The Investment Company Act of 1940 is an act of Congress. It was passed as a United States Public Law (Pub.L. 76-768) on August 22, 1940, and is codified at 15 U.S.C. §§ 80a-1-80a-64. Along with the Securities Exchange Act of 1934 and Investment Advisers Act of 1940, and extensive rules issued by the Securities and Exchange Commission, it forms the backbone of United States financial regulation. It has been updated by the Dodd-Frank Act of 2010. Often referenced as the Investment Company Act, the 1940 Act or simply the '40 Act, it is the primary source of regulation for mutual funds and closed-end funds, an investment industry now in the many trillions of dollars. In addition, the '40 Act impacts the operations of hedge funds, private equity funds and even holding companies.
Following the founding of the mutual fund in 1924, investors welcomed the innovation with open arms and invested in this new investment vehicle heavily. Five and a half years later, the Wall Street Crash of 1929 occurred in the stock market, followed shortly thereafter by the United States entry into the Great Depression. In response to this crisis, the United States Congress wrote into law the Securities Act of 1933 and the Securities Exchange Act of 1934 in order to regulate the securities industry in the interest of the public.
Investment companies were still in their infancy in 1940. In order to instill investors' confidence in these companies and to protect the public interest from this new type of security, Congress passed the Investment Company Act. The new law set separate standards by which investment companies should be regulated. The act defined and regulated investment companies, including mutual funds (which were virtually undefined prior to 1940).
The act's purpose, as stated in the bill, is "to mitigate and ... eliminate the conditions ... which adversely affect the national public interest and the interest of investors." Specifically, the act regulated conflicts of interest in investment companies and securities exchanges. It seeks to protect the public primarily by legally requiring disclosure of material details about each investment company. The act also places some restrictions on certain mutual fund activities such as short selling shares. However, the act did not create provisions for the U.S. Securities and Exchange Commission (SEC) to make specific judgments about or even supervise an investment company's actual investment decisions. The act requires investment companies to publicly disclose information about their own financial health.
The Investment Company Act applies to all investment companies, but exempts several types of investment companies from the act's coverage. The most common exemptions are found in Sections 3(c)(1) and 3(c)(7) of the act and include hedge funds.
When Congress wrote the act into federal law, rather than leaving the matter up to the individual states, it justified its action by including in the text of the bill its rationale for enacting the law:
The activities of such companies, extending over many states, their use of the instrumentalities of interstate commerce and the wide geographic distribution of their security holders, make difficult, if not impossible, effective state regulation of such companies in the interest of investors.
The act divides the types of investment company to be regulated into three classifications:
- Face-amount certificate company: an investment company in the business of issuing face-amount certificates of the installment type.
- Unit investment trust: an investment company which is organized under a trust indenture, contract of custodianship or agency, or similar instrument, does not have a board of directors, and issues only redeemable securities, each of which represents an undivided interest in a unit of specified securities; but does not include a voting trust.
- Management company: any investment company other than a face-amount certificate company or a unit investment trust. The most well-known type of management company is the mutual fund.
- Sec. 1. Findings and Declaration of Policy.
- Sec. 2. General Definitions.
- Sec. 3. Definition of Investment Company.
- Sec. 4. Classification of Investment Companies.
- Sec. 5. Subclassification of Management Companies.
- Sec. 6. Exemptions.
- Sec. 7. Transactions by Unregistered Investment Companies.
- Sec. 8. Registration of Investment Companies.
- Sec. 9. Ineligibility of Certain Affiliated Persons and Underwriters.
- Sec. 10. Affiliations of Directors.
- Sec. 11. Offers of Exchange.
- Sec. 12. Functions and Activities of Investment Companies.
- Sec. 13. Changes in Investment Policy.
- Sec. 14. Size of Investment Companies.
- Sec. 15. Investment Advisory and Underwriting Contracts.
- Sec. 16. Changes in Board of Directors; Provisions Relative to Strict Trusts.
- Sec. 17. Transactions of Certain Affiliated Persons and Underwriters.
- Sec. 18. Capital Structure.
- Sec. 19. Dividends.
- Sec. 20. Proxies; Voting Trusts; Circular Ownership.
- Sec. 21. Loans.
- Sec. 22. Distribution, Redemption, and Repurchase of Redeemable Securities.
- Sec. 23. Distribution and Repurchase of Securities: Closed-End Companies.
- Sec. 24. Registration of Securities Under Securities Act of 1933.
- Sec. 25. Plans of Reorganization.
- Sec. 26. Unit Investment Trusts.
- Sec. 27. Periodic Payment Plans.
- Sec. 28. Face-Amount Certificate Companies.
- Sec. 29. Bankruptcy of Face-Amount Certificate Companies.
- Sec. 30. Periodic and Other Reports; Reports of Affiliated Persons.
- Sec. 31. Accounts and Records.
- Sec. 32. Accountants and Auditors.
- Sec. 33. Filing of Documents With Commission in Civil Actions.
- Sec. 34. Destruction and Falsification of Reports and Records.
- Sec. 35. Unlawful Representations and Names.
- Sec. 36. Breach of Fiduciary Duty.
- Sec. 37. Larceny and Embezzlement.
- Sec. 38. Rules, Regulations, and Orders; General Powers of Commission.
- Sec. 39. Rules and Regulations; Procedure for Issuance.
- Sec. 40. Orders; Procedure for Issuance.
- Sec. 41. Hearings by Commission.
- Sec. 42. Enforcement of Title.
- Sec. 43. Court Review of Orders.
- Sec. 44. Jurisdiction of Offenses and Suits.
- Sec. 45. Information Filed With Commission.
- Sec. 46. Annual Reports of Commission; Employees of the Commission.
- Sec. 47. Validity of Contracts.
- Sec. 48. Liability of Controlling Persons; Preventing Compliance With Title.
- Sec. 49. Penalties.
- Sec. 50. Effect on Existing Law.
- Sec. 51. Separability of Provisions.
- Sec. 52. Short Title.
- Sec. 53. Effective Date.
- Sec. 54. Election to Be Regulated As A Business Development Company.
- Sec. 55. Functions and Activities of Business Development Companies.
- Sec. 56. Qualifications of Directors.
- Sec. 57. Transactions With Certain Affiliates.
- Sec. 58. Changes in Investment Policy.
- Sec. 59. Incorporation of Provisions.
- Sec. 60. Functions and Activities of Business Development Companies.
- Sec. 61. Capital Structure.
- Sec. 62. Loans.
- Sec. 64. Accounts and Records.
- Sec. 65. Liability of Controlling Persons; Preventing Compliance With Title.
- ^ Lemke, Lins and Smith, Regulation of Investment Companies (Matthew Bender, 2013).