Final Rule:
Registration Form Used by Open-End Management Investment Companies

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 230, 232, 239, 240, 270, and 274

Release Nos. 33-7512; 34-39748; IC-23064; File No. S7-10-97

RIN 3235-AE46

Registration Form Used by Open-End Management Investment Companies

AGENCY: Securities and Exchange Commission

ACTION: Final rules

SUMMARY: The Securities and Exchange Commission is adopting amendments to Form N-1A, the form used by mutual funds to register under the Investment Company Act of 1940 and to offer their shares under the Securities Act of 1933. The amendments are intended to improve fund prospectus disclosure and to promote more effective communication of information about funds to investors. The amendments focus the disclosure in a fund’s prospectus on essential information about the fund that will assist investors in deciding whether to invest in the fund. The amendments also minimize prospectus disclosure about technical, legal, and operational matters that generally are common to all funds.

DATES:

Effective Date: June 1, 1998.

Compliance Dates:

1. Initial Compliance Date: All new registration statements filed on or after December 1, 1998 must comply with the amendments to Form N-1A.

2. Final Compliance Date: All funds with effective registration statements must comply with the amendments to Form N-1A for post-effective amendments filed to update their registration statements on or after December 1, 1998, and no later than December 1, 1999.

FOR FURTHER INFORMATION CONTACT: Kathleen K. Clarke, Assistant Director, Markian M.W. Melnyk, Deputy Chief, George J. Zornada, Team Leader, Jonathan F. Cayne, Senior Counsel, John M. Ganley, Senior Counsel, Doretha M. VanSlyke, Attorney, (202) 942-0721, Office of Disclosure Regulation, or Anthony A. Vertuno, Senior Special Counsel, (202) 942-0591, Office of the Associate Director (Legal and Disclosure), Division of Investment Management, Securities and Exchange Commission, 450 5th Street, N.W., Mail Stop 5-6, Washington, D.C. 20549-6009. Contact the Office of Chief Counsel, Division of Investment Management, Securities and Exchange Commission, at (202) 942-0659, 450 5th Street, N.W., Mail Stop 5-6, Washington, D.C. 20549-6009 for additional information, including interpretive guidance, about this release or Form N-1A, as amended, and related rules.

SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission ("Commission") is adopting amendments to Form N-1A (17 CFR 274.11A), the registration form used by open-end management investment companies ("funds") to register under the Investment Company Act of 1940 (15 U.S.C. 80a-1, et seq.) ("Investment Company Act") and to offer their shares under the Securities Act of 1933 (15 U.S.C. 77a, et seq.) ("Securities Act"). The Commission also is adopting technical amendments to rules 483, 485, 495, and 497 under the Securities Act (17 CFR 230.483, 230.485, 230.495, and 230.497). In a companion release, the Commission is adopting new rule 498 (17 CFR 230.498) under the Securities Act and the Investment Company Act that permits a fund to provide investors with a new short-form document, called a "profile," which summarizes key information about the fund. If a fund makes a profile available, an investor would have the option of purchasing the fund’s shares after reviewing the information in the profile or after requesting and reviewing the fund’s prospectus (and other information about the fund) before making a decision about investing in the fund. An investor deciding to purchase a fund’s shares based on a profile will receive a copy of the fund's prospectus with the purchase confirmation. ¹

TABLE OF CONTENTS

• I. INTRODUCTION AND BACKGROUND
• II. DISCUSSION
  • A. Part A — Information in the Prospectus
    • 1. Risk/Return Summary: Investments, Risks, and Performance (Item 2)
      • a. Investment Objectives and Principal Strategies
      • b. Risks
    • 2. Risk/Return Summary: Fee Table (Item 3)
    • 3. Investment Strategies and Risk Disclosure (Item 4)
      • a. Principal Investment Strategies, Investment Objectives, and Implementation of Investment Objectives
      • b. Risk Disclosure
    • 4. Management's Discussion of Fund Performance (Item 5)
    • 5. Management, Organization, and Capital Structure (Item 6)
      • a. Management and Organization
      • b. Capital Structure
    • 6. Shareholder Information (Item 7)
      • a. General Purchase and Sale Information
      • b. Valuation of Fund Shares and Net Asset Value
      • c. Restrictions on Portability
      • d. Tax Consequences
    • 7. Distribution Arrangements (Item 8)
    • 8. Financial Highlights Information (Item 9)
    • 9. Front and Back Cover Pages (Item 1)
  • B. Part B — Statement of Additional Information
  • C. Part C — Other Information
  • D. General Instructions
    • 1. Reorganizing and Simplifying the Instructions
    • 2. Plain English Disclosure
    • 3. Disclosure Guidelines
    • 4. Modified Prospectuses for Certain Funds
    • 5. Incorporation By Reference
    • 6. Form N-1A Guidelines and Related Staff Positions
  • E. Technical Rule Amendments
  • F. Administration of Form N-1A
  • G. Coordination with the NASD
  • H. Effective Dates and Transition Period
• III. COST/BENEFIT ANALYSIS AND EFFECTS ON COMPETITION, EFFICIENCY, AND CAPITAL FORMATION
• IV. PAPERWORK REDUCTION ACT
• V. SUMMARY OF FINAL REGULATORY FLEXIBILITY ANALYSIS
• VI. STATUTORY AUTHORITY

I. INTRODUCTION AND BACKGROUND

Over the last decade, the mutual fund industry has grown enormously both in total assets and in the number of funds. ² Today, fund assets exceed the deposits of commercial banks. ³ Coincident with the explosive growth of fund investments, the business operations of many funds have become increasingly complex as funds offer new investment options and a wider variety of shareholder services. These factors, combined with new and more sophisticated fund investments, have resulted in fund prospectuses that often include long and complicated disclosure, as funds explain their operations, investments, and services to investors.

Many have criticized fund prospectuses, finding them unintelligible, tedious, and legalistic. ⁴ Although the prospectus remains the most complete source of information about a fund, technical and unnecessarily long prospectus disclosure often obscures important information about a fund investment and does not serve the informational needs of the majority of fund investors. ⁵ The millions of investors who turn to funds as their investment vehicle of choice ⁶ need clear and comprehensible information to help them evaluate and compare fund investments.

New Disclosure Initiatives

In seeking to improve the quality and usefulness of fund disclosure, the Commission proposed two major disclosure initiatives on February 27, 1997. ⁷ First, the Commission issued for public comment a release (the "Form N-1A Proposing Release") that proposed significant amendments to the prospectus disclosure requirements for funds (the "Proposed Amendments"). ⁸ Second, the Commission proposed, in a companion release, new rule 498 under the Securities Act and the Investment Company Act that would allow a fund to offer investors the option to purchase its shares after reviewing the information in the fund’s profile or after requesting and reviewing the fund’s prospectus (and other information about the fund) before making a decision about investing in the fund. ⁹ As proposed, the profile (the "Proposed Profile") would summarize key information about a fund, including the fund’s investment objectives, strategies, risks, performance, and fees. Under proposed rule 498, a fund would be required to send investors the fund’s prospectus and certain other information within 3 business days of a request, and any investor purchasing the fund’s shares on the basis of a profile would receive the prospectus with the purchase confirmation.

The Commission’s disclosure initiatives were intended to: improve fund disclosure by requiring prospectuses to focus on information central to investment decisions; provide new disclosure options for investors; and enhance the comparability of information about funds. Taken together, these initiatives are designed to promote more effective communication of information about funds to investors without reducing the amount of information provided to investors. The Proposed Amendments reflected the Commission’s strong belief that the primary purpose of the disclosure in a fund’s prospectus is to help an investor make a decision about investing in the fund. ¹⁰ Consistent with this belief, the objective of the Proposed Amendments was to provide investors with prospectus disclosure that presents clear, concise, and understandable information about an investment in a fund.

Commenters expressed overwhelming support for the Commission’s disclosure initiatives. ¹¹ Commenters believed that the Commission’s disclosure initiatives would enhance the quality of disclosure that funds provide to investors. Some commenters emphasized that improved disclosure about funds was long overdue and would substantially benefit investors. In particular, commenters strongly supported the Proposed Amendments as effective steps toward improving fund prospectuses. Commenters also provided numerous additional suggestions to improve prospectus disclosure. The Commission is adopting the initiatives substantially as proposed.

Prior Commission Disclosure Initiatives

The amendments to the prospectus disclosure requirements adopted today are another important step in the Commission’s ongoing efforts to improve disclosure about funds. In 1983, the Commission introduced an innovative approach to prospectus disclosure by adopting a two-part disclosure format that permitted a fund to provide investors with a simplified prospectus containing essential information about the fund and to place more detailed information in a companion document called the "Statement of Additional Information" ("SAI"), which investors could obtain upon request. ¹² The Commission intended that, under this format, a fund’s prospectus would include essential information about the fund that would be most useful to typical or average investors in making an investment decision about the fund. The Commission contemplated that more detailed discussions of matters geared to the needs of more sophisticated investors would be available in the SAI, which all fund investors could obtain upon request. In adopting this new format, the Commission’s goal was to provide investors with more useful information in "a prospectus that is substantially shorter and simpler, so that the prospectus clearly discloses the fundamental characteristics of the particular investment company . . . ." ¹³

Since 1983, the Commission has implemented a number of other initiatives to improve fund prospectus disclosure, including a uniform fee table ¹⁴ and a requirement that a fund’s management discuss the fund’s performance over the past year in its prospectus or annual report to shareholders (the management’s discussion of fund performance ("MDFP")). ¹⁵ While these changes have provided investors with clear and helpful information about fund expenses and performance, they were not intended to address the overall effectiveness of Form N-1A’s prospectus disclosure requirements. The Proposed Amendments and Form N-1A, as amended, reflect the Commission’s view that current prospectus disclosure must be considered on a comprehensive basis to ensure that the prospectus, as a whole, meets the information needs of investors.

Reassessment of Fund Disclosure

The Commission’s recent efforts to improve disclosure began with an evaluation of the use of a standardized, summary disclosure document that highlights key information about a fund. The Commission, with the cooperation of the Investment Company Institute ("ICI") and several large fund groups, conducted a pilot program permitting funds to use profile-like summaries ("Pilot Profiles") together with their prospectuses. ¹⁶ The program’s purpose was to determine whether investors found the Pilot Profiles, which summarize important information about a fund, helpful in making investment decisions. Focus groups conducted on the Commission’s behalf, and fund investors participating in a survey sponsored by the ICI, responded very positively to the profile concept. ¹⁷

In considering fund disclosure issues, the Commission also has evaluated over 3,700 letters submitted in response to a release requesting comment on ways to improve risk disclosure in fund prospectuses, as well as the comparability of fund risk levels ("Risk Concept Release"). ¹⁸ The commenters, mostly individual investors, confirmed the importance of risk disclosure in evaluating and comparing funds and emphasized the need to improve prospectus disclosure of fund risks. In particular, commenters indicated that current risk disclosure is difficult to understand and does not fully convey to investors the risks associated with an investment in a fund.

Plain English Initiatives

The fund disclosure initiatives being adopted today are part of the Commission’s broad undertaking to bring sweeping revisions to prospectus disclosure for all public companies. ¹⁹ As part of its commitment to make all prospectuses simpler, clearer, and more useful, and to eliminate jargon and boilerplate, the Commission recently adopted rule amendments to require the use of plain English principles in drafting prospectuses and to provide other guidance on improving the readability of prospectuses. ²⁰ The Commission’s plain English principles reflect fundamentals of clear communication and contemplate disclosure documents that:

- Present information in an easily readable format;

- Use everyday language that investors can easily understand; and

- Eliminate repetition of disclosure that lengthens a document and overwhelms the investor.

Improved Fund Disclosure

As one commenter on the disclosure initiatives pointed out, the Commission’s proposals reflect an unprecedented number and variety of public comments and expert views, the results of Commission and other research, and broad investor input. The Commission agrees with the commenter’s further observation that the Commission has never had a more detailed, comprehensive, and compelling basis for a rulemaking than that developed for the fund disclosure initiatives. Through focus groups and written comments on the initiatives, investors have confirmed that they concur strongly with the Commission’s view that fund disclosure documents will be useful only if they communicate information effectively. The Commission has designed both the fund prospectus and profile initiatives to meet this goal. The amendments to Form N-1A seek to make the prospectus, which will remain a fund’s primary disclosure document, a more effective tool by focusing its contents on information that is essential to an investment in the fund. The profile responds to investors’ strongly expressed desire for a new, concise disclosure document that summarizes key fund information and helps investors evaluate and compare funds more easily.

To encourage the use of disclosure that communicates effectively, the Commission’s fund disclosure initiatives include a number of important innovations:

- The initiatives provide for a standardized risk/return summary at the beginning of every fund prospectus and in the profile that: ²¹

-- Concisely summarizes information in a specific sequence about a fund’s investment objectives, strategies, risks and performance, and fees;

-- Discusses the risks of a fund’s portfolio taken as a whole and minimizes detailed and technical descriptions of the risks associated with specific portfolio securities potentially held by the fund; and

-- Provides a graphic presentation of a fund’s annual returns over a 10-year period in a bar chart that illustrates the variability of the fund’s returns and gives investors some idea of the risks of an investment in the fund. To help investors evaluate a fund’s risks and returns relative to "the market," a table accompanying the bar chart compares the fund’s average annual returns for 1, 5, and 10 years with that of a broad-based securities market index.

- The initiatives require a fund to prepare disclosure documents using plain English disclosure, which is designed to give investors understandable disclosure documents.

- The initiatives eliminate prospectus clutter that obscures other information helpful to investors when making a decision about an investment in a fund. Specifically, the amendments to prospectus disclosure requirements:

-- Move certain disclosure about fund organization and legal requirements from the prospectus to the SAI;

-- Permit a fund that is offered as an investment alternative in a participant-directed defined contribution plan (or certain other tax-advantaged arrangements) to tailor its prospectus for the plan (or other arrangement);

-- Update and incorporate certain staff interpretive positions into Form N-1A; ²² and

-- Simplify current disclosure instructions to provide clearer guidance for preparing and filing fund registration statements.

Disclosure Principles

The Commission believes that, in revising Form N-1A and in providing for the use of profiles, it has laid the foundation for the development of fund disclosure documents of a significantly higher quality than those often used today, which have drawn the consistent criticism of fund investors and others. If the initiatives are to have their intended effect, however, all those who participate in the preparation and review of those documents -- funds, their legal counsels and other advisors, the Commission and its staff, and other regulators and their staffs -- should act consistently with the basic disclosure principles that serve as the cornerstones of the initiatives. These principles, which are referred to throughout this release, include the following:

- Funds should design disclosure documents, particularly their prospectuses, first and foremost, to communicate information to investors effectively. Funds should present information in prospectuses following the principles of plain English, using language that is concise, straightforward, and easy to understand.

- A fund’s prospectus principally should include essential information about the fundamental characteristics of, and risks of investing in, the fund. Whenever possible, a fund should present this information in a manner that:

-- assists investors in comparing and contrasting the fund with other funds;

-- avoids simply restating legal or regulatory requirements to which funds generally are subject; and

-- avoids a disproportionate emphasis on possible investments or activities of the fund that are not a significant part of the fund’s investment operations.

- Funds should limit disclosure in prospectuses generally to information that is necessary for an average or typical investor to make an investment decision. Detailed or highly technical discussions, as well as information that may be helpful to more sophisticated investors, dilute the effect of necessary prospectus disclosure and should be placed in the SAI.

- Prospectus disclosure requirements should not lead to lengthy disclosure that discourages investors from reading the prospectus or obscures essential information about an investment in a fund.

The Commission has instructed its staff to use these principles consistently in administering the requirements of both amended Form N-1A and new rule 498 and strongly encourages all other participants in the development of fund disclosure documents to apply these principles in preparing their prospectuses and profiles. ²³

II. DISCUSSION

A. Part A — Information in the Prospectus

Form N-1A, as amended, retains the overall structure of current Form N-1A. The most significant changes to Form N-1A adopted today are the new risk/return summary at the beginning of the prospectus and improved disclosure about the risks of investing in a fund. This release first addresses these changes and then discusses other changes to substantive prospectus disclosure requirements in Part A of Form N-1A. ²⁴ Following this discussion, the release describes revisions to requirements for information on the front and back cover pages of the prospectus, the General Instructions to Form N-1A, which have been updated and revised to make them easier to use, and other technical revisions to Form N-1A’s requirements. ²⁵

1. Risk/Return Summary: Investments, Risks, and Performance (Item 2)

The Commission proposed to require a risk/return summary at the beginning of every prospectus that would provide key information about a fund's investment objectives, principal strategies, risks, performance, and fees. The risk/return summary, also included in the Proposed Profile, was intended to respond to investors' strong preference for summary information about the fund in a standardized format. ²⁶ The proposed risk/return summary in a fund’s prospectus would provide investors with a type of "executive summary" of key information about the fund in a standardized, easily accessible place that investors could use to evaluate and compare the fund to others, regardless of whether the fund uses a profile.

While most commenters supported the proposed risk/return summary, several questioned whether it was necessary in a prospectus. These commenters argued that the summary could repeat other information in the prospectus and that it would undermine the Commission’s goal of making prospectus disclosure clear and concise.

The Commission is of the view that the prospectus risk/return summary will not undermine, but further, the goal of making prospectuses more useful for investors. The Commission believes that the disclosure in the risk/return summary need not generally repeat other information in the prospectus; much of the summary consists of information that Form N-1A would not require to be disclosed elsewhere in the prospectus, such as the bar chart, performance table, and fee table. The Commission has concluded that the possibility that the risk/return summary could repeat some information appearing elsewhere in the prospectus is outweighed by the benefits of providing investors with standardized and comparable fund information at the beginning of every prospectus and in the profile. Thus, the Commission is adopting the requirement that every prospectus and profile contain a risk/return summary. ²⁷

The Commission proposed to require that the risk/return information in the prospectus, like that in the Proposed Profile, appear in a specific sequence and in a question-and-answer format. Many commenters objected to the question-and-answer format, stating, among other things, that rigid adherence to the format would not necessarily result in effective communication of information to investors. ²⁸ To allow funds to design effective disclosure documents, the Commission has determined not to require this format in the prospectus or the profile. Any fund that chose to do so could use a question-and-answer format in its prospectus, profile, or in both documents.

a. Investment Objectives and Principal Strategies

The Proposed Amendments would require a fund to disclose its investment objectives in the risk/return summary and to summarize, based on the information provided in its prospectus, how the fund intends to achieve those objectives. The purpose of the proposed disclosure was to provide a summary of the fund's principal investment strategies, including the specific types of securities in which the fund principally invests or will invest, and any policy of the fund to concentrate its investments in an industry or group of industries. ²⁹ The Commission is adopting this requirement as proposed. ³⁰

The information contained in the risk/return summary about a fund’s investment objectives and principal strategies is intended to meet the needs of an average or typical fund investor. Recognizing that disclosure about a fund’s specific portfolio holdings may be important to some investors, the Proposed Amendments would require a fund to inform investors in its prospectus risk/return summary that additional information about the fund's investments is available in the fund’s shareholder reports. ³¹ While supporting the proposed disclosure, most commenters suggested placing statements about how investors can obtain a fund’s SAI, shareholder reports, and other information about the fund on the back cover page of the prospectus. According to these commenters, this disclosure would be easier for investors to find if it were located in one place rather than in different places in the prospectus. The Commission agrees with the commenters that typical fund investors may find a single reference to the availability of additional information helpful. Therefore, Form N-1A, as amended, requires all disclosure about the availability of additional information to appear on the back cover page of the prospectus. ³² The Commission is adopting the disclosure as proposed, with minor adjustments to the language to ensure that the disclosure clearly explains the availability of additional information about a fund to a typical investor. ³³

b. Risks

Summary Risk Disclosure. The Proposed Amendments would require the risk/return summary to include a discussion of the principal risks of investing in a fund that summarizes information about those risks set out in the fund’s prospectus. Reflecting the Commission’s proposed new approach to risk disclosure, this discussion was intended to summarize the risks of a fund's anticipated portfolio holdings as a whole, and the circumstances reasonably likely to affect adversely the fund's net asset value, yield, and total return. Commenters generally supported the summary risk disclosure contemplated by the Proposed Amendments, agreeing that it would be specific and brief and would assist investors in identifying the principal risks of investing in a particular fund. The Commission is adopting this disclosure requirement with modifications to reflect certain commenters’ suggestions. ³⁴

Several commenters asked the Commission to clarify the scope of the proposed summary risk disclosure, arguing that the requirement would not serve its purpose if the risk disclosure simply repeated information from other sections of the prospectus. In the Commission’s view, the purpose of the summary risk disclosure in a fund’s prospectus is to identify briefly the principal risks of investing in the particular fund and to emphasize those risks reasonably likely to affect the fund’s performance. In light of this purpose, the Commission expects a fund, in meeting this requirement, to present only a succinct summary of the principal risks of investing in the fund and not to repeat the fuller discussion of these risks required elsewhere in the prospectus. ³⁵ On the other hand, the Commission believes that it generally would be inconsistent with the summary risk requirement for a fund to include a "laundry list" of generic risk factors that may apply to any fund and that does not identify the risks of investing in the fund.

The Commission proposed to require that the prospectus risk summary identify the types of investors for whom the fund may be an appropriate or inappropriate investment. ³⁶ Commenters either opposed or raised significant concerns about this provision, arguing that it could be viewed as requiring a fund to determine whether its shares, among other things, are a suitable investment for a particular investor. ³⁷ Commenters also stated that the disclosure would tend to be generic and not meaningful or useful for investors.

The Commission is persuaded by commenters that disclosure about the appropriateness of funds for particular investors should not be required in all fund prospectuses and has deleted this requirement from the prospectus risk summary. The Commission believes, however, that disclosure indicating whether a fund is appropriate for specific types of investors or is consistent with certain investment goals, even if generic in nature, may be useful for some investors and may provide a means for the fund to distinguish itself from other investment alternatives. ³⁸ Therefore, Form N-1A, as amended, permits, but does not require, a fund to include disclosure in the narrative risk summary about the types of investors for whom the fund is intended or the types of investment goals that may be consistent with an investment in the fund. ³⁹

Under the Proposed Amendments, a fund could choose to discuss the potential rewards of investing in the fund in the risk summary as long as the discussion provided a balanced presentation of the fund's risks and rewards. One commenter strongly questioned this provision of the proposal, asserting that it would detract from a clear presentation of risks in the risk summary. The Commission has reconsidered this disclosure in light of the intended standardized and summary nature of the risk summary and has concluded that the disclosure should focus solely on the risks of investing in a fund. Thus, the Commission has determined to eliminate the option to describe the rewards of investing in a fund in the risk summary. A fund desiring to add this disclosure elsewhere in its prospectus can do so subject to Form N-1A’s general rule with respect to information that is not required to be in a prospectus. Under this general rule, a fund can disclose this information, so long as it is not incomplete or misleading and would not obscure or impede understanding of the information that is required to be in the prospectus. ⁴⁰

Special Risk Disclosure Requirements. The Proposed Amendments were intended to simplify the prospectus cover page and to avoid repeating information on the cover page and in the risk summary discussion. In seeking to meet this goal, the Commission proposed to move certain cover page disclosure requirements relating to the risks associated with specific types of funds to the risk summary where, the Commission believed, it would be more meaningful to investors.

Form N-1A currently requires that each money market fund ⁴¹ disclose on the cover page of its prospectus that an investment in the fund is neither insured nor guaranteed by the U.S. Government and that there can be no assurance that the fund will be able to maintain a stable net asset value of $1.00 per share. This required disclosure is intended to alert investors that investing in a money market fund is not without risk. ⁴² In addition to moving this disclosure to the risk summary, the Proposed Amendments would simplify the technical disclosure that a money market fund may not be able to maintain a stable net asset value. ⁴³ Commenters supported the proposed disclosure for money market funds, and the Commission is adopting it as proposed. ⁴⁴

Form N-1A currently requires specific prospectus cover page disclosure for a tax-exempt money market fund that concentrates its investments in a particular state (a "single state money market fund"). Each such fund is required to disclose that it may invest a significant percentage of its assets in a single issuer and that investing in the fund may be riskier than investing in other types of money market funds. This disclosure was intended to make investors aware of special risks that could be associated with an investment in a single state money market fund. ⁴⁵ In the Form N-1A Proposing Release, the Commission asked whether it should continue to require this disclosure in prospectuses. The Commission noted that this disclosure may exaggerate the risk of investing in a single state money market fund. As the Form N-1A Proposing Release pointed out, although these funds are subject to less stringent issuer diversification provisions under Commission rules than other money market funds, they are subject to credit quality and maturity investment restrictions that are comparable to other money market funds. ⁴⁶

In response to the Commission’s question regarding single state money market funds, commenters indicated that the special disclosure now required on the cover page of fund prospectuses overstates the risks of investing in single state money market funds, particularly in view of the minimal risk that commenters asserted is associated with these funds. The Commission is persuaded by these comments and has determined not to require the disclosure in Form N-1A.

Form N-1A currently requires a fund that is advised by or sold through a bank to disclose on the cover page of its prospectus that the fund's shares are not deposits or obligations of, nor guaranteed or endorsed by, the bank, and that the shares are not insured by the Federal Deposit Insurance Corporation ("FDIC") or any other government agency. ⁴⁷ This disclosure is intended to alert investors that funds advised by or sold through banks are not federally insured. ⁴⁸ The Commission proposed to move this disclosure to the prospectus risk summary and to simplify the wording of the current disclosure required for funds advised by or sold through banks. ⁴⁹ Commenters supported the revised disclosure requirements for bank-sold funds, and the Commission is adopting them substantially as proposed. ⁵⁰

Risk/Return Bar Chart and Table. The Proposed Amendments would require a fund’s risk/return summary to include a bar chart showing the fund's annual returns for each of the last 10 calendar years and a table comparing the fund's average annual returns for the last 1-, 5-, and 10-fiscal years to those of a broad-based securities market index. Commenters generally supported the proposed bar chart and performance table, but had a number of suggestions about the content and presentation of the information in both. The Commission is adopting the proposed bar chart and table requirements with modifications to reflect suggestions of commenters. ⁵¹

The bar chart reflects the Commission’s determination that investors need improved disclosure about the risks of investing in a fund. The bar chart is intended to illustrate graphically the variability of a fund’s returns (e.g., whether a fund's returns for a 10-year period have changed significantly from year to year or were relatively even over the period) and thus provide investors with some idea of the risk of an investment in the fund. ⁵² The average annual return information in the table should enable investors to evaluate a fund's performance and risks relative to "the market."

In the Form N-1A Proposing Release, the Commission requested comment about alternative presentations that could improve fund risk disclosure. ⁵³ In particular, the Commission expressed interest in disclosure that would show a fund’s highest and lowest returns (or "range" of returns) for annual or other periods as an alternative, or in addition, to the bar chart. The Commission suggested that a fund could present the information in a separate table or could include it in the performance table.

In response to the Commission’s request, some commenters suggested including in a fund’s bar chart one or more indexes or other benchmarks (such as 3-month Treasury returns or the rate of inflation) to help investors evaluate the fund’s returns by comparisons to other measures of market performance or economic factors. ⁵⁴ Most commenters, however, opposed requiring additional information in the bar chart, asserting that it could complicate and reduce the effectiveness of the bar chart.

Several commenters supported the inclusion of return information in the bar chart on a quarterly or semi-annual rather than an annual basis. They argued that this change to the bar chart would respond to concerns that investors may not sufficiently appreciate that an investment in a fund may be subject to the risk of a short-term decline in value. This risk, commenters asserted, may not be apparent from the annual returns proposed to be shown in the bar chart. One commenter recommended that the Commission require quarterly returns in the bar chart so that investors would have more information about returns over shorter periods to use in assessing the variability reflected in a fund’s past returns. The commenter argued that including returns on an annual basis in the bar chart may not show a significant amount of shorter-term price fluctuation.

The Commission acknowledges that a fund’s returns may vary significantly and could decrease in value over short periods and that the annual returns in the bar chart will not necessarily reflect this pattern. On the other hand, the Commission is concerned that requiring quarterly returns over a 10-year period would make the bar chart more complex and less useful in communicating information to investors. In balancing the desire to make typical fund investors aware that fund shares may experience fluctuations over shorter periods with its underlying goal that fund documents communicate information in as straightforward and uncomplicated a manner as possible, the Commission has determined to require a fund to disclose, in addition to the bar chart, its best and worst returns for a quarter during the 10-year (or other) period reflected in the bar chart. ⁵⁵ The Commission believes that this information will assist investors in understanding the variability of a fund’s returns and the risks of investing in the fund by illustrating, without adding unwarranted complexity to the bar chart, that the fund’s shares may be subject to short-term price fluctuations.

Presentation of Return Information. The Proposed Amendments would require a fund to include the bar chart and table in the risk section of the prospectus risk/return summary under a separate sub-heading that referred to both risk and performance. Several commenters argued that the separate sub-heading requirement was unnecessary and suggested that a fund should be able to choose whether to include any sub-heading. Consistent with the objective of encouraging funds to develop disclosure formats that are most helpful to investors, Form N-1A, as amended, does not require the sub-heading included in the Proposed Amendments. ⁵⁶ To help investors use the information in the bar chart and table, Form N-1A, as amended, however, does require a fund to provide a brief narrative explanation of how the information illustrates the variability of the fund's returns. ⁵⁷

Bar Chart Return Information. The Proposed Amendments would require that a fund’s prospectus bar chart show the fund’s annual returns for the last 10 calendar years of the fund’s existence. The purpose of the calendar year requirement was to facilitate the comparison of annual returns among funds, which typically have fiscal periods that do not correspond to the calendar year. ⁵⁸ Unlike the proposed bar chart, the proposed performance table required disclosure of a fund’s returns for fiscal year periods. In requiring this disclosure to be made for fiscal year periods, the proposal was consistent with existing disclosure requirements for the presentation of other financial information included in a fund’s prospectus.

Several commenters argued that using different time periods for the proposed bar chart and performance table would confuse investors and urged the Commission to minimize potential investor confusion by adopting consistent time periods for this information. The Commission is persuaded by these comments and believes that requiring both the bar chart and the performance table to be based on calendar year periods will promote understandable information in fund prospectuses. Therefore, Form N-1A, as amended, requires calendar year periods for both the bar chart and table. ⁵⁹ Rule 498, as adopted, also requires the bar chart and table in the profile to show calendar year data so that both the profile and the prospectus of a fund will have virtually the same risk/return information. ⁶⁰

The Commission is adopting, as proposed, the requirement that a fund calculate the annual returns in the bar chart using the same method required for calculating annual returns in the financial highlights information included in fund prospectuses. ⁶¹ The bar chart does not reflect sales loads assessed upon the sale of a fund’s shares, although the average annual return information for the fund in the table would reflect the payment of any sales loads. ⁶² Commenters generally supported this presentation of annual return information. The Commission believes that, in light of the different types of sales loads that may be charged on funds shares, it would be difficult for funds to compute annual returns for the purposes of the bar chart and to communicate the information effectively to investors. ⁶³ In addition, the Commission has concluded that more precise return information is not necessary for the bar chart to serve the purpose of graphically showing fund annual returns and illustrating the variability of an investment in a fund over a 10-year period.

Bar Chart Presentation. The Proposed Amendments would allow a single bar chart to include return information for more than one fund. Most commenters supported the proposal, agreeing that it would give funds the appropriate amount of flexibility to present the information in the bar chart in a manner designed to assist investors in making investment decisions. Under Form N-1A, as amended, the bar chart may include returns for more than one fund, subject to the general requirement that the information presented in the bar chart appear in a clear and understandable manner. ⁶⁴

Multiple Class Funds. Although the Commission proposed to permit return information for more than one fund to be included in a single bar chart, the Proposed Amendments would require a fund offering more than one class of its shares in a prospectus to limit the information in the fund’s bar chart to one class. Commenters uniformly supported this approach, and the Commission is adopting it as proposed. ⁶⁵ Unlike individual funds, classes of a fund represent interests in the same portfolio of securities, and the returns of each class differ only to the extent the classes do not have the same expenses. The Commission believes that including return information for all classes offered through a fund’s prospectus is not necessary to provide some indication of the risks of investing in the fund. In addition, the table accompanying such a fund’s bar chart would provide return information for each class offered in the prospectus so that investors would be able to identify and compare the performance of each class. ⁶⁶

The Proposed Amendments would require the bar chart of a fund offering more than one class of shares through a prospectus to reflect annual return information for the class offered in the prospectus that had the longest performance history over the last 10 years. When two or more classes have returns for at least 10 years, or returns for the same period but fewer than 10 years, the Proposed Amendments would require annual returns for the class with the greatest net assets as of the end of the most recent calendar year. Most commenters addressing the issue opposed this approach. They argued that, if all classes had existed for the same amount of time, the largest class could change from year to year, thus requiring a fund to change the class reflected in the bar chart. According to the commenters, changes in the information each year could be confusing for investors and result in unwarranted administrative burdens for funds. Commenters suggested that the Commission permit a fund having classes with performance histories extending over the same period of time to include the performance of any existing class in the bar chart, maintaining that the effect of expenses on the returns for different classes of shares is not significant. ⁶⁷ The Commission is persuaded that allowing a multiple class fund in such a case to choose the class reflected in the fund’s bar chart will simplify compliance with Form N-1A’s requirements and provide investors with sufficient information to evaluate the variability of returns for any class of the fund. Therefore, Form N-1A, as amended, permits a fund to choose the class to be reflected in the bar chart, subject to certain limitations. ⁶⁸ Under Form N-1A, as amended, the bar chart must reflect the performance of any class that has returns for at least 10 years (e.g., a fund could not present a class in the bar chart with 2 years of returns when another class has returns for at least 10 years). In addition, if two or more classes offered in the prospectus have returns for different periods shorter than 10 years, the bar chart must reflect returns for the class that has returns for the longest period.

Tabular Presentation of Fund and Index Returns. The Proposed Amendments would require a table accompanying a fund’s bar chart to present the fund's average annual returns for the last 1-, 5-, and 10-fiscal years (or for the life of the fund, if shorter) and to compare that information to the returns of a broad-based securities market index for the same periods. The purpose of including return information for a broad-based securities market index was to provide investors with a basis for evaluating a fund's performance and risks relative to the market. The proposed approach also was consistent with the line graph presentation of fund performance required in MDFP disclosure. ⁶⁹

Commenters generally supported the proposed performance table, but had several technical suggestions. The Commission is adopting the performance table with revisions to clarify the disclosure requirements for the table. ⁷⁰

One commenter suggested that the Commission allow funds that have existed for more than 10 years to include average annual returns for the life of the fund in the performance table. The Commission agrees that this information could be helpful for typical investors in such a fund. Form N-1A, as amended, permits, but does not require, a fund to include performance information in the table for the life of the fund if it exceeds 10 years. ⁷¹

The Proposed Amendments would require a money market fund, in meeting the proposed performance table requirement, to provide its 7-day yield as of the end of its most recent fiscal year. One commenter questioned this requirement, arguing that it would result in money market funds giving outdated information to investors and suggested that disclosure describing how an investor can obtain the fund’s current 7-day yield would be preferable. As amended, Form N-1A gives a money market fund the option of providing in its performance table its 7-day yield ending on the date of its most recent calendar year or disclosing a toll-free (or collect) telephone number that an investor can use to contact the fund to obtain its current 7-day yield. ⁷²

2. Risk/Return Summary: Fee Table (Item 3)

The Proposed Amendments would continue to require a fee table in the prospectus that summarizes the sales charges and fund operating expenses associated with an investment in a fund. Proposed rule 498 also incorporates the fee table requirement in the risk/return summary included in the profile. Including the fee table in both the prospectus and the profile reflects the Commission’s strongly held belief in the importance of fees and expenses in a typical investor’s decision to invest in a fund. The fee table is designed to help investors understand the costs of investing in a fund and to compare those costs with the costs of other funds. Commenters generally supported the fee table disclosure, and the Commission is adopting it substantially as proposed.

The Commission proposed certain amendments designed to improve communication of the information in the fee table. The Commission proposed to require a narrative explanation of the purpose of the "Example" that accompanies the fee table. ⁷³ Recognizing the trend that the typical fund investment is increasing in size, ⁷⁴ the Proposed Amendments would increase the initial hypothetical investment included in the Example from $1,000 to $10,000.

Several commenters criticized the Example, arguing that, because it is an arbitrary approximation of a fund’s actual expenses, the Example is not helpful to investors. These commenters recommended that the Commission eliminate the Example from the fee table disclosure.

The Commission recognizes that any example necessarily has limitations. On balance, however, the Commission believes that the Example provides useful information that helps a typical investor understand and compare the expenses of different funds. ⁷⁵ The Example is a relatively straightforward means of illustrating the effect of costs in investing in a fund over time. Expressing expense amounts solely as a percentage amount, as is done in the fee table, may not give the average investor enough information to assess the likely effect of a fund’s expenses on a dollar amount of an investment in the fund. The addition of a clear narrative explanation of the purpose of the Example should increase its effectiveness in assisting investors’ understanding of the Example, and the Commission is adopting this disclosure requirement as proposed. ⁷⁶

To ensure that all account fees (e.g., administrative fees charged to maintain an account) paid directly by shareholders are disclosed, the Proposed Amendments would require a new line item in the shareholder transaction section of the fee table describing account fees charged by a fund. The Commission is adopting this requirement as proposed. ⁷⁷ In response to comments on the Proposed Amendments, Form N-1A, as amended, clarifies that the table should include account fees that affect a typical investor in a fund and not miscellaneous fees that apply to only a limited number of shareholders based on their particular circumstances. ⁷⁸

The Commission proposed to modify some of the captions in the fee table relating to fees and expenses. The revisions were intended to result in fee tables referring consistently to different types of expenses as "fees." In particular, the Proposed Amendments would change the captions for "sales loads" to "sales fees (loads)." The Proposed Amendments also would revise the caption "12b-1 Fees" to read "Marketing (12b-1) Fees." Commenters generally criticized these changes. They maintained that the caption sales fees (loads) was not typically used by the industry or industry commentators and could be confusing to investors. The commenters recommended that the caption in the fee table refer to "sales charges." Commenters also recommended that the caption "Distribution (and/or Service) (12b-1) Fees" would better describe these fees than the term "Marketing (12b-1) Fees." Commenters said that the types of fees that can be paid in accordance with rule 12b-1 under the Investment Company Act extend beyond marketing fees so that referring to rule 12b-1 fees as marketing fees would be inaccurate.

The Commission believes that the terms suggested by commenters are commonly used by the industry and by the press in covering the industry and may be more easily understood by investors than those proposed. Form N-1A, as amended, modifies the caption for sales fees (loads) to refer to sales charges (loads). ⁷⁹ The Commission is retaining the reference to loads because many investors are familiar with this term. Form N-1A, as amended, also requires funds to use the captions suggested by the commenters in referring to distribution fees in the fee table.

The Commission proposed to continue to require a fund to reflect in the fee table its operating expenses for the most recent fiscal year, taking into account expense reimbursements and fee waiver arrangements. ⁸⁰ As required by current Form N-1A, a footnote to the fee table would disclose the amount of expenses that would have been incurred had there been no waiver or reimbursement. One commenter expressed strong opposition to showing expenses in the fee table that are reduced by reimbursements or fee waivers. The commenter asserted that investors would interpret the disclosure to mean that the net fee disclosed in the table is what they can expect for the life of their investment in the fund, which may not be the case.

The Commission believes that typical investors need clear disclosure of information about fees charged by funds. ⁸¹ Reflecting its continuing concern about the quality of disclosure about fees, the Commission has reconsidered the disclosure of expense reimbursement and fee waiver arrangements. The Commission believes that typical investors may tend to overlook or disregard information about a fund’s fee structure if it is included in a footnote. Moreover, requiring the fee table to show fees that a fund will charge under its contractual arrangement with its investment adviser, without regard to temporary arrangements that may decrease these fees, is consistent with other Form N-1A requirements. ⁸²

In view of its desire to improve the quality of fee disclosure, the Commission has revised Form N-1A to require a fund to disclose in the fee table its operating expenses, not taking into account expense reimbursements and fee waiver arrangements. ⁸³ To ensure that investors have current information about a fund’s expenses, however, Form N-1A, as amended, permits a fund to disclose its operating expenses net of reimbursements and waivers in a footnote to the fee table. ⁸⁴ The Commission believes that the fee table disclosure of fund expenses, as amended, will give an investor clearer information about the long-term costs of an investment in a fund, while at the same time allowing the fund to provide current information about its operating expenses.

3. Investment Strategies and Risk Disclosure (Item 4)

In the Form N-1A Proposing Release, the Commission discussed its concerns about disclosure of fund investments and risks typically found in many fund prospectuses. ⁸⁵ This disclosure generally consists of descriptions of the types of securities in which a fund may invest and the risks associated with each of those securities. ⁸⁶ In the Commission’s view, disclosing information about all of the securities in which a fund might invest does not help a typical fund investor evaluate how the fund's portfolio will be managed or the overall risks of investing in the fund. The disclosure also adds substantial length and complexity to fund prospectuses, which discourages investors from reading them.

The Commission has concluded that prospectus disclosure would be more useful to a typical fund investor if it emphasized the principal investment strategies of a fund and the principal risks of investing in the fund, rather than the characteristics and risks of each type of instrument in which the fund may invest. ⁸⁷ The Commission believes that funds are appropriately viewed as a means through which a professional money manager provides its services to investors ⁸⁸ and that, for that reason, the focus of disclosure about a fund’s prospective investments should center on the fund’s investment objectives and the principal means used by the fund's adviser to achieve those objectives. Consistent with this view, the Proposed Amendments would require prospectus disclosure that is designed to help investors understand how a particular fund's portfolio will be managed. The purpose of the Proposed Amendments was to implement more effectively the Commission's original goal in adopting Form N-1A that the prospectus should describe a fund's "fundamental characteristics." ⁸⁹ Commenters generally supported the proposed approach to disclosure of the fund’s investment operations and attendant risks, and the Commission is adopting it substantially as proposed.

a. Principal Investment Strategies, Investment Objectives, and Implementation of Investment Objectives

To assist investors in determining whether a fund meets their investment needs, Form N-1A, as amended, continues to require prospectus disclosure of a fund's investment objectives. ⁹⁰ The Commission proposed to shift the focus of disclosure about how a fund intends to achieve its investment objectives away from the current practice of listing all types of securities in which a fund may invest to a discussion of the fund’s overall portfolio management. ⁹¹ The Commission proposed to require a fund to disclose in its prospectus the principal strategies that it used to achieve its investment objectives, which would include the particular type or types of securities in which the fund will invest principally. This approach was designed to focus disclosure on a fund's anticipated investment operations rather than on investments that the fund might make.

The Commission continues to believe that a clear, concise, and straightforward discussion of investment objectives and strategies is central to effective prospectus disclosure. Therefore, the Commission is adopting the requirement for a fund to disclose how it intends to achieve its investment goals as proposed. ⁹²

Under Form N-1A, as amended, whether a particular investment strategy (including a strategy to invest in a particular type of security) is a principal investment strategy depends upon the strategy's anticipated importance in achieving the fund's investment objectives and how the strategy affects the fund's potential risks and returns. ⁹³ The Commission believes that a fund should disclose those strategies that are expected to be the most important means of achieving the fund’s objectives and that the fund anticipates will have a significant effect on its performance. Form N-1A, as amended, requires a fund, when determining whether a strategy is a principal investment strategy, to consider, among other things, the portion of assets that it expects to commit to the strategy, the portion of assets that it expects to place at risk by the strategy, and the likelihood that it will lose some or all of those assets in implementing the strategy. ⁹⁴

The Commission intends that focusing disclosure on a fund's principal investment strategies ⁹⁵ will improve the fund’s prospectus by eliminating discussions of securities and strategies that do not have a significant role in achieving the fund's investment objectives. Under Form N-1A, as amended, for example, it generally will be unnecessary for a fund (other than, for example, a money market fund) to disclose in its prospectus its cash management practices (e.g., entering into overnight repurchase agreements), because these practices are not typically among the principal investment strategies that a fund uses to achieve its investment objectives. ⁹⁶

The Proposed Amendments would require a fund, in discussing its principal investment strategies in its prospectus, to explain in general terms how the fund's adviser decides what securities to buy and sell. This requirement sought to provide investors with essential information about the fund's investment approach and how the fund's portfolio would be managed. One commenter questioned this requirement, arguing that it could place undue emphasis on a fund’s decisions to invest in or sell particular securities and result in boilerplate disclosure. The Commission continues to believe that a general discussion of the methods of analysis and investment strategies that a fund’s adviser will use in managing the fund will provide typical investors with information that will help them in deciding whether to invest in a fund. Therefore, the Commission is adopting the proposed disclosure requirement regarding the manner in which the investment adviser determines to buy and sell securities. ⁹⁷

Concentration. The Commission proposed to continue to require a fund to disclose in its prospectus any policy to concentrate its investments in any industry or group of industries. This requirement reflects the view that such a policy is likely to be central to a fund’s ability to achieve its investment objectives, ⁹⁸ and that a fund that concentrates its investments will be subject to greater risks than funds that do not follow the policy. The Commission’s staff has taken the position for purposes of the concentration disclosure requirement that a fund investing more than 25% of its assets in an industry is concentrating in that industry. ⁹⁹ The Proposed Amendments incorporated this percentage test into Form N-1A.

Commenters supported requiring a fund to disclose in its prospectus its policies on industry concentration, ¹⁰⁰ and the Commission continues to believe that 25% is an appropriate benchmark to gauge the level of investment concentration that could expose investors to additional risk. Therefore, the Commission is adopting this disclosure requirement as proposed. ¹⁰¹

Temporary Defensive Positions. The Proposed Amendments would require disclosure about a fund’s policy that permits the fund to take "temporary defensive positions" to respond to adverse market, economic, political, or other conditions. The purpose of the requirement was to make investors aware of potential changes in a fund's investments that are not generally contemplated by, or are otherwise inconsistent with, a fund’s principal investment objectives and policies. In particular, the Proposed Amendments would require a fund to disclose the percentage of its assets that may be committed to temporary defensive positions (e.g., up to 100% of the fund's assets), the risks, if any, associated with the positions, and the likely effect of these positions on the fund's performance. Although commenters generally supported disclosure that a fund may take temporary defensive positions, they found problematic disclosure of the percentage of assets that may be committed to temporary defensive positions and the likely effect of these positions on the fund’s performance. Commenters argued that, to maintain flexibility, a fund typically would disclose that all of its assets could be committed to temporary positions. The commenters maintained that such disclosure was boilerplate and would not be meaningful to investors. In addition, commenters asserted that funds would find it difficult to predict the likely effect of temporary defensive positions on their performance.

The Commission believes that a typical fund investor would want to know about investment positions that a fund can take from time to time that are inconsistent with the fund’s central investment focus. On the other hand, the Commission is aware that, in practice, the disclosure about temporary investment positions currently appearing in some fund prospectuses is so lengthy and detailed as to suggest incorrectly that a fund’s temporary investment policies are more important than the fund’s investment objectives and the principal investment strategies used to achieve them. The Commission believes that disclosure of this sort, which discusses possible but not probable investments of funds, is inconsistent with the fundamental disclosure principles underlying Form N-1A. In the Commission’s view, however, disclosure that a fund may take temporary defensive positions to respond to market conditions will alert investors to the possibility that a fund may vary its investments on a temporary basis. Therefore, Form N-1A, as amended, requires a fund to disclose, if applicable, that in response to unfavorable market conditions it may make temporary investments that are not consistent with its principal investment objectives and policies. ¹⁰²

Portfolio Turnover. Form N-1A currently requires all funds to state their portfolio turnover rates in their financial highlights tables included in their prospectuses. ¹⁰³ Under the Proposed Amendments, a fund would be required to supplement the information in its financial highlights table by disclosing certain information about its portfolio turnover rate if it anticipated having a turnover rate of 100% or more in the coming year. ¹⁰⁴ The disclosure would be required to include an explanation of the tax consequences and effect of increased trading costs on the fund’s performance. ¹⁰⁵ Most commenters questioned or opposed the proposed disclosure about portfolio turnover rate. Some commenters suggested that the Commission move this disclosure to the SAI or require it in the MDFP in fund shareholder reports. Other commenters argued that a fund’s portfolio turnover rate may reflect the fund’s response to particular market events, or special circumstances affecting the fund’s investments, that are difficult to predict. These commenters argued further that the unpredictable nature of fund portfolio turnover rates would lead to generic or boilerplate disclosure that would not be meaningful to investors in assessing various funds. The commenters suggested that Form N-1A should instead require disclosure about portfolio turnover rates as part of a discussion of a fund’s principal investment strategies when a fund’s investment approach is expected to include active and frequent trading (as opposed to, e.g., a "buy and hold" strategy).

The Commission continues to believe that a discussion about a fund’s portfolio turnover in some cases is relevant to typical fund investors. The Commission notes, for instance, that increased portfolio turnover can on some occasions result in tax consequences that can be significant to investors and that can be viewed as a cost to an investor of holding fund shares. Moreover, investors may find information about portfolio turnover particularly relevant in light of recent changes to the tax laws that reduce the tax rate on capital gains. ¹⁰⁶ The Commission agrees with commenters, however, that disclosure about portfolio turnover and its consequences should be made only if an increased portfolio turnover rate is likely to result from the fund’s investment objectives and principal investment strategies and would have a significant effect on a fund’s returns. Therefore, Form N-1A, as amended, requires a fund to discuss the consequences of its portfolio turnover rate if the fund anticipates that active and frequent trading of portfolio securities will be a likely result of implementing its principal investment strategies. ¹⁰⁷

Classification and Policies. The Commission proposed to move to the SAI disclosure about a fund's legal status as an open-end management company, ¹⁰⁸ as well as disclosure relating to certain policies identified under the Investment Company Act, such as borrowing money, issuing senior securities, underwriting securities issued by other persons, investing in real estate or commodities, and making loans. ¹⁰⁹ Commenters supported moving this disclosure, agreeing that it is not likely to be significant to a typical fund investor. Form N-1A, as amended, requires the disclosure to appear in the SAI. ¹¹⁰

b. Risk Disclosure

Risk disclosure in fund prospectuses typically consists of detailed, and often technical, descriptions of the risks associated with particular securities in which a fund may invest. Just as disclosure about each type of security in which a fund may invest does not appear to communicate effectively to investors how the fund's portfolio will be managed, disclosure about the risks associated with each type of security in which the fund may invest does not effectively communicate to them the overall risks of investing in the fund. In the Commission’s view, disclosing the risks of each possible portfolio investment, rather than the overall risks of investing in a fund, does not help investors evaluate a particular fund or compare the risks of the fund with those of other funds.

The Commission proposed, consistent with its conclusion that mere inventories of potential portfolio securities do not assist typical investors in selecting among funds, to modify prospectus disclosure requirements in Form N-1A about the risks associated with specific securities. The Proposed Amendments would require a fund to disclose the risks to which the fund's particular portfolio as a whole is expected to be subject and to discuss the circumstances that are reasonably likely to affect adversely the fund's net asset value, yield, or total return. Commenters generally supported the proposed approach to the disclosure of risk, and the Commission is adopting it as proposed. ¹¹¹

The Commission notes that a fund could meet the risk disclosure requirements of Form N-1A, as amended, by including in its prospectus a discussion of the risks of the asset class or classes that the fund expects to hold principally, together with a discussion of the risks to the fund of holding specific types of securities within the asset class or classes. Under such an approach, a fund investing in the equity securities of companies with small market capitalizations, for example, would discuss market risk as a general risk of holding equity securities, as well as the specific risks associated with investing in small capitalization companies (e.g., that these stocks may be more volatile and have returns that vary, sometimes significantly, from the overall stock market). ¹¹²

The Commission did not propose to require a fund to disclose information designed to quantify its expected risk levels, citing, among other things, the lack of a broad consensus as to what measure of risk would best serve fund investors. ¹¹³ Comments submitted in response to the Commission’s Risk Concept Release asserted that investors have too wide a range of investment goals and ideas of what "risk" means to be well served by a single quantitative risk measure. In addition, commenters argued that, if the Commission mandated a risk measure, investors might rely on it as a definitive standard despite the lack of general agreement on how to measure risk.

As adopted, the prospectus risk/return summary and amendments to the general risk disclosure requirements of Form N-1A are designed to improve fund risk disclosure without raising the concerns associated with Commission-mandated quantitative information. While it is not adopting specific quantitative risk disclosure requirements, the Commission believes that new approaches to measuring risk are emerging and that quantitative risk information may be useful to some investors. ¹¹⁴ The Commission notes that a fund may include quantitative risk disclosure in its prospectus if the information is presented in a manner consistent with the guidelines on the inclusion of information not required by Form N-1A. ¹¹⁵

4. Management's Discussion of Fund Performance (Item 5)

The Proposed Amendments would continue to require a fund to provide its MDFP and the related line graph comparing the fund's returns to a broad-based securities market index in either its prospectus or its annual report. The Commission is adopting the MDFP as proposed with minor changes. ¹¹⁶ The Commission notes in support of this decision that a review of MDFP disclosure by the Commission’s Division of Investment Management ("Division") indicates that the discussion of fund performance and the line graph have generally provided fund shareholders with useful, comparative information about a fund's performance.

As discussed in the Proposed Amendments, funds typically choose to include the MDFP in their annual reports, rather than in their prospectuses. This choice may be explained, in part, by the relevance of the MDFP to other current financial information appearing in annual reports. ¹¹⁷ As a result of recent amendments to the Investment Company Act, the Commission has the authority to require additional disclosure in annual and semi-annual reports as necessary or appropriate in the public interest or for the protection of investors. ¹¹⁸ Several commenters recommended that the Commission exercise this authority and require the MDFP to appear in fund annual reports, asserting, among other things, that shareholders read these reports more frequently than prospectuses. Commenters also suggested that, like other information contained in an annual report, the MDFP analyzes a fund’s past performance rather than the fund’s anticipated future course of action, which is the central focus of a fund’s prospectus.

Although it acknowledges that a fund’s annual report may be the preferred location for the MDFP disclosure, the Commission is deferring consideration of its requirements as to the placement of the MDFP discussion. The Commission has concluded that MDFP disclosure should be considered as part of a comprehensive reassessment of the Commission’s existing rules specifying the disclosure to be included in fund reports to shareholders. The Commission believes that such an initiative would be an important future step in improving the quality of fund disclosure documents and has directed the Division to begin work on proposed amendments to fund periodic reporting requirements. The Commission has asked that, in connection with such a proposal, the Division consider whether certain disclosure required by Form N-1A would be more useful to investors in shareholder reports. In this regard, the Commission notes its preliminary view that an "integrated" approach to registration and reporting requirements could improve the overall information about a fund available to investors. ¹¹⁹

5. Management, Organization, and Capital Structure (Item 6)

a. Management and Organization

The Commission proposed to abbreviate disclosure in the prospectus about a fund’s management and organization and move certain of this information to the SAI. Commenters generally supported the Proposed Amendments, and the Commission is adopting them as proposed with modifications to reflect suggestions of commenters.

Management Disclosure. Under existing Form N-1A, all funds must disclose the rate of fees that they pay their investment advisers in their fee tables. As stated above, the Commission has retained this requirement, which the Commission believes is among the core requirements of the Form. The Proposed Amendments would continue to require, in addition to the disclosure contained in the fee table, prospectus disclosure about investment advisory services provided to, and investment advisory fees paid by, a fund. Some commenters recommended eliminating disclosure about the investment advisory fees, which they argued is merely duplicative of the information in the fee table. The Commission disagrees with this argument. The Commission believes that a concise and straightforward description of the services that an investment adviser provides to a fund along with disclosure of the investment advisory fee rate for a recent fiscal year, as well as providing this information in a single place in a prospectus, can help a typical investor understand the management of the fund. Therefore, the Commission is adopting the disclosure requirements as proposed. ¹²⁰

In the Form N-1A Proposing Release, the Commission requested comment whether information about the amount of fees paid to a sub-adviser or sub-advisers of a fund helps investors evaluate and compare the fund to other funds. The Commission also asked whether this type of disclosure obscures the aggregate investment advisory fee paid by a particular fund. ¹²¹ Most commenters supported disclosure of the aggregate fee only, maintaining that information about individual sub-advisory fees is not relevant to investors because it does not help them compare the fees charged by different funds. The Commission is persuaded that information about sub-advisory fees is not necessary for a typical fund investor, but may be of interest to some investors. Therefore, Form N-1A, as amended, requires prospectus disclosure of the aggregate advisory fees paid by a fund and disclosure in the SAI of the amount of sub-advisory fees paid by the fund. ¹²²

Portfolio Manager. The Proposed Amendments would continue to require prospectus disclosure indicating the person or persons responsible for the day-to-day management of a fund’s portfolio. Under the Proposed Amendments, and as currently permitted by instructions to Form N-1A, a fund could, in meeting this requirement, indicate that a committee was responsible for a fund’s portfolio management if, under the organizational arrangements of the fund (or its investment adviser), no one person was responsible for making recommendations to the committee.

One commenter criticized the proposed portfolio manager disclosure requirement, arguing that it may have the effect of creating the false impression that the identity of the individual portfolio manager of a fund is paramount to the fund’s performance. According to the commenter, the collective experience, resources, personnel, and reputation of a fund’s investment adviser often are of greater importance to the fund’s performance than the fund’s portfolio manager. The commenter recommended that, to enable funds to describe their management structures more accurately than they can under Form N-1A’s existing provisions, the Commission require disclosure of the identity of a fund’s portfolio manager only when a change in the identity of the manager would be material to investors (e.g., when a fund group promotes the identity of individual portfolio managers). The commenter suggested that the Commission, in the alternative, clarify the disclosure obligations of a fund for which the day-to-day responsibilities for the fund’s portfolio investments are shared by a committee and certain individuals.

The Commission is not persuaded that it should adopt the commenter’s recommendation that the Commission tie portfolio manager disclosure to a fund group’s marketing efforts. Such a recommendation is substantially similar to proposals considered and rejected by the Commission when it adopted Form N-1A’s existing portfolio manager disclosure requirement. ¹²³ The Commission believes that typical investors in a fund should have clear and succinct information about the individuals who significantly affect the fund’s investment operations. In the Commission’s experience, Form N-1A’s existing requirement appropriately serves this purpose and should not be changed significantly. To the Commission’s knowledge, the requirement has not generally resulted in funds inaccurately describing the individuals responsible for their management.

Although the Commission believes that Form N-1A’s portfolio manager disclosure requirements should not be changed significantly, the Commission has concluded that it is appropriate to provide additional guidance in Form N-1A as to the disclosure obligations of a fund for which day-to-day management responsibilities are shared. New instructions to Form N-1A’s portfolio manager disclosure requirements have been added for this purpose. ¹²⁴

Legal Proceedings. The Proposed Amendments would continue to require prospectus disclosure of any material pending legal proceedings involving a fund, its investment adviser, or principal underwriter. The Commission also proposed to expand Form N-1A’s legal proceedings disclosure requirement to cover those proceedings contemplated by a governmental authority. In proposing this change, the Commission sought to conform Form N-1A’s requirements to those included in other Commission forms applying to other types of issuers. ¹²⁵

Some commenters questioned the requirement that a fund disclose contemplated proceedings, arguing that a fund would find it difficult to assess whether proceedings of a governmental entity are in fact contemplated. The Commission is not persuaded by this argument and has adopted the legal proceedings requirement as proposed. ¹²⁶ In support of its decision, the Commission notes that issuers that have been subject to the requirement appear not to have experienced significant difficulty in complying with it.

Board of Directors. Form N-1A currently requires a fund to include in its prospectus a brief description of the responsibilities of the fund's board of directors under the applicable laws of the jurisdiction in which the fund is organized. Recognizing that the disclosure provided by a fund in response to this item typically recites the substance of specific legal requirements, the Commission proposed to move this disclosure to the SAI. Commenters supported disclosing the director information in the SAI, arguing that the information does not help a typical investor make a decision to invest in a fund. Form N-1A, as amended, requires a fund to disclose this information in the SAI. ¹²⁷

The Commission requested comment in the Form N-1A Proposing Release whether a fund’s prospectus should include the names, experience, and compensation of a fund's directors, as well as information, such as addresses and telephone numbers, indicating how a shareholder could contact the directors. ¹²⁸ The Commission also requested comment whether this information, if required, should be given only for a fund's independent directors, accompanied by disclosure of the number of independent directors in comparison to the number of directors on the fund's board. ¹²⁹

Most commenters strongly opposed additional disclosure about directors in the prospectus. While a few commenters supported identifying the directors in the prospectus, most argued that this information is not essential to a typical investor in making a decision about investing in a fund and would only serve to lengthen the prospectus. The commenters recommended that the SAI or annual report to shareholders would be a better place for disclosing the identity of directors.

Commenters addressing the issue uniformly opposed requiring a fund to disclose directors’ compensation in the prospectus, arguing that these fees are only a small part of total fund expenses and are not relevant to a typical investor in a making a decision to invest in a fund. The commenters also noted that director compensation is disclosed in a fund’s SAI, where it can be used by those investors interested in the information, and in a fund’s proxy statement, where it can be assessed by all shareholders of the fund in the context of an election of directors. ¹³⁰

All commenters addressing the issue emphatically opposed the disclosure of information in either the prospectus or the SAI indicating how shareholders can contact directors. Commenters, particularly independent directors of funds, argued that this information would result in an unwarranted loss of privacy for board members and numerous calls to directors to which they would be ill-equipped to respond. Commenters also argued that disclosure of this information would serve as a disincentive for qualified individuals to serve as directors and that all investor comments regarding a fund should be directed to representatives of the fund’s management, and not to its directors.

The Commission believes that mandating more information about fund directors than is available under its existing disclosure rules may be appropriate in light of independent directors’ role as "watchdogs" of fund shareholders as contemplated by the Investment Company Act. ¹³¹ The Commission, however, is not convinced, particularly in light of the overwhelmingly negative comment on this issue, that the prospectus is the appropriate document for this disclosure. Therefore, Form N-1A, as amended, does not require additional information of the sort described in the Proposed Amendments to be provided about a fund’s directors. The Commission, however, has directed the Division to consider director disclosure issues as part of an initiative to improve shareholder reports. ¹³²

Management and Organization. The Commission proposed to move to the SAI two items of disclosure about a fund’s management and organization that the Commission believes are only of minimal importance to typical fund investors. The Proposed Amendments would no longer require a fund to disclose in its prospectus the name of any person that controls the fund’s investment adviser and the name of any person that controls the fund. ¹³³ The Proposed Amendments also would no longer require a fund to state in its prospectus, if applicable, that the fund engages in brokerage transactions with affiliated persons and allocates brokerage transactions based on the sale of fund shares. ¹³⁴ The information called for in response to these two items typically results in generic disclosure that restates applicable legal requirements and does not appear to assist investors in deciding whether to invest in a particular fund. Commenters generally supported placing this information in the SAI. Form N-1A, as amended, requires a fund to disclose information in the SAI regarding controlling persons of the investment adviser and brokerage transactions with affiliated persons. ¹³⁵

The Commission proposed to move to the SAI disclosure about a fund’s form of organization along with the date and state of the fund’s incorporation. Because most funds are organized in one of a few states as corporations or business trusts, disclosure about a fund’s organization does not appear to help investors evaluate a particular fund or compare the fund to other funds. For that reason, the Commission is adopting its proposal to move information about a fund’s organization to the SAI. ¹³⁶

The Proposed Amendments would not include the disclosure about a fund’s expenses currently required by Form N-1A in the discussion of the fund’s management. This information is included in the fee table and the financial highlights table. Additional information about fund expenses also is available in a fund’s SAI. Eliminating repetitive information is one of the basic objectives of the Commission’s efforts to improve fund disclosure documents. Consistent with this goal, Form N-1A, as amended, does not require this additional information about fund expenses in disclosure about a fund’s management.

b. Capital Structure

The Proposed Amendments would continue to require prospectus disclosure about any limits on the transferability of, and material obligations or potential liabilities associated with, a fund's shares. One commenter suggested that disclosure should appear in the SAI rather than in the prospectus, asserting that the information is technical and generally does not vary among funds. The commenter recommended that the Commission instead limit disclosure in a fund’s prospectus to unusual provisions that may pose special risks to the fund’s shareholders. The Commission agrees that descriptions of all potential restrictions and possible consequences of holding fund shares are of only marginal significance to typical investors in selecting among funds. Form N-1A, as amended, thus requires prospectus disclosure of only unique or unusual restrictions or potential liabilities associated with holding a fund’s shares (other than investment risks) that may expose an investor in the fund to significant risks. ¹³⁷ Under Form N-1A, as amended, a fund would be required to discuss in its SAI generally applicable legal provisions relating to holding fund shares. ¹³⁸

The Proposed Amendments would move disclosure about shareholder voting rights to the SAI. In explaining this decision, the Commission stated that the Investment Company Act sets out specific rights of fund shareholders, ¹³⁹ which typically results in this disclosure being generic in nature and of little consequence to investors in evaluating and comparing funds. Commenters generally supported including this information in the SAI, agreeing that it is not essential to an investment decision. Form N-1A, as amended, requires this disclosure in the SAI. ¹⁴⁰

Form N-1A currently requires a fund to describe in its prospectus any class of senior securities issued by the fund, and any "other class" of its shares that is outstanding. In the Commission’s experience, disclosure in fund prospectuses made in response to this requirement merely restates legal requirements in the Investment Company Act and its rules, which limit a fund’s ability to issue certain classes of shares or senior securities. ¹⁴¹ The Commission concluded that disclosure of this sort is only of minimal significance to a typical investor in deciding whether to invest in a fund, and proposed to delete it from fund prospectuses. ¹⁴² Commenters agreed with the Commission’s conclusion, and Form N-1A, as amended, does not require prospectus disclosure of information about other classes of fund shares (including senior securities). ¹⁴³ The SAI would continue to require a fund to disclose the rights of any authorized securities of the fund other than capital stock. ¹⁴⁴

6. Shareholder Information (Item 7)

a. General Purchase and Sale Information

The Proposed Amendments would retain most of the disclosure requirements concerning a fund’s purchase and redemption procedures, dividends, and distributions currently required by Form N-1A. The Commission believes that the required information is relevant to a typical investor contemplating an investment in a fund. In the Form N-1A Proposing Release, the Commission acknowledged that disclosure about purchase and redemption procedures is often quite lengthy and may contribute to the perception that prospectuses are too long and complicated and not worth reading. ¹⁴⁵ The Commission also observed, however, that much of the purchase and redemption disclosure typically contained in fund prospectuses is not required by Form N-1A, but is included by funds for marketing or other business purposes. The Commission believes that it is appropriate for a fund to have the option to add disclosure to its prospectus for these purposes, and thus the Commission did not propose to limit prospectus disclosure of funds’ purchase and sale procedures to that expressly required by Form N-1A. The Commission is adopting the requirements to disclose purchase, redemption, and other shareholder information substantially as proposed with modifications to reflect commenters’ suggestions. ¹⁴⁶

Several commenters on the Form N-1A Proposing Release suggested that the Commission specifically acknowledge as consistent with its rules the ability of a fund at its option to place certain information about purchase and redemption procedures in a separate document that would be delivered to an investor no later than with the confirmation of the investor’s purchase of the fund’s shares. According to the commenters, this separate document, or "owner’s manual," can help streamline prospectus disclosure and provide an efficient means for a fund group to provide disclosure about purchase and redemption procedures that is common to all funds in the group. The Commission believes that this sort of disclosure document is consistent with the disclosure principles underlying the revisions to Form N-1A and that investors may find it easier and less confusing to consult and retain a separate document describing certain procedures relating to purchasing and redeeming fund shares, which are typically mechanical in nature. In the Commission’s view, as long as the purchase and sale information in a fund’s prospectus is not reduced below the minimum required by Form N-1A, the fund would be able to create and use a separate purchase and sale disclosure document as supplemental sales literature.

A second way in which a fund could create a separate purchase and sale disclosure document would be for the fund to include in its SAI the information to be contained in the document. A fund could set out this information in a separate section of the SAI and make it available, as a separate document, to investors upon request. To accommodate this option, the Commission is revising Form N-1A to include an instruction in the SAI that permits a fund to provide a separate document with additional purchase and sale information that can be made available to fund investors, along with the SAI or as a stand-alone document, in response to investor requests. ¹⁴⁷

Form N-1A, as amended, provides a third means for developing a purchase and sale manual. As amended, the Form permits a fund to remove all information regarding its purchase and sale procedures from its prospectus and place the information in a separate document. The use of the separate document in this manner, however, would mean that required prospectus disclosure would appear only in the owner’s manual. Therefore, the use of this kind of separate document is conditioned on incorporating it by reference into the fund’s prospectus and providing it to investors with the prospectus. ¹⁴⁸

b. Valuation of Fund Shares and Net Asset Value

Valuation. The Commission proposed to eliminate an existing requirement of Form N-1A that a fund disclose in its prospectus that the price at which investors’ purchase and redemption requests are effected is calculated on the basis of the fund’s current net asset value and that the fund identify the methods used to value its portfolio securities (e.g., market price or fair value). ¹⁴⁹ The Commission proposed to take this action principally because, in meeting the requirement, funds typically go beyond the required identification of the methods used and repeat the substance of rules under the Investment Company Act specifying the way in which the net asset value of a fund must be calculated. In addition, the information presented by a fund usually repeats information required to be included in the SAI. This disclosure has tended to be lengthy and technical and, as discussed below, appears not to have been very informative for investors.

The Commission has re-evaluated the disclosure of information in fund prospectuses about the calculation of net asset value in light of numerous complaints from investors that the Commission received recently regarding the manner in which some funds determined their net asset value. In response to volatility in various markets, some funds recently valued certain of their securities on the basis of fair value rather than on the basis of the last market quotations for the securities. ¹⁵⁰ In taking this action, the funds appear to have relied on a long-standing position of the Commission’s staff that a fund may (but is not required to) value portfolio securities traded on a foreign exchange using fair value, rather than the closing price of the securities on the exchange, when an event occurs after the close of the exchange that is likely to have changed the value of the securities. ¹⁵¹ Many investors complained that they were unaware that their funds could use fair value pricing in such a situation. In response to these complaints, the Division undertook a review of the disclosure documents of funds using such fair value pricing and found that, although the funds disclosed the practice in their prospectuses, the funds’ discussions of their pricing procedures would have been enhanced if they had followed the principles of plain English. ¹⁵² Investors’ recent questions about fund pricing procedures confirm the general importance of this information to at least some investors. Thus, the Commission has determined to continue to require that funds identify the methods used to value their assets in their prospectuses. ¹⁵³ The Commission is, however, adding an instruction in Form N-1A that will encourage funds to discontinue the use of boilerplate disclosure of the technical aspects of valuation and require them to include a statement about the effect of the fund’s use of fair value net asset calculation.

Time and Frequency of Calculation of Net Asset Value. As proposed, Form N-1A would continue to require a fund to state in its prospectus when calculations of its net asset value are made and to indicate that the fund uses a forward pricing procedure contemplating that the price at which a purchase or redemption order is effected is based on the next calculation of net asset value after the order is placed. ¹⁵⁴ In addition, the Proposed Amendments would continue to require a fund to disclose those days on which the fund prices its shares and the holidays on which shares would not be priced. Commenters supported these disclosure requirements, and the Commission is adopting them as proposed. ¹⁵⁵

Meaning of Net Asset Value. In the Form N-1A Proposing Release, the Commission noted that many funds now define the term "net asset value" in their prospectuses (e.g., net asset value means fund assets minus liabilities divided by the number of outstanding shares). ¹⁵⁶ The Commission requested comment whether this disclosure should be required in all fund prospectuses. Commenters on this issue were evenly divided between those who believed that the information would be helpful to investors and those who believed the definition of net asset value would not assist investors in making a decision about investing in a fund. While some investors may find information about the meaning of the term net asset value helpful, the Commission is not persuaded that the information is necessary for most investors. Therefore, the Commission is not adopting a requirement that a fund explain the meaning of net asset value in its prospectus. A fund would continue to have the option of including this information in its prospectus or SAI if the fund concluded that such information would be useful to potential investors in the fund.

c. Restrictions on Portability

At the time that the Commission issued the Form N-1A Proposing Release, the Commission’s staff was considering a number of complaints received from fund investors about restrictions on the "portability" of their fund shares. To better understand the issues raised by these investors, the staff consulted with, among others, a number of industry trade groups and other industry participants. ¹⁵⁷ On the basis of the information compiled by the staff, the Commission understands that, in certain cases, an investor who purchases shares of a fund through a broker-dealer or other financial intermediary may be unable to transfer fund shares held in a brokerage account to an account established at another broker-dealer. ¹⁵⁸ In their responses to the staff, industry representatives indicated that the lack of portability of an investor’s shares in a fund may be attributed to several factors, including limitations on the transfer of shares sold by broker-dealers affiliated with the investment adviser of the fund, the lack of participation by the fund in a computerized transfer system, and the absence of reciprocal agreements between the fund and broker-dealers. The industry participants, however, supported efforts to increase the portability of fund shares.

The Commission understands that some progress has occurred in eliminating portability restrictions. To the extent that restrictions continue to exist, however, the Commission believes that disclosure of the limits on portability of a fund’s shares may be of importance to a typical investor. The Commission notes that this type of disclosure would seem to address the relationship between a broker-dealer or other intermediary and a fund shareholder, rather than the relationship between the fund and the shareholder. For that reason, the Commission is not convinced that the disclosure should be required in fund prospectuses. ¹⁵⁹ The Commission has asked its staff to continue discussions with the staff of the National Association of Securities Dealers, Inc. ("NASD") to consider means other than the prospectus to alert investors who purchase shares of funds through broker-dealers of restrictions on portability. ¹⁶⁰

d. Tax Consequences

The Proposed Amendments would revise the tax disclosure required in a fund’s prospectus to focus that disclosure on the likely tax consequences to the fund and its shareholders if the fund operates as described in the prospectus. In general, the Proposed Amendments were designed to elicit tax disclosure that is far less complicated than that typically included in fund prospectuses today. ¹⁶¹ Commenters strongly agreed with the goal of the proposed provisions relating to prospectus tax disclosure, which the Commission has determined to adopt substantially as proposed. The Commission notes its strong desire that, in revising their documents to comply with Form N-1A, as amended, all funds pay particular attention to simplifying their existing tax disclosures, which the Commission believes are too complicated and discourage the use of fund prospectuses.

The Commission proposed to move disclosure about a fund’s qualification under Subchapter M of the Internal Revenue Code ¹⁶² to the SAI, unless the fund does not expect to qualify for Subchapter M treatment. Commenters supported moving this disclosure to the SAI, agreeing that it does not help investors decide whether to invest in a fund. The Commission is adopting this disclosure requirement as proposed. ¹⁶³

The Commission proposed to require a description of the tax consequences to shareholders of buying, holding, exchanging, and selling a fund's shares designed to highlight the tax consequences of investing in the fund. The Proposed Amendments would require a fund to state, as applicable, that the fund intends to make distributions to shareholders that may be taxed as ordinary income or capital gains. Under the Proposed Amendments, a fund that expects that its investment objectives or strategies will result in its distributions primarily consisting of ordinary income (or certain short-term capital gains) or long-term capital gains would be required to provide disclosure to that effect.

Commenters generally supported the proposed tax disclosure, and the Commission is adopting it as proposed with one modification to reflect recent changes to the tax laws. ¹⁶⁴ In light of these changes, Form N-1A, as amended, requires a fund to disclose that capital gains may be taxable at different rates depending upon the length of time that the fund holds its assets. ¹⁶⁵

The Proposed Amendments would require a fund to state that it will provide each shareholder by a specified date (typically, January 31 of each year) with information about the amount of ordinary income and capital gains, if any, distributed to the shareholder during the prior calendar year. One commenter questioned the need for this requirement, citing that a fund must send this information to investors by a particular date under Internal Revenue Service regulations. ¹⁶⁶ The Commission agrees that, in light of these regulations, indicating in a prospectus the date by which a fund will deliver certain tax information is unnecessary. Therefore, Form N-1A, as amended, does not adopt this provision of the Proposed Amendments.

The Proposed Amendments would require a tax-exempt fund to inform investors of the special tax consequences associated with the fund. Commenters supported the proposed disclosure, and the Commission is adopting it substantially as proposed. ¹⁶⁷

7. Distribution Arrangements (Item 8)

The Commission proposed changes to Form N-1A to require that all information about a fund’s distribution arrangements appear in one section of the fund’s prospectus. The Proposed Amendments would require that section to discuss, among other things, sales loads, fees paid under rule 12b-1 plans, and the details of multiple class and master-feeder fund arrangements. The Commission also proposed changes designed to make fund discussions of distribution arrangements less legalistic and more helpful to investors in evaluating and comparing funds. ¹⁶⁸ Commenters generally supported the Commission’s conclusion that information about distribution arrangements is particularly important to fund investors, and the Commission is adopting the disclosure requirements relating to those arrangements substantially as proposed.

Rule 12b-1 Plans. The Commission proposed to modify Form N-1A’s requirements pertaining to plans designed to meet the requirements of rule 12b-1 under the Investment Company Act to focus prospectus disclosure on the amount of fees paid under the plans and to move detailed, technical disclosure about these plans to the SAI. The Commission proposed to require a fund with a rule 12b-1 plan to state the amount of the fee and to disclose that the plan allows the fund to pay fees for the sale and distribution of its shares. The Commission also proposed an additional requirement designed to result in prospectuses that explain more effectively to shareholders that distribution fees are continuous in nature and that these fees, over time, cumulatively may exceed other types of sales loads. ¹⁶⁹ The Proposed Amendments would require a fund to add to its prospectus disclosure to the effect that, because distribution fees are paid out of the fund’s assets on an ongoing basis, the fees may, over time, increase the cost of an investment in a fund and cost investors more than other types of sales loads.

Most commenters supported the proposed disclosure concerning rule 12b-1 plans, although some commenters maintained that disclosure of the amount of rule 12b-1 fees merely duplicated information appearing in the prospectus fee table. The Commission believes that disclosing the amount of the rule 12b-1 fee in connection with other disclosure about the nature of the fees will provide a typical investor with a complete and useful picture of the amounts paid by the fund for distribution. Therefore, the Commission is adopting the disclosure concerning rule 12b-1 fees as proposed. ¹⁷⁰

Sales Loads. The Proposed Amendments would continue to require disclosure of the amount of any sales load charged on an investment in a fund and disclosure indicating when a sales load may be reduced or eliminated (e.g., for larger investments). The Commission proposed to move other technical disclosure about sales loads to the SAI, including disclosure about dealer reallowances, sales load waivers, and breakpoints applicable to the sale of a fund’s shares. The Commission believes that this detailed and technical information tends to obscure information about the amount of sales loads charged by a fund and does not help investors evaluate and compare funds. The Commission also proposed to eliminate disclosure about fees charged by third parties (i.e., banks, broker-dealers, or other persons) in connection with the purchase of a fund’s shares. ¹⁷¹ Commenters generally supported the proposed approach to disclosure about sales loads, and the Commission is adopting the amendments as proposed. ¹⁷²

Multiple Class and Master-Feeder Fund Arrangements. The Commission proposed to combine, in one place in the prospectus, disclosure about the distribution and service arrangements of multiple class and master-feeder funds. Commenters generally supported this treatment of these arrangements, which the Commission is adopting substantially as proposed, with modifications to reflect commenters’ suggestions.

The Commission proposed to eliminate the requirement that a feeder fund discuss the possibility and consequences of its no longer investing in the master fund. It is the Commission’s understanding that distribution arrangements currently used by many funds contemplate feeder funds having the authority to change the master funds in which they are invested. In recognition of this development, the Commission is modifying Form N-1A to require such a feeder fund to describe briefly the circumstances under which it may change its investment in a master fund. ¹⁷³

One commenter suggested additional changes to streamline prospectus disclosure about multiple class funds and master-feeder funds. The commenter recommended that the Commission eliminate existing requirements for a fund to disclose information in its prospectus about additional classes or feeders that are not offered in the same prospectus. The commenter also recommended that the Commission modify the proposed disclosure about conversions or exchanges from one class to another to require disclosure only if the conversion or exchange is mandatory or automatic. The Commission agrees that the disclosure about multiple class funds or master-feeder funds in a prospectus should focus on the class or fund offered in that prospectus. Form N-1A, as amended, reflects this position. ¹⁷⁴

8. Financial Highlights Information (Item 9)

Condensed Financial Information. The Proposed Amendments would continue to require a fund to include in its prospectus a summary of certain financial information. To provide funds with greater ability to present prospectus disclosure in a format that conveys information effectively to investors, the Proposed Amendments would permit this information to be disclosed anywhere in the prospectus, rather than on a particular page of the prospectus, as currently required. The Commission also proposed changes to the financial highlights table to assist investors in understanding the information contained in it. Commenters supported the Proposed Amendments and endorsed in particular the proposal to permit a fund to choose the location in its prospectus for the financial highlights table. The Commission is adopting revisions to the financial highlights table requirement substantially as proposed.

In the Form N-1A Proposing Release, the Commission acknowledged that additional changes could improve the financial highlights information and stated that it intended to revisit fund financial disclosure in a separate future rulemaking initiative addressing financial statement requirements generally. ¹⁷⁵ For the purposes of its evaluation of the financial highlights information, the Commission requested comment on simplifying and updating this information. This request elicited a number of suggestions ranging from support for the table to recommendations that it be moved to the SAI or eliminated. The Commission will consider these comments as part of its financial statement initiative.

The Commission is, however, adopting some of the commenters’ recommendations that would simplify the financial highlights table. One commenter recommended that the Commission change the period covered by the financial highlights table from 10 to 5 years to parallel the period covered by financial information currently required to be in fund annual reports. The Commission has adopted this recommendation ¹⁷⁶ because it believes that financial information for a 5-year period will help investors evaluate a fund and, at the same time, respond to concerns that the current table complicates the prospectus and is confusing to investors. Investors interested in historical return information about a fund beyond that contained in the amended financial highlights table can look to the bar chart that the Commission is requiring to be included in prospectuses, which shows the fund’s returns over a 10-year period. ¹⁷⁷

One commenter urged the Commission to eliminate the requirement that a fund disclose its average commission rates in the financial highlights table, arguing that these rates are technical information that typical investors are unable to understand. Industry analysts support this view and have informed the Commission staff of their conclusion that the average commission rate information in the table is only of marginal benefit to them and typical fund investors.

At this time, the Commission believes that there continues to be some merit in ensuring that information about the average commission rates paid by funds is publicly available. The Commission believes, however, that a fund prospectus appears not to be the most appropriate document through which to make this information public. Therefore, Form N-1A, as amended, does not require disclosure of average commission rates in the financial highlights table. The Commission will consider adding such a requirement to Form N-SAR, which funds file with the Commission semi-annually to report information on their current operations. ¹⁷⁸

Calculation of Performance Data. The Commission proposed to eliminate the Form N-1A requirement that a fund that includes performance information in certain of its advertisements include a brief explanation in its prospectus of how it calculates its performance. This disclosure requirement is intended to facilitate funds using advertisements in accordance with rule 482 under the Securities Act; such an advertisement is an omitting prospectus under section 10(b) of the Securities Act and, as an omitting prospectus, is required to contain information "the substance of which" is contained in the prospectus. Recent legislation added section 24(g) to the Investment Company Act, which authorizes the Commission to adopt rules permitting a fund to use a summary or omitting prospectus that includes information the substance of which is not required to be included in the prospectus. ¹⁷⁹ With this new authority, the Commission intends to re-evaluate fund advertising rules with the goal of, among other things, proposing to amend rule 482 to eliminate the "substance of which" requirement.

Consistent with the Proposed Amendments, Form N-1A, as amended, does not require a fund to duplicate in its prospectus the explanation of how it calculates its performance required to appear in the fund’s SAI. ¹⁸⁰ So long as the SAI is incorporated by reference in the prospectus, the rule 482 "substance of which" requirement will be satisfied for this information or any other information that a fund may wish to include in a rule 482 advertisement.

9. Front and Back Cover Pages (Item 1)

The Commission proposed to simplify the disclosure currently required on the front cover page of the prospectus. The Proposed Amendments would require only three items of cover-page disclosure: a fund’s name; the date of the prospectus; and the standard Commission disclaimer about the securities offered in the prospectus. ¹⁸¹ To unclutter the front cover page and avoid repeating information contained in the proposed risk/return summary at the beginning of the prospectus, the Proposed Amendments would no longer continue to require a fund to include on the front cover a brief statement of the fund’s investment objectives, a statement that the prospectus sets forth concise information that the investor should know before investing, and a statement that the prospectus should be retained for future reference. ¹⁸² Commenters generally supported the proposed front cover page disclosure requirements, and the Commission is adopting them with revisions reflecting the suggestions of commenters.

Several commenters maintained that the Commission should allow a fund to include certain information on the front cover page of its prospectus, such as its investment objectives or a brief (e.g., one sentence) description of its operations. The Commission agrees, and Form N-1A, as amended, permits, but does not require, a fund to include additional information on the front cover page, subject to the Form’s general rule covering the presentation of information not otherwise required to be included in the prospectus. ¹⁸³

Several commenters criticized the Commission’s standard disclaimer regarding the securities offered by a prospectus and questioned other disclosure that is required on the front cover page of a fund prospectus. ¹⁸⁴ The commenters recommended that the Commission eliminate the legend, maintaining that it is not meaningful to a typical investor and is not essential to such an investor’s decision to invest in a fund.

The Commission has not adopted this recommendation because it believes that every prospectus should clearly alert investors that a registration statement filed with and made effective by the Commission does not represent approval by the Commission of the securities described in the prospectus. This view is reflected in the requirement that all issuers filing registration statements under the Securities Act include the disclaimer legend on their prospectuses. ¹⁸⁵ The Commission recognizes that the disclaimer used to date is technical in nature and may be difficult to understand. In its recent plain English initiatives, the Commission adopted amendments to simplify the legend, which apply to fund prospectuses. ¹⁸⁶

The Commission proposed to consolidate disclosure regarding the availability of additional information about a fund on the back cover page of its prospectus. ¹⁸⁷ The Proposed Amendments would require the back cover page to state that the SAI includes additional information about the fund that is available without charge upon request, and to explain how shareholder inquiries regarding the fund can be made. Under the proposal, the back cover page would also include a statement whether and from where information is incorporated by reference into the prospectus. Commenters generally supported these amendments, and the Commission is adopting the back cover page requirements as proposed, with modifications to reflect commenters’ suggestions. ¹⁸⁸

To ensure prompt delivery of a requested SAI, the Proposed Amendments would require a fund to send its SAI to requesting investors within 3 business days of a request. Those commenters addressing this requirement generally supported it, although one commenter argued that, to provide funds some leeway in responding to unforeseen circumstances, funds should be subject to a "reasonably prompt" mailing standard, which would be deemed normally to be within 3 days of request. The Commission believes that prompt mailing of the SAI is essential to the disclosure format contemplated by Form N-1A and is adopting the 3-business day mailing requirement as proposed. ¹⁸⁹

Several commenters raised concerns about requests for additional information about a fund when the fund’s shares are sold through financial intermediaries, such as broker-dealers or banks. Commenters recommended that Form N-1A permit funds to indicate in their prospectuses that investors may contact an intermediary to obtain the SAI and other additional information. The Commission acknowledges that many funds use intermediaries in distributing or servicing their shares and that investors may look to these intermediaries for information about the funds. Thus, the Commission has revised Form N-1A to permit a fund to state on the back cover of its prospectus that additional information about the fund is available from a financial intermediary. ¹⁹⁰ The Commission notes, however, that such a fund retains the obligation to ensure that information is sent to investors within 3 business days of an investor request. The Commission expects that funds will fulfill this obligation through contractual arrangements with broker-dealers, banks, or other financial intermediaries.

Some commenters had suggestions about certain technical disclosure information that the Commission proposed to include on the back cover page of the prospectus. The Proposed Amendments, for example, would move the requirement to disclose the date of the SAI to the back cover page of the prospectus. Several commenters criticized this requirement, asserting that the date of the SAI is not essential to an investor’s decision to invest in a fund and that requiring the SAI date on the back cover of a prospectus would necessitate the reprinting of prospectuses of funds that share a common SAI whenever a new fund is added to the group covered by the SAI. In light of these comments and the obligation imposed on funds to send investors who request an SAI the most current version of the document, the Commission has deleted from Form N-1A, as amended, the requirement to show the date of a fund’s SAI on the back cover of the fund’s prospectus. ¹⁹¹

B. Part B — Statement of Additional Information

The Commission proposed a number of technical and conforming revisions to the SAI disclosure requirements to reflect the proposed changes in the prospectus disclosure requirements. The Commission is adopting these revisions as proposed. As discussed in the Form N-1A Proposing Release, the Commission intends to consider the SAI requirements as part of a future initiative and propose amendments to simplify and update SAI disclosure following the same disclosure principles underlying the revisions to Form N-1A being adopted today.

C. Part C — Other Information

The Commission proposed amendments to Part C of Form N-1A to eliminate certain filing requirements no longer deemed necessary. Commenters supported the proposed amendments, and the Commission is adopting them as proposed with certain modifications to reflect the suggestions of commenters. ¹⁹²

The Proposed Amendments would continue to require newly organized funds to file updated financial statements within 4 to 6 months of the effective date of the registration statement. The Commission asked for comment whether the requirement should be retained. All commenters responding to the request said that the Commission should eliminate this requirement. Commenters argued that the information is of little value to investors in a new fund because it covers a fund’s operations for a short start-up period that does not usually reflect the fund’s expected operations. Commenters also argued that the cost of providing this information places a heavy burden on new funds, which typically have smaller amounts of assets under management than larger funds. According to the commenters, these costs can have a significant and disproportionate effect on a small fund’s expense ratio.

The Commission believes that financial statements for the initial operations of a fund may not provide information that is significant to a typical fund investor. In addition, an investor interested in financial information about a fund’s initial operations can obtain the information by requesting the fund’s most recent shareholder report, which is generally available 6 to 8 months after the fund commences operations and begins selling shares to investors. For these reasons, the Commission has concluded that the costs associated with the 4 to 6 month update are not outweighed by the benefits that the information may provide to some investors. Therefore, Form N-1A, as amended, does not require the filing of updated financial statements for a newly organized fund.

D. General Instructions

1. Reorganizing and Simplifying the Instructions

The General Instructions to Form N-1A currently provide guidance on the use and content of the Form. The Proposed Amendments were intended to update and reorganize the General Instructions to make the Instructions easier to use. Commenters generally supported these revisions, which the Commission is adopting substantially as proposed. As adopted, the General Instructions consist of the following topics: (A) Definitions; (B) Filing and Use of Form N-1A; (C) Preparation of the Registration Statement; and (D) Incorporation by Reference.

The Proposed Amendments added several definitions to standardize certain terms as used in Form N-1A. Under the proposal, the term "Fund" would be defined as a registrant or a series of the registrant. The Proposed Amendments also included definitions of the terms "Registrant" and "Series" as used in Form N-1A. The Commission is adopting all three definitions as proposed. ¹⁹³

Proposed General Instruction B incorporated a more user-friendly, question-and-answer format regarding the filing and use of Form N-1A and replaced current Instructions A through D and F. The Commission is adopting General Instruction B as proposed.

General Instruction C to Form N-1A, as proposed, would set out the requirements for preparing the registration statement in an understandable format and would replace existing Instruction G to the Form. As proposed, the new Instruction emphasized the need to provide clear and concise prospectus disclosure and permitted a fund to include in its prospectus or SAI information not otherwise required by Form N-1A, so long as the information is not misleading and does not, because of its nature, quantity, or manner of presentation, obscure the information required to be included. ¹⁹⁴ The Commission is adopting Instruction C substantially as proposed. ¹⁹⁵

2. Plain English Disclosure

The Commission is adopting amendments to General Instruction C clarifying that funds must comply with rule 421 under the Securities Act, which sets out the Commission’s recently adopted plain English requirements. ¹⁹⁶ Rule 421(b) sets out general requirements that the entire prospectus be clear, concise, and understandable and provides guidance on how to draft prospectuses that meet this standard.

Under Form N-1A, as amended, a fund would need to draft the front and back cover pages and the risk/return summary of a fund prospectus in accordance with the provisions of rule 421(d). ¹⁹⁷ In meeting these requirements, a fund will need to use plain English principles in the organization, language, and design of these sections of their prospectuses. Funds also will comply substantially with the following six principles of clear writing:

- short sentences;

- definite, concrete, everyday language;

- active voice;

- tabular presentation or bullet lists for complex material, wherever possible;

- no legal jargon or highly technical business terms; and

- no multiple negatives.

The compliance dates for rule 421(d) and Form N-1A, as amended, will be the same. Therefore, when a fund files a new or amended registration statement in order to comply with Form N-1A, as amended, it must also comply with the plain English rule. ¹⁹⁸

3. Disclosure Guidelines

The Commission has revised General Instruction C to reflect clearly the basic disclosure principles underlying the Commission’s initiatives being adopted today. The Commission believes that applying these principles consistently in developing fund disclosure documents will result in high quality documents that effectively communicate information to investors.

General Instruction C, as amended, includes a set of drafting guidelines that are designed to improve prospectus disclosure. The Instruction encourages funds to avoid cross-references in their prospectuses to their SAIs or shareholder reports. Repeated cross-references to the SAI and shareholder reports can add unnecessary length and complexity to fund prospectuses and often preclude prospectuses from disclosing information effectively to investors.

General Instruction C provides guidance on the use of Form N-1A by more than one fund and by a multiple class fund. Fund prospectuses frequently contain information for multiple series and classes that offer investors different investment alternatives and distribution arrangements. When information in them is presented clearly, prospectuses offering more than one fund may make it easier for investors to compare funds and may be more efficient for funds and investors by eliminating the need to provide investors with multiple prospectuses containing repetitive information. Instruction C generally enables a fund to organize information about multiple funds and classes in a format of its choice that is consistent with the goal of communicating information to investors effectively. ¹⁹⁹

4. Modified Prospectuses for Certain Funds

Proposed Instruction C would permit a fund that is offered as an investment alternative in a participant-directed defined contribution plan to modify its prospectus for use by participants in the plan. Under the Proposed Amendments, a prospectus used to offer fund shares to plan participants could omit certain information required by proposed Items 7 (shareholder information) and 8 (distribution arrangements). This prospectus disclosure would largely be irrelevant to plan participants; investments that can be made by participants, and the distributions participants receive (including the tax consequences of distributions), are governed by statutory requirements and by the terms of individual plans. ²⁰⁰ Commenters generally supported permitting prospectuses to be modified for plan participants, asserting that it would allow funds to provide meaningful disclosure specifically designed for plan participants who invest in funds. The Commission is adopting the provisions in Instruction C relating to prospectuses for plan participants with modifications to reflect suggestions of commenters.

Instruction C, as proposed, would permit funds to tailor disclosure for prospectuses to be used for investments in defined contribution plans qualified under the Internal Revenue Code. One commenter suggested that the Commission permit funds that serve as investment options for variable insurance contracts to use modified prospectuses that set out purchase and sale procedures, distributions, and tax consequences applicable to these funds. In response to the commenter’s suggestions, the Commission is permitting prospectuses to be tailored for funds offered through variable insurance contracts in furthering its goal of providing investors with more useful disclosure documents. ²⁰¹

5. Incorporation By Reference

Proposed General Instruction D would replace an existing instruction to Form N-1A that addresses incorporation by reference in a fund’s prospectus of information in the fund’s SAI. When the Commission adopted the two-part disclosure format for Form N-1A, the Commission intended that Part A of the registration statement provide investors with a simplified prospectus that, standing alone, would meet the requirements of section 10(a) of the Securities Act. ²⁰² Part B, the SAI (which is available to investors upon request), includes additional information that the Commission has determined may be useful to some investors and should be available to all investors, but is not necessary in the public interest or for the protection of investors to be in the prospectus. ²⁰³ Form N-1A currently permits, but does not require, a fund to incorporate the SAI by reference into the prospectus. The two-part disclosure format has been widely used by funds, and the Commission has found that the current approach to incorporation by reference is consistent with the intended purpose of Form N-1A and should be retained. ²⁰⁴

Proposed Instruction D would continue to permit, but not require, a fund to incorporate the SAI by reference into the prospectus. Commenters supported this approach to incorporation by reference, and the Commission is adopting Instruction D substantially as proposed. ²⁰⁵ The revised Instruction clarifies that incorporating information by reference from the SAI is not permitted as a response to an item of Form N-1A requiring information to be included in the prospectus. Permitting the SAI to be incorporated by reference into the prospectus was meant to allow funds to add material that the Commission determined not to require in the prospectus, not to permit funds to delete required information from the prospectus and place it in the SAI. Form N-1A, as amended, provides funds with clearer directions for allocating disclosure between the prospectus and the SAI. Funds can discuss items of information required to appear in the prospectus in greater detail in the SAI, which may be incorporated by reference into the prospectus.

The Commission notes that section 19(a) of the Securities Act ²⁰⁶ and section 38(c) of the Investment Company Act ²⁰⁷ protect a fund from liability under these Acts for actions taken in good faith in conformity with any rule of the Commission. The amendments to Form N-1A are designed to provide better guidance to funds as to what information should be in the prospectus and the SAI to assist funds seeking to act in good faith in conformity with Form N-1A. ²⁰⁸

6. Form N-1A Guidelines and Related Staff Positions

The Guidelines to current Form N-1A (the "Guides") were prepared by the Division and published by the Commission when it adopted the Form in 1983. ²⁰⁹ The Guides, which generally restate Division positions that may affect fund disclosure, were intended to assist funds in preparing and filing their registration statements. Additional Division positions on disclosure matters have been included from time to time in Generic Comment Letters prepared by the Division ("GCLs"). ²¹⁰

Although certain Guides have been revised and new ones added in connection with the adoption of various rules, the Guides collectively have not been reviewed since 1983. Certain Division positions in the Guides and GCLs have become outdated. ²¹¹ Other Guides and GCLs explain or restate legal requirements and may encourage generic disclosure about fund operations that does not appear to help investors evaluate and compare funds. ²¹² In addition, the presentation of information in 35 Guides and 7 GCLs is not organized in the most useful or effective manner.

To address these issues, Form N-1A, as amended, incorporates certain disclosure requirements from the Guides and GCLs. Other disclosure requirements in the Guides and the GCLs have not been incorporated in Form N-1A because, among other things, they are outdated or result in disclosure about technical, legal, and operational matters generally common to all funds. In addition, Form N-1A does not incorporate certain requirements calling for specific disclosure about certain types of fund investments because these requirements have tended to standardize disclosure about certain securities without regard to how a particular fund intends to use the securities in achieving its investment objectives. Generalized disclosure of this sort is inconsistent with the goal of the amendments to prospectus disclosure being adopted today to provide investors with information about how a particular fund's portfolio will be managed and elicit disclosure tailored to a fund's particular investment objectives and strategies. ²¹³

Information in the Guides and GCLs about legal requirements (including information about fund organization and operations), interpretive positions, and descriptions of filing procedures will be updated and reorganized in a new Investment Company Registration Guide ("Registration Guide"). ²¹⁴ The Commission has instructed the Division to make the Registration Guide available as soon as practicable. While the Commission believes that the Registration Guide will be a useful tool for funds in preparing their filings, FormN-1A, as amended, includes all of the requirements necessary for funds to prepare new or amend existing registration statements. ²¹⁵

E. Technical Rule Amendments

When it proposed to amend FormN-1A, the Commission proposed several technical rule amendments. These rule amendments generally were intended to implement the recommendations of the Commission’s Task Force on Disclosure Simplification that apply to funds. ²¹⁶ The Commission is adopting these amendments substantially as proposed. ²¹⁷ The Commission also is adopting conforming amendments to several rules and a form to correct references to items in Form N-1A that have been redesignated or reorganized in Form N-1A, as amended. ²¹⁸

F. Administration of Form N-1A

While generally praising the Proposed Amendments and their goals, some commenters voiced concern that, unless administered appropriately, Form N-1A, as amended, would not lead to more useful and understandable disclosure documents for fund investors. Some commenters argued that, over time, the Commission’s staff has interpreted Form N-1A’s existing requirements so narrowly as to prevent funds from adopting formats in which information could be effectively communicated to investors. Other commenters asserted that the Commission’s staff, in interpreting the provisions of existing Form N-1A, has consistently required lengthy and complex disclosure that may discourage investors from reading fund prospectuses. ²¹⁹

The Commission acknowledges that some interpretations relating to Form N-1A disclosure taken by the staff in the past have contributed to fund prospectuses becoming dense and less inviting to read by shareholders. ²²⁰ The Commission believes, however, that funds, their counsels and other advisors also have contributed to this result. In seeking to minimize potential liabilities under the federal securities laws, many funds appear to have made the use of clear formats and concise and understandable language in fund prospectuses only a secondary concern, at best. Funds also appear to have added material to their prospectuses not otherwise required by Form N-1A to facilitate marketing or other business objectives.

The Commission firmly believes that achieving the goals underlying the amendments to Form N-1A being adopted today necessitates discipline on the part of the Commission and its staff, as well as on the part of funds and their advisors. In exercising discipline, all parties involved in the disclosure process should look not only to the Form N-1A disclosure requirements, as amended, but also to the disclosure principles reflected in the Form. The Commission has instructed its staff to adhere to those principles closely when providing comments on registration statements filed on Form N-1A and in interpreting provisions of the Form. ²²¹ The Commission strongly encourages funds and their advisors to follow closely the principles in drafting language and designing formats for use in fund prospectuses.

Throughout the period during which the Form N-1A and profile initiatives were developed, the Commission staff worked with numerous fund groups to create innovative disclosure materials and new and improved prospectuses. ²²² The results of these efforts have been commended by many as achieving a significant improvement over existing disclosure documents. ²²³ Many of the efforts were furthered by the willingness of the staff to interpret Commission disclosure requirements in a manner consistent with the goal of enabling funds to communicate more effectively to investors information essential in considering an investment in a fund. ²²⁴ The Commission’s staff will continue to exercise this approach in interpreting the provisions of Form N-1A, as amended, and in reviewing fund filings under the revised disclosure requirements. ²²⁵

G. Coordination with the NASD

As discussed in the Form N-1A Proposing Release, some rules of the NASD restrict the ability of NASD members to engage in various activities relating to funds unless certain disclosures are made in fund prospectuses. ²²⁶ NASD Conduct Rule 2830, for example, generally does not allow underwriters to pay compensation to broker-dealers for selling shares of a fund, unless the compensation arrangements are disclosed in the fund’s prospectus. ²²⁷ Certain commenters expressed concern that these and other NASD prospectus disclosure requirements appear to be inconsistent with the Commission’s broad initiatives to improve fund disclosure, and encouraged the Commission to coordinate its regulatory efforts with the NASD.

The Commission believes that it is of the utmost importance that all disclosure contained in fund prospectuses conforms to the principles of effective communication reflected in Form N-1A, as amended. The Commission has discussed these principles with the NASD staff, which has agreed to evaluate all of the NASD’s existing requirements for consistency with these principles and to propose to the Commission that those rules be changed as necessary to achieve greater consistency. In addition, to the extent that it imposes prospectus disclosure requirements in the future, the NASD will seek to do so in accordance with the Commission’s disclosure principles. ²²⁸

H. Effective Dates and Transition Period

As discussed in the Form N-1A Proposing Release, ²²⁹ the Commission is providing for a transition period after the effective date of the amendments to Form N-1A that gives funds sufficient time to update their prospectuses or to prepare new registration statements under the revised Form N-1A requirements. All new registration statements or post-effective amendments that are annual updates to effective registration statements filed on or after December 1, 1998 must comply with the amendments to Form N-1A. ²³⁰ The final compliance date for filing amendments to effective registration statements to conform with the new Form N-1A requirements is December 1, 1999. The same compliance dates apply to the new plain English disclosure requirements for fund prospectuses. A fund may, at its option, prepare documents in accordance with the requirements of Form N-1A, as amended, at any time after the effective date of the amendments.

III. COST/BENEFIT ANALYSIS AND EFFECTS ON COMPETITION, EFFICIENCY, AND CAPITAL FORMATION

Section 2(c) of the Investment Company Act provides that whenever the Commission engages in rulemaking requiring the Commission to consider whether its action is in the public interest, the Commission also must consider whether the action will promote efficiency, competition, and capital formation. ²³¹ For the reasons stated in the cost/benefit analysis below, as well as the reasons discussed elsewhere in this release, the Commission has concluded that the amendments to Form N-1A protect investors and promote efficiency, competition, and capital formation.

The central goal of the amendments to Form N-1A is to promote fund disclosure documents that effectively communicate essential information to investors. The amendments seek to meet this goal by focusing prospectus disclosure on information that will help investors decide whether to invest in a fund. The amendments seek to organize the prospectus in a more efficient manner, which increases the effectiveness of the information in the prospectus. For example, the amendments minimize required disclosure in a fund’s prospectus about matters that generally are common to all funds and focus the disclosure on matters about the fund. Changes such as the addition to Form N-1A of a standardized risk/return summary also allow investors to use prospectus information efficiently to compare one fund to others before investing. Well-informed investors may invest more of their resources and allocate their investments carefully, which in turn would tend to promote competition among funds.

The Commission did not receive any comments addressing the costs associated with the amendments to Form N-1A. While it is difficult to quantify costs and benefits related to Form N-1A, the Commission notes that commenters strongly favored the amendments. As discussed in the Commission’s Paperwork Reduction Act submission in conjunction with the Form N-1A Proposing Release, the Commission estimated that there are approximately 7,500 registrants on Form N-1A. The total annual cost to the industry of preparing, filing, and updating current Form N-1A is approximately $175 million. ²³² The Commission does not believe that these amendments will result in a significant cost increase over time because the amendments do not require that funds disclose a significant amount of new information. Rather than increase the reporting burden, the amendments primarily clarify instructions, reorganize the prospectus, and require new formats for certain information.

The Commission’s estimate of the total annual cost to the industry identified above reflects the burden of initial Form N-1A filings, which the Commission has sought to minimize. It is likely that an initial expense from the revisions would be offset by future savings such as lower printing and distribution costs from a shorter prospectus. For example, the amendments eliminate the requirement that newly organized funds file updated financial statements within 4 to 6 months after the effective date of the registration statement. The costs of filing these updated financial statements may have a disproportionate effect on small funds and the Commission estimates that the elimination of the requirement will produce an approximate savings of $1.8 million annually based on an estimate of 180 filings of Form N-1A per year by newly organized funds. The elimination of this requirement also promotes competition and capital formation by decreasing cost-related barriers to entry. On balance, the Commission believes that the amendments to Form N-1A benefit investors, foster efficiency, and tend to promote competition and capital formation.

IV. PAPERWORK REDUCTION ACT

As explained in the Form N-1A Proposing Release, the amendments to Form N-1A contain "collection of information" requirements within the meaning of the Paperwork Reduction Act of 1995 ("PRA"). ²³³ The collection of information requirements in this release were submitted to the Office of Management and Budget ("OMB") for review under section 3507(d) of the PRA. OMB approved the collection of information under the title "Form N-1A Under the Investment Company Act of 1940 and the Securities Act of 1933, Registration Statement of Open-End Management Investment Companies" and assigned it a control number of 3235-0307. The collection of information contained in the release is in accordance with the clearance requirements of 44 U.S.C. 3507. An agency may not conduct or sponsor, and a person is not required to respond to, a collection of information, unless the agency displays a valid OMB control number.

Funds use Form N-1A to register under the Investment Company Act and to register the offer for sale of their shares under the Securities Act. The amendments to Form N-1A seek to minimize prospectus disclosure about technical, legal, and operational matters that generally are common to all funds and focus disclosure on essential information about a particular fund that would assist an investor in deciding whether to invest in that fund. The filing of Form N-1A is mandatory. Responses to the disclosure requirements of Form N-1A will not be kept confidential.

The Commission solicited public comment on the collection of information requirements contained in the Form N-1A Proposing Release and received no comments on the PRA portion of the release. The estimated total burden, purpose, use and necessity of the collection of information will be the same as detailed in the Form N-1A Proposing Release.

V. SUMMARY OF FINAL REGULATORY FLEXIBILITY ANALYSIS

The Commission has prepared a Final Regulatory Flexibility Analysis ("FRFA") in accordance with 5 U.S.C. 604 regarding the amendments to Form N-1A. The FRFA explains that the amendments will revise disclosure requirements for fund prospectuses to minimize prospectus disclosure about technical, legal, and operational matters that generally are common to all funds and focus prospectus disclosure on essential information about a particular fund that will assist investors in deciding whether to invest in that fund. The FRFA also explains that the amendments are intended to improve fund prospectuses and to promote more effective communication of information about funds.

The Commission requested comment with respect to the Initial Regulatory Flexibility Analysis ("IRFA") contained in Form N-1A Proposing Release. The Commission did not receive any comments with respect to the IRFA.

The Commission estimates that approximately 2,700 registered open-end management investment companies are subject to the requirements of Form N-1A. Of these, approximately 620 (23%) are funds that meet the Commission’s definition of small entity for the purposes of the Securities Act and the Investment Company Act -- an investment company with net assets of $50 million or less as of the end of its most recent fiscal year (17 CFR 230.157(b) and 270.0-10).

The FRFA explains that Form N-1A, as amended, will not impose any substantial additional burdens for small entities because most of the changes do not require the development of new information. Initially, however, the changes will require funds to amend the format in which they present information in their prospectuses. The amendments primarily will clarify and simplify the instructions for completing Form N-1A, shift information from the prospectus to the SAI, and require new formats for certain information. A fund’s initial update under Form N-1A, as amended, may take longer than preparing a current prospectus due to a lack of familiarity with the new format. On balance, however, the Commission believes that preparing and updating the revised Form should take the same amount of time (or possibly less time) as preparing and updating the current Form.

As stated in the FRFA, the Commission considered several alternatives to the amendments, including, among others, establishing different compliance or reporting requirements for small entities or exempting them from all or part of the rule. Because the amendments to Form N-1A are intended to improve prospectus disclosure for all investors, whether they invest in funds that are small entities or others, the Commission believes that separate treatment for small entities is inconsistent with the protection of investors. A copy of the FRFA may be obtained by contacting Markian M.W. Melnyk, Deputy Chief, Office of Disclosure Regulation, Securities and Exchange Commission, 450 5th Street, N.W., Mail Stop 5-6, Washington, D.C. 20549-6009.

VI. STATUTORY AUTHORITY

The Commission is amending rules and forms pursuant to sections 5, 7, 8, 10 and 19(a) of the Securities Act (15 U.S.C. 77e, 77g, 77h, 77j, and 77s(a)), and sections 8, 22, 24(g), 30 and 38 of the Investment Company Act (15 U.S.C. 80a-8, 80a-22, 80a-24(g), 80a-29, and 80a-37). The authority citations for the amendments to the rules and forms precede the text of the amendments.

TEXT OF RULE AND FORM AMENDMENTS

List of Subjects in 17 CFR Parts 230, 232, 239, 240, 270 and 274

Investment companies, Reporting and recordkeeping requirements, Securities.

For the reasons set out in the preamble, the Commission amends Chapter II, Title 17 of the Code of Federal Regulations as follows:

PART 230 — GENERAL RULES AND REGULATIONS, SECURITIES ACT OF 1933

1. The general authority citation for Part 230 is revised to read as follows:

Authority: 15 U.S.C. 77b, 77f, 77g, 77h, 77j, 77r, 77s, 77sss, 78c, 78d, 78l, 78m, 78n, 78o, 78w, 78ll(d), 79t, 80a-8, 80a-24, 80a-29, 80a-30, and 80a-37, unless otherwise noted.

* * * * *

2. Revise the note immediately preceding § 230.480 to read as follows:

Note: The rules in this section of Regulation C (§§ 230.480 to 230.488 and §§ 230.495 to 230.498) apply only to investment companies and business development companies. Section 230.489 applies to certain entities excepted from the definition of investment company by rules under the Investment Company Act of 1940. The rules in the rest of Regulation C (§§ 230.400 to 230.479 and §§ 230.490 to 230.494), unless the context specifically indicates otherwise, also apply to investment companies and business development companies. See § 230.400.

3. Amend § 230.483 to remove all references to "3(a)" under the heading "Form N-1A" in the table following paragraph (e)(4) and add, in their place, "9", and to remove the references to "3(b)" and the corresponding item descriptions under the heading "Form N-1A" in the table following paragraph (e)(4).

4. Amend § 230.485 to correct the reference "paragraph (b)(1)(v)" in the introductory text of paragraph (b) to read "paragraph (b)(1)(iii)", and to revise the reference "Items 5(c) or 5A" in paragraph (b)(iv) to read "Items 5 or 6(a)(2)".

5. Amend § 230.495 to remove the words "cross-reference sheet;" from paragraph (a).

6. Amend § 230.497 to remove the words ", together with 5 copies of a cross reference sheet similar to that previously filed, if changed" from paragraph (d) and ", together with five copies of a cross-reference sheet similar to that previously filed, if changed" from paragraph (e).

PART 232 — REGULATION S-T — GENERAL RULES AND REGULATIONS FOR ELECTRONIC FILINGS

7. The authority citation for Part 232 continues to read as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s(a), 77sss(a), 78c(b), 78l, 78m, 78n, 78o(d), 78w(a), 78ll(d), 79t(a), 80a-8, 80a-29, 80a-30 and 80a-37.

8. Amend § 232.304 to revise the reference to "Item 5A" in paragraph (d) to read "Item 5".

PART 239 — FORMS PRESCRIBED UNDER THE SECURITIES ACT OF 1933

9. The general authority citation for Part 239 is revised to read as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 77z-2, 77sss, 78c, 78l, 78m, 78n, 78o(d), 78u-5, 78w(a), 78ll(d), 79e, 79f, 79g, 79j, 79l, 79m, 79n, 79q, 79t, 80a-8, 80a-24, 80a-29, 80a-30 and 80a-37, unless otherwise noted.

* * * * *

10. Amend Form N-14 (referenced in § 239.23) to revise the reference "Item 2 of Form N-1A" in Item 3(a) to read "Item 3 of Form N-1A", to revise the reference "Items 10 through 23 of Form N-1A" in Item 12(a) to read "Items 10 through 22 of Form N-1A", and to revise the reference "Items 10 through 14 and 16 through 23 of Form N-1A" in Item 13(a) to read "Items 10 through 13 and 15 through 22 of Form N-1A," and revise paragraph (a) of Item 5 to read as follows:

Note: Form N-14 does not and these amendments will not appear in the Code of Federal Regulations.

Form N-14

* * * * *

Item 5.

* * * * *

(a) if the registrant is an open-end management investment company, furnish the information required by Items 2, 3, 4(a) and (b), and 5 - 9 of Form N-1A under the 1940 Act; provided, however, that the information required by Item 5 may be omitted if the prospectus is accompanied by an annual report to shareholders containing the information otherwise required by Item 5;

* * * * *

PART 240 — GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF 1934

11. The general authority citation for Part 240 is revised to read, in part, as follows:

Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78f, 78i, 78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5, 78w, 78x, 78ll(d), 78mm, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 80b-4 and 80b-11, unless otherwise noted.

* * * * *

12. Amend § 240.14a-101 to revise the reference "Item 5" in paragraph (a)(1)(i) of Item 22 to read "Item 15(h)", the reference "Item 2" in paragraph (a)(3)(iv) of Item 22 to read "Item 3", and the reference "Item 2(a)(ii)" in Instruction 4 to paragraph (a)(3)(iv) of Item 22 to read "Item 3".

PART 270 — RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF 1940

13. The authority citation for part 270 continues to read as follows:

Authority: 15 U.S.C. 80a-1, et seq., 80a-34(b)(1), 80a-37, 80a-39 unless otherwise noted;

* * * * *

14. Amend § 270.8b-11 to remove the word "manually" from paragraph (c) and to revise paragraph (e) to read as follows:

§ 270.8b-11 Number of copies; signatures; binding.

* * * * *

(e) Signatures. Where the Act or the rules thereunder, including paragraph (c) of this section, require a document filed with or furnished to the Commission to be signed, the document should be manually signed, or signed using either typed signatures or duplicated or facsimile versions of manual signatures. When typed, duplicated or facsimile signatures are used, each signatory to the filing shall manually sign a signature page or other document authenticating, acknowledging, or otherwise adopting his or her signature that appears in the filing. Execute each such document before or at the time the filing is made and retain for a period of five years. Upon request, the registrant shall furnish to the Commission or its staff a copy of any or all documents retained pursuant to this section.

PART 274 — FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF 1940

15. The authority citation for Part 274 continues to read as follows:

Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 78c(b), 78l, 78m, 78n, 78o(d), 80a-8, 80a-24, and 80a-29, unless otherwise noted.

16. Revise Form N-1A (referenced in §§ 239.15A and 274.11A) (including the Guidelines to the Form) to read as follows:

Note: The text of Form N-1A does not and this amendment will not appear in the Code of Federal Regulations.

FOOTNOTES

-[1]- Investment Company Act Release No. 23065 (Mar. 13, 1998) ("Profile Adopting Release").

-[2]- See I NVESTMENT C OMPANY I NSTITUTE ("ICI"), Mutual Fund Fact Book 16 - 23 (37th ed. 1997) (" ICI Fact Book ") and ICI, Trends in Mutual Fund Investing: September 1997, at 3 (Oct. 30, 1997) (ICI News No. 97 - 93) ("ICI Trends") (between 1990 and 1997, fund assets increased from $1.1 trillion to $4.4 trillion and the number of funds increased from 3,105 to 6,666).

-[3]- Compare ICI Trends at 1 (fund net assets exceeded $4.4 trillion as of Sept. 1997) with Federal Reserve Bank Statistical Release H.8: Assets and Liabilities of Commercial Banks in the United States (Nov. 7, 1997) (commercial bank deposits were approximately $3.0 trillion as of Oct. 1997).

-[4]- See, e.g. , The Investment Company Act Amendments of 1995: Hearings Before the Subcomm. on Telecommunications and Finance of the House Comm. on Commerce , 104th Cong., 1st Sess. 56, 58 (1995) (statement of Don Powell, President and CEO of Van Kampen American Capital, Inc.) (noting the frequent complaint that prospectuses are too long, cumbersome, and legalistic); J. Bogle, Bogle on Mutual Funds 147 (1994); Rothchild, The War on Gobbledygook , Time , Oct. 31, 1994, at 51; Savage, SEC Doesn�t Want 1987�s Painful Lessons Forgotten , Chicago Sun - Times , Oct. 26, 1997, at 53; Sloan, Selling Attitude , Newsweek , June 17, 1996, at 52; Skrzycki, Prospectuses to be in English, Donkeys to Fly Tomorrow , Wash. Post , Oct. 21, 1994, at B1; "Taking the Mystery Out of Mutual Funds," Remarks by Arthur Levitt, Chairman, SEC, before the Boston Citizens Seminar, Boston, MA (Feb. 25, 1997); "Fulfilling the Promise of Disclosure," Remarks by Arthur Levitt, Chairman, SEC, before the American Savings Education Council, New York, NY (July 23, 1997).

-[5]- Levitt, Plain English in Prospectuses , N.Y. St. B. J. , Nov. 1997, at 37 ("Levitt Article") ("(D)isclosure is not disclosure if it doesn�t communicate."). See also Report on the OCC/SEC Survey of Mutual Fund Investors 12 - 13 (June 26, 1996) (although fund investors surveyed consulted the prospectus more than any other source of information about the fund they bought, they considered the prospectus only the fifth - best source of information, behind employer - provided written materials, financial publications, family or friends, and brokers); ICI, The Profile Prospectus: An Assessment by Mutual Fund Shareholders 4 (1996) (" ICI Profile Survey ") (about half of fund shareholders surveyed had not consulted a prospectus before making a fund investment).

-[6]- U.S. households own 74.2% of the mutual fund industry�s assets. ICI Fact Book , supra note 2, at 35.

-[7]- As part of these disclosure initiatives, the Securities and Exchange Commission (the "Commission") also proposed a new rule that would address investment company names that are likely to mislead investors about the investments and risks of an investment company. Investment Company Act Release No. 22530 (Feb. 27, 1997) (62 FR 10955), correction (62 FR 24161). This proposed rule would require, among other things, funds and other registered investment companies with names suggesting a specific investment emphasis to invest at least 80% of their assets in the type of investment suggested by their name. The Commission received a number of substantive comments on the proposed rule, many of which asserted that the proposal had flaws that the Commission should address. The Commission�s Division of Investment Management (the "Division") is analyzing the comments and expects to recommend a final rule for Commission consideration in the near future.

-[8]- Investment Company Act Release No. 22528 (Feb. 27, 1997) (62 FR 10898), correction (62 FR 24160) ("Form N - 1A Proposing Release").

-[9]- See Investment Company Act Release No. 22529 (Feb. 27, 1997) (62 FR 10943), correction (62 FR 24160) ("Profile Proposing Release").

-[10]- The Commission is adopting the amendments to Form N - 1A under its authority in section 10(a) of the Securities Act (15 U.S.C. 77j(a)) based on its determination that certain disclosure requirements result in information that, while useful to some investors, is not necessary in the public interest or for the protection of investors to be included in the prospectus.

-[11]- Eighty - seven percent of the commenters supported the Proposed Amendments. The Commission received 78 comment letters on the Proposed Amendments, over half of which were from individual investors (44 letters or 57%). The Commission also received comment letters from 8 professional and trade associations, 13 fund groups, 4 law firms, 2 broker - dealers/investment advisers, and 7 other interested organizations. The comment letters, as well as a comment summary prepared by the Commission�s staff, are available for public inspection and copying at the Commission�s Public Reference Room in File No. S7 - 10 - 97. The Commission received 256 comment letters on the fund profile, a large number of which were from individual investors (226 letters or 88%). See Profile Adopting Release, supra note 1.

-[12]- Investment Company Act Release No. 13436 (Aug. 12, 1983) (48 FR 37928) ("1983 Form N - 1A Adopting Release").

-[13]- Investment Company Act Release No. 12927 (Dec. 27, 1982) (48 FR 813, 814) ("1982 Form N - 1A Proposing Release").

-[14]- See Item 3 of current Form N - 1A; Investment Company Act Release No. 16244 (Feb. 1, 1988) (53 FR 3192) ("Fee Table Adopting Release").

-[15]- Item 5A of current Form N - 1A; Investment Company Act Release No. 19382 (Apr. 6, 1993) (58 FR 19050) ("MDFP Adopting Release").

-[16]- See Investment Company Institute (pub. avail. July 31, 1995) ("1995 Profile Letter"); Investment Company Institute (pub. avail. July 29, 1996) ("1996 Profile Letter"). The Division permitted the pilot program to continue pending the adoption of proposed rule 498. Investment Company Institute (pub. avail. July 16, 1997) ("1997 Profile Letter"). After the effective date of new rule 498, a fund could continue to use a Pilot Profile as supplemental sales literature. See Profile Adopting Release, supra note 1.

-[17]- See ICI Profile Survey , supra note 5, at 31 - 32.

-[18]- See Investment Company Act Release No. 20974 (Mar. 29, 1995) (60 FR 17172) ("Risk Concept Release").

-[19]- See Levitt Article, supra note 5, at 36.

-[20]- Rule 421 under the Securities Act (17 CFR 230.421). See Securities Act Release No. 7497 (Jan. 28, 1998) (63 FR 6370) ("Plain English Release") and discussion infra Section II.D.2. As part of the plain English initiatives, the Commission plans to issue A Handbook on Plain English: How to Create Clear SEC Disclosure Documents , prepared by the Commission�s Office of Investor Education and Assistance.

-[21]- These improvements are based in large part on comments received in response to the Risk Concept Release. See Risk Concept Release, supra note 18. The Commission also considered other information about fund risk disclosure, including the results of an investor survey sponsored by the ICI. See ICI, Shareholder Assessment of Risk Disclosure Methods (1996) (" ICI Risk Survey ").

-[22]- The amendments contemplate further that the Division will consolidate its interpretive positions under the Investment Company Act relating to, among other things, fund operations in a new "Investment Company Registration Guide" ("Registration Guide"). The Registration Guide is discussed infra Section II.D.6. Form N - 1A, as amended, incorporates certain staff disclosure requirements to identify those requirements that would apply to all funds regardless of their particular circumstances. Among other things, this approach addresses disclosure requirements that have been developed in connection with an issue presented by a specific fund, but applied to all funds regardless of their particular circumstances.

-[23]- The Commission expects that these disclosure principles also will provide useful guidance in resolving disclosure issues relating to funds under the federal securities laws as these issues arise from time to time. See discussion of administration of Form N - 1A, infra Section II.F.

-[24]- A chart in Appendix A to this release compares the revised Items in Form N - 1A, as amended, to the current Items in Form N - 1A.

-[25]- Form N - 1A, as amended, incorporates certain disclosure requirements from the Guidelines to current Form N - 1A (the "Guides") and the Generic Comment Letters ("GCLs") that have been issued over time by the Division. See Letters to Registrants (Jan. 11, 1990) ("1990 GCL"); (Jan 3, 1991) ("1991 GCL"); (Jan. 17, 1992) ("1992 GCL"); (Feb. 22, 1993) ("1993 GCL"); (Feb. 25, 1994) ("1994 GCL"); (Feb. 3, 1995) ("1995 GCL"); (Feb. 16, 1996) ("1996 GCL"). For a discussion of the Guides and the GCLs, see infra notes 209 - 215 and accompanying text.

-[26]- Participants in focus groups conducted on the Commission�s behalf ("Focus Groups"), for example, expressed strong support for summary information in a standardized format. Many individuals in commenting on the profile initiative have confirmed the need for concise, summary information relating to a fund. See also Joe Six - Pack: Public Favors Profile Plan , Fund Action , Oct. 1997, at 9; Profile Prospectuses: An Idea Whose Time Has Come , Mutual Funds Magazine , Aug. 1996, at 11.

-[27]- Items 2 and 3. Consistent with the goal of providing key information in a standardized summary, General Instruction C.3(b) to Form N - 1A, as amended, precludes a fund from including information in the prospectus risk/return summary that is not required or otherwise permitted by Items 2 and 3. Form N - 1A, as amended, does not require a fund to include any risk disclosure elsewhere in the prospectus if the requirements of Item 4 of Form N - 1A are met by the disclosure in the fund�s risk/return summary ( i.e. , if a fund is able to describe its risks, as required by Item 4, in its risk/return summary, the fund would not need to describe those risks elsewhere in its prospectus).

-[28]- See Profile Adopting Release, supra note 1 (discussing commenters� critiques of the question - and - answer format).

-[29]- See infra notes 91 - 101 and accompanying text (discussing the criteria for determining whether a particular strategy is a principal strategy and disclosure about concentration policies).

-[30]- Items 2(a) and (b).

-[31]- The Commission proposed that the prospectus risk summary refer to fund shareholder reports. A fund�s reports to its shareholders typically contain a discussion by the fund�s management of the fund�s performance ("MDFP"). The Commission believes that the information in a fund�s MDFP, including the discussion of the fund's performance during its most recent fiscal year, could be useful to some investors considering an investment in the fund. The Proposed Amendments would require the risk/return summary to provide disclosure to the following effect: Additional information about the fund's investments is available in the fund's annual and semi - annual reports to shareholders. In particular, the fund's annual report discusses the relevant market conditions and investment strategies used by the fund�s investment adviser that materially affected the fund's performance during the last fiscal year. You may obtain these reports at no cost by calling ______________.

-[32]- Item 1(b). Rule 498, as adopted, requires this disclosure to appear in the profile risk/return summary. See Profile Adopting Release, supra note 1.

-[33]- The Commission has made a few revisions to the disclosure about the availability of additional information to make it clearer and more understandable for investors. Item 1(b)(1) of Form N - 1A, as amended, requires a fund (other than a new fund) to include disclosure to the following effect on the back cover page of its prospectus: Additional information about the fund's investments is available in the fund's annual and semi - annual reports to shareholders. In the fund's annual report, you will find a discussion of the market conditions and investment strategies that significantly affected the fund's performance during its last fiscal year.

-[34]- Item 2(c).

-[35]- See discussion of risk disclosure, infra Section II.A.3.b.

-[36]- As discussed in the Form N - 1A Proposing Release, supra note 8, at 10902, the purpose of this disclosure was to help investors evaluate and compare funds based on their investment goals and individual circumstances.

-[37]- As several commenters pointed out, applicable regulatory rules for brokers and other investment professionals require that these determinations be made on the basis of a review of information about the unique circumstances of an individual investor. See, e.g. , rule 2310(a) of the National Association of Securities Dealers, Inc. ("NASD") Conduct Rules, NASD Manual (CCH) 4261 (suitability of recommendations to customers) and rule 405 of the New York Stock Exchange, 2 N.Y.S.E. Guide (CCH) � 2403 (the "know your customer" rule).

-[38]- In a recent review of fund prospectuses, the Division found many examples of this type of disclosure, which was usually included in a fund�s discussion of the risks associated with an investment in the fund. For example, one fund disclosed that it was not an appropriate investment for investors seeking either preservation of capital or high current income or for those investors unable to assume the increased risks of higher price volatility and currency fluctuations associated with investments in international equities traded in non - U.S. currencies. Another fund urged investors to remember that the fund was an aggressive capital appreciation fund designed for long - term investors for a portion of their investments and was not designed for investors seeking income or conservation of capital. Tax - exempt funds frequently stated that an investment in the fund is not appropriate for Individual Retirement Accounts or other tax - advantaged accounts.

-[39]- Instruction to Item 2(c)(1)(i).

-[40]- See General Instruction C.3(b).

-[41]- For these purposes, a money market fund is defined as a fund that holds itself out to investors as a money market fund and meets the conditions of paragraphs (c)(2), (c)(3), and (c)(4) of rule 2a - 7 under the Investment Company Act (17 CFR 270.2a - 7). General Instruction A.

-[42]- See Investment Company Act Release Nos. 17589 (July 17, 1990) (55 FR 30239, 30247) and 18005 (Feb. 20, 1991) (56 FR 8113, 8123) (proposing and adopting revisions to rule 2a - 7 for money market funds).

-[43]- The Proposed Amendments would require the following disclosure: An investment in the Fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the Fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the Fund.

-[44]- Item 2(c)(1)(ii).

-[45]- Form N - 1A currently does not require this disclosure if, with respect to 100% of its assets, a fund limits its investments in a single issuer to no more than 5% of its assets.

-[46]- See Form N - 1A Proposing Release, supra note 8, at 10904. Under rule 2a - 7, a "national" tax - exempt money market fund generally is limited to investing no more than 5% of its assets in the securities of a single issuer. For a single state money market fund, the 5% single issuer limitation applies with respect to 75% of the fund�s assets. This limitation recognizes that single state money market funds concentrate their investments in debt securities issued by a single state (or issuers located within that state), making diversification more difficult to achieve. See Investment Company Act Release Nos. 21837 (Mar. 21, 1996) (61 FR 13956) and 22921 (Dec. 2, 1997) (62 FR 64968).

-[47]- 1994 GCL, supra note 25; Letter to Registrants from Barbara J. Green, Deputy Director, Division of Investment Management, SEC (May 13, 1993) ("Division Bank Letter").

-[48]- See Division Bank Letter, supra note 47. See also Testimony of Ricki Helfer, Chairman, Federal Deposit Insurance Corporation ("FDIC"), on FDIC Survey of Nondeposit Investment Sales at FDIC - Insured Institutions Before the Subcomm. on Capital Markets, Securities, and Government Sponsored Enterprises of the House Comm. on Banking and Financial Services, 104th Cong., 2d Sess. (June 26, 1996) (citing surveys in October 1995 and April 1996 indicating that approximately one - third of bank customers either thought that, or did not know whether, funds sold through banks were insured).

-[49]- The Proposed Amendments would require a fund that is not a money market fund but is advised by or sold through a bank to disclose that its shares are not federally insured as follows: An investment in the Fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency.

-[50]- Item 2(c)(1)(iii). Some commenters asserted that the proposed disclosure was inconsistent with that required by bank regulators in the Interagency Statement on Retail Sales of Nondeposit Investment Products. See Board of Governors of the Federal Reserve System, FDIC, Office of the Comptroller of the Currency, and Office of Thrift Supervision, Interagency Statement on Retail Sales of Nondeposit Products, 6 Fed. Banking L. Rep. (CCH) � 70 - 113, at 82,598 (Feb. 15, 1994) ("Interagency Statement") (requiring disclosure that the fund is not a deposit or other obligation of the bank). The Commission has confirmed with these bank regulators that no such inconsistency exists, because the disclosure required by the Interagency Statement applies to sales material and not to fund prospectuses. In response to suggestions from the bank regulators, the Commission has revised the legend required for funds that are advised by or sold through banks, to read as follows: An investment in the Fund is not a deposit of the bank and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. The requirement, as amended in this way, is consistent with the requirement now in effect.

-[51]- Item 2(c)(2). An example of the bar chart and performance table is attached as Appendix B to this release.

-[52]- In adopting the bar chart requirement, the Commission does not mean to suggest that all, or even a significant portion of all, fund investors equate variability in a fund�s returns with the risks of investing in the fund. As discussed below, the Commission acknowledges that investors have a wide range of ideas of what "risk" means. See infra Section II.A.3. Nonetheless, the Commission�s bar chart proposal was supported by many investors who expressed strong interest in seeing prospectuses include a version of the bar chart. Focus group participants, for instance, found the bar chart helpful in evaluating and comparing fund investments. Over 75% of individual investors responding to the Risk Concept Release favored a bar chart presentation of fund volatility. Risk Concept Release, supra note 18. See also ICI, Understanding Shareholders� Use of Information and Advisers (1997) ("ICI Shareholder Use Study") at 20 and 30 (discussing investors� interest in receiving and understanding fund risk information) and ICI Risk Survey , supra note 21. In addition, all commenters responding to the Commission's initiative to simplify money market fund prospectuses supported the proposal to replace the financial highlights information in money market fund prospectuses with a 10 - year bar chart reflecting a money market fund's yield. See Summary of Comment Letters on Proposed Amendments to the Rules Regulating Money Market Fund Prospectuses Made in Response to Investment Company Act Release No. 21216, at 2 (File No. S7 - 21 - 95).

-[53]- See Form N - 1A Proposing Release, supra note 8, at 10907.

-[54]- Form N - 1A, as amended, permits a fund to use other indexes in the presentation of the average annual return information in the table accompanying the bar chart. Instruction 2(b) to Item 2(c)(2).

-[55]- Item 2(c)(2)(ii).

-[56]- General Instruction C.1(a) to Form N - 1A, as amended, encourages funds to use document design techniques that promote effective communication.

-[57]- Item 2(c)(2)(i).

-[58]- The Commission understands that funds increasingly organize themselves as series companies and tend to stagger the financial periods of their series so that audits and financial reporting periods are spread over an entire calendar year.

-[59]- Item 2(c)(2). Form N - 1A, as amended, requires a fund to have at least one calendar year of returns before including the bar chart and requires a fund to modify the narrative explanation accompanying the bar chart and table if the fund does not include the bar chart ( e.g. , by stating that the information gives some indication of the risks of an investment in the fund by comparing the fund's performance with a broad measure of market performance). Form N - 1A, as amended, also requires the bar chart of a fund in operation for fewer than 10 years to include calendar year returns for the life of the fund.

-[60]- Rule 498(c)(2)(iii). Unlike Form N - 1A, as amended, rule 498, as adopted, requires average annual return information in the performance table in the profile to be as of the most recent calendar quarter and updated as soon as practicable after each quarter of a calendar year. See Profile Adopting Release, supra note 1. A fund would update the average annual return information included in its prospectus when filing the annual update of its registration statement required by section 10(a)(3) of the Securities Act.

-[61]- Instruction 1(a) to Item 2(c)(2). Form N - 1A, as amended, requires a fund to present the corresponding numerical return adjacent to each bar. Item 2(c)(2)(ii).

-[62]- Instruction 2(a) to Item 2(c)(2). Form N - 1A, as amended, requires a fund whose shares are sold subject to a sales load to disclose that the load is not reflected in the bar chart and that, if it were included, returns would be less than those shown. Instruction 1(a) to Item 2(c)(2).

-[63]- In contrast, sales loads can be accurately and fairly reflected in annual return information of the type contained in the table by deducting sales loads at the beginning (or end) of particular periods from a hypothetical initial fund investment.

-[64]- See General Instruction C.3(c).

-[65]- Instruction 3(a) to Item 2(c)(2).

-[66]- Instruction 3(c) to Item 2(c)(2).

-[67]- In making this argument, commenters cited rule 18f - 3 under the Investment Company Act (17 CFR 270.18f - 3), which provides that a class of shares may have different expenses for shareholder service fees, distribution fees, or other expenses actually incurred in a different amount by the class. The rule does not permit expenses for advisory or custodial fees, or other management fees, to vary among classes.

-[68]- Instruction 3(a) to Item 2(c)(2).

-[69]- See MDFP Adopting Release, supra note 15, at 19054.

-[70]- Item 2(c)(2)(ii). Consistent with the Proposed Amendments, Form N - 1A, as amended, requires a fund to calculate average annual returns using the same method required to calculate fund performance included in advertisements, which reflects the payment of sales loads and recurring shareholder account fees. Instruction 2(a) to Item 2(c)(2) (incorporating the requirements of Item 21).

-[71]- Item 2(c)(2)(iii). Form N - 1A, as amended, permits a fund that has not had the same adviser for the last 10 years to begin the bar chart and performance information in the table on the date the new adviser began to provide advisory services to the fund, so long as certain conditions are met. Instruction 4 to Item 2(c)(2). Form N - 1A, as amended, also requires a fund that changes the index shown in the table to explain the reasons for the change and provide information for both the newly selected and the former index. Instruction 2(c) to Item 2(c)(2). Each of these provisions is consistent with the requirement applicable to the MDFP line graph. Instructions 7 and 11 to Item 5(b).

-[72]- Item 2(c)(2)(iii).

-[73]- The Example currently discloses the cumulative amount of fund expenses over 1, 3, 5, and 10 years based on a hypothetical investment of $1,000 and an annual 5% return. The Commission proposed to require funds to include a narrative explanation to the following effect: This Example is intended to help you compare the cost of investing in the fund to the cost of investing in other mutual funds.

-[74]- See Letter from John C. Bogle, Chairman of the Board, The Vanguard Group, to Barry P. Barbash, Director, Division of Investment Management, SEC (Sept. 16, 1996) (suggesting that few investors have as little as $1,000 invested in a given fund, and that the average fund investment typically amounts to $10,000 to 25,000, with the median investment probably in the range of $6,000 to 7,000).

-[75]- See Fee Table Adopting Release, supra note 14, at 3194.

-[76]- Item 3.

-[77]- Form N - 1A, as amended, clarifies that a fund should disclose only fees charged by or on behalf of the fund, not fees charged by unrelated third parties. Instruction 1(c) to Item 3.

-[78]- Instruction 2(d) to Item 3. For example, Form N - 1A would not require a fund to include in the fee table a fee charged to accounts with small balances ( e.g ., $10 annual fee on accounts less than $2,500).

-[79]- Item 3.

-[80]- In an expense reimbursement arrangement, the adviser reimburses the fund for any expenses that exceed a predetermined amount. Under a fee waiver arrangement, the adviser agrees to waive a portion of its fees in order to limit fund expenses to a predetermined amount.

-[81]- See, e.g. , Testimony of Arthur Levitt, Chairman, SEC, before the Subcomm. on Finance and Hazardous Materials of the House Comm. on Commerce (Mar. 6, 1997) (explaining the Commission�s concern about investor confusion with fund fees); Remarks by Steven M.H. Wallman, Commissioner, SEC, before the ICI�s 1995 Investment Company Directors Conference and New Directors Workshop, Washington, D.C. (Sept. 22, 1995) (noting investors� confusion about the assessment of advisory fees).

-[82]- See, e.g. , Instruction 2(a)(i) to Item 3 (requiring funds to disclose deferred sales charges even though they apply only to investors leaving the fund). See also "From Security to Self - Reliance: American Investors in the 1990s," Remarks by Arthur Levitt, Chairman, SEC, before the ICI�s General Membership Meeting at the Washington Hilton Hotel, Washington, D.C. (May 22, 1996) (citing a survey by the Investor Protection Trust that found that 2 out of 3 investors believed that no - load mutual funds involve no sales charges or fees, as an example of why the Commission should be concerned about the quality of disclosure of fees charged by funds); Testimony of Barry P. Barbash, Director, Division of Investment Management, SEC, Before the Subcomm. on Capital Markets, Securities, and Government Sponsored Enterprises of the House Comm. on Banking and Financial Services, 104th Cong., 2d Sess. (June 26, 1996) (citing a 1994 survey by the American Association of Retired Persons, the Consumer Federation of America, and the North American Securities Administrators, Inc. that found that the vast majority of American bank customers who hold shares of mutual funds are unaware of the risks and fees involved in the sale of mutual funds).

-[83]- Instructions 3(d)(i) and 5(a) to Item 3.

-[84]- Instructions 3(e) and 5(b) to Item 3. A fund also must disclose the period for which the expense reimbursement or fee waiver is expected to continue, or whether it can be terminated at any time at the option of the fund. The Commission expects that, in the latter case, a fund would provide adequate notice to investors and fund shareholders in advance of the termination of the arrangement.

-[85]- See Form N - 1A Proposing Release, supra note 8, at 10909.

-[86]- The investments described often include instruments, such as illiquid securities, repurchase agreements, and options and futures contracts, that do not have a significant role in achieving a fund's investment objectives.

-[87]- The ICI has supported prospectus disclosure that focuses primarily on a fund's broad investment objectives, practices, and associated risks, and not on particular types of securities in which the fund may invest. See, e.g. , Letter from Paul Schott Stevens, General Counsel, ICI, to Jonathan G. Katz, Secretary, SEC, at 5 (Apr. 8, 1996); Letter from Paul Schott Stevens, General Counsel, ICI, to Jonathan G. Katz, Secretary, SEC, at 4 - 6 (July 28, 1995) ("1995 ICI Risk Comment Letter"); Letter from Amy B.R. Lancellotta, Associate Counsel, ICI, to C. Gladwyn Goins, Associate Director, Division of Investment Management, SEC, at 7 (Mar. 7, 1995).

-[88]- See "Can We Make Donkeys Fly?," Remarks by Barry P. Barbash, Director, Division of Investment Management, SEC, before the Business Law Section of the ABA, Washington, D.C., at 13 (Nov. 11, 1994); see also 1 T. Lemke, G. Lins & A.T. Smith III, Regulation of Investment Companies � 1.01, at 1 - 1 (1997).

-[89]- See 1982 Form N - 1A Proposing Release, supra note 13, at 815; 1983 Form N - 1A Adopting Release, supra note 12, at 39729.

-[90]- Item 4(a). A fund may refer to its investment objectives as investment goals or any other term that clearly communicates the principal investment design of the fund. Form N - 1A, as amended, continues to require a fund to disclose in its prospectus when it may change its investment objectives without a shareholder vote. Id. Under current practice, some funds disclose in their prospectuses when a shareholder vote is required to change its investment objectives. The Commission believes that disclosure of this sort is of limited significance to the typical fund investor. In the Commission�s view, most investors typically would not expect the investment objectives of their funds to change without their approval. Consistent with this view, Form N - 1A, as amended, requires a fund to disclose in its SAI, and not in its prospectus, when a shareholder vote is required to change its investment objectives. Item 12(c)(1)(vii).

-[91]- Form N - 1A currently requires a fund to disclose the types of securities in which it invests or will invest principally, as well as any "special investment practices and techniques" that the fund will use in connection with investing in those securities. Form N - 1A also requires disclosure, subject to certain limitations, about "significant investment policies or techniques" that a fund intends to use. One of those limitations directs a fund to limit prospectus disclosure about practices that place no more than 5% of the fund's assets at risk. Many funds disclose in their prospectuses information about securities and investment practices that do not, and may not ever, place more than 5% of the fund's assets at risk, often to retain the flexibility to exceed the 5% threshold in the future. The Commission proposed to eliminate the 5% standard. Form N - 1A Proposing Release, supra note 8, at 10909. The standard has been deleted in Form N - 1A, as amended.

-[92]- Item 4(b). Instruction 1 to Item 4(b)(1) defines a strategy to include any policy, practice, or technique used to achieve a fund's investment objectives.

-[93]- Instruction 2 to Item 4(b)(1). Form N - 1A currently directs a fund not to disclose so - called "negative" practices ( i.e. , practices in which a fund may not or does not intend to engage). Instruction 3 to Item 4(b)(1) retains this limitation by providing that a negative strategy is not a principal investment strategy. Avoiding disclosure about negative strategies is intended to ensure that prospectus disclosure states what the fund will do to achieve its investment objectives, rather than what the fund will not do.

-[94]- Instruction 2 to Item 4(b)(1). As amended, Form N - 1A requires a fund to disclose strategies that are not principal strategies in the SAI . Item 12(b).

-[95]- A bond fund, for example, typically would discuss generally the maturities, durations, ratings, and types of issuers of the bonds in which the fund invests principally.

-[96]- Under the disclosure principles incorporated into Item 4 of Form N - 1A, as amended, a fund that has a principal investment strategy of allocating its assets among stocks, bonds, and money market instruments also would need to disclose its use of cash equivalents. Whether a fund needs to include disclosure in its prospectus about matters such as holding or trading stock futures and option contracts, engaging in securities lending, purchasing securities on a "when - issued" basis, or investing in illiquid or restricted securities will depend on the extent to which these instruments or practices have a significant role in achieving the fund�s investment objectives. A fund generally would not need to include disclosure about restricted securities in its prospectus because investments in this type of security usually would not be so significant as to constitute a principal investment strategy of the fund. Whether a fund�s use of stock futures, option contracts, or other derivatives would need to be disclosed in the fund�s prospectus would depend in large part on whether the strategy poses the risk of substantial gains or losses for the fund.

-[97]- Item 4(b)(2). In meeting this requirement, an equity fund could describe, for example, whether it emphasizes value or growth, or blends the two approaches. A value - oriented fund might state that the fund's adviser selects stocks that it considers to be undervalued by recognized measures of economic value such as earnings, cash flow, and book value. Other types of disclosure about a fund�s investment philosophy might include whether the fund invests in stocks based on a "top - down" analysis of economic trends or a "bottom - up" analysis based on the financial condition and competitiveness of individual companies.

-[98]- That such a policy can be central to a fund�s meeting its investment objective is suggested by section 8(b)(1) of the Investment Company Act (15 U.S.C. 80a - 8(b)(1)), which requires a fund to disclose in its registration statement any policy to concentrate its investments in a particular industry or group of industries. Under section 13(a)(3) (15 U.S.C. 80a - 13(a)(3)), a fund must obtain shareholder approval to change a policy to concentrate its investments.

-[99]- Guide 19 to Form N - 1A.

-[100]- Some commenters questioned an existing position of the Commission�s staff regarding the ability of a fund to adopt a policy of shifting between concentrated and non - concentrated status. One commenter requested reconsideration of the staff�s long - standing position that a fund cannot, consistent with the provisions of sections 8(b)(1) and 13(a)(3), have an investment policy permitting the fund to concentrate or not concentrate its investments as determined by the fund�s board in its discretion. The commenter argued that this position was too rigid and that a fund�s board of directors should have the flexibility to shift the fund�s concentration policy, subject to making appropriate disclosure to fund shareholders. The Commission recognizes that fund investment practices have changed as a result of the growth of securities markets and assets invested in funds. The Commission believes that it may be appropriate to reconsider the issue raised by the commenter, but has concluded that the issue should not be reconsidered in the context of the revisions of Form N - 1A being adopted today. The Commission has requested that the Division review its positions on concentration, consulting with industry representatives as appropriate, with a view toward allowing funds a greater degree of flexibility in establishing concentration policies.

-[101]- Instruction 4 to Item 4(b)(1).

-[102]- Instruction 6 to Item 4(b)(1).

-[103]- Item 3 of Form N - 1A. Form N - 1A, as amended, retains this requirement. Item 9.

-[104]- See Form N - 1A Proposing Release, supra note 8, at 10910.

-[105]- The Proposed Amendments would require a fund to disclose its anticipated portfolio turnover rate and what that rate means ( e.g. , that a portfolio turnover rate of 200% is equivalent to the fund buying and selling all of the securities in its portfolio twice in the course of a year). The Proposed Amendments also would require a fund to explain the tax consequences to shareholders of the fund's high portfolio turnover rate. In addition, the Proposed Amendments would require a fund to explain how trading costs associated with the fund's high portfolio turnover may affect the fund's performance.

-[106]- See infra note 164.

-[107]- Instruction 7 to Item 4(b)(1).

-[108]- As explained in the Form N - 1A Proposing Release, this information is technical in nature and repetitive of other information required to be disclosed elsewhere in a fund�s prospectus. All funds that register on Form N - 1A must be classified as management companies under section 4 of the Investment Company Act and subclassified as open - end companies under section 5. 15 U.S.C. 80a - 4, - 5 . Funds may be further subclassified as diversified or non - diversified under section 5.

-[109]- Section 8 of the Investment Company Act requires a fund to disclose these policies in its registration statement. Section 8 also requires a fund to disclose in its registration statement its policies on concentration and portfolio turnover, see supra notes 100 and 105 and accompanying text, and any other policies that the fund deems fundamental or that may not be changed without shareholder approval. Although they are not required to do so, some funds disclose in their prospectuses their policies with respect to the practices identified in section 8. As noted in the Form N - 1A Proposing Release, supra note 8, at 10911, the Proposed Amendments sought to provide a clearer directive to disclose these policies in the SAI. To the extent it is a principal investment strategy of a fund within the meaning of Item 4(b)(1) of Form N - 1A, as amended, however, a practice identified in section 8 would be required to be disclosed in the fund�s prospectus.

-[110]- Items 12(a) and (c). Form N - 1A, as amended, continues to require a non - diversified fund to disclose its non - diversified status in the prospectus. See Item 2(c)(iv). In particular, the Form requires a non - diversified fund to describe the effects of non - diversification ( e.g. , by indicating that, compared to diversified funds, the fund may invest a greater percentage of its assets in a particular issuer) and to disclose the risks of investing in the fund.

-[111]- Item 4(c). The requirement that a fund disclose the risks to which its particular portfolio as a whole is subject is intended to elicit risk disclosure specific to that fund. In meeting this requirement, a growth fund, for example, would be required to disclose the risks of the types of growth stocks in which the fund invests or expects to invest, as opposed to describing the general risks of equity securities.

-[112]- The Commission emphasizes that this approach is one way, but not the only way, that a fund can seek to use in meeting the risk disclosure requirements of Form N - 1A, as amended.

-[113]- See Form N - 1A Proposing Release, supra note 8, at 10911. The Risk Concept Release requested comment whether quantitative risk measures, such as standard deviation, beta, and duration, would help investors evaluate and compare fund risks. Risk Concept Release, supra note 18, at 17176. While more than half of the individual commenters and some industry members expressed a desire for some form of quantitative risk information, commenters did not broadly support any one risk measure. In addition, a number of commenters strongly criticized requiring disclosure of quantitative risk information. See, e.g., 1995 ICI Risk Comment Letter, supra note 87, at 10 - 16 (questioning, among other things, the feasibility of developing a single, all - encompassing measure of fund risk and whether quantitative information would be understood and accurately used by fund investors).

-[114]- See, e.g. , Walbert, What�s the Risk? , Institutional Investor , June 1997, at 188; Whitford, Why Risk Matters , Fortune , Dec. 29, 1997, at 147.

-[115]- See General Instruction C.3(b).

-[116]- Item 5.

-[117]- See Form N - 1A Proposing Release, supra note 8, at 10912.

-[118]- National Securities Markets Improvement Act of 1996, Pub. L. No. 104 - 290 (1996) ("Improvements Act"), section 206(f) (amending section 30 of the Investment Company Act (15 U.S.C. 80a - 29) to add new paragraph (f)).

-[119]- In the past, the concept of "integrated" disclosure for funds has addressed eliminating duplicative registration requirements under the Investment Company Act and the Securities Act. See Investment Company Act Release No. 10378 (Aug. 28, 1978) (43 FR 39548) (adopting integrated registration statements for funds and closed - end investment companies by replacing separate registration statement forms under the Investment Company Act and Securities Act). New disclosure initiatives for funds could expand the concept of integrated disclosure to include an approach similar to that adopted for corporate issuers, which integrates registration statement disclosure requirements with periodic reports. See Securities Act Release Nos. 6235 (Sept. 2, 1980) (45 FR 63693) and 6383 (Mar. 3, 1982) (47 FR 11386) (proposing and adopting new forms for the offering of securities under the Securities Act). At least one commenter has cited potential benefits to fund shareholders of an integrated approach to fund disclosure. T. Lemke, Mutual Fund Disclosure Revisited , Investment Companies 1989 (Practising Law Institute�s Corporate Law and Practice Course Handbook Series No. 605).

-[120]- Item 6(a).

-[121]- See Form N - 1A Proposing Release, supra note 8, at 10912.

-[122]- Instruction 3 to Item 6(a)(1) and Item 15(a)(3).

-[123]- See MDFP Adopting Release, supra note 15, at 19051 - 52.

-[124]- Instructions to Item 6(a)(2).

-[125]- See Item 12 of Form N - 2 (17 CFR 274.11a - 1) for closed - end investment companies; Item 103 of Regulation S - K (17 CFR 229.103) for non - investment company issuers. See also Investment Company Act Release No. 19155 (Nov. 30, 1992) (57 FR 56862) (modifying Form N - 2 to conform to Item 103).

-[126]- Item 6(a)(3).

-[127]- Item 13(a).

-[128]- Form N - 1A Proposing Release, supra note 8, at 10912.

-[129]- The Investment Company Act contains a number of requirements relating to the composition of a fund�s board. See, e.g. , sections 10(a) and 15(f) of the Investment Company Act (15 U.S.C. 80a - 10(a), - 15(f)).

-[130]- Item 13(d); Item 22(b)(6) of Schedule 14A (17 CFR 240.14a - 101).

-[131]- These responsibilities of directors include, among other things: (i) evaluating and approving the fund's investment advisory and principal underwriting contracts (sections 15(a), (c) (15 U.S.C. 80a - 15(a), (c))) and the use of fund assets to pay for the distribution of fund shares (rule 12b - 1); (ii) selecting the fund's independent public accountants (section 32(a)(1) (15 U.S.C. 80a - 31(a)(1))); and (iii) reviewing and approving transactions with affiliates under various rules ( e.g. , rule 10f - 3 (17 CFR 270.10f - 3); rule 17a - 7 (17 CFR 270.17a - 7); rule 17e - 1 (17 CFR 270.17e - 1)). Directors have fiduciary duties to the fund and its shareholders under section 36(a) of the Investment Company Act (15 U.S.C. 80a - 35(a)) and under state law. See 3 W. Fletcher, Cyclopedia of the Law of Private Corporations � 838 (rev. perm. ed. 1994); Hanson Trust PLC v. ML SCM Acquisition, Inc . , 781 F.2d 264, 275 (2d Cir. 1986). See also Burks v. Lasker , 441 U.S. 471 (1979) (upholding the authority of independent directors to take actions under state law to the extent not inconsistent with the policies of the Investment Company Act and the Investment Advisers Act of 1940 (15 U.S.C. 80b - 1, et seq. ) (the "Advisers Act")).

-[132]- See supra note 119 and accompanying text.

-[133]- Transactions between controlling persons and a fund are subject to restrictions under the Investment Company Act. See, e.g. , section 17 (15 U.S.C. 80a - 17) and rules 17a - 6 and 17d - 1 (17 CFR 270.17a - 6, .17d - 1).

-[134]- Payment of commissions to affiliated brokers is governed by section 17(e) of the Investment Company Act (15 U.S.C. 80a - 17(e)) and rule 17e - 1 (17 CFR 270.17e - 1).

-[135]- Items 15(a) and 16(b)(1).

-[136]- Item 11(a). The Commission proposed to continue to require a fund to disclose its form of organization and place of incorporation in the prospectus if a fund is organized outside the United States and registered under section 7(d) of the Investment Company Act (15 U.S.C. 80a - 7(d)). Although this type of organization is permitted by the Investment Company Act, only a limited number of funds that are organized and incorporated outside of the United States have registered under the Act. A fund organized in this manner would be subject to certain legal requirements under the Investment Company Act, regardless of whether those requirements were described in the fund�s prospectus. Following one of Form N - 1A�s underlying principles to avoid prospectus disclosure that simply restates applicable legal provisions, the Commission has determined to incorporate this disclosure requirement in Item 11(a) of the SAI.

-[137]- Item 6(b). The prospectuses of funds organized as business trusts under Massachusetts law sometimes include disclosure that, under Massachusetts law, fund shareholders may be held personally liable as partners for the fund's obligations under certain limited circumstances. In adopting Form N - 1A in 1983, the Commission stated that disclosure of possible contingent shareholder liability under this form of organization should not be required if a fund believes that, because of arrangements to protect shareholders, the likelihood of loss or expense to shareholders is remote. 1983 Form N - 1A Adopting Release, supra note 12 , at 37933 - 34. See 3 T. Frankel, The Regulation of Money Managers 79 (1980) (for funds organized as Massachusetts business trusts, personal liability generally is considered remote). In connection with the Proposed Amendments, the staff undertook a review of fund prospectus disclosure. The review indicated, among other things, that certain funds continue to include disclosure about Massachusetts business trusts and state that shareholder liability is remote. In the Commission�s view, this disclosure appears to be unwarranted, and the Commission encourages funds to re - evaluate whether this disclosure is necessary in light of the Commission�s goal to minimize the disclosure of events that have only a remote possibility of affecting an investor�s investment in a fund. See Form N - 1A Proposing Release, supra note 8 , at 10913.

-[138]- Item 17(a).

-[139]- The Investment Company Act requires all fund shares to have equal voting rights and prescribes the vote required for certain significant matters. See , e.g. , s ection 18(i) (15 U.S.C. 80a - 18(i)) (equal voting rights); section 15(a) (15 U.S.C. 80a - 15(a)) (approval of investment advisory contract); section 16(a) (15 U.S.C. 80a - 16(a)) (election of directors); section 13(a) (15 U.S.C. 80a - 13(a)) (changes in fundamental investment policies). See also section 2(a)(42) (15 U.S.C. 80a - 2(a)(42)) (defining "voting security" and a "vote of a majority of the outstanding voting securities" for purposes of the Investment Company Act); rules 18f - 2, 18f - 3 (17 CFR 270.18f - 2, - 3) (specifying certain voting rights with respect to series funds and multiple class funds, respectively).

-[140]- Item 17(a).

-[141]- Under section 18(f) of the Investment Company Act, a fund generally is prohibited from issuing senior securities. By its terms, however, this prohibition does not preclude a fund from borrowing from any bank, so long as the borrowing is undertaken in accordance with the requirements of the Investment Company Act. See section 18(f)(1) (a fund must have asset coverage of at least 300 percent of all borrowings). In addition, the Commission has taken the position that certain types of portfolio transactions that involve leverage engaged in by a fund would not be deemed senior securities if the fund establishes a segregated account with liquid assets that collateralize 100% of the market value of the obligations under these transactions. See Investment Company Act Release No. 10666 (Apr. 18, 1979) (44 FR 25128); see also Merrill Lynch Asset Management, L.P. (pub. avail. July 2, 1996) (staff no-action letter). Series funds and multiple class funds, each of which may raise issues under section 18(f), are expressly contemplated by section 18(f)(2) of the Investment Company Act and related rules 18f - 2 and 18f - 3.

-[142]- Under the proposal, a fund, however, would be required to disclose information in its prospectus about any series or class of the fund offered in the prospectus. Form N - 1A, as amended, adopts this requirement. See, e.g. , Item 8(c).

-[143]- Form N - 1A, as amended, does not require disclosure in the prospectus of any measures taken by a fund ( e.g. , formation and maintenance of segregated accounts) to ensure that certain instruments that it holds are not deemed senior securities for purposes of the Investment Company Act�s limitations. Form N - 1A, as amended, would continue to require a fund that has a fundamental policy to borrow monies or that employs leverage to include disclosure about these practices in its prospectus. See supra Section II.A.3.a (discussing required disclosure of principal investment strategies).

-[144]- Item 17(b).

-[145]- See Form N - 1A Proposing Release, supra note 8, at 10914.

-[146]- Item 7. The Commission also is adopting, as proposed, the requirement that a fund disclose in its SAI, and not in its prospectus, information about the fund�s principal underwriter and service providers. Item 15. Requiring the information in the SAI does not preclude a fund from including it in the prospectus ( e.g. , for marketing and other business purposes).

-[147]- Instruction to Item 18(a).

-[148]- Item 7(f).

-[149]- Under the Investment Company Act and its rules, funds generally are required to use market quotations to value portfolio securities. If market quotations are not readily available, the fund must value the securities at "fair value as determined in good faith by the board of directors." Section 2(a)(41) (15 U.S.C. 80a - 2(a)(41)); rule 2a - 4 (17 CFR 270.2a - 4).

-[150]- These funds took this action under circumstances in which stock markets in Asia had closed 13 to 14 hours before the pricing of fund shares in the United States. In that time, several funds identified events that indicated a significant change in the price of securities traded on these markets since the last market quotations. On the basis of this assessment, the funds valued their securities using fair value rather than the market price of the securities. See Barnhart, Asia Aficionados Found Profit in Times of Turmoil , Chicago Tribune , Nov. 23, 1997 at C3; Smith, Funds: A Hidden Trick Investors Should Know About , Business Week , Nov. 17, 1997 at 41; Authers, Now The Funds Are Coming Under Fire , Financial Times , Nov. 8, 1997 at 2; Wyatt, The Market Turmoil: Funds; Fidelity Invokes Fine Print and Angers Some Customers, The New York Times , Oct. 31, 1997 at D6; Gasparino, Pricing System Trips Fidelity, Angers Clients, Wall Street Journal, Oct. 30, 1997 at C1.

-[151]- See Putnam Growth Fund (pub. avail. Feb. 23, 1981). Fair value pricing in this context is designed to protect the long - term value of fund shares from the actions of short - term investors who might buy or redeem fund shares in an attempt to profit from short - term market movements.

-[152]- See "Remembering the Past: Mutual Funds and the Lessons of the Wonder Years," Barry P. Barbash, Director, Division of Investment Management, SEC, at the 1997 ICI Securities Law Procedures Conference, Washington, D.C. (Dec. 4, 1997).

-[153]- Item 7(a). An instruction to this Item, as adopted, requires a fund to provide a brief explanation of specific policies of the fund concerning use of the fair value method of pricing fund shares. Form N - 1A, as amended, requires a fuller explanation of fair value pricing policies in the SAI. Item 18(c).

-[154]- Rule 22c - 1 under the Investment Company Act (17 CFR 270.22c - 1) requires a fund to adopt "forward pricing" procedures. Under such procedures, a fund must fill an order to buy or redeem its shares based on the net asset value of the shares next calculated after receipt of the order.

-[155]- Item 7(a)(2) and (3). Form N - 1A, as amended, allows a fund to identify the days on which the fund will not price its shares through the use of a list of specific days or any other means that effectively communicates the information ( e.g. , explaining that shares will not be priced on the days on which the New York Stock Exchange is closed for trading).

-[156]- See Form N - 1A Proposing Release, supra note 8, at 10914.

-[157]- See Letter from Jack W. Murphy, Associate Director, Division of Investment Management, SEC, to Stuart J. Kaswell, Senior Vice President and General Counsel, Securities Industry Association, Thomas M. Selman, Director, Advertising/Investment Companies Regulation, NASD Regulation, Inc., and Paul Schott Stevens, Senior Vice President and General Counsel, ICI (Dec. 18, 1996).

-[158]- An investor may seek to transfer such an account, for example, when the registered representative or account executive through which the investor purchased the shares becomes affiliated with a new firm.

-[159]- Such disclosure would appear to be inconsistent with the fundamental principle underlying Form N - 1A that a fund�s prospectus should focus on information about the fund.

-[160]- See discussion infra Section II.G about other disclosure issues that the Commission is addressing with the NASD.

-[161]- Existing tax - related prospectus disclosure typically includes lengthy and overly technical information about the tax treatment of a fund, and, in some cases, the treatment of specific securities held by a fund. Many prospectuses, for example, include information about the conditions that a fund must meet to qualify for pass - through tax treatment under Subchapter M of the Internal Revenue Code, as well as information about the tax treatment of private activity bonds, foreign currency contracts, and other fund investments. In addition, tax disclosure frequently includes technical jargon in referring, for example, to a fund�s status as a "regulated investment company" and the fund�s payment of "spillback distributions" and "net investment income." Use of these terms in fund prospectuses would continue to be discouraged. See General Instruction C.1(c), which would continue to instruct a fund not to use technical or legal terminology in its prospectus.

-[162]- I.R.C. 851, et seq .

-[163]- Item 19(a). Item 7(e)(3) of Form N - 1A, as amended, requires a fund that does not expect to qualify for pass - through tax treatment under Subchapter M to explain in its prospectus the tax consequences of not qualifying ( e.g. , by disclosing that income and gains realized by the fund would be subject to double taxation , that is, both the fund and shareholders could be subject to tax liability). This disclosure would distinguish the fund from other funds and help investors appreciate the tax consequences of investing in the fund. Similarly, a fund that expects to pay an excise tax under the Internal Revenue Code with respect to its distributions is required to disclose in its prospectus the consequences of paying the tax. See I.R.C. 4982.

-[164]- Item 7(e). Funds subject to this requirement would include, for example, those often described as "tax - managed," "tax - sensitive," or "tax - advantaged," which have investment strategies to maximize long - term capital gains and minimize ordinary income. A fund that has a principal investment objective or strategy to achieve tax - managed results ( e.g. , to maximize long - term capital gains and minimize ordinary income) would need to provide disclosure to that effect in its prospectus risk/return summary. Item 4.

-[165]- Recent changes to the tax laws reduce the maximum rate on the long - term net capital gains on the sale of securities from 28% to 20%, but increase the asset holding period from 12 months to 18 months (except for sales made after May 6, 1997 and before July 29, 1997, which retain long - term gain status). Taxpayer Relief Act of 1997, Pub. L. No. 105 - 34 (1997). The new laws also classify capital assets held for a period of one year, but less than 18 months, as "mid - term" gains, which are subject to a maximum rate of 28%.

-[166]- The requirement is set forth in I.R.C. 852(b)(3)(c).

-[167]- Item 7(e)(2). Form N - 1A, as amended, requires a fund to disclose, if applicable, that: (i) the fund may invest a portion of its assets in securities that generate income that is not exempt from federal or state income tax; (ii) income exempt from federal income tax may be subject to state and local income tax; and (iii) any capital gains distributed by the fund may be taxable. The Commission also proposed that a fund disclose that a portion of the tax - exempt income that it distributes may be treated as tax preference items for purposes of determining whether the shareholder is subject to the federal alternative minimum tax. Form N - 1A, as amended, does not require disclosure about the preference items in the prospectus. This disclosure is technical in nature and applies only in limited circumstances, and would not appear to help a typical investor make a decision about investing in a fund.

-[168]- Typical fund shareholders appear to regard information about fees paid by funds under various distribution arrangements as important information in making investment decisions. See ICI Shareholder Use Study, supra note 52, at 21 (1997) (over 70% of survey respondents considered sales charge and fee information before making their most recent purchase).

-[169]- The Commission�s proposed disclosure would replace similar disclosure required by the rules of the NASD. Rule 2830(d)(4) of the NASD Conduct Rules, supra note 37, at 4624 (requiring a fund with a rule 12b - 1 plan to disclose adjacent to the fee table that long - term shareholders may pay more than the maximum front - end sales charge allowed by the NASD). In light of the revisions to Form N - 1A contemplated by the Proposed Amendments, the NASD has proposed to eliminate its similar disclosure. NASD Notice to Members 97 - 48, at 393 (Aug. 1997).

-[170]- Item 8(b); Item 15(g). The Proposed Amendments also would require a fund that pays a service fee outside of a rule 12b - 1 plan to disclose the amount and purpose of the fee in the section of its prospectus describing sales loads and rule 12b - 1 fees charged by the fund. One commenter questioned the need for this disclosure, asserting that this type of service fee is not appropriately characterized as a distribution fee and would be disclosed in the fee table. The Commission is persuaded that additional disclosure of these fees is unnecessary, and Form N - 1A, as amended, does not require prospectus disclosure of them. A fund would disclose service fees paid outside a rule 12b - 1 plan in the fee table and in the SAI. Instruction 3(b) to Item 3; Item 20(c).

-[171]- See also Interagency Statement, supra note 50; rule 2230 of the NASD Conduct Rules, supra note 37, at 4213 - 14; rule 204 - 3(a) under the Advisers Act (17 CFR 275.204 - 3(a)); Item 1 of Form ADV, Part II (17 CFR 279.1) for fee disclosure requirements applicable to banks, broker - dealers and investment advisers , respectively.

-[172]- Item 8(a); Item 13(e) (sales load arrangements for affiliated persons); and Item 15(f) (dealer reallowances).

-[173]- Item 8(c)(4). A feeder fund that does not have the authority to change its master fund would not need to discuss in its prospectus the possibility and consequences of its no longer investing in the master fund. Instruction to Item 8(c)(4).

-[174]- Item 8(c).

-[175]- See Form N - 1A Proposing Release, supra note 8, at 10918.

-[176]- Instruction 1(a) to Item 9(a).

-[177]- Item 2(c)(2). Form N - 1A permits a fund to incorporate by reference the financial highlights information into its annual report if it is delivered with the prospectus. Item 9(b). One commenter recommended that the Commission eliminate total return information from the financial highlights table because the bar chart shows a fund�s returns. The Commission has not followed this recommendation because returns in the financial highlights table will be reflected for a fund�s fiscal year periods, which may not be the same as the calendar year periods reflected in the bar chart. The Commission also notes that including returns in the financial highlights table will enable a fund to satisfy the updating requirements of section 10(a)(3) under the Securities Act.

-[178]- 17 CFR 274.101. The Division expects to submit recommendations to the Commission on revising Form N - SAR in the near future.

-[179]- See Improvements Act, supra note 118, at section 204.

-[180]- Item 21.

-[181]- This disclaimer is required by rule 481(b)(1) under the Securities Act (17 CFR 230.481(b)(1)).

-[182]- See Form N - 1A Proposing Release, supra note 8. See also SEC, Report of the Task Force on Disclosure Simplification (1996) (recommending that many legal warnings be eliminated to make the cover page more inviting and that any necessary legal warnings be set out in a more readable style and format); Plain English Release, supra note 20, at 6372.

-[183]- Instruction to Item 1(a); see also General Instruction C.3(b). Form N - 1A currently requires special disclosure on the front cover page of a feeder fund prospectus describing the master - feeder fund structure and explaining how it differs from a traditional mutual fund. 1993 GCL, supra note 25, at II.H(a). Consistent with simplifying cover page disclosure, Form N - 1A, as amended, does not require this disclosure on the front cover page, but does require disclosure about a fund�s master - feeder structure in the body of the fund�s prospectus in response to Item 8(c).

-[184]- Rule 481(b)(1) (requiring disclosure that indicates that neither the Commission nor any state securities commission has approved the securities or passed on the adequacy of disclosure in the prospectus).

-[185]- Item 501 of Regulation S - K (17 CFR 229.501).

-[186]- See Plain English Release, supra note 20, at 6372 (revising Item 501(b) of Regulation S - K and making conforming changes to rule 481(b)(1)).

-[187]- The Proposed Amendments also would require a fund to include on the back cover page of its prospectus a statement that information about the fund is available at the Commission�s Public Reference Room and on the Commission�s Internet site. Some commenters questioned this proposal, asserting that the information is not essential to making a decision to invest in a fund and would clutter the back page of prospectuses. The Commission is not persuaded by these arguments and has adopted this requirement as proposed. Item 1(b)(3). The Commission notes that the requirement is consistent with those imposed on all registrants filing registration statements under the Securities Act and reflects recent changes adopted in the Plain English Release, supra note 20, at 6381 (amending Item 101(e)(2) of Regulation S - K under the Securities Act (17 CFR 229.101(e)(2))).

-[188]- Item 1(b). The Commission proposed to require disclosure in a fund�s discussion of risk in the prospectus risk/return summary that additional information about a fund�s investments is available in the fund�s shareholder reports. In response to commenters� suggestions, the Commission is requiring that this disclosure be made on the back cover page of a fund�s prospectus together with other references to the availability of additional information about the fund. Item 1(b)(1). See supra Section II.A.1.

-[189]- Instruction 3 to Item 1(b)(1). The Commission�s Office of Compliance Inspections and Examinations will, as a part of its routine periodic inspections of a fund�s operations, examine the fund's compliance with the 3 - business day mailing requirement. Failure to comply with the requirement could result in action by the Commission to ensure compliance, including an enforcement action in an appropriate case.

-[190]- Instruction 2 to Item 1(b)(1).

-[191]- To enable the Commission�s staff to respond efficiently to investor inquiries, the Proposed Amendments would require a fund to disclose the fund�s name, Commission file number and, if the fund is a series of a registrant, the registrant�s name on the back cover page. Some commenters maintained that the information presented in meeting this requirement could be confusing to investors and is not relevant to a typical investor in considering whether to invest in a fund. The Commission is modifying the requirement so that a fund will only need to disclose its Commission file number in small print ( e.g. , 8 - point modern type) at the bottom of the back cover page of its prospectus. Item 1(b)(4).

-[192]- Form N - 1A, as amended, does not require the filing of (i) model retirement plans that are used to offer fund shares; (ii) schedules showing the calculation of performance information; and (iii) voting trust agreements. One commenter suggested additional changes to the Part C requirements, asserting that much of the information in this part of the registration statement does not serve any important purpose and imposes administrative burdens on funds. The commenter recommended, among other things, that the Commission no longer require a fund to include a table showing the number of holders of each class of a fund�s shares in its registration statement. In support of its recommendation, the commenter pointed out that this information is required to be filed by funds on their Forms N - SAR. The Commission is persuaded by this argument and has amended Form N - 1A to delete the requirement that a fund�s registration statement include a table of holders of fund shares.

-[193]- See General Instruction A.

-[194]- See Form N - 1A Proposing Release, supra note 8, at 10918.

-[195]- The Commission is deleting other i nstructions to the current Form N - 1A, which permit information to be added to the prospectus and SAI. See, e.g. , Item 1(b) of the current Form N - 1A (permitting other information to be included on the cover page of the prospectus). In struction C of Form N - 1A , as amended, provides this guidance for purposes of all fund disclosure. The Commission also is deleting specific Instructions in current Part A that call for brief and concise prospectus disclosure, because Instruction C includes this requirement for purposes of all prospectus disclosure.

-[196]- General Instruction C.1(e).

-[197]- Items 1(a) (Front Cover Page), 1(b) (Back Cover Page), 2 (Risk/Return Summary: Investments, Risks, and Performance), and 3 (Risk/Return Summary: Fee Table).

-[198]- See infra Section II.H for a discussion of the effective and compliance dates for Form N - 1A , as amended. The compliance date for investment companies other than funds is October 1, 1998. See Plain English Release, supra note 20, at 6370. Unit investment trusts and closed - end investment companies must comply with the plain English rule only for new registration statements. Variable annuity issuers filing on Forms N - 3 and N - 4, and variable life insurance issuers filing on Forms N - 8B - 2 and S - 6 must comply with rule 421(d) for new and updated registration statements. The Commission also has proposed new Form N - 6 for variable life insurance issuers that incorporates the Commission�s plain English requirements. Investment Company Act Release No. 23066 (Mar. 13, 1998).

-[199]- General Instruction C.3(c). A fund, for example, may decide that using a horizontal rather than vertical presentation for the fee table would present the required fee information most effectively. A fund may find that using different formats in its prospectus risk/return summary would communicate the required information effectively. Depending on the number and type of funds offered in the prospectus, for example, a fund may find it useful to group the required information for all funds together under each caption or to present the information sequentially for each fund. See John Hancock Funds, Inc. (pub. avail. June 28, 1996) (using a two - page disclosure format for each of 7 funds offered in a single prospectus).

-[200]- In addition to plans under rule 401(k) of the Internal Revenue Code (26 U.S.C. 401(k)), these plans include those under section 403(b) (26 U.S.C. 403(b)) (available to employees of certain tax - exempt organizations and public educational systems) and section 457 (26 U.S.C. 457) (available to employees of state and local governments and other tax�exempt employers).

-[201]- General Instruction C.3(d).

-[202]- 1983 Form N - 1A Adopting Release, supra note 12 , at 37930.

-[203]- Id . See White v. Melton , 757 F. Supp. 267 (S.D.N.Y. 1991) (citing the 1983 Form N - 1A Adopting Release, supra note 12, as authority for the principle that certain matters are required to appear in the prospectus and that others may be appropriately disclosed in the SAI, which may be incorporated by reference into the prospectus).

-[204]- See Form N - 1A Proposing Release, supra note 8, at 10920 (citing the 1982 Form N - 1A Proposing Release as suggesting that prohibiting incorporation by reference of the SAI into the prospectus or, alternatively, requiring delivery of the SAI with the prospectus, would "vitiate the Commission's attempt to provide shorter, simpler prospectuses").

-[205]- General Instruction D, as adopted, includes technical revisions to simplify its requirements. The specific instruction regarding incorporation by reference of condensed financial information from reports to shareholders in existing General Instruction E has been incorporated in Item 9 of Form N - 1A, as amended (financial highlights table). The existing instruction allowing incorporation of financial information in response to Item 23 of Form N - 1A from reports to shareholders has been deleted as unnecessary because the Form does not limit incorporation of information into the SAI. The requirement that a shareholder report incorporated by reference into the SAI be delivered with the SAI has been added in Item 10(a)(iv).

-[206]- 15 U.S.C. 77q(a).

-[207]- 15 U.S.C. 80a - 38(c).

-[208]- See 1983 Form N - 1A Adopting Release, supra note 12 , at 37930.

-[209]- 1983 Form N - 1A Adopting Release, supra note 12, at 37938 (stating that publication of the Guides was not intended to elevate their status beyond that of staff guidance). The Commission initially adopted guidelines in 1972 to assist funds in preparing and filing registration statements. Investment Company Act Release Nos. 7220, 7221 (June 9, 1972) (37 FR 12790) ("Guides Releases").

-[210]- See 1993 GCL and 1994 GCL, supra note 25 .

-[211]- See, e.g. , Guide 9 (Short Sales) (a new interpretive position of the Commission�s staff as to limits under the Investment Company Act on short sales entered into by funds was set out in Robertson Stephens Investment Trust (pub. avail. Aug. 24, 1995)); Guide 30 (Tax Consequences) (each series is now treated as a separate entity for tax purposes and may not, as suggested by the Guide, offset gains of one series against losses of another); 1990 GCL, supra note 25, at I.B (undertakings); 1991 GCL, supra note 25, at II.A.2 (country, international, and global funds); and 1992 GCL, supra note 25, at II.F (segregated accounts).

-[212]- See, e.g. , Guides 8 (Senior Securities, Reverse Repurchase Agreements, Firm Commitment Agreements and Standby Commitment Agreements), 9 (Short Sales), 15 (Qualification for Treatment Under Subchapter M of the Internal Revenue Code), and 28 (Valuation of Securities Being Offered); 1994 GCL, supra note 25, at III.C (redemption fees); and 1995 GCL, supra note 25, at II.A (MDFP disclosure).

-[213]- See supra Section II.A.3.

-[214]- The Guides have not been republished with Form N - 1A, as amended. Neither the Guides nor the GCLs will apply to registration statements prepared on the amended Form. The Commission also is rescinding the Guides Releases, supra note 209.

-[215]- The Registration Guide will address topics discussed in the GCLs relating to closed - end investment companies and unit investment trusts, and other matters not relevant to Form N - 1A ( e.g. , proxy disclosure). Information traditionally addressed in the GCLs will be considered when the Registration Guide is updated, unless the nature of the information warrants immediate dissemination. The Registration Guide will serve as a "small entity compliance guide," which the Commission is required to publish under the Small Business Regulatory Enforcement Fairness Act (5 U.S.C.S. 601 note (Supp. July 1996)).

-[216]- SEC, Report of the Task Force on Disclosure Simplification (1996).

-[217]- The Commission is amending rules 495 and 497 (17 CFR 230.495 and .497) to eliminate their cross - reference sheet requirements. The Commission also is amending rule 8b - 11(17 CFR 270. 8b - 11) to modify signature requirements to provide more flexibility for issuers filing on paper. The Commission adopted amendments to rule 481, which is applicable to funds, in the Plain English Release, supra note 20.

-[218]- See amendments to rules 483, 485, 304, 14a - 101 (17 CFR 230.483, .485, 232.304, 240.14a - 101) and Form N - 14 (referenced in 17 CFR 239.23).

-[219]- Several commenters referred to this aspect of staff disclosure interpretations as resulting in "disclosure creep." According to these commenters, the disclosure that proved problematic typically related to complex instruments in which some funds invested such as options, futures, and junk bonds. The commenters said that, in response to difficulties experienced by funds investing in these instruments, the staff often required all funds holding these instruments to amend their prospectuses to add lengthy and overly technical discussions of the instruments.

-[220]- See Levitt Article, supra note 5, at 37 ("We recognize that we share responsibility for the state of the modern prospectus. Our passion for full disclosure has resulted in fact - bloated reports, and prospectuses that are more redundant than revealing.").

-[221]- The Commission has also generally instructed the staff to avoid as much as possible using disclosure requirements as a means of regulating the conduct of funds, which are subject to extensive substantive regulation under the Investment Company Act.

-[222]- See, e.g. , Levitt Article, supra note 5 (discussing various Commission initiatives to work with mutual funds and other corporate issuers to improve prospectus disclosure); Connors, Mutual Fund Prospectus Simplification: The Time Has Come , The Investment Lawyer , Vol. 3, No. 8, Aug. 1997, at 14 (describing the Commission�s role in the development of the simplified John Hancock prospectus).

-[223]- See, e.g. , Dow Jones Newswires, State Street Rewrites Prospectuses to Help Ease Investors� Task , The Wall Street Journal , Nov. 14, 1997, at 1B (commenting on State Street�s new plain English prospectus); Kelley, John Hancock Builds a Better Mousetrap , Morningstar Mutual Funds , Sept. 13, 1996, at 52 (commenting on the improvements in John Hancock�s new prospectus); McTague, Simply Beautiful: Shorn of Legalese, Even Prospectuses Make Sense , Barron�s , Oct. 7, 1996, at F10 (concerning the recent efforts of the John Hancock funds and other fund groups to simplify their prospectuses); Morcau, Prospectuses are Getting Easier to Read , Investor�s Business Daily, Dec. 15, 1997, at B1 (noting improvements in the prospectuses from Vanguard, State Street, Dreyfus, and other fund groups); Williamson, State Street Launches Redesigned Prospectus , Pensions & Investments, Dec. 8, 1997, at 36 (commenting on State Street�s simplified and redesigned prospectus); Zweig, Our 1997 Mutual Fund Awards: Picks, Pans and Some Tips Too , Money , Vol. 26, No. 13, 1997, at 35 (commending USAA and State Street for producing prospectuses in clear, simple English).

-[224]- See John Hancock Funds, Inc., supra note 199; see also 1997 Profile Letter, 1996 Profile Letter, and 1995 Profile Letter, supra note 16; National Association for Variable Annuities (pub. avail. June 4, 1996); Fidelity Institutional Retirement Services Company, Inc. (pub. avail. Apr. 5, 1995).

-[225]- The Commission recognizes that, in interpreting these provisions, the staff will have to balance the goal of furthering the effective communication of information to investors with the goal of presenting prospectuses in formats designed to permit investors to compare the operations of one fund to those of other funds.

-[226]- See Form N - 1A Proposing Release, supra note 8, at 10916 - 17.

-[227]- See, e.g. , rule 2830( l )(1)(C) of the NASD Conduct Rules, supra note 37, at 4627 (prohibiting the offer, payment, or arrangement of "concessions" in connection with retail sales of investment company securities unless the arrangement is disclosed in the investment company�s prospectus). The NASD has proposed to eliminate the provision in Conduct Rule 2830 that necessitates prospectus disclosure concerning these non - cash arrangements. See Securities Exchange Act Release No. 38993 (Sept. 5, 1997) (62 FR 47080). Moreover, the NASD staff has assured the Commission�s staff that the NASD staff will reconsider the appropriateness of requiring prospectus disclosure concerning cash compensation, in light of the Commission�s Form N - 1A initiatives. Id . at 47086. In addition, the NASD has proposed to eliminate certain prospectus disclosure concerning the effects of asset - based sales charges. See supra note 169.

-[228]- The Commission also encourages the NASD to follow as much as possible the disclosure principles underlying the Form N - 1A in considering and proposing disclosure requirements under NASD rules that apply to fund advertisements.

-[229]- See Form N - 1A Proposing Release, supra note 8, at 10921.

-[230]- To simplify compliance with the revised prospectus disclosure requirements, the Commission is specifying the effective date as June 1, 1998.

-[231]- 15 U.S.C. 80a - 2(c). See also section 2(b) of the Investment Company Act. 15 U.S.C. 77b(b).

-[232]- Form N - 1A Proposing Release, supra note 8.

-[233]- 44 U.S.C. 3501, et seq.

Continue on to Part 2 (Form N-1A)

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