Increasing Investor Opportunities Act
Floor Speech
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Mr. SHERMAN. Mr. Chair, I rise today in support of the Access to Small Business Investor Capital Act, Section 302 of H.R. 3383 the Increasing Investor Opportunities Act or the INVEST Act. Section 302 of the INVEST Act is identical to my bill H.R. 2225 the Access to Small Business Investor Capital Act, which passed the House of Representatives in June. I want to first thank Ranking Member Waters for her tireless work to protect investors as well as Chairman Hill and Chairwoman Wagner for including my bill in this larger capital markets package. I also want to thank Reps. Huizenga, Bynum, and Garbarino for joining me as co-leads on this important piece of legislation.
The bipartisan Access to Small Business Investor Capital Act makes a narrow technical correction to a federal securities rule that has had major unintended consequences over the last two decades.
In 1980, Congress created Business Development Companies (BDCs) to facilitate capital formation into small and medium-sized businesses. BDCs provide both investment capital and management assistance to growing businesses that are often underserved by traditional lending institutions. By law, BDCs must invest at least 70 percent of their assets in small and mid-sized domestic companies.
Over time, BDCs have filled a crucial gap in our economy by funding businesses in industries and geographies often overlooked by other financial institutions. BDCs are often the first institutional investors to step in. Despite this success, a 2006 SEC rule has inadvertently discouraged capital flows into BDCs, constraining their ability to serve small businesses. The rule--part of the SEC's Acquired Fund Fees and Expenses (AFFE) disclosure framework--requires mutual funds and other investment vehicles that invest in BDCs to disclose the management fees, expenses, and AFFE of the BDC itself.
This has the effect of double-counting BDC expenses, because BDC costs are already factored into their share price and returns. By adding them again as acquired fund fees, the SEC rule artificially inflates the expense ratios of funds holding BDCs.
The result is misleading: investors see a fund's expenses as higher than they actually are, simply because it invests in BDCs. This perception has led many fund managers to exclude BDCs from their portfolios, not because of performance, but because of distorted regulatory accounting.
The intent of the rule--to provide transparency--was well-meaning. But the execution, particularly when applied to BDCs, has proven counterproductive. Research by U.S. and international finance professors shows that after BDCs were removed from major U.S. stock indexes--a consequence of the AFFE rule--BDCs experienced 29 percent to 33 percent lower investment growth compared to peers. The effects were not limited to the financial sector: companies that relied on BDC capital saw lower job creation, with employment growth falling by 1.5 to 6.4 percentage points compared to pre-exclusion levels.
The rule also fails to recognize the unique structure and mission of BDCs. Unlike passive funds, BDCs are actively managed and intentionally incur higher costs to provide tailored investment and advisory services to small businesses. This model creates long-term value, but the AFFE rule unfairly penalizes it. This is similar to the model of a REIT or bank, which the SEC AFFE rule excluded.
If the SEC had the benefit of hindsight--of knowing the capital formation and job creation losses that followed this rule--it's likely that BDCs would have been carved out of the AFFE framework from the start similar to REITs and banks. That is why Congress must act now to reverse this unintended consequence.
Section 302, the Access to Small Business Investor Capital Act fixes this by allowing funds to omit a BDC's ``acquired fund fees and expenses'' from disclosures while still maintaining transparency around the BDC's management fees and costs. This restores fairness in the treatment of BDCs, aligns regulatory disclosures with economic reality, and gives investors a clear view of true costs.
Importantly, it does so without rolling back investor protections or weakening existing SEC oversight.
This bipartisan legislation will open the door for more investment in BDCs, thereby unlocking more capital for small and mid-sized businesses across the country. The most important thing that our financial institutions and capital markets do is provide capital for businesses, particularly small, medium-sized, and growing enterprises.
Business Development Companies play a vital role in meeting this need, and I'm proud to work with a bipartisan group of Members to remove an outdated and unnecessary regulatory barrier.
Finally, the Access to Small Business Investor Capital Act seeks to resolve the AFFE issue with BDCs being removed from indices by eliminating the double counting of fees and, consistent with this intent, it is expected that comparable 1940 Act funds--such as interval and tender-offer funds--would also receive identical AFFE treatment.
The Access to Small Business Investor Capital Act passed the Financial Services Committee and this House once before, and I am glad that it was included in the INVEST Act.
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