The New Rules for Money Market Funds

In July, the Securities and Exchange Commission (SEC) adopted amendments to rules governing money market mutual funds. These require a “floating” net asset value (NAV) for some funds, and implement liquidity fees and temporarily suspend redemptions during periods of liquidity stress. The rule amendments build on changes made by the SEC in March 2010 in response to money market liquidity issues during the 2008 financial crisis, such as the risk of investor “runs” on funds. Investors, including 401(k) and other retirement plans, will need to evaluate their money market fund investments as these changes become effective. Here is an overview for plan advisers.

Key definitions. Two new definitions are important for understanding the amended rules.

• A “governmental” money market fund invests at least 99.5% of assets in Treasurys and other securities backed by the full faith and credit of the U.S. government. Although most governmental money market funds already invest consistently with this standard, current rules would permit a fund to call itself a governmental fund even if up to 20% of assets are nongovernmental assets. “Nongovernmental” money market funds include “prime” funds that invest primarily in corporate debt securities and also municipal and tax-exempt funds that invest in municipal bonds and other tax-exempt securities.
• A “retail” money market fund must have policies and procedures designed to limit all beneficial owners to individuals. 401(k) and other defined contribution (DC) plans and individual retirement accounts (IRAs) are treated as beneficially owned by individuals and permitted to participate in retail money market fund rules. Defined benefit (DB) plans generally will not be treated as retail investors.

Floating NAV. Since 1983, SEC rules have allowed money market funds to use an amortized cost method of valuing portfolio securities and a “penny rounding” method of pricing, which has permitted money market funds to sell and redeem shares at a stable share price—i.e., $1. The amended rules require nongovernmental institutional money market funds to redeem and sell shares that use a floating NAV, which means their daily share price will fluctuate with changes in the market value of portfolio assets. Governmental and retail money market funds may continue to maintain a stable share price.

Liquidity fees and redemption gates. The amended rules allow—and in some situations require—nongovernmental money market funds, including retail funds, to: impose a fee on redemptions, also known as a liquidity fee, of up to 2% and to temporarily suspend, or “gate,” redemptions for up to 10 days if weekly liquid assets fall below certain thresholds. Government funds are not automatically subject to the liquidity-fee and redemption-gate rules but may use these measures after disclosure to investors.

Other changes. The rule amendments include changes to update reporting requirements and to enhance disclosure, diversification and stress-testing requirements for money market funds. Among other things, money market funds will be required to disclose, on a website, levels of daily and weekly liquid assets. These rules go into effect over the next six to nine months.

What to expect. Expect changes to money market funds—and potential disruptions—as funds reorganize and adopt new policies and procedures to comply with the August 2016 effective date for the floating NAV, liquidity fees and redemption gates. Plan advisers may expect to assist plans in evaluating whether to continue a current money market fund investment or make a change. Here are some considerations.

• A single money market fund will no longer be able to offer separate share classes to retail and institutional investors, and funds that currently do so must reorganize. Funds that seek to qualify as retail may force redemptions by investors not eligible to invest in a retail money market fund, such as defined benefit plans.
• Funds that put in place policies and procedures to comply with the new rules will likely modify contracts with plan recordkeepers and other intermediaries to obtain certifications of investor status, as well as implement redemption fees and liquidity gates. Expect communications from recordkeepers as new policies and procedures are added.

Some predict that investors may move from prime money market funds to governmental funds, which are exempt from the floating NAV rule and not required to impose liquidity fees and redemption gates. If so, capacity restraints on governmental money market funds are possible.

Roberta Ufford, a principal of Groom Law Group, has spent more than 20 years advising plans, sponsors and plan service providers, including advisers, on fiduciary responsibility issues under ERISA and related laws applying to ERISA-covered and governmental retirement and other plans. She is recognized by The Legal 500 guide for her excellence in the employee benefits and executive compensation field and often speaks before industry groups on fiduciary matters. She is a graduate of the George Washington University School of Law, having served five years as a military intelligence officer in the U.S. Army before attending law school.