Subscription agreement

A subscription agreement serves as the binding legal contract between a hedge fund and an investor. Through this document, the investor formally commits to purchase a stake in the fund. The agreement requires investors to provide essential information that proves they are legally eligible to make such an investment.

The subscription agreement contains detailed questions designed to verify the investor's status under various regulatory categories. These inquiries determine whether the investor qualifies as a "" under federal securities law. They also confirm whether the investor meets "accredited investor" requirements, which are income and net worth thresholds set by the Securities and Exchange Commission.

Additional verification covers whether the investor represents an employee benefit plan subject to special rules. The agreement also establishes whether the investor is taxable or tax-exempt for federal income tax purposes and whether they are a U.S. or foreign resident. Finally, it confirms the investor's compliance with anti-money laundering regulations designed to prevent illicit funds from entering the financial system.

The subscription agreement functions as the primary tool through which hedge funds establish compliance with multiple layers of federal securities regulations. These regulatory requirements are complex and carry significant penalties for violations.

The agreement helps funds satisfy "" exemptions available under the . These exemptions allow funds to raise money from investors without the costly and time-consuming process of registering with the SEC, provided they meet specific conditions about investor qualifications and the offering process.

The agreement also helps funds qualify for exclusions from registration requirements under the . This law generally requires to register as investment companies unless they meet specific exemptions related to their investor base and operations.

Additionally, the subscription agreement demonstrates compliance with anti-money laundering regulations administered by the Financial Crimes Enforcement Network. These rules require financial institutions to verify customer identities and report suspicious activities.

The representations and warranties contained in the subscription agreement serve to document that both the fund and its investors are meeting their respective regulatory obligations from the very beginning of their investment relationship. This documentation is crucial if regulators later question the fund's compliance status.

The subscription agreement serves as a central document that connects with other key fund documents to create a comprehensive legal framework. It works together with the and the fund's or articles of association.

The offering memorandum describes the fund's investment strategy, risks, and terms in plain language for prospective investors. The or articles of association contain the detailed legal provisions governing the fund's operation and the rights and obligations of all parties.

Typically, investors sign the either directly or through a signature page that is incorporated into the subscription document itself. This structure allows the subscription agreement to serve as the bridge between the descriptive information provided in the offering memorandum and the specific legal rights and obligations defined in the governing documents.

The subscription agreement requires investors to make several key promises, known as "representations and warranties," to the fund. These legal commitments protect both parties and ensure regulatory compliance.

First, investors must confirm they are purchasing fund interests for genuine investment purposes rather than for immediate resale to others. This representation helps the fund maintain its exemption from certain securities registration requirements.

Second, investors must acknowledge they have carefully reviewed and understand both the fund's and its offering memorandum. The contains the legal terms governing the fund's operation, while the offering memorandum describes the fund's investment strategy and associated risks.

Third, investors must attest they possess sufficient knowledge and experience to properly evaluate the fund's investment approach and associated risks. This requirement helps establish that the investor is sophisticated enough to make an informed decision.

Finally, investors must state they are relying solely on the fund's official documentation—not on any verbal promises or unofficial materials—in making their investment decision. This protects the fund from potential claims based on unauthorized marketing materials or statements.

Beyond eligibility verification, subscription agreements collect comprehensive information about each investor. This data serves both operational and regulatory compliance purposes.

The agreement documents the specific dollar amount the investor commits to invest in the fund. It also captures the investor's banking details for processing capital contributions and distributions. Complete contact information ensures the fund can communicate important updates and required notices.

The agreement clarifies whether the investor is a government entity, which can affect certain investment restrictions and regulatory requirements. It identifies whether the investor qualifies as a "benefit plan investor," meaning an employee pension or retirement plan subject to special federal rules under (the Employee Retirement Income Security Act).

Finally, the agreement determines whether the investor operates as a registered investment fund itself, which can create additional regulatory considerations for both parties.

When employee benefit plans invest in hedge funds, special provisions address compliance with regulations. These rules contain complex restrictions designed to protect and beneficiaries.

Many hedge funds seek to limit their obligations to monitor compliance, particularly regarding "employer securities"—stocks or bonds issued by companies that sponsor the benefit plans. generally restricts how much of a plan's assets can be invested in employer securities.

To manage this risk, funds often structure their subscription agreements to require benefit plan investors to disclose which securities in the fund's portfolio qualify as employer securities under definitions. This disclosure helps the fund monitor and avoid potential violations.

Alternatively, if a fund manager chooses not to restrict such investments, the subscription agreement typically includes language stating that the investment manager is not responsible for ensuring the plan complies with employer securities restrictions. In this case, the agreement requires the plan sponsor to compensate the investment manager if the fund's activities accidentally trigger violations.

Subscription agreements often establish important fiduciary relationships when benefit plans are involved. Under , certain parties owe special duties of loyalty and care to .

When a benefit plan invests in a hedge fund that is itself subject to rules (called a "plan asset vehicle"), and that hedge fund then invests in other also subject to , complex fiduciary issues arise. The investment manager can address these issues by formally delegating responsibility for underlying investment decisions to the managers of those other vehicles.

This delegation arrangement works properly when the benefit plan investors have specifically appointed the plan asset vehicle's investment manager as a "named fiduciary" under Section 402. This appointment must specifically cover investing in other managers' plan asset vehicles. The investment manager typically documents this appointment through language included in the plan asset vehicle's subscription agreement.