Investment Management
MAY 2004
Regulated Investment Companies May Treat Investments
in Repurchase Agreements as Government Securities for
Diversification Purposes
On May 6, 2004, the Internal Revenue Service issued
Rev. Proc. 2004-28, which describes the conditions
under which a regulated investment company (“RIC”)
can treat a position in a repurchase agreement
(“repo”) as a Government security for purposes of
the asset diversification requirements of section
851(b)(3) of the Internal Revenue Code. The revenue
procedure thus conforms the treatment under that
Code section to the ability of a diversified fund that
is registered under the Investment Company Act of
1940 to “look through” a repo counterparty to
underlying Government securities to determine the
fund’s compliance with the diversification
requirement of section 5(b)(1) of that act.
Following the SEC’s lead in adopting Rule 5b-3 in
2001 (which codified its look-through position), the
Service states in the revenue procedure that a RIC
that invests in a repo under which the counterparty’s
repurchase obligations are “collateralized fully” with
Government securities may treat its position in that
repo as a Government security for section 851(b)(3)
purposes, even if the RIC would not be treated as the
owner of the underlying securities for other federal
tax purposes. A repo is “collateralized fully” if (1) the
value of the securities collateralizing the repo is, and
remains throughout the entire repo term, at least
equal to the resale price provided for in the
agreement, (2) the RIC has perfected its security
interest in the collateral, (3) the collateral is
maintained in an account with the RIC’s custodian,
(4) the collateral consists entirely of Government
securities, cash items, and certain other qualifying
securities, and (5) on the counterparty’s insolvency,
the repo would qualify for an exclusion from an
automatic stay in bankruptcy.
The position taken in the revenue procedure does
not extend, however, to the characterization of repos
for purposes of the diversification requirements for
insurance company separate accounts (under Code
section 817) or real estate investment trusts. Nor
does the revenue procedure speak to the treatment of
the income from the repo (e.g., whether it can be
treated as interest on Government securities).
THEODORE L. PRESS
202.778.9025
tpress@kl.com
JOEL D. ALMQUIST
617.261.3104
jalmquist@kl.com
Kirkpatrick & Lockhart LLP
Kirkpatrick & Lockhart LLP maintains one of the leading investment management practices in the United States,
with more than 60 lawyers devoting all or a substantial portion of their practice to this area and its related
specialties. The American Lawyer Corporate Scorecard, published in April 2003, lists K&L as a primary legal
counsel to the investment companies, board members or advisory firms for 15 of the 25 largest mutual fund
complexes. No law firm was mentioned more frequently in the Scorecard.
We represent mutual funds, closed-end funds, insurance companies, broker-dealers, investment advisers, retirement
plans, banks and trust companies, hedge funds, offshore funds and other financial institutions. We also regularly
represent mutual fund distributors, independent directors of investment companies and service providers to the
investment management industry. In addition, we frequently serve as outside counsel to industry associations on a
variety of projects, including legislative and policy matters.
We work with clients in connection with the full range of investment company industry products and activities,
including all types of open-end and closed-end investment companies, funds of hedge funds, variable insurance
products, private and offshore investment funds and unit investment trusts. Our practice involves all aspects of
the investment company business.
We invite you to contact one of the members of the practice, listed below, for additional assistance. You may also
visit our website at www.kl.com for more information, or send general inquiries via email to
investmentmanagement@kl.com.
BOSTON
Michael S. Caccese
Philip J. Fina
Mark P. Goshko
Thomas Hickey III
Nicholas S. Hodge
George Zornada
617.261.3133
617.261.3156
617.261.3163
617.261.3208
617.261.3210
617.261.3231
mcaccese@kl.com
pfina@kl.com
mgoshko@kl.com
thickey@kl.com
nhodge@kl.com
gzornada@kl.com
LOS ANGELES
William P. Wade
310.552.5071
wwade@kl.com
NEW YORK
Philip L. Kirstein
Beth R. Kramer
Richard D. Marshall
Robert M. McLaughlin
Keith W. Miller
Loren Schechter
212.536.483
212.536.4024
212.536.3941
212.536.3924
212.536.4045
212.536.4008
pkirstein@kl.com
bkramer@kl.com
rmarshall@kl.com
rmclaughlin@kl.com
kmiller@kl.com
lschechter@kl.com
SAN FRANCISCO
Eilleen M. Clavere
Jonathan D. Joseph
David Mishel
Mark D. Perlow
Richard M. Phillips
415.249.1047
415.249.1012
415.249.1015
415.249.1070
415.249.1010
eclavere@kl.com
jjoseph@kl.com
dmishel@kl.com
mperlow@kl.com
rphillips@kl.com
WASHINGTON
Clifford J. Alexander
Diane E. Ambler
Mark C. Amorosi
Catherine S. Bardsley
Arthur J. Brown
Arthur C. Delibert
Jennifer R. Gonzalez
Robert C. Hacker
Benjamin J. Haskin
Kathy Kresch Ingber
Rebecca H. Laird
Cary J. Meer
R. Charles Miller
Dean E. Miller
R. Darrell Mounts
C. Dirk Peterson
David Pickle
Alan C. Porter
Theodore L. Press
202.778.9068
202.778.9886
202.778.9351
202.778.9289
202.778.9046
202.778.9042
202.778.9286
202.778.9016
202.778.9369
202.778.9015
202.778.9038
202.778.9107
202.778.9372
202.778.9371
202.778.9298
202.778.9324
202.778.9887
202.778.9186
202.778.9025
calexander@kl.com
dambler@kl.com
mamorosi@kl.com
cbardsley@kl.com
abrown@kl.com
adelibert@kl.com
jgonzalez@kl.com
rhacker@kl.com
bhaskin@kl.com
kingber@kl.com
rlaird@kl.com
cmeer@kl.com
cmiller@kl.com
dmiller@kl.com
dmounts@kl.com
dpeterson@kl.com
dpickle@kl.com
aporter@kl.com
tpress@kl.com
Robert H. Rosenblum
William A. Schmidt
Lori L. Schneider
Lynn A. Schweinfurth
Donald W. Smith
Martin D. Teckler
Robert A. Wittie
Robert J. Zutz
202.778.9464
202.778.9373
202.778.9305
202.778.9876
202.778.9079
202.778.9890
202.778.9066
202.778.9059
rrosenblum@kl.com
william.schmidt@kl.com
lschneider@kl.com
lschweinfurth@kl.com
dsmith@kl.com
mteckler@kl.com
rwittie@kl.com
rzutz@kl.com
Francine J. Rosenberger 202.778.9187 francine.rosenberger@kl.com
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should not be used or relied upon in regard to any particular facts or circumstances without first consulting a lawyer.
© 2004 KIRKPATRICK & LOCKHART LLP. ALL RIGHTS RESERVED.