multiple affiliated funds within the complex — a common cash management practice in large fund families where a proprietary government money market fund serves as the primary liquidity vehicle for dozens or hundreds of affiliated equity and fixed income funds.

Rule 38a-1's compliance programme framework requires that registered fund compliance programmes address Rule 12d1-1 compliance — including the procedures for documenting the fees condition satisfaction for registered money market fund investments, the due diligence process and reasonable belief documentation for unregistered money market fund investments, and the recordkeeping obligations for unregistered fund investments. The operational simplicity of the registered money market fund investment framework — essentially just confirming the absence of sales charges and service fees — makes Rule 12d1-1 compliance among the less burdensome components of a registered fund's affiliated transaction compliance infrastructure.

Amendment History and Regulatory Evolution

Rule 12d1-1's operative framework has been stable since its original 2006 adoption, with amendments limited to conforming updates reflecting changes in the surrounding regulatory framework — the November 2020 amendment updated cross-references following Rule 12d1-4's adoption, and the June 2023 conforming amendment updated cross-references following the Rule 2a-7 Money Market Fund Reform amendments. These conforming amendments reflect the rule's structural dependence on the Rule 2a-7 framework as the substantive portfolio standard against which both registered and unregistered money market fund investments are measured, and the rule's interaction with Rule 12d1-4's comprehensive fund-of-funds framework as the complementary provision governing non-money-market-fund investments.

The broader regulatory landscape within which Rule 12d1-1 operates has evolved significantly through the July 2023 Rule 2a-7 Money Market Fund Reform amendments — particularly the restructuring of the money market fund category framework into government, retail, institutional prime, and institutional tax-exempt categories and the introduction of the mandatory liquidity fee for institutional prime and institutional tax-exempt funds. These Rule 2a-7 changes affect the practical characteristics of the money market fund vehicles in which Rule 12d1-1 enables investment but do not alter the rule's own conditions or operative framework.

Enforcement Context and SEC Action Patterns

Rule 12d1-1 enforcement concentrates primarily on the unregistered money market fund investment framework, where the acquiring fund's reasonable belief obligation requires active documentation of due diligence rather than mere reliance on the money market fund's registered status. The Commission's examination programme reviews unregistered money market fund investment practices as part of its assessment of affiliated transaction compliance and cash management programme adequacy, with specific attention to whether the acquiring fund has maintained adequate documentation of its reasonable belief that the unregistered fund satisfies Rule 2a-7 equivalent standards and whether that documentation is preserved in accordance with the rule's recordkeeping requirements.

For registered money market fund investments — which constitute the vast majority of Rule 12d1-1 activity — enforcement focuses primarily on the fees condition, reviewing whether acquiring funds are investing in money market fund share classes that carry sales charges or service fees without the corresponding adviser fee waiver that the rule requires when such charges are present.

Examination Relevance and Key Takeaways

Rule 12d1-1 is examined at the Series 65 level as the targeted exemptive framework enabling registered funds to invest in money market funds for cash management purposes without the Section 12(d)(1) limits that would otherwise restrict such investments.

The distinction between Rule 12d1-1's simple fee-based framework for money market fund investments and Rule 12d1-4's comprehensive conditions for general fund-of-funds investments is the primary structural examination concept — illustrating how the Commission has calibrated the regulatory requirements applicable to different categories of fund investment based on the specific investor protection concerns each category presents.

The fees condition — no sales charge or service fee, or adviser waiver of its advisory fee in an offsetting amount — is the primary operative examination concept, together with the unregistered money market fund reasonable belief framework applicable where the acquiring fund invests in a non-registered money market fund equivalent.

The key points to retain are these. Rule 12d1-1 exempts registered investment companies from Section 12(d)(1)'s fund investment limits, Section 17(a)'s affiliated transaction prohibition, and Rule 17d-1's joint transaction restriction for purchases and sales of money market fund shares — both registered and unregistered funds meeting Rule 2a-7 equivalent conditions — provided the acquiring fund pays no sales charge or service fee in connection with such investments, or the acquiring fund's investment adviser waives its advisory fee in an amount sufficient to offset any such charge. For unregistered money market fund investments, the acquiring fund must reasonably believe the fund satisfies Rule 2a-7's portfolio conditions and maintain specified records.

The exemption is available without any percentage limit on the amount invested, reflecting the cash management character of money market fund investments as distinct from the pyramided fund structures that Section 12(d)(1) was designed to prevent. Rule 12d1-1 operates alongside Rule 12d1-4 as the dedicated money market fund investment framework within the broader fund-of-funds regulatory landscape. The rule was adopted June 2006, last amended June 2023 with conforming updates, and no substantive changes have been made up to the present time.