Fund Formation Basics for Emerging Managers

A private fund avoids registering as an investment company by relying on Section 3(c)(1), limited to 100 beneficial owners (250 for a qualifying venture capital fund of up to $12 million), or Section 3(c)(7), limited to qualified purchasers ^[1][2][3]. Its adviser may avoid SEC registration as an adviser solely to venture capital funds or as a private fund adviser with under $150 million in U.S. private fund assets, but must then file Form ADV as an exempt reporting adviser within 60 days ^{[6][8][9][10]}. Fund interests themselves are usually sold under Regulation D, mostly Rule 506(b) ^[12].

Three layers of regulation

Raising a fund means clearing three separate questions: how the fund interests are offered (a Securities Act question), whether the fund itself must register as an investment company (an Investment Company Act question), and whether the manager must register as an investment adviser (an Advisers Act question). On the first, pooled funds overwhelmingly use Regulation D: SEC staff estimate they raised about $1.9 trillion under Rule 506(b) and $100 billion under Rule 506(c) in the year to June 30, 2025 ^[12]. The accredited investor rules from lesson 2 therefore apply to most fund raises, and the fund is subject to Form D and bad-actor rules like any other Rule 506 issuer.

Under the Advisers Act, a 'private fund' is an issuer that would be an investment company but for Section 3(c)(1) or 3(c)(7) of the Investment Company Act ^[5]. SEC staff note the term generally includes funds commonly known as hedge funds and private equity funds ^[11]. VC funds are typically structured to last at least ten years, investing in the first few years and then monitoring and exiting, with returns flowing to their limited partners ^[14].

Section 3(c)(1): the 100-owner fund

Section 3(c)(1) excludes from the definition of investment company any issuer whose securities are beneficially owned by not more than 100 persons, or 250 persons for a qualifying venture capital fund, and that is not making and does not propose a public offering ^[1]. A company that invests in the fund normally counts as one owner, but if it owns 10% or more of the fund's voting securities and it is, or but for Section 3(c)(1) or 3(c)(7) would be, an investment company, its own holders are counted instead ^[1]. A qualifying venture capital fund is a venture capital fund with no more than a set amount of capital contributions and uncalled committed capital; the statute began at $10 million with inflation indexing every five years, and the SEC's Rule 3c-7 now sets $12 million, subject to a further order after November 1, 2029 ^[1][3].

Section 3(c)(7): the qualified-purchaser fund

Section 3(c)(7) excludes any issuer whose securities are owned exclusively by persons who were qualified purchasers when they acquired them and that is not making a public offering ^[1]. A qualified purchaser includes a natural person who owns at least $5 million in investments; a family-owned company with at least $5 million in investments; certain trusts; and any person acting for its own account or for other qualified purchasers that owns and invests on a discretionary basis at least $25 million in investments ^[2]. Securities held by knowledgeable employees are excluded when counting a 3(c)(1) fund's owners and when testing whether a 3(c)(7) fund is owned exclusively by qualified purchasers ^[4]. Knowledgeable employees are also accredited investors for investments in the fund ^[13].

Both exclusions treat some involuntary transfers generously. For a 3(c)(1) fund, an interest acquired through legal separation, divorce, death or another involuntary event is attributed to the person who transferred it, so it does not add a new owner ^[1]. For a 3(c)(7) fund, interests received from a qualified purchaser by gift or bequest, or through divorce, death or another involuntary event, are deemed owned by a qualified purchaser ^[1].

The adviser: registration or exemption

Section 203(l) of the Advisers Act exempts an adviser that advises solely one or more venture capital funds from registration ^[6]. Under Rule 203(l)-1, a venture capital fund represents to investors that it pursues a venture capital strategy, holds no more than 20% of its committed capital in non-qualifying investments, does not borrow or guarantee more than 15% of committed capital or for more than 120 days, generally gives investors no redemption rights, and is not a registered fund or business development company ^[7]. Section 203(m) and Rule 203(m)-1 separately exempt a U.S. adviser that acts solely as an adviser to qualifying private funds and manages private fund assets of less than $150 million ^[6][8]. SEC staff describe these as the narrower exemptions the Dodd-Frank Act put in place of the old 'private adviser' exemption ^[11].

Exempt is not the same as invisible. An adviser relying on Section 203(l) or 203(m) is an exempt reporting adviser and must file reports on Form ADV electronically through the IARD system, paying a filing fee ^[9]. The Form ADV instructions require the initial filing within 60 days of relying on the exemption and an annual updating amendment within 90 days after fiscal year-end, and an exempt reporting adviser not registering with any state completes only Items 1, 2, 3, 6, 7, 10 and 11 of Part 1A ^[10]. The instructions also contemplate reporting to state securities authorities as an exempt reporting adviser, so state rules must be checked separately ^[10]. Exempt reporting advisers are themselves accredited investors ^[13]. Growth changes the picture: SEC-registered advisers with at least $150 million in private fund assets also file Form PF, most of them annually, reporting each fund's size, leverage, liquidity and investor types on a non-public basis ^[11].

Worked example: a first-time $40 million venture fund

A first-time manager plans a $40 million early-stage fund and expects about 130 investors, mostly accredited individuals. At $40 million the fund is far above the $12 million ceiling for a qualifying venture capital fund, so a 3(c)(1) structure would cap it at 100 beneficial owners ^[1][3]. The manager can cut the investor list to 100 (raising minimum commitments, or excluding knowledgeable employees from the count), or use a 3(c)(7) structure if every investor is a qualified purchaser, which generally means at least $5 million in investments for an individual and $25 million for an institution investing on a discretionary basis ^[2][4]. If the fund's investment program meets the Rule 203(l)-1 tests, the manager can rely on the venture capital adviser exemption, which the statute does not limit by fund size; otherwise, with $40 million it could still rely on the private fund adviser exemption below $150 million ^[6][7][8]. Either way, it files Form ADV as an exempt reporting adviser within 60 days ^[10].

Key terms

Private fund

An issuer that would be an investment company but for Section 3(c)(1) or 3(c)(7) of the Investment Company Act.

Section 3(c)(1)

The exclusion for funds with no more than 100 beneficial owners (250 for a qualifying venture capital fund) and no public offering.

Qualifying venture capital fund

A venture capital fund with no more than $12 million (as currently indexed) of capital contributions and uncalled commitments; may have up to 250 owners.

Section 3(c)(7)

The exclusion for funds owned exclusively by qualified purchasers, with no public offering.

Qualified purchaser

Generally an individual with at least $5 million in investments, or an institution investing at least $25 million on a discretionary basis.

Venture capital fund (Rule 203(l)-1)

A fund that pursues a venture strategy, limits non-qualifying investments to 20% and leverage to 15% for 120 days, and generally offers no redemptions.

Exempt reporting adviser

An adviser relying on the venture capital or private fund adviser exemption; it does not register but files parts of Form ADV.

Form ADV

The adviser registration and reporting form filed through the IARD system.

Check your understanding

Sources

1. [1]Legal Information Institute, Cornell Law School, “15 U.S. Code § 80a-3 - Definition of investment company,” Accessed November 2026.
2. [2]Legal Information Institute, Cornell Law School, “15 U.S. Code § 80a-2 - Definitions; applicability; rulemaking considerations,” Accessed November 2026.
3. [3]Electronic Code of Federal Regulations (eCFR), “17 CFR 270.3c-7 -- Inflation-adjusted definition of qualifying venture capital fund.,” Accessed November 2026.
4. [4]Electronic Code of Federal Regulations (eCFR), “17 CFR 270.3c-5 -- Beneficial ownership by knowledgeable employees and certain other persons.,” Accessed November 2026.
5. [5]Legal Information Institute, Cornell Law School, “15 U.S. Code § 80b-2 - Definitions,” Accessed November 2026.
6. [6]Legal Information Institute, Cornell Law School, “15 U.S. Code § 80b-3 - Registration of investment advisers,” Accessed November 2026.
7. [7]Electronic Code of Federal Regulations (eCFR), “17 CFR 275.203(l)-1 -- Venture capital fund defined.,” Accessed November 2026.
8. [8]Electronic Code of Federal Regulations (eCFR), “17 CFR 275.203(m)-1 -- Private fund adviser exemption.,” Accessed November 2026.
9. [9]Electronic Code of Federal Regulations (eCFR), “17 CFR 275.204-4 -- Reporting by exempt reporting advisers.,” Accessed November 2026.
10. [10]U.S. Securities and Exchange Commission, “Form ADV: General Instructions (SEC 1707),” July 2024 revision (accessed November 2026).
11. [11]U.S. Securities and Exchange Commission, Division of Investment Management, “Private Fund Adviser Overview,” October 11, 2017 (last reviewed July 3, 2018).
12. [12]U.S. Securities and Exchange Commission, “Staff Report from the Office of the Advocate for Small Business Capital Formation: Fiscal Year 2025,” January 8, 2026.
13. [13]Electronic Code of Federal Regulations (eCFR), “17 CFR 230.501 -- Definitions and terms used in Regulation D.,” Accessed November 2026.
14. [14]U.S. Securities and Exchange Commission, Capital-Raising Building Blocks, “Early-Stage Investors,” June 12, 2024 (last reviewed April 24, 2026).

Educational content only — not legal, tax, or investment advice, or an offer to sell or a solicitation of an offer to buy any security. Rules and data are described as of November 2026 and may change. Securities offered through Umergence LLC, Member FINRA/SIPC.