# 17 CFR 275.205-3 — Exemption to allow investment advisers to charge fees based upon a share of capital gains upon or capital appreciation of the funds of a client

- **Source URL:** https://www.law.cornell.edu/cfr/text/17/275.205-3
- **Host:** Cornell Legal Information Institute (LII) — mirrors the official CFR text
- **Pinpoint cite:** 17 CFR § 275.205-3 (Advisers Act Rule 205-3), implementing Investment Advisers Act § 205(a)(1) / (e) (15 U.S.C. 80b-5)
- **Retrieved-date:** UNKNOWN (fetched during session dated 2026-07-01; harness clock not treated as an authoritative retrieval timestamp)
- **Status:** primary-archived
- **Relevance to creator-platform:** This is the "qualified client" / performance-fee (carry) exemption. A carried-interest or capital-appreciation-based fee from an advisory client (or a look-through fund investor) is prohibited by Advisers Act § 205(a)(1) UNLESS the client is a "qualified client." Governs whether a creator/adviser vehicle can take carry, and requires a per-investor look-through for private (3(c)(1)) funds, registered funds, and BDCs.

> Note on dollar amounts: The rule text itself does NOT hard-code the current qualified-client dollar thresholds. Under (d)(1)(i)/(d)(1)(ii)(A) it references "the applicable dollar amount specified in the **most recent [Commission] order**," and (e) sets the indexing mechanism from base amounts of **$750,000** (assets-under-management test) and **$1,500,000** (net-worth test), adjusted for inflation on or about May 1, 2026 and roughly every five years. The operative live figures are set by the SEC's periodic order (published in the Federal Register), not by § 275.205-3 — cite that order for the current dollar levels.

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## Key sections flagged

**(a) General — the core prohibition + exemption; carry is allowed only for a "qualified client":**
> "(a) General. The provisions of section 205(a)(1) of the Act ( 15 U.S.C. 80b-5(a)(1) ) will not be deemed to prohibit an investment adviser from entering into, performing, renewing or extending an investment advisory contract that provides for compensation to the investment adviser on the basis of a share of the capital gains upon, or the capital appreciation of, the funds, or any portion of the funds, of a client, Provided, That the client entering into the contract subject to this section is a qualified client, as defined in paragraph (d)(1) of this section."

**(b) Identification of the client — FUND LOOK-THROUGH; each equity owner must independently qualify:**
> "(b) Identification of the client. In the case of a private investment company, as defined in paragraph (d)(3) of this section, an investment company registered under the Investment Company Act of 1940 , or a business development company , as defined in section 202(a)(22) of the Act ( 15 U.S.C. 80b-2(a)(22) ), each equity owner of any such company (except for the investment adviser entering into the contract and any other equity owners not charged a fee on the basis of a share of capital gains or capital appreciation) will be considered a client for purposes of paragraph (a) of this section."

**(d)(1)(i) — Qualified client, assets-under-management test:**
> "(1) The term qualified client means: (i) A natural person who, or a company that, immediately after entering into the contract has, under the management of the investment adviser, at least the applicable dollar amount specified in the most recent order;"

**(d)(1)(ii)(A) — Qualified client, net-worth test, with primary-residence exclusion:**
> "(ii) A natural person who, or a company that, the investment adviser entering into the contract (and any person acting on his behalf) reasonably believes, immediately prior to entering into the contract, either: (A) Has a net worth (together, in the case of a natural person, with assets held jointly with a spouse) of more than the applicable dollar amount specified in the most recent order. For purposes of calculating a natural person's net worth: (1) The person's primary residence must not be included as an asset; (2) Indebtedness secured by the person's primary residence, up to the estimated fair market value of the primary residence at the time the investment advisory contract is entered into may not be included as a liability (except that if the amount of such indebtedness outstanding at the time of calculation exceeds the amount outstanding 60 days before such time, other than as a result of the acquisition of the primary residence, the amount of such excess must be included as a liability); and (3) Indebtedness that is secured by the person's primary residence in excess of the estimated fair market value of the residence must be included as a liability; or"

**(d)(1)(ii)(B) — Qualified purchaser prong:**
> "(B) Is a qualified purchaser as defined in section 2(a)(51)(A) of the Investment Company Act of 1940 ( 15 U.S.C. 80a-2(a)(51)(A) ) at the time the contract is entered into; or"

**(d)(1)(iii) — Knowledgeable-employee prong (adviser insiders exempt from the dollar tests):**
> "(iii) A natural person who immediately prior to entering into the contract is: (A) An executive officer , director, trustee, general partner, or person serving in a similar capacity, of the investment adviser; or (B) An employee of the investment adviser (other than an employee performing solely clerical, secretarial or administrative functions with regard to the investment adviser) who, in connection with his or her regular functions or duties, participates in the investment activities of such investment adviser, provided that such employee has been performing such functions and duties for or on behalf of the investment adviser, or substantially similar functions or duties for or on behalf of another company for at least 12 months."

**(d)(3) — "private investment company" (the 3(c)(1) fund whose owners are looked through under (b)):**
> "(3) The term private investment company means a company that would be defined as an investment company under section 3(a) of the Investment Company Act of 1940 ( 15 U.S.C. 80a-3(a) ) but for the exception provided from that definition by section 3(c)(1) of such Act ( 15 U.S.C. 80a-3(c)(1) )."

**(e) — Inflation adjustment mechanism / base dollar amounts (why the live figures live in the SEC order, not the rule):**
> "(e) Inflation adjustments. Pursuant to section 205(e) of the Act, the dollar amounts referenced in paragraphs (d)(1)(i) and (d)(1)(ii)(A) of this section shall be adjusted, by order of the Commission, issued on or about May 1, 2026, and approximately every five years thereafter. ... (2) For the dollar amount in paragraph (d)(1)(i) of this section, multiplying $750,000 times the quotient obtained in paragraph (e)(1) of this section and rounding the product to the nearest multiple of $100,000; and (3) For the dollar amount in paragraph (d)(1)(ii)(A) of this section, multiplying $1,500,000 times the quotient obtained in paragraph (e)(1) of this section and rounding the product to the nearest multiple of $100,000."

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## Full verbatim text

(a) General. The provisions of section 205(a)(1) of the Act ( 15 U.S.C. 80b-5(a)(1) ) will not be deemed to prohibit an investment adviser from entering into, performing, renewing or extending an investment advisory contract that provides for compensation to the investment adviser on the basis of a share of the capital gains upon, or the capital appreciation of, the funds, or any portion of the funds, of a client, Provided, That the client entering into the contract subject to this section is a qualified client, as defined in paragraph (d)(1) of this section.

(b) Identification of the client. In the case of a private investment company, as defined in paragraph (d)(3) of this section, an investment company registered under the Investment Company Act of 1940 , or a business development company , as defined in section 202(a)(22) of the Act ( 15 U.S.C. 80b-2(a)(22) ), each equity owner of any such company (except for the investment adviser entering into the contract and any other equity owners not charged a fee on the basis of a share of capital gains or capital appreciation) will be considered a client for purposes of paragraph (a) of this section.

(c) Transition rules —(1) Registered investment advisers. If a registered investment adviser entered into a contract and satisfied the conditions of this section that were in effect when the contract was entered into, the adviser will be considered to satisfy the conditions of this section; Provided, however, that if a natural person or company who was not a party to the contract becomes a party (including an equity owner of a private investment company advised by the adviser), the conditions of this section in effect at that time will apply with regard to that person or company.

(2) Registered investment advisers that were previously not registered. If an investment adviser was not required to register with the Commission pursuant to section 203 of the Act ( 15 U.S.C. 80b-3 ) and was not registered, section 205(a)(1) of the Act will not apply to an advisory contract entered into when the adviser was not required to register and was not registered, or to an account of an equity owner of a private investment company advised by the adviser if the account was established when the adviser was not required to register and was not registered; Provided, however, that section 205(a)(1) of the Act will apply with regard to a natural person or company who was not a party to the contract and becomes a party (including an equity owner of a private investment company advised by the adviser) when the adviser is required to register.

(3) Certain transfers of interests. Solely for purposes of paragraphs (c)(1) and (c)(2) of this section, a transfer of an equity ownership interest in a private investment company by gift or bequest, or pursuant to an agreement related to a legal separation or divorce, will not cause the transferee to "become a party" to the contract and will not cause section 205(a)(1) of the Act to apply to such transferee.

(d) Definitions. For the purposes of this section: (1) The term qualified client means: (i) A natural person who, or a company that, immediately after entering into the contract has, under the management of the investment adviser, at least the applicable dollar amount specified in the most recent order; (ii) A natural person who, or a company that, the investment adviser entering into the contract (and any person acting on his behalf) reasonably believes, immediately prior to entering into the contract, either: (A) Has a net worth (together, in the case of a natural person, with assets held jointly with a spouse) of more than the applicable dollar amount specified in the most recent order. For purposes of calculating a natural person's net worth: (1) The person's primary residence must not be included as an asset; (2) Indebtedness secured by the person's primary residence, up to the estimated fair market value of the primary residence at the time the investment advisory contract is entered into may not be included as a liability (except that if the amount of such indebtedness outstanding at the time of calculation exceeds the amount outstanding 60 days before such time, other than as a result of the acquisition of the primary residence, the amount of such excess must be included as a liability); and (3) Indebtedness that is secured by the person's primary residence in excess of the estimated fair market value of the residence must be included as a liability; or (B) Is a qualified purchaser as defined in section 2(a)(51)(A) of the Investment Company Act of 1940 ( 15 U.S.C. 80a-2(a)(51)(A) ) at the time the contract is entered into; or (iii) A natural person who immediately prior to entering into the contract is: (A) An executive officer , director, trustee, general partner, or person serving in a similar capacity, of the investment adviser; or (B) An employee of the investment adviser (other than an employee performing solely clerical, secretarial or administrative functions with regard to the investment adviser) who, in connection with his or her regular functions or duties, participates in the investment activities of such investment adviser, provided that such employee has been performing such functions and duties for or on behalf of the investment adviser, or substantially similar functions or duties for or on behalf of another company for at least 12 months.

(2) The term company has the same meaning as in section 202(a)(5) of the Act ( 15 U.S.C. 80b-2(a)(5) ), but does not include a company that is required to be registered under the Investment Company Act of 1940 but is not registered.

(3) The term private investment company means a company that would be defined as an investment company under section 3(a) of the Investment Company Act of 1940 ( 15 U.S.C. 80a-3(a) ) but for the exception provided from that definition by section 3(c)(1) of such Act ( 15 U.S.C. 80a-3(c)(1) ).

(4) The term executive officer means the president, any vice president in charge of a principal business unit, division or function (such as sales, administration or finance), any other officer who performs a policy-making function, or any other person who performs similar policy-making functions, for the investment adviser.

(5) The term most recent order means the most recently issued Commission order in accordance with paragraph (e) of this section and as published in the Federal Register .

(e) Inflation adjustments. Pursuant to section 205(e) of the Act, the dollar amounts referenced in paragraphs (d)(1)(i) and (d)(1)(ii)(A) of this section shall be adjusted, by order of the Commission, issued on or about May 1, 2026, and approximately every five years thereafter. The adjusted dollar amounts established in such orders shall be computed by: (1) Dividing the year-end value of the Personal Consumption Expenditures Chain-Type Price Index (or any successor index thereto), as published by the United States Department of Commerce , for the calendar year preceding the calendar year in which the order is being issued, by the year-end value of such index (or successor) for the calendar year 1997; (2) For the dollar amount in paragraph (d)(1)(i) of this section, multiplying $750,000 times the quotient obtained in paragraph (e)(1) of this section and rounding the product to the nearest multiple of $100,000; and (3) For the dollar amount in paragraph (d)(1)(ii)(A) of this section, multiplying $1,500,000 times the quotient obtained in paragraph (e)(1) of this section and rounding the product to the nearest multiple of $100,000.