[Federal Register Volume 61, Number 244 (Wednesday, December 18, 1996)]
[Proposed Rules]
[Pages 66621-66637]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-31783]


=======================================================================
-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 230, 239, 270 and 274

[Release Nos. 33-7371, IC-22383, S7-29-96]
RIN 3235-AE17


Technical Revisions to the Rules and Forms Regulating Money 
Market Funds

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rules.

-----------------------------------------------------------------------

SUMMARY: The Commission is publishing for public comment proposed 
amendments to rules and forms under the Securities Act of 1933 and the 
Investment Company Act of 1940 that govern money market funds. Proposed 
technical amendments to rule 2a-7 under the Investment Company Act of 
1940, the rule regulating money market funds, would, among other 
things, revise terminology used in the rule to reflect common market 
usage, and codify a number of interpretive positions taken by the staff 
of the Division of Investment Management. Proposed amendments to the 
advertising rules applicable to money market funds would clarify the 
formula used by money market funds to calculate yield and would prevent 
investors from being confused or misled by presentation of a money 
market fund's short-term total return in lieu of its yield.

DATES: Comments must be received on or before January 24, 1997.

ADDRESSES: Comments should be submitted in triplicate to Jonathan G. 
Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street, 
NW., Stop 6-9, Washington, DC 20549. Comments also may be submitted 
electronically at the following E-mail address: [email protected]. 
All comment letters should refer to File No. S7-29-96; this file number 
should be included on the subject line if E-mail is used. Comment 
letters will be available for public inspection and copying in the 
Commission's Public Reference Room, 450 Fifth Street, NW., Washington, 
DC 20549. Electronically submitted comment letters will also be posted 
on the Commission's Internet web site (http://www.sec.gov).

FOR FURTHER INFORMATION CONTACT: Marjorie S. Riegel, Senior Counsel, 
Office of Chief Counsel, at (202) 942-0660, Division of Investment 
Management, Stop 10-6, 450 Fifth Street, NW., Washington, DC 20549.

SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission 
(``Commission'') today is proposing for comment technical amendments to 
rule 2a-7 [17 CFR 2a-7] (``rule 2a-7'' or the ``rule'') under the 
Investment Company Act of 1940 [15 U.S.C. 80a-1, et seq.] (``1940 
Act'') and conforming amendments to rules 2a41-1, 12d3-1 and 31a-1 
under the 1940 Act [17 CFR 270.2a41-1, 270.12d3-1 and 270.31a-1]. The 
Commission also is proposing amendments to rule 482 [17 CFR 230.482] 
under the Securities Act of 1933 [15 U.S.C. 77a, et seq.] (``1933 
Act''); and Forms N-1A [17 CFR 239.15A and 274.11A], N-3 [17 CFR 
239.17a and 274.11b] and N-4 [17 CFR 239.17b and 274.11c].

I. Proposed Technical Amendments to Rule 2a-7

A. Background

    On March 21, 1996, the Commission adopted amendments to rule 2a-7 
that revised the rule to tighten the risk-limiting conditions imposed 
on tax exempt money funds and to address the treatment under the rule 
of certain instruments, such as asset backed securities (``March 
Amendments'').1 Industry participants 2 have raised a number 
of questions concerning the application of the March Amendments in 
different contexts subsequent to their adoption. To respond to many of 
these questions, the Division of Investment Management published an 
interpretive letter (``Q&A Letter'').3 The technical amendments 
proposed for public comment today would: (1) codify a number of 
interpretive positions taken by the staff in the Q&A Letter; (2) revise 
terminology used in the rule to reflect common market usage; (3) modify 
certain of the March Amendments so that the treatment accorded certain 
instruments (e.g., guarantees) by the rule more closely reflects the 
treatment accorded to those instruments by the financial markets; and 
(4) make certain other technical corrections.4
---------------------------------------------------------------------------

    \1\ Revisions to Rules Regulating Money Market Funds, Investment 
Company Act Release No. 21837 (March 21, 1996) [61 FR 13956 (March 
28, 1996)] (``Release 21837''). Unless otherwise noted, all 
references to rule 2a-7, or to any paragraph of the rule, will be to 
the applicable paragraph of 17 CFR 270.2a-7, as amended by Release 
21837. When a paragraph is renumbered in the rule as it is proposed 
to be amended, citations will be given both to rule 2a-7, ``as 
proposed to be amended,'' and to the rule as amended by Release 
21837.
    \2\ In this Release, the term ``industry participants'' refers 
to those representatives of money market funds, investment advisers, 
law firms, issuers and underwriters of securities, and professional 
and trade associations that informally have sought advice from the 
staff concerning the application of the March Amendments, raised 
interpretive questions, or suggested changes to the rule.
    \3\ Investment Company Institute (pub. avail. May 9, 1996).
    \4\ The Commission has suspended the compliance date for certain 
of the March Amendments. See Revisions to the Rules Regulating Money 
Market Funds, Investment Company Act Release No. 22135 (Aug. 13, 
1996) [61 FR 42786 (Aug. 19, 1996)] (``Compliance Date Release''), 
and Section III of this Release, which requests comment on a new 
compliance date.
---------------------------------------------------------------------------

B. Discussion

1. Guarantees
a. Definition of ``Guarantee''
    Many money market instruments are subject to guarantees and other 
forms of unconditional credit support that, among other things, provide 
the requisite credit quality to make an instrument eligible for 
investment under

[[Page 66622]]

rule 2a-7. Rule 2a-7 characterizes certain of these arrangements as 
``puts'' 5 and ``unconditional puts.'' 6 This aspect of the 
definition has caused some confusion among industry participants. The 
Commission is, therefore, proposing to revise the rule's terminology by 
replacing references to ``put'' and ``unconditional put'' with a new 
term ``guarantee'' that would include a wide-range of arrangements 
designed to unconditionally support the credit of the issuer of a 
security.7 In addition, the Commission would amend the credit 
quality and diversification provisions of the rule to incorporate the 
proposed term, as discussed below. Comment is requested on the proposed 
definition of the term ``guarantee.''
---------------------------------------------------------------------------

    \5\ Paragraph (a)(16) of rule 2a-7 defines the term ``put'' to 
mean the right to sell a specified underlying security within a 
specified period of time and at a specified exercise price that may 
be sold, transferred, or assigned only with the underlying security.
    \6\ Paragraph (a)(27) of rule 2a-7 defines the term 
``unconditional put'' to mean a put (including any guarantee, 
financial guarantee (bond) insurance, letter of credit or similar 
unconditional credit enhancement) that by its terms would be readily 
exercisable in the event of default in payment of principal or 
interest on the underlying security or securities.
    \7\ Paragraph (a)(14) of rule 2a-7, as proposed to be amended. 
The term ``guarantee'' would be defined to include an unconditional 
obligation of a person other than the issuer of the security to 
undertake to pay, upon presentment by the holder of the guarantee 
(if required), principal plus accrued interest when due upon 
default. This definition is for purposes of rule 2a-7 only, and is 
not intended to have any effect on the status of these investments 
under other provisions of the 1940 Act or under the other federal 
securities laws.
---------------------------------------------------------------------------

b. Credit Substitution
    One type of guarantee to which rule 2a-7 specifically refers is an 
``unconditional demand feature.'' 8 Rule 2a-7 permits a fund to 
rely on the credit quality of the issuer of an unconditional demand 
feature in determining the credit quality of the security.9 
Recognizing that a money market fund relies on the credit quality of 
the issuer of the unconditional demand feature rather than the issuer 
of the security subject to the demand feature in determining whether to 
invest in the security, the March Amendments permit a fund to exclude 
securities subject to an unconditional demand feature from the rule's 
issuer diversification standards if the demand feature is issued by a 
``non-controlled person.'' 10 Because of the significance of 
demand features to a fund, the March Amendments provide that a demand 
feature is not eligible for fund investment unless (i) the demand 
feature (or provider of the demand feature) is rated by an NRSRO 
(``Rating Requirement''); 11 and (ii) arrangements are in place 
for a fund holding a security subject to a demand feature to be given 
notice in the event of a change in the identity of the issuer of the 
demand feature (``Notification Requirement'').12
---------------------------------------------------------------------------

    \8\ Paragraph (a)(7) of rule 2a-7 defines the term ``demand 
feature'' to mean (i) a put that may be exercisable either: (A) at 
any time on no more than 30 calendar days' notice; or (B) at 
specified intervals not exceeding 397 calendar days and upon no more 
than 30 calendar days' notice; or (ii) a feature permitting the 
holder of an asset backed security unconditionally to receive 
principal and interest within thirteen months of making demand. An 
unconditional demand feature is a demand feature that by its terms 
would be readily exercisable in the event of a default in payment of 
principal or interest on the underlying security or securities. See 
paragraphs (a)(25) and (a)(27) of rule 2a-7 (definitions of 
``unconditional demand feature'' and ``unconditional put'').
    \9\ Paragraph (c)(3)(ii) of rule 2a-7. This provision was added 
to the rule in 1986. See Acquisition and Valuation of Certain 
Portfolio Instruments by Registered Investment Companies, Investment 
Company Act Release No. 14983 (March 12, 1986) [51 FR 9773 (March 
21, 1986)].
    \10\ Paragraphs (c)(4)(i), (c)(4)(ii) and (c)(4)(iv) of rule 2a-
7. The term ``unconditional demand feature issued by a non-
controlled person'' is defined in paragraph (a)(26) of rule 2a-7.
    \11\ Paragraph (a)(9)(iii)(D)(1) of rule 2a-7.
    \12\ Paragraph (a)(9)(iii)(D)(2) of rule 2a-7.
---------------------------------------------------------------------------

    Money market funds frequently invest in securities subject to 
financial guarantee (bond) insurance, letters of credit (``LOCs'') and 
other types of unconditional credit enhancements that may not fall 
within the definition of ``unconditional demand feature'' under the 
rule. As a result, for purposes of the rule, a fund holding securities 
subject to these types of unconditional credit enhancements may not be 
able to rely exclusively on the credit quality of the credit 
enhancement provider in determining the credit quality of the security, 
and may not exclude such securities from rule 2a-7's issuer 
diversification requirements. Industry participants have noted that the 
rule's treatment of securities subject to unconditional credit 
enhancements that do not fall within the definition of ``demand 
feature'' does not reflect the manner in which the financial markets 
treat these securities. Securities of this type typically trade on the 
basis of the credit quality of the provider of the credit enhancement.
    The Commission is proposing amendments to rule 2a-7 that would 
modify the rule's credit quality standards to permit a fund to rely 
solely on the credit quality of the issuer of a guarantee in 
determining the credit quality of the security.13 Accordingly, (i) 
the exclusion from the issuer diversification standards for securities 
subject to unconditional demand features from a non-controlled person 
would be expanded to include all securities subject to guarantees from 
a non-controlled person,14 (ii) the Rating Requirement would be 
extended to all guarantees (with certain exceptions),15 and (iii) 
the Notification Requirement would be extended to all guarantees for 
which substitution is permissible.16
---------------------------------------------------------------------------

    \13\ Paragraph (c)(3)(iii) of rule 2a-7, as proposed to be 
amended. Proposed amendments to the rule's credit quality provisions 
would reflect proposed amendments to other provisions of the rule by 
permitting a fund that holds a security that is subject to a 
guarantee and a conditional demand feature to substitute the rating 
of the guarantee for the rating of the underlying security. 
Paragraph (c)(3)(iv)(C) of rule 2a-7, as proposed to be amended. 
Consistent with the current rule, the fund would continue to be 
required to consider the rating of the conditional demand feature in 
evaluating the credit quality of the entire instrument. Paragraph 
(c)(3)(iv)(A) of rule 2a-7, as proposed to be amended.
    \14\ Paragraph (c)(4)(i) of rule 2a-7, as proposed to be 
amended. The term ``guarantee issued by a non-controlled person'' is 
defined in paragraph (a)(15) of rule 2a-7, as proposed to be 
amended.
    \15\ Paragraph (a)(10)(iii)(A) of rule 2a-7, as proposed to be 
amended. See, infra Section I.B.1.c. of this Release for a 
description of other proposed amendments to the Rating Requirement.
    \16\ Paragraph (a)(10)(iii)(B) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

c. Rating Requirement for Guarantees
    The March Amendments to rule 2a-7 limit a money market fund to 
investing in securities subject to demand features (whether conditional 
or unconditional) that have received a short-term rating from an 
NRSRO.17 The Commission explained that it believed that such a 
requirement would provide a degree of additional protection by ensuring 
input into the minimal credit risk determination from an outside 
source.18 Because most banks and other institutions issuing demand 
features are rated, the Commission concluded that obtaining a rating 
was not an unreasonable or a burdensome requirement for an institution 
that is in the business of lending its credit and would not 
significantly diminish the supply of available, high quality, eligible 
securities.
---------------------------------------------------------------------------

    \17\ See paragraph (a)(9)(iii)(D)(1) of rule 2a-7 (definition of 
``eligible security''). Securities subject to demand features issued 
on or before June 3, 1996 were ``grandfathered,'' and are not 
required to be rated. Release 21837, supra note 1 at Section V.B. 
The June 3 ``grandfathering date'' was suspended until the 
Commission adopts the technical amendments proposed for comment in 
this release. See Compliance Date Release, supra note 4.
    \18\ Release 21837, supra note 1, at Section II.C.2.a.
---------------------------------------------------------------------------

    As noted above, the Commission is proposing to extend the Rating 
Requirement to guarantees,19 and to modify this requirement in 
three other respects: 20
---------------------------------------------------------------------------

    \19\ See, supra Section I.B.1.b. of this Release.
    \20\ See paragraph (a)(10)(iii)(A) of rule 2a-7, as proposed to 
be amended.
---------------------------------------------------------------------------

     Conditional demand features would be exempted from the 
Rating

[[Page 66623]]

Requirement.21 Conditional demand features do not act as a 
complete credit substitute for the credit quality of the underlying 
security, and a fund should be able, with relative ease, to substitute 
a new provider of a conditional guarantee for an existing provider that 
is experiencing credit problems.
---------------------------------------------------------------------------

    \21\ The proposed definition of the term ``guarantee'' does not 
include conditional demand features. See paragraph (a)(14) of rule 
2a-7, as proposed to be amended.
---------------------------------------------------------------------------

     Any rating from an NRSRO (rather than only a short-term 
rating) would satisfy the Rating Requirement. A long-term rating would 
satisfy the primary objective of the Rating Requirement, which is to 
ensure input into the minimal credit risk determination by an outside 
source.22 In addition, the long-term rating assigned to a 
guarantee may be relevant to a fund in evaluating the ability of the 
guarantor to perform under the terms of the guarantee.23
---------------------------------------------------------------------------

    \22\ Release 21837, supra note 1, at Section II.C.2.a.
    \23\ For example, a rating representing the long-term 
creditworthiness of a guarantor may be significant to a fund holding 
a long-term security subject both to a conditional demand feature 
that is relied upon to shorten the maturity of the underlying 
security and a guarantee. See paragraphs (c)(3)(iv)(A) and 
(c)(3)(iv)(C) of rule 2a-7, as proposed to be amended (a long-term 
security subject to a conditional demand feature is an eligible 
security only if the conditional demand feature is an eligible 
security, and the underlying security (or any guarantee of the 
underlying security) has received a short-term or long-term rating 
from the requisite NRSROs within the two highest short-term or long-
term rating categories).
---------------------------------------------------------------------------

     A guarantee issued by a person that is controlled by, 
controls, or is under common control with the issuer of the security 
would be excepted from the Rating Requirement. An entity that 
guarantees a security issued by a controlled person may not be in the 
business of lending its credit, and such a requirement may by 
burdensome and result in a diminished supply of high quality, eligible 
securities.24
---------------------------------------------------------------------------

    \24\ The proposed amendments also would have the effect of 
exempting issuer-provided demand features from the Rating 
Requirement. This proposed provision is consistent with those 
provisions of the March Amendments that permit a fund to disregard 
issuer-provided demand features in determining its compliance with 
the rule's put diversification requirements. Paragraph 
(c)(4)(vi)(B)(1) of rule 2a-7; See Release 21837, supra note 1, at 
Section II.C.1.c (securities subject to ``issuer-provided demand 
features can be viewed as the functional equivalent of short-term 
securities that are `rolled over' periodically.'').
---------------------------------------------------------------------------

d. Demand Features and Guarantees Not Relied Upon
    The March Amendments permit a fund that is not relying on a 
particular put for satisfaction of the rule's credit quality or 
maturity standards, or for liquidity, to exclude that put in 
determining its compliance with the rule's put diversification 
standards.25 The Commission is proposing amendments to the rule 
that would provide that a demand feature or guarantee that is not 
relied upon to satisfy the rule's credit quality or diversification 
standards, or for liquidity, is not subject to any of the rule's 
requirements.26
---------------------------------------------------------------------------

    \25\ Paragraph (c)(4)(vi)(B)(4) of rule 2a-7.
    \26\ Paragraph (c)(5) of rule 2a-7, as proposed to be amended. 
This proposed amendment would codify a staff interpretive position. 
Q&A Letter, supra note 3, at Q&A 2 (a put that is not relied upon 
may be disregarded for all purposes under the rule, including the 
Rating Requirement, and provisions of the rule that require the 
fund's board of directors to reduce investment in securities subject 
to downgraded demand features absent a finding). A fund holding 
securities subject to demand features or guarantees that the fund's 
board of directors has determined are not being relied upon would be 
required to establish written procedures requiring periodic re-
evaluations of this determination. Paragraph (c)(8)(ii) of rule 2a-7 
(paragraph (c)(9)(ii) of rule 2a-7 as proposed to be amended).
---------------------------------------------------------------------------

2. Diversification and Quality Standards Applicable to Issuers
a. Second Tier Securities
    The proposed amendments would clarify the scope of the issuer 
diversification standards applicable to taxable fund investment in 
second tier securities, and tax exempt fund investment in second tier 
conduit securities. Under rule 2a-7, a taxable fund may not invest more 
than one percent of its total assets in second tier securities issued 
by a single issuer, and a tax exempt fund may not invest more than one 
percent of its total assets in second tier conduit securities issued by 
a single issuer.27 Proposed amendments to the rule's issuer 
diversification provisions would clarify that these limits are not 
applicable to securities subject to a guarantee issued by a non-
controlled person.28 Accordingly, such securities would only be 
subject to the rule's guarantee diversification requirements.29
---------------------------------------------------------------------------

    \27\ Paragraphs (c)(4)(iv)(A)(1) and (c)(4)(iv)(B)(1) of rule 
2a-7.
    \28\ Paragraphs (c)(4)(i)(C)(1) and (c)(4)(i)(C)(2) of rule 2a-
7, as proposed to be amended. Rule 2a-7 also limits a taxable fund 
and a tax exempt fund to investing no more than five percent of 
total assets in second tier securities and second tier conduit 
securities respectively. See paragraphs (c)(4)(iv)(A)(2) and 
(c)(4)(iv)(B)(2) of rule 2a-7 (``five percent quality test''). The 
proposed amendments would not make any substantive changes to the 
five percent quality test, and thus a taxable fund, for example, 
could not invest more than five percent of its total assets in 
second tier securities subject to a second tier demand feature. The 
proposed amendments would reorganize the rule text by including the 
five percent quality test in the paragraph of the rule that 
addresses portfolio quality, rather than portfolio diversification. 
See paragraph (c)(3)(ii) of rule 2a-7, as proposed to be amended 
(portfolio quality--second tier securities).
    \29\ Paragraphs (c)(4)(i) and (c)(4)(iii) of rule 2a-7, as 
proposed to be amended.
---------------------------------------------------------------------------

b. Repurchase Agreements
    Rule 2a-7 allows a fund to ``look through'' a repurchase agreement 
(``repo'') to the underlying collateral and thereby ignore the 
counterparty in determining compliance with the rule's diversification 
limitations when the obligation of the counterparty is ``collateralized 
fully.'' 30 A repo is collateralized fully if, among other things, 
it is collateralized by Government securities or other securities 
listed in the rule that permit the repo to receive favorable treatment 
under applicable bankruptcy law. This provision of the rule is intended 
to ensure that the securities collateralizing the repo can be 
liquidated promptly in the event of the bankruptcy of the counterparty. 
Since the publication of the March Amendments, numerous questions have 
been raised concerning the eligibility of cash and certain types of 
securities that, although not listed in the rule, may (or may not) 
constitute appropriate collateral to avoid a stay in the event of a 
bankruptcy.31
---------------------------------------------------------------------------

    \30\ Paragraphs (a)(4) and (c)(4)(vi)(A)(1) of rule 2a-7.
    \31\ See, e.g., Q&A Letter, supra note 3, at Q&A 12.
---------------------------------------------------------------------------

    Although the determination of how a bankruptcy court might treat a 
repo is highly relevant for ``look through'' treatment under rule 2a-7, 
the Commission believes that specifying the types of collateral that 
meet the criteria of relevant provisions of bankruptcy law in rule 2a-7 
is unnecessary to fulfill the underlying purposes of the rule. 
Therefore, the Commission is proposing to revise the rule to omit 
references to specific types of acceptable collateral. Under the 
proposed provision, a repo would be ``collateralized fully'' if (i) the 
collateral consists entirely of cash, Government securities, or other 
securities that are rated in the highest rating category by the 
requisite NRSROs, and (ii) upon an event of insolvency with respect to 
the seller, the repo would qualify under a provision of applicable 
insolvency law providing an exclusion from any general stay of 
creditors' rights against the seller.32 Under the proposed 
amendments, a fund entering into a repo collateralized by traditional 
types of Government securities (as most do) could conclude easily that 
the repo qualifies for ``look through'' treatment (assuming other 
requirements of the rule are met), while funds wishing to enter into 
repos using less traditional forms of collateral may rely on opinions 
of bankruptcy counsel.
---------------------------------------------------------------------------

    \32\ Paragraphs (a)(5)(iv) and (a)(5)(v) of rule 2a-7, as 
proposed to be amended. In addition, a money market fund must 
evaluate the repo counterparty's creditworthiness in order to 
minimize the risk that money market funds do not enter into repos 
with parties that present a serious risk of becoming involved in 
bankruptcy proceedings. The Commission previously published a 
release setting forth the conditions under which the Division of 
Investment Management would not recommend enforcement action under 
Section 12(d)(3) of the 1940 Act if an investment company entered 
into a repo with persons engaged in securities-related businesses. 
Securities Trading Practices of Registered Investment Companies, 
Investment Company Act Release No. 13005 (Feb. 2, 1983) [48 FR 5824 
(Feb. 9, 1983)] (``Repo Release''). One of the conditions stated in 
the Repo Release was that the repo be ``fully collateralized,'' 
although a description of ``fully collateralized'' did not include 
all of the conditions in rule 2a-7, as amended by the March 
Amendments. A money market fund entering into a repo that is 
``collateralized fully'' within t

[[Page 66624]]

he meaning of paragraph (a)(4) of rule 2a-7 (paragraph (a)(5) of 
rule 2a-7, as proposed to be amended) would meet the ``fully 
collateralized'' requirement of the Repo Release. Investment 
companies other than money market funds are not required to comply 
with this provision of rule 2a-7 to avoid violating Section 
12(d)(3).
---------------------------------------------------------------------------

c. Refunded Securities
    The March Amendments permit a fund to ``look through'' refunded 
securities 33 to the escrowed securities in determining its 
compliance with the rule's issuer diversification standards under 
certain conditions, one of which is that an independent public 
accountant has certified that the escrowed Government securities, or 
any subsequent substitution of the escrowed securities, will satisfy 
all payments of principal, interest and applicable premiums on the 
refunded securities (collectively, the ``accountant's 
certifications'').34 NRSROs in rating refunded securities 
typically require an independent third party to make the same 
determination.35 Therefore, the Commission is proposing to provide 
that the accountant's certifications need not be obtained if, in 
connection with the placement of Government securities into the escrow 
account, the refunded securities have received a rating from an NRSRO 
in the highest category for debt obligations.36
---------------------------------------------------------------------------

    \33\ Paragraph (a)(18) of rule 2a-7 generally defines ``refunded 
securities'' as securities whose payment is funded and secured by 
Government securities placed in an escrow account.
    \34\ Paragraphs (a)(18)(ii), (a)(18)(iii) and (c)(4)(vi)(A)(2) 
of rule 2a-7.
    \35\ See, e.g., Standard & Poor's Municipal Finance Criteria, 
176-177 (1996).
    \36\ Paragraph (a)(19)(iii) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

d. Three-Day Safe Harbor
    Rule 2a-7 permits a taxable or national fund to invest up to 
twenty-five percent of its total assets in the first tier securities of 
a single issuer for up to three business days (``three-day safe 
harbor'').37 The proposed amendments restore unintentionally 
omitted language stating that a fund may not make more than one 
investment at any time during the three day period.38
---------------------------------------------------------------------------

    \37\ Paragraph (c)(4)(iii) of rule 2a-7 (paragraph (c)(4)(i)(A) 
of rule 2a-7, as proposed to be amended). Because single state funds 
are required to be diversified only as to seventy-five percent of 
their assets, they have available a twenty-five percent basket to 
accommodate purchases in excess of five percent. Paragraph 
(c)(4)(ii) of rule 2a-7 (paragraph (c)(4)(i)(B) of rule 2a-7, as 
proposed to be amended). As a result, the three-day safe harbor of 
rule 2a-7 is not available for single state funds.
    \38\ Paragraph (c)(4)(i)(A) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

3. Asset Backed Securities and Synthetic Securities
a. Rating Requirement
    The March Amendments provide separate credit quality, 
diversification and maturity standards for asset backed securities and 
synthetic securities (collectively, ``ABSs''). The amendments provide 
that an ABS is not an eligible security unless it has received a rating 
from an NRSRO. The ABS covered by the rule include interests in pools 
of receivables, such as credit card debt, as well as short-term 
synthetic tax exempt securities.39 The Commission adopted the 
rating requirement because an NRSRO rating would ensure that an 
independent legal, structural and credit analysis of the ABS had taken 
place. In addition, the Commission stated that, in light of the role 
that the NRSROs have played in the development of structured finance, a 
rating requirement should not be burdensome.40
---------------------------------------------------------------------------

    \39\ Synthetic securities are described in Revisions to Rules 
Regulating Money Market Funds, Investment Company Act Release No. 
19959 (Dec. 17, 1993) [58 FR 68585 (Dec. 28, 1993)] (``Release 
19959'') at Section II.C.4.
    \40\ Release 21837, supra note 1 at Section II.E.4.
---------------------------------------------------------------------------

    The Commission is proposing to modify the rating requirement for 
ABS to exempt from the rating requirement any ABS substantially all the 
qualifying assets of which consist of the obligations of one or more 
municipal issuers.41 In proposing the rating requirement for ABSs, 
the Commission noted that when an ABS consists of a large pool of 
financial assets, such as credit card receivables or mortgages, the ABS 
may not be susceptible to conventional means of credit risk analysis 
because credit quality is based not on a single issuer but an actuarial 
analysis of a pool of financial assets.42 Industry participants 
have suggested that this is usually not the case with respect to 
synthetic structures and municipal pools, whose qualifying assets 
generally consist of no more than a few municipal issuers (or, in the 
case of some pools, several municipalities located in a particular 
state). Thus, the credit analysis for these structures is typically no 
different than that required for a security directly issued by the 
municipality.43
---------------------------------------------------------------------------

    \41\ Paragraph (a)(10)(ii)(B) of rule 2a-7, as proposed to be 
amended.
    \42\ Release 19959, supra note 39, at text accompanying n.111.
    \43\ Industry representatives have also suggested that because 
many synthetics are not rated, the rating requirement may restrict 
available supply. ABSs that involve the securitization of financial 
assets, on the other hand, are typically rated, and the rating 
requirement does not impose any unnecessary burden.
---------------------------------------------------------------------------

    The Commission is also proposing to revise the rule to clarify 
that, consistent with other proposed provisions of the rule, an ABS 
subject to a guarantee (which generally would be required to rated 
44), would itself not be required to be rated by an NRSRO.45 
Under the proposed amendments, a fund holding an ABS fully supported by 
a guarantee would be permitted to substitute the credit quality of the 
guarantee in determining the credit quality of the ABS,46 and to 
exclude the ABS in determining its compliance with the rule's issuer 
diversification standards.47
---------------------------------------------------------------------------

    \44\ Paragraph (a)(10)(iii)(A) of rule 2a-7, as proposed to be 
amended.
    \45\ Paragraph (a)(10)(ii)(B) of rule 2a-7, as proposed to be 
amended.
    \46\ Paragraph (c)(3)(iii) of rule 2a-7, as proposed to be 
amended.
    \47\ Paragraph (c)(4)(i) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

b. Diversification Standards
    The March Amendments treat the special purpose entity as the issuer 
of the ABS and therefore require that rule 2a-7's diversification 
standards be met with respect to the special purpose entity. The 
amendments create an exception to this treatment, however, requiring a 
fund to ``look through'' the special purpose entity to any issuer of 
qualifying assets whose obligations constitute ten percent or more of 
the principal amount of the qualifying assets of the special purpose 
entity (``ten percent obligor'').48 For diversification purposes, 
a fund is required to treat these ten percent obligors as if they 
issued a proportionate amount of the special purpose entity.49
---------------------------------------------------------------------------

    \48\ Paragraph (c)(4)(vi)(A)(4) of rule 2a-7.
    \49\ Id.; Paragraph (c)(4)(ii)(D)(1) of rule 2a-7, as proposed 
to be amended.
---------------------------------------------------------------------------

    Some or all of the qualifying assets of certain ABSs (``primary 
ABSs'') also consist of other ABSs (``secondary ABSs''). The proposed 
amendments would clarify that a ten percent obligor that is also the 
issuer of secondary ABSs would be deemed to have issued a portion of 
the assets of the primary ABS that such secondary ABSs represent. For 
purposes of identifying ten percent obligors, the proposed amendments 
would provide that a fund should

[[Page 66625]]

continue down the chain of ten percent obligors until a special purpose 
entity with no ten percent obligors is reached.50 Finally, the 
Commission is proposing to clarify that in the case of the obligations 
of a ten percent obligor that are treated as being held directly by the 
fund, any demand features and guarantees supporting the obligations are 
treated as being held by the fund and should be subject to the rule's 
demand feature and guarantee diversification tests.51 Comment is 
requested on the proposed amendments.
---------------------------------------------------------------------------

    \50\ Paragraphs (c)(4)(ii)(D)(1) and (c)(4)(D)(ii)(2) of rule 
2a-7, as proposed to be amended. The proposed amendments reflect the 
approach illustrated in materials prepared by the staff of the 
Division of Investment Management. See Materials for 1996 ICI 
Conference on Money Market Fund Regulation: Asset Backed Securities 
and Synthetic Securities--Application of Paragraph (c)(4)(vi)(A)(4) 
of Rule 2a-7 (May 9, 1996) (copies available upon request). Some 
industry participants have urged that the rule's diversification 
requirements be amended to require money market funds to look 
through to the receivables underlying asset backed securities, and 
have maintained that a fund holding an asset backed security is 
exposed only to the credit quality of the ultimate obligors and not 
the special purpose entity. The Commission is not proposing to 
follow this approach for several reasons. First, the status of an 
ABS as an eligible investment for a money market fund is not based 
on the creditworthiness of each obligor, but rather on the 
creditworthiness of the entire pool of assets, which typically is 
evaluated and rated based on the actuarial experience of similar 
pools with similar features (such as an overcollateralization). 
Second, applying the rule's diversification tests to the ultimate 
obligors of an ABS could permit a fund to invest a significant 
percentage of its total assets in a single ABS. Third, the suggested 
approach would create significant administrative burdens on funds 
that purchase ABSs, because the funds would have to identify and 
monitor each obligor (or each guarantor of each obligor), and 
determine whether the value of these obligations, together with any 
other securities issued by that obligor that the funds hold directly 
or propose to acquire, would exceed the applicable diversification 
requirements.
    \51\ Paragraph (c)(4)(ii)(D)(3) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

    Some industry participants have raised concern about the ABS 
diversification test because a fund could invest more than ten percent 
of its total assets in ABSs issued by a special purpose entity with one 
or more ten percent obligors.52 A fund's investment of a 
significant portion of its total assets in a single ABS might expose 
the fund and investors to an undue amount of structural risk (e.g., the 
risk that the special purpose entity might be affected by the 
bankruptcy of the sponsor). Comment is requested whether the rule 
should restrict direct and indirect fund investment in the obligations 
of a single special purpose entity to a specified percentage of fund 
assets (e.g., ten percent of fund assets).
---------------------------------------------------------------------------

    \52\ For example, a fund could invest fifty percent of its total 
assets in ABSs issued by a special purpose entity whose qualifying 
assets consist of the obligations of ten individual ten percent 
obligors. Under the rule's diversification tests, each ten percent 
obligor would be deemed to be the issuer of five percent of the 
fund's total assets [(ten percent obligation) x (fifty percent 
investment)]. This result would be technically consistent with the 
diversification provisions of the rule, even though such an 
investment would expose fifty percent of the fund's total assets to 
the structural risk inherent in the special purpose entity issuing 
the ABSs.
---------------------------------------------------------------------------

c. Demand Features and Guarantees
    Under rule 2a-7, a fund holding an ABS subject to a demand feature 
from a controlled person is subject to the rule's ten percent 
diversification limitation applicable to demand features and puts, and 
thus may not be able to include this investment in its ``twenty-five 
percent basket.'' 53 The sponsor of an ABS may own residual 
interests in the special purpose entity, in which case the sponsor may 
``control'' the special purpose entity within the meaning of section 
2(a)(9) of the 1940 Act.54
---------------------------------------------------------------------------

    \53\ The diversification standards applicable to puts under rule 
2a-7 apply with respect to seventy-five percent of a fund's total 
assets--a fund need not comply with the rule's put diversification 
standards with respect to the remaining twenty-five percent of its 
total assets (``twenty-five percent basket'') as long as: (1) the 
fund holds securities in the basket that are subject to, or issued 
by, providers of puts that are first tier securities; and (2) the 
puts held in the basket are puts issued by non-controlled persons. 
See paragraphs (a)(17) (definition of ``put issued by a non-
controlled person'') and (c)(4)(v) of rule 2a-7.
    \54\ Section 2(a)(9) of the 1940 Act defines ``control'' to mean 
the power to exercise a controlling influence over the management or 
policies of a company, unless such power is solely the result of an 
official position with such company. Any person who owns 
beneficially, either directly or through one or more controlled 
companies, more than twenty-five per centum of the voting securities 
of a company is presumed to control such company.
---------------------------------------------------------------------------

    The Commission restricted fund use of the twenty-five percent 
basket to non-controlled persons to minimize a fund's concentration of 
assets in a single economic enterprise.55 This provision of the 
rule, then, was designed to limit a fund's aggregate exposure to the 
risks of related, active businesses. Permitting a fund to invest more 
than five percent of its total assets in an ABS subject to a demand 
feature provided by a sponsor, however, would not have this effect, 
because the special purpose entity, unlike an active enterprise, is a 
limited purpose vehicle created solely for the purpose of issuing fixed 
income securities based on the cash flow of the qualifying assets. The 
Commission is therefore proposing amendments to the definitions of 
``demand feature issued by a non-controlled person'' and ``guarantee 
issued by a non-controlled person'' to include sponsors of special 
purpose entities.56 The effect of such an amendment would be to 
permit a fund holding an ABS to include any sponsor-provided demand 
feature or guarantee in the twenty-five percent basket.57
---------------------------------------------------------------------------

    \55\ Release 21837, supra note 1, at Section II.C.1.b.
    \56\ Paragraphs (a)(9) and (a)(15) of rule 2a-7, as proposed to 
be amended.
    \57\ Another effect would be that a sponsor-provided guarantee 
would be subject to the rating requirement for guarantees. See supra 
Section I.B.1.c of this Release (a guarantee issued by a non-
controlled person is subject to the rating requirement described 
therein).
---------------------------------------------------------------------------

d. Asset Backed Securities: Other Issues
    Some types of ABSs may consist of qualifying assets whose cash flow 
has been ``swapped'' to a financial institution that ultimately acts as 
the primary source of payment to funds holding the ABSs. In these 
circumstances, it may be appropriate for the fund to treat the 
financial institution as the issuer of the ABSs under the rule's 
diversification tests, because the fund is relying on the 
creditworthiness of that institution. Comment is requested on whether 
and how the rule should be amended to address swaps and similar 
arrangements.
4. Other Proposed Amendments
a. Definition of Eligible Security--Certain Unrated Securities
    Rule 2a-7 provides that an unrated security that, when issued was a 
long-term security but when purchased by the fund had a remaining 
maturity of less than 397 calendar days, may be considered to be an 
eligible security based on whether the security is comparable in 
quality to a rated security, unless the security has received a long-
term rating from any NRSRO that is not within the three highest 
categories of long-term ratings.58 Proposed amendments to the rule 
permit a fund to treat such a security as an eligible security if that 
security had a long-term rating from the requisite NRSROs 59 
within the three highest rating categories.60
---------------------------------------------------------------------------

    \58\ Paragraph (a)(9)(iii)(B) of rule 2a-7.
    \59\ The term ``requisite NRSROs'' is defined in paragraph 
(a)(19) of rule 2a-7 (paragraph (a)(20) of rule 2a-7, as proposed to 
be amended) to mean: (i) any two NRSROs that have issued a rating 
with respect to a security or class of debt obligations of an 
issuer; or (ii) if only one NRSRO has issued a rating with respect 
to such security or class of debt obligations of an issuer at the 
time the fund purchases or rolls over the security, that NRSRO.
    \60\ Paragraph (a)(10)(ii)(A) of rule 2a-7, as proposed to be 
amended. To eliminate duplicative text in the definitions of 
``eligible security,'' ``first tier security'' and ``unrated 
security,'' the proposed amendments would delete subparagraph (ii) 
from each definition. See paragraphs (a)(10), (a)(12) and (a)(27) of 
rule 2a-7, as proposed to be amended.
---------------------------------------------------------------------------

b. Acquisition of Portfolio Securities
    Several provisions of the rule that are applicable to the purchase 
of portfolio securities refer to the purchase or

[[Page 66626]]

``rollover'' of the security;61 some refer only to the purchase 
62 or acquisition 63 of a security by the fund.64 To 
make the rule more uniform, and to clarify that the failure of a fund 
to exercise a demand feature does not have similar consequences under 
the rule as a decision to rollover commercial paper, the proposed 
amendments would add to the rule the defined term ``acquisition,'' 
which would include a rollover of a security (but not the exercise of a 
demand feature.) 65
---------------------------------------------------------------------------

    \61\ See, e.g., paragraph (a)(19) of rule 2a-7 (definition of 
``requisite NRSROs'').
    \62\ See, e.g., paragraph (c)(3)(iii) of rule 2a-7 (securities 
subject to conditional demand features).
    \63\ See, e.g., paragraphs (c)(3)(i) (portfolio quality--
general); (c)(4)(i) (issuer diversification--taxable and national 
funds); (c)(4)(ii) (issuer diversification--single state funds); 
(c)(4)(v) (put diversification); and (c)(5)(i)(A)(2) (downgrade of 
unrated security or second tier security held by the fund) of rule 
2a-7.
    \64\ See also paragraph (c)(4)(iv) of rule 2a-7 (diversification 
tests applicable to second tier securities--references to 
``acquisition'' and ``rollover'' but not to ``purchase'').
    \65\ Paragraph (a)(1) of rule 2a-7, as proposed to be amended.
---------------------------------------------------------------------------

c. Single State Funds
    The March Amendments provide that a single state fund is limited to 
investing no more than five percent of its assets in the securities of 
a single issuer (other than Government securities), but only with 
respect to seventy-five percent of its total assets. The remaining 
twenty-five percent of a single state fund's assets (``twenty five 
percent basket'') may be invested in the securities of one or more 
issuers, provided they are first tier securities.66 The March 
Amendments define a single state fund as a tax exempt fund that holds 
itself out as primarily distributing income exempt from the income 
taxes of a specified state or locality.67 Since the adoption of 
the March Amendments, the Commission has become aware that a few money 
market funds whose investment objectives are to distribute income 
exempt from the income taxes of a particular state cannot hold 
themselves out as single state funds because they may not primarily 
distribute such income. The proposed amendments would modify the 
current definition by permitting a fund to qualify as a single state 
fund, and make use of the twenty-five percent basket, if it holds 
itself out as seeking to maximize the amount of its distributed income 
that is exempt from the income taxes or other taxes on investments of a 
particular state.68
---------------------------------------------------------------------------

    \66\ Paragraph (c)(4)(ii) of rule 2a-7.
    \67\ Paragraph (a)(21) of rule 2a-7.
    \68\ Paragraph (a)(22) of rule 2a-7, as proposed to be amended.
---------------------------------------------------------------------------

d. Standby Commitments
    Under the rule, a ``standby commitment'' is defined as a put that 
entitles the holder to same day settlement,69 and may be purchased 
by the fund only if the board (or its delegate) finds that the issuer 
presents minimal credit risks.70 The Commission is proposing to 
delete the definition of ``standby commitment'' and all references 
thereto from the rule. Changes to other definitions make the use of 
this term in the rule unnecessary; a standby commitment that falls 
within the definition of a demand feature would be treated as a demand 
feature under the rule. Standby commitments that do not fall within the 
definition of demand feature could not act as a substitute for the 
credit quality, and could not be relied upon to shorten the maturity of 
the security, would not expose the fund to any significant risks with 
respect to the issuer of the standby commitment, and thus would not be 
subject to any of the rule's quality or diversification 
requirements.71 Comment is requested on the proposed amendment.
---------------------------------------------------------------------------

    \69\ Paragraph (a)(22) of rule 2a-7.
    \70\  Paragraph (a)(9)(iii)(A) of rule 2a-7.
    \71\ In the 1985 release proposing amendments to rule 2a-7, the 
Commission explained that a fund usually pays nothing or only a 
nominal consideration for a standby commitment, and the commitment 
may be ``exercised only as a last resort, because the broker, 
dealer, or other financial institution [providing the standby 
commitment] would suffer a loss on the transaction if the exercise 
price is greater than the market value of the underlying securities 
at the time of exercise.'' Acquisition and Valuation of Certain 
Portfolio Instruments by Registered Investment Companies, Investment 
Company Act Release No. 14607 (July 1, 1985) (50 FR 27982 (July 9, 
1985)). If there is a practical, contractual or other impediment to 
its exercise, a standby commitment would not be a ``demand feature'' 
under rule 2a-7 because it is not readily exercisable at the time 
intervals specified in paragraph (a)(7) of the rule.
---------------------------------------------------------------------------

e. Downgrades, Defaults and Other Events
    Proposed amendments to rule 2a-7 would clarify that a fund's 
investment adviser (or other person) is required to reassess whether an 
unrated security or a second tier security continues to present minimal 
credit risks to the fund when it becomes aware that the security has 
been downgraded by any NRSRO below that NRSRO's two highest short-term 
rating categories.72 This amendment would eliminate any confusion 
caused by the language of the rule, as amended by the March Amendments, 
that some industry participants have suggested could be read to require 
such a reassessment upon assignment of any rating below the two highest 
rating categories, whether short-term or long-term.
---------------------------------------------------------------------------

    \72\ Paragraph (c)(6)(i)(A)(2) of rule 2a-7, as proposed to be 
amended.
---------------------------------------------------------------------------

f. Recordkeeping Requirements
    The Commission is proposing amendments to the rule's recordkeeping 
and procedural requirements. First, the proposed amendments would 
replace certain rule text inadvertently omitted and restore the 
requirement that a fund's board of directors (or its delegate) document 
the minimal credit risk determination with respect to all securities in 
the fund's portfolio.73 Second, the proposed amendments would 
clarify that a fund would not be required to establish procedures 
concerning demand features and guarantees not relied upon if it does 
not hold such instruments.74 Finally, proposed amendments to the 
procedures concerning these securities reflect modifications to the 
diversification test for asset backed securities.75
---------------------------------------------------------------------------

    \73\ Paragraph (c)(10)(iii) of rule 2a-7, as proposed to be 
amended.
    \74\ Paragraph (c)(9)(ii) of rule 2a-7, as proposed to be 
amended.
    \75\ Paragraphs (c)(9)(iv) and (c)(10)(v) of rule 2a-7, as 
proposed to be amended.
---------------------------------------------------------------------------

g. Investment Companies Holding Themselves Out as Money Market Funds
    Paragraph (b) of rule 2a-7 provides that it is ``an untrue 
statement of material fact'' for a registered investment company to use 
``money market'' or a similar term as part of its name, or to hold 
itself out to investors as a money market fund or its equivalent unless 
the fund meets the risk-limiting conditions of rule 2a-7. Proposed 
amendments to paragraph (b) of the rule would restate, using additional 
rulemaking authority recently provided to the Commission,76 the 
rule's prohibition on the use of a name by an investment company that 
would suggest the company is a money market fund, unless that company 
is a money market fund that operates in compliance with the 
rule.77
---------------------------------------------------------------------------

    \76\ The National Securities Markets Improvement Act of 1996 
(Pub. L. No. 104-290) amended Section 35(d) of the 1940 Act to 
provide that ``[i]t shall be unlawful for any registered investment 
company to adopt as a part of the name or title of such company, or 
of any securities of which it is the issuer, any word or words that 
the Commission finds are materially deceptive or misleading. The 
Commission is authorized, by rule or regulation, or order, to define 
such names and titles as are materially deceptive and misleading.''
    \77\ Paragraph (b) of rule 2a-7, as proposed to be amended.

---------------------------------------------------------------------------

[[Page 66627]]

II. Proposed Amendments to the Advertising Rules

    The Commission is also proposing to amend the Commission's 
advertising rules to clarify the formula used by money market funds to 
calculate yield and to seek to ensure that investors are not confused 
by presentation of a money market fund's short-term total return in 
lieu of its yield.

A. Calculation of Yield

    The Commission adopted a uniform method of calculating money market 
fund yield in 1980 that explicitly limited income reflected in yield to 
investment income.78 In 1983, the Commission revised the formula 
to correct a flaw in the formula at which time the limitation on 
investment income was unintentionally omitted.79 Recently, 
questions have been raised regarding the inclusion of income other than 
investment income in the advertised yield of a money market fund. To 
resolve such questions, the Commission is proposing to amend the 
formula to clarify that income included in yield is limited to 
investment income.80
---------------------------------------------------------------------------

    \78\ Advertising by Investment Companies, Investment Company Act 
Release No. 11379 (Sept. 30, 1980) [45 FR 67079 (Oct. 9, 1980)].
    \79\ ``Money Market'' Funds' Inclusion of a Standardized Yield 
Computation in Prospectuses, Investment Company Act Release No. 
13049 (Feb. 28, 1983) [48 FR 10297 (Mar. 11, 1983)]. In this 
release, the Commission stated that ``limiting the yield to net 
investment income better indicates the earning potential of a fund's 
portfolio and thus both promotes comparability of yield and reduces 
the potential for misleading investors.* * * '' (Emphasis added.)
    \80\ The proposed amendments would revise Item 22 of Form N-1A 
[17 CFR 239.15A and 274.11A], Item 25 of Form N-3 [17 CFR 239.17a 
and 274.11b], and Item 21 of Form N-4 [17 CFR 239.17b and 274.11c].
---------------------------------------------------------------------------

B. Use of Total Return

    Some money market funds, instead of advertising their performance 
by quoting a seven-day yield calculated in accordance with Commission 
rules, have used quotations of total return covering short periods of 
time. Even though sales material may properly identify the performance 
figure as ``total return,'' the Commission is concerned that many 
investors will not recognize the distinction or, if they do, will not 
appreciate the difference between total return and yield. As a result, 
investors may assume incorrectly that a fund quoting the higher total 
return figure is a better performing fund than the other money market 
funds quoting yield.81 In addition, investors may incorrectly 
assume that the higher ``total return'' is the yield they can expect to 
receive upon an investment in the fund.
---------------------------------------------------------------------------

    \81\ This practice typically occurs during a period of declining 
interest rates when the fund's total return will be higher than its 
current yield because it will include periods of time during which 
the fund held higher yielding securities. It may also occur in order 
to avoid the limitation on income included in yield to investment 
income. See discussion supra.
---------------------------------------------------------------------------

    In seeking to ensure that the distinction between money market fund 
yields and short-term total return is clear, the Commission is 
proposing to amend rules 482 under the Securities Act of 1933 and 34b-1 
under the 1940 Act to require that total return used in advertisements 
and sales literature cover a period of at least one year. In addition, 
the Commission is proposing to require that quotations of total return 
in advertisements and sales literature be accompanied by a quotation of 
current yield, computed in accordance with Commission rules, and set 
forth with equal prominence.

III. Request for Comment

    In connection with its review of the rules and forms regulating 
money market funds, the staff has become aware of a fund sponsor that 
established a program linking a money market fund with a debit card 
available for use by the fund's shareholders. Under the program, 
rebates earned by the fund on credit card transactions entered into by 
the fund's shareholders are distributed to the shareholders in the form 
of income.82 This type of income is not investment income and its 
inclusion in the money market fund's standardized yield is not 
permitted.83 The Commission solicits comment on an appropriate 
method for disclosing, in connection with performance information, 
these rebate amounts and other types of arrangements involving non-
investment income. For example, should a fund be able to advertise a 
separate rate of return (as a percentage) for the rebate feature 
covering the same period of time as the standardized yield?
---------------------------------------------------------------------------

    \82\ See Robert D. Hershy, Jr., Sophia Collier, Soda 
Entrepreneur, Uncorks a Money Market Fund, N.Y. Times, at sec. 3, p. 
11.
    \83\ Such funds clearly can, however, for example, advertise the 
dollar value of the rebate, or specify the dollar amounts received 
per certain dollars invested in the fund over some stated period of 
time.
---------------------------------------------------------------------------

IV. Transition Period

    The release adopting the March Amendments provided that money 
market funds would be required to comply with certain of the amendments 
by October 3, 1996, which was approximately six months from the date of 
publication of the March Amendments in The Federal Register.84 On 
August 13, 1996, the Commission suspended the compliance date for the 
March Amendments until the final version of these proposed amendments 
is published in The Federal Register.85 Comment is requested on an 
appropriate compliance date for these technical amendments, and whether 
the release adopting these technical amendments should provide for a 
compliance period of comparable length to that of the March Amendments.
---------------------------------------------------------------------------

    \84\ Release 21837, supra note 1, at Section V.B.
    \85\ Compliance Date Release, supra note 4. The March Amendments 
clarified that floating rate and variable rate securities 
(``adjustable rate securities'') must reasonably be expected to have 
market values that approximate their amortized cost values on each 
interest rate adjustment date through their final maturity dates. 
See Release 21837, supra note 1, at Section II.F.4 and paragraphs 
(a)(12) and (a)(30) of rule 2a-7 (definitions of ``floating rate 
security'' and ``variable rate security''). Because these provisions 
of the March Amendments merely clarified the application of existing 
provisions of the rule, whether a fund or its adviser must 
reasonably expect the market value of an adjustable rate security to 
approximate its amortized cost value was not affected by the 
Compliance Date Release.
---------------------------------------------------------------------------

V. Cost/Benefit Analysis

    The proposals discussed above constitute refinements to the rules 
regulating money market funds, and would not increase costs for money 
market funds, their advisers, or other market participants. The 
proposed technical amendments would clarify the application of the 
quality and diversification tests under rule 2a-7 consistent with 
investor protection. The Commission requests specific comment on its 
assessment of the costs and benefits associated with the proposal, 
including specific estimates of costs and benefits.

VI. Paperwork Reduction Act

    Certain provisions of the proposed amendments contain ``collection 
of information'' requirements within the meaning of the Paperwork 
Reduction Act of 1995 (44 U.S.C. 3501 et seq.), and the Commission has 
submitted proposed amendments to the Office of Management and Budget 
for review in accordance with 44 U.S.C. 3507(d). The title for the 
collection of information is ``Rules Regulating Money Market Funds.'' 
The Supporting Statement to the Paperwork Reduction Act submission 
notes that, because the proposed technical amendments to rule 2a-7 
would clarify existing reporting and recordkeeping obligations, it is 
estimated that they would have no effect on the annual reporting burden 
of money market funds. The Supporting Statement also notes that the 
proposed

[[Page 66628]]

amendments to the advertising rules would not impose any new paperwork 
burden on money market funds because the majority of money market funds 
do not include income other than investment income in calculating their 
yield, and do not advertise total return based on short periods of 
time.
    Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits 
comments concerning: whether the proposed collection of information is 
necessary for the proper performance of the function of the Commission, 
including whether the information shall have practical utility; on the 
accuracy of the Commission's estimate of the burden of the proposed 
collection of information; on the quality, utility, and clarity of the 
information to be collected; and whether the burden of collection of 
information on those who are to respond, including through the use of 
automated collection techniques or other forms of information or 
technology, may be minimized.
    Persons desiring to submit comments on the collection of 
information requirements should direct them to the Office of Management 
and Budget, Attention: Desk Officer for the Securities and Exchange 
Commission, Office of Information and Regulatory Affairs, Washington, 
DC 20503, and should send a copy of their comments to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., 
Washington, DC 20549 with reference to File No. S7-29-96. The Office of 
Management and Budget is required to make a decision concerning the 
collection of information between 30 and 60 days after publication, so 
a comment to the Office of Management and Budget is best assured of 
having its full effect if the Office of Management and Budget receives 
it within 30 days of publication.

VII. Summary of Initial Regulatory Flexibility Analysis

    The Commission has prepared an Initial Regulatory Flexibility 
Analysis in accordance with 5 U.S.C. 603 regarding proposed technical 
amendments to rule 2a-7, and proposed amendments to the advertising 
rules applicable to money market funds. The analysis states that the 
proposed technical amendments to rule 2a-7 are not intended to effect 
major substantive changes to the rule, but are designed to codify 
interpretive positions taken by the staff of the Division of Investment 
Management; revise terminology in the rule to reflect common usage; 
modify certain of the March Amendments so that the treatment accorded 
certain instruments by rule 2a-7 more closely reflects the treatment 
accorded to those instruments by the financial markets; and make 
certain other technical corrections. The analysis also states that, in 
light of the nature of the proposed technical amendments to the rule, 
it would be inconsistent with the purposes of the Regulatory 
Flexibility Act to propose to exempt small entities from the coverage 
of these amendments.
    The analysis also discusses the proposed amendments to the 
advertising rules for money market funds. The analysis explains that 
the proposed amendments are designed to clarify the formula used by 
money market funds to calculate yield and to prevent investors from 
being confused or misled by the presentation of a money market fund's 
short-term total return in lieu of its yield. The analysis states that 
the concerns that caused the Commission to undertake this proposed 
rulemaking are equally applicable to funds of all sizes. A copy of the 
Initial Regulatory Flexibility Analysis may be obtained by contacting 
Marjorie S. Riegel, Securities and Exchange Commission, 450 Fifth 
Street, NW., Mail Stop 10-6, Washington, DC 20549.

VIII. Text of Rule and Form Amendments

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

    Investment companies, Reporting and recordkeeping requirements, 
Securities.

    For the reasons set out in the preamble, the Commission is 
proposing to amend chapter II, title 17 of the Code of Federal 
Regulations as follows:

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

    1. The authority citation for part 230 continues to read, in part, 
as follows:

    Authority: 15 U.S.C. 77b, 77f, 77g, 77h, 77j, 77s, 77sss, 78c, 
78d, 78l, 78m, 78n, 78o, 78w, 79ll(d), 79t, 80a-8, 80a-29, 80a-30, 
and 80a-37, unless otherwise noted.
* * * * *
    2. Section 230.482 is amended by revising paragraph (d) to read as 
follows:


Sec. 230.482  Advertising by an investment company as satisfying 
requirements of section 10.

* * * * *
    (d) In the case of a money market fund:
    (1) Any quotation of the money market fund's yield in an 
advertisement shall be:
    (i) A quotation of current yield based on the method of computation 
prescribed in Form N-1A (Secs. 239.15A and 274.11A of this chapter), 
Form N-3 (Secs. 239.17a and 274.11b of this chapter), or Form N-4 
(Secs. 239.17b and 274.11c of this chapter) and identifying the length 
of and the date of the last day in the base period used in computing 
that quotation; or
    (ii) A quotation of current yield described in paragraph (d)(1)(i) 
of this section and a corresponding quotation of effective yield based 
on the method of computation prescribed in Form N-1A (Secs. 239.15A and 
274.11A of this chapter), Form N-3 (Secs. 239.17a and 274.11b of this 
chapter), or Form N-4 (Secs. 239.17b and 274.11c of this chapter); 
provided, that when both a quotation of current yield and effective 
yield are used in the same advertisement, each quotation shall relate 
to an identical base period and shall be given equal prominence; and
    (2) Any quotation of total return shall cover a period of no less 
than one year and shall be accompanied by a quotation of the fund's 
current yield described in paragraph (d)(1)(i) of this section.
* * * * *

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

    3. The authority citation for part 270 is amended by revising the 
general authority as follows:

    Authority: 15 U.S.C. 80a-1 et seq., 80a-34(b), 80a-37, 80a-39 
unless otherwise noted;
* * * * *
    4. Section 270.2a-7 is revised to read as follows:


Sec. 270.2a-7  Money market funds.

    (a) Definitions. (1) Acquisition (or Acquire) shall mean any 
purchase or subsequent rollover (but does not include the failure to 
exercise a Demand Feature).
    (2) Amortized Cost Method of valuation shall mean the method of 
calculating an investment company's net asset value whereby portfolio 
securities are valued at the fund's Acquisition cost as adjusted for 
amortization of premium or accretion of discount rather than at their 
value based on current market factors.
    (3) Asset Backed Security shall mean a fixed income security (other 
than a Government security) issued by a Special Purpose Entity (as 
defined in this paragraph), substantially all of the assets of which 
consist of Qualifying Assets (as defined in this paragraph). Special 
Purpose Entity shall mean a trust, corporation, partnership or other 
entity organized for the sole purpose of

[[Page 66629]]

issuing securities which entitle their holders to receive payments that 
depend primarily on the cash flow from Qualifying Assets, but does not 
include a registered investment company. Qualifying Assets shall mean 
financial assets, either fixed or revolving, that by their terms 
convert into cash within a finite time period, plus any rights or other 
assets designed to assure the servicing or timely distribution of 
proceeds to security holders.
    (4) Business Day shall mean any day, other than Saturday, Sunday, 
or any customary business holiday.
    (5) Collateralized Fully in the case of a repurchase agreement 
shall mean that:
    (i) The value of the securities collateralizing the repurchase 
agreement (reduced by the transaction costs (including loss of 
interest) that the money market fund reasonably could expect to incur 
if the seller defaults) is, and during the entire term of the 
repurchase agreement remains, at least equal to the Resale Price (as 
defined in paragraph (a)(5(v) provided in the agreement;
    (ii) The money market fund or its custodian either has actual 
physical possession of the collateral or, in the case of a security 
registered on a book entry system, the book entry is maintained in the 
name of the money market fund or its custodian;
    (iii) The collateral consists entirely of cash items, Government 
Securities or other securities that at the time the repurchase 
agreement is entered into are rated in the highest rating category by 
the Requisite NRSROs; and
    (iv) Upon an event of insolvency with respect to the seller, the 
repurchase agreement would qualify under a provision of applicable 
insolvency law providing an exclusion from any general stay of 
creditors' rights against the seller.
    (v) Resale Price shall mean the Acquisition price paid to the 
seller of the securities plus the accrued resale premium on such 
Acquisition price. The accrued resale premium shall be the amount 
specified in the repurchase agreement or the daily amortization of the 
difference between the Acquisition price and the resale price specified 
in the repurchase agreement.
    (6) Conditional Demand Feature shall mean a Demand Feature that is 
not an Unconditional Demand Feature. A Conditional Demand Feature is 
not a Guarantee.
    (7) Conduit Security shall mean a security issued by a Municipal 
Issuer (as defined in this paragraph) involving an arrangement or 
agreement entered into, directly or indirectly, with a person other 
than a Municipal Issuer, which arrangement or agreement provides for or 
secures repayment of the security. Municipal Issuer shall mean a state 
or territory of the United States (including the District of Columbia), 
or any political subdivision or public instrumentality of a state or 
territory of the United States. A Conduit Security does not include a 
security that is:
    (i) Fully and unconditionally guaranteed by a Municipal Issuer; or
    (ii) Payable from the general revenues of the Municipal Issuer or 
other Municipal Issuers (other than those revenues derived from an 
agreement or arrangement with a person who is not a Municipal Issuer 
that provides for or secures repayment of the security issued by the 
Municipal Issuer); or
    (iii) Related to a project owned and operated by a Municipal 
Issuer; or
    (iv) Related to a facility leased to and under the control of an 
industrial or commercial enterprise that is part of a public project 
which, as a whole, is owned and under the control of a Municipal 
Issuer.
    (8) Demand Feature shall mean:
    (i) A feature permitting the holder of a security to sell the 
security at an exercise price equal to the approximate amortized cost 
of the security plus accrued interest, if any, at the time of exercise. 
A Demand Feature must be exercisable either:
    (A) At any time on no more than 30 calendar days' notice; or
    (B) At specified intervals not exceeding 397 calendar days and upon 
no more than 30 calendar days' notice; or
    (ii) A feature permitting the holder of an Asset Backed Security 
unconditionally to receive principal and interest within 397 calendar 
days of making demand.
    (9) Demand Feature Issued By A Non-Controlled Person shall mean a 
Demand Feature issued by a person that, directly or indirectly, does 
not control, and is not controlled by or under common control with the 
issuer of the security subject to the Demand Feature; and a sponsor of 
an Asset Backed Security with respect to an Asset Backed Security. 
Control shall mean ``control'' as defined in section 2(a)(9) of the Act 
(15 U.S.C. 80a-2(a)(9)).
    (10) Eligible Security shall mean:
    (i) A security with a remaining maturity of 397 calendar days or 
less that has received a short-term rating (or that has been issued by 
an issuer that has received a short-term rating with respect to a class 
of debt obligations, or any debt obligation within that class, that is 
comparable in priority and security with the security) by the Requisite 
NRSROs in one of the two highest short-term rating categories (within 
which there may be sub-categories or gradations indicating relative 
standing); or
    (ii) An Unrated Security that is of comparable quality to a 
security meeting the requirements of paragraph (a)(10)(i) of this 
section, as determined by the money market fund's board of directors; 
Provided, however, that:
    (A) A security that at the time of issuance had a remaining 
maturity of more than 397 calendar days but that has a remaining 
maturity of 397 calendar days or less and that is an Unrated Security 
is not an Eligible Security if the security has received a long-term 
rating from any NRSRO that is not within the NRSRO's three highest 
long-term ratings categories (within which there may be sub-categories 
or gradations indicating relative standing) unless the security has 
received a long-term rating from the Requisite NRSROs in one of the 
three highest rating categories;
    (B) An Asset Backed Security (other than an Asset Backed Security 
substantially all of whose Qualifying Assets consist of obligations of 
one or more Municipal Issuers, as that term is defined in paragraph 
(a)(7) of this section) shall not be an Eligible Security unless it has 
received a rating from an NRSRO.
    (iii) In addition, in the case of a security that is subject to a 
Demand Feature or Guarantee:
    (A) The Guarantee has received a rating or is issued by an issuer 
that has received a rating from an NRSRO (unless the Guarantee is 
issued by a person that, directly or indirectly, controls, is 
controlled by or is under common control with the issuer of the 
security subject to the Guarantee); and
    (B) The issuer of the Demand Feature or Guarantee, or another 
institution, has undertaken promptly to notify the holder of the 
security in the event the Demand Feature or Guarantee is substituted 
with another Demand Feature or Guarantee (if such substitution is 
permissible under the terms of the Demand Feature or Guarantee).
    (11) Event of Insolvency shall mean, with respect to a person:
    (i) An admission of insolvency, the application by the person for 
the appointment of a trustee, receiver, rehabilitator, or similar 
officer for all or substantially all of its assets, a general 
assignment for the benefit of creditors, the filing by the person of a 
voluntary petition in bankruptcy or application for reorganization or 
an arrangement with creditors; or

[[Page 66630]]

    (ii) The institution of similar proceedings by another person which 
proceedings are not contested by the person; or
    (iii) The institution of similar proceedings by a government agency 
responsible for regulating the activities of the person, whether or not 
contested by the person.
    (12) First Tier Security shall mean any Eligible Security that:
    (i) Has received a short-term rating (or that has been issued by an 
issuer that has received a short-term rating with respect to a class of 
debt obligations, or any debt obligation within that class, that is 
comparable in priority and security with the security) by the Requisite 
NRSROs in the highest short-term rating category for debt obligations 
(within which there may be sub-categories or gradations indicating 
relative standing); or
    (ii) Is an Unrated Security that is of comparable quality to a 
security meeting the requirements of paragraph (a)(12)(i) of this 
section, as determined by the fund's board of directors; or
    (iii) Is a security issued by a registered investment company that 
is a money market fund; or
    (iv) Is a Government Security.
    (13) Floating Rate Security shall mean a security the terms of 
which provide for the adjustment of its interest rate whenever a 
specified interest rate changes and which, at any time until the final 
maturity of the instrument or the period remaining until the principal 
amount can be recovered through demand, can reasonably be expected to 
have a market value that approximates its amortized cost.
    (14) Guarantee shall mean an unconditional obligation of a person 
other than the issuer of the security to undertake to pay, upon 
presentment by the holder of the Guarantee (if required), at a 
specified time a price equal to the principal amount of the underlying 
security plus accrued interest when due or upon default, or, in the 
case of an Unconditional Demand Feature, an obligation that entitles 
the holder to receive upon exercise the approximate amortized cost of 
the underlying security or securities, plus accrued interest, if any. A 
Guarantee includes a letter of credit, financial guaranty (bond) 
insurance, and an Unconditional Demand Feature (other than an 
Unconditional Demand Feature provided by the issuer of the security).
    (15) Guarantee Issued by a Non-Controlled Person shall mean a 
Guarantee issued by a person that, directly or indirectly, does not 
control, and is not controlled by or under common control with the 
issuer of the security subject to the Guarantee; and a sponsor of a 
Special Purpose Entity with respect to an Asset Backed Security. 
Control shall mean ``control'' as defined in section 2(a)(9) of the Act 
(15 U.S.C. 80a-2(a)(9)).
    (16) Government Security shall mean any Government security as 
defined in section 2(a)(16) of the Act (15 U.S.C. 80a-2(a)(16)).
    (17) NRSRO shall mean any nationally recognized statistical rating 
organization, as that term is used in paragraphs (c)(2)(vi) (E), (F) 
and (H) of Sec. 240.15c3-1 of this chapter that is not an affiliated 
person, as defined in section 2(a)(3)(C) of the Act (15 U.S.C. 80a-
2(a)(3)(C)), of the issuer of, or any insurer, or provider of credit 
support for, the security.
    (18) Penny-Rounding Method of pricing shall mean the method of 
computing an investment company's price per share for purposes of 
distribution, redemption and repurchase whereby the current net asset 
value per share is rounded to the nearest one percent.
    (19) Refunded Security shall mean a debt security the principal and 
interest payments of which are to be paid by Government Securities 
(``deposited securities'') that have been irrevocably placed in an 
escrow account pursuant to agreement between the issuer of the debt 
security and an escrow agent that is not an affiliated person, as 
defined in section 2(a)(3)(C) of the Act (15 U.S.C. 80a-2(a)(3)(C)), of 
the issuer of the debt security, and, in accordance with such escrow 
agreement, are pledged only to the payment of the debt security and, to 
the extent that excess proceeds are available after all payments of 
principal, interest, and applicable premiums on the Refunded 
Securities, the expenses of the escrow agent and, thereafter, to the 
issuer or another party; provided that:
    (i) The deposited securities shall not be redeemable prior to their 
final maturity;
    (ii) The escrow agreement shall prohibit the substitution of the 
deposited securities unless the substituted securities are Government 
Securities; and
    (iii) At the time the deposited securities are placed in the escrow 
account, or at the time a substitution of the deposited securities is 
made, an independent certified public accountant shall have certified 
to the escrow agent that the deposited securities will satisfy all 
scheduled payments of principal, interest and applicable premiums on 
the Refunded Securities; Provided, however, an independent public 
accountant need not have provided the certification described herein if 
the security, as a Refunded Security, has received a rating from an 
NRSRO in the highest category for debt obligations (within which there 
may be sub-categories or gradations including relative standing).
    (20) Requisite NRSROs shall mean:
    (i) Any two NRSROs that have issued a rating with respect to a 
security or class of debt obligations of an issuer; or
    (ii) If only one NRSRO has issued a rating with respect to such 
security or class of debt obligations of an issuer at the time the fund 
Acquires the security, that NRSRO.
    (21) Second Tier Security shall mean any Eligible Security that is 
not a First Tier Security. Second Tier Conduit Security shall mean any 
Conduit Security that is an Eligible Security that is not a First Tier 
Security.
    (22) Single State Fund shall mean a Tax Exempt Fund that holds 
itself out as seeking to maximize the amount of its distributed income 
that is exempt from the income taxes or other taxes on investments of a 
particular state and, where applicable, subdivisions thereof.
    (23) Tax Exempt Fund shall mean any money market fund that holds 
itself out as distributing income exempt from regular federal income 
tax.
    (24) Total Assets shall mean, with respect to a money market fund 
using the Amortized Cost Method, the total amortized cost of its assets 
and, with respect to any other money market fund, the total market-
based value of its assets.
    (25) Unconditional Demand Feature shall mean a Demand Feature that 
by its terms would be readily exercisable in the event of a default in 
payment of principal or interest on the underlying security or 
securities.
    (26) United States Dollar-Denominated shall mean, with reference to 
a security, that all principal and interest payments on such security 
are payable to security holders in United States dollars under all 
circumstances and that the interest rate of, the principal amount to be 
repaid, and the timing of payments related to such security do not vary 
or float with the value of a foreign currency, the rate of interest 
payable on foreign currency borrowings, or with any other interest rate 
or index expressed in a currency other than United States dollars.
    (27) Unrated Security shall mean:
    (i) A security with a remaining maturity of 397 calendar days or 
less issued by an issuer that did not, at the time the security was 
Acquired by the fund, have a current short-term rating assigned by any 
NRSRO:
    (A) To the security; or
    (B) To the issuer of the security with respect to a class of debt 
obligations (or

[[Page 66631]]

any debt obligation within that class) that is comparable in priority 
and security with the security, or a Demand Feature with respect to the 
security; and
    (ii) A security that is a rated security and is the subject of an 
external credit support agreement (including an arrangement by which 
the security has become a Refunded Security) that was not in effect 
when the security (or the issuer) was assigned its rating unless the 
security has a rating from an NRSRO reflecting the existence of the 
credit support agreement.
    (iii) A security is not an Unrated Security if any debt obligation 
(reference security) that is issued by the same issuer and is 
comparable in priority and security with that security has a short-term 
rating by an NRSRO. The status of such security as an Eligible Security 
or First Tier Security shall be the same as that of the reference 
security.
    (28) Variable Rate Security shall mean a security the terms of 
which provide for the adjustment of its interest rate on set dates 
(such as the last day of a month or calendar quarter) and which, upon 
each adjustment until the final maturity of the instrument or the 
period remaining until the principal amount can be recovered through 
demand, can reasonably be expected to have a market value that 
approximates its amortized cost.
    (b) Holding Out and Use of Names and Titles. (1) It shall be an 
untrue statement of material fact within the meaning of section 34(b) 
of the Act (15 U.S.C. 80a-33(b)) for a registered investment company, 
in any registration statement, application, report, account, record, or 
other document filed or transmitted pursuant to the Act, including any 
advertisement, pamphlet, circular, form letter, or other sales 
literature addressed to or intended for distribution to prospective 
investors that is required to be filed with the Commission by section 
24(b) of the Act (15 U.S.C. 80a-24(b)) to hold itself out to investors 
as a money market fund or the equivalent of a money market fund, unless 
such registered investment company meets the conditions of paragraphs 
(c)(2), (c)(3) and (c)(4) of this section.
    (2) It shall constitute the use of a materially deceptive or 
misleading name or title within the meaning of section 35(d) of the Act 
[15 U.S.C. 80a-34(d)] for a registered investment company to adopt the 
term ``money market'' as part of its name or title or the name or title 
of any redeemable securities of which it is the issuer, or to adopt a 
name which suggests that it is, a money market fund or the equivalent 
of a money market fund, unless such registered investment company meets 
the conditions of paragraphs (c)(2), (c)(3), and (c)(4) of this 
section.
    (3) For purposes of this paragraph, a name which suggests that a 
registered investment company is a money market fund or the equivalent 
thereof shall include one which uses such terms as ``cash,'' 
``liquid,'' ``money,'' ``ready assets'' or similar terms.
    (c) Share Price Calculations. The current price per share, for 
purposes of distribution, redemption and repurchase, of any redeemable 
security issued by any registered investment company (``money market 
fund''), notwithstanding the requirements of section 2(a)(41) of the 
Act (15 U.S.C. 80a-2(a)(41)) and of Secs. 270.2a-4 and 270.22c-1 
thereunder, may be computed by use of the Amortized Cost Method or the 
Penny-Rounding Method; Provided, however, That:
    (1) Board Findings. The board of directors of the money market fund 
shall determine, in good faith, that it is in the best interests of the 
fund and its shareholders to maintain a stable net asset value per 
share or stable price per share, by virtue of either the Amortized Cost 
Method or the Penny-Rounding Method, and that the money market fund 
will continue to use such method only so long as the board of directors 
believes that it fairly reflects the market-based net asset value per 
share.
    (2) Portfolio Maturity. The money market fund shall maintain a 
dollar-weighted average portfolio maturity appropriate to its objective 
of maintaining a stable net asset value per share or price per share; 
Provided, however, That the money market fund will not:
    (i) Except as provided in paragraph (c)(2)(ii) of this section, 
acquire any instrument with a remaining maturity of greater than 397 
calendar days; or
    (ii) In the case of a money market fund not using the Amortized 
Cost Method, acquire a Government Security with a remaining maturity of 
greater than 762 calendar days; or
    (iii) Maintain a dollar-weighted average portfolio maturity that 
exceeds ninety days.
    (3) Portfolio Quality--(i) General. The money market fund shall 
limit its portfolio investments to those United States Dollar-
Denominated securities that the fund's board of directors determines 
present minimal credit risks (which determination must be based on 
factors pertaining to credit quality in addition to any rating assigned 
to such securities by an NRSRO) and which are at the time of 
Acquisition Eligible Securities.
    (ii) Second Tier Securities. Immediately after the Acquisition of 
any Second Tier Security:
    (A) Taxable Funds. A money market fund that is not a Tax Exempt 
Fund shall not have invested more than Five Percent of its Total Assets 
in securities which are Second Tier Securities; and
    (B) Tax Exempt Funds. A money market fund that is a Tax Exempt Fund 
shall not have invested more than Five Percent of its Total Assets in 
Conduit Securities which are Second Tier Conduit Securities.
    (iii) Securities Subject to Guarantees. A security that is subject 
to a Guarantee may be determined to be an Eligible Security or a First 
Tier Security based solely on whether the Guarantee is an Eligible 
Security or First Tier Security, as the case may be.
    (iv) Securities Subject to Conditional Demand Features. A security 
that is subject to a Conditional Demand Feature (``Underlying 
Security'') may be determined to be an Eligible Security or a First 
Tier Security only if:
    (A) The Conditional Demand Feature is an Eligible Security or First 
Tier Security, as the case may be; and
    (B) At the time of the Acquisition of the Underlying Security, the 
money market fund's board of directors has determined that there is 
minimal risk that the circumstances that would result in the 
Conditional Demand Feature not being exercisable will occur; and
    (1) The conditions limiting exercise either can be monitored 
readily by the fund, or relate to the taxability, under federal, state 
or local law, of the interest payments on the security; or
    (2) The terms of the Conditional Demand Feature require that the 
fund will receive notice of the occurrence of the condition and the 
opportunity to exercise the Demand Feature in accordance with its 
terms; and
    (C) The Underlying Security or any Guarantee of such security (or 
the debt securities of the issuer of the Underlying Security or 
Guarantee that are comparable in priority and security with the 
Underlying Security or Guarantee) has received either a short-term 
rating or a long-term rating, as the case may be, by the Requisite 
NRSROs within the NRSROs' two highest short-term or long-term rating 
categories (within which there may be sub-categories or gradations 
indicating relative standing) or, if unrated, is determined to be of 
comparable quality by the money market fund's board of directors to a 
security that has received a rating from the Requisite NRSROs within 
the NRSRO's two highest short-term or long-term rating categories, as 
the case may be.

[[Page 66632]]

    (4) Portfolio Diversification--(i) Issuer Diversification. The 
money market fund shall be diversified with respect to issuers of 
securities Acquired by the fund as provided in paragraphs (c)(4)(i) and 
(c)(4)(ii) of this section, other than with respect to Government 
Securities and securities subject to a Guarantee Issued By A Non-
Controlled Person.
    (A) Taxable and National Funds. Immediately after the Acquisition 
of any security, a money market fund other than a Single State Fund 
shall not have invested more than five percent of its Total Assets in 
securities issued by the issuer of the security; Provided, however, 
that such a fund may invest up to twenty-five percent of its Total 
Assets in the First Tier Securities of a single issuer for a period of 
up to three Business Days after the Acquisition thereof, Provided, 
Further, that the fund may not invest in the securities of more than 
one issuer in accordance with the foregoing proviso in this paragraph 
at any time.
    (B) Single State Funds. With respect to seventy-five percent of its 
Total Assets, immediately after the Acquisition of any security, a 
Single State Fund shall not have invested more than five percent of its 
Total Assets in securities issued by the issuer of the security; 
Provided, however, That a Single State Fund shall not invest more than 
five percent of its Total Assets in securities issued by the issuer of 
the security unless the securities are First Tier Securities.
    (C) Second Tier Securities--(1) Taxable Funds. Immediately after 
the Acquisition of any Second Tier Security, a money market fund that 
is not a Tax Exempt Fund shall not have invested more than the greater 
of one percent of its Total Assets or one million dollars in securities 
issued by that issuer which are Second Tier Securities.
    (2) Tax Exempt Funds. Immediately after the Acquisition of any 
Second Tier Conduit Security, a money market fund that is a Tax Exempt 
Fund shall not have invested more than the greater of one percent of 
its Total Assets or one million dollars in securities issued by that 
issuer which are Second Tier Conduit Securities.
    (ii) Issuer Diversification Calculations. For purposes of making 
calculations under paragraph (c)(4)(i) of this section:
    (A) Repurchase Agreements. The Acquisition of a repurchase 
agreement may be deemed to be an Acquisition of the underlying 
securities, provided the obligation of the seller to repurchase the 
securities from the money market fund is Collateralized Fully.
    (B) Refunded Securities. The Acquisition of a Refunded Security 
shall be deemed to be an Acquisition of a Government Security.
    (C) Conduit Securities. A Conduit Security shall be deemed to be 
issued by the issuer (other than the Municipal Issuer) ultimately 
responsible for payments of interest and principal on the security.
    (D) Asset Backed Securities--(1) General. An Asset Backed Security 
shall be deemed to be issued by the Special Purpose Entity that issued 
the Asset Backed Security, Provided, however, any person whose 
obligations constitute ten percent or more of the principal amount of 
the Qualifying Assets of that Special Purpose Entity (``Ten Percent 
Obligor'') shall be deemed to be an issuer of the portion of the Asset 
Backed Security such obligations represent; and
    (2) Secondary Asset Backed Securities. If the Ten Percent Obligor 
is itself a Special Purpose Entity issuing Asset Backed Securities 
(``Secondary ABS''), then that obligor shall be deemed to have issued a 
portion of the assets of the primary Asset Backed Security that such 
Secondary ABS represents. For purposes of identifying Ten Percent 
Obligors, continue down the chain of Ten Percent Obligors until a 
Special Purpose Entity with no Ten Percent Obligor is reached.
    (3) Demand Features and Guarantees. In the case of a Ten Percent 
Obligor deemed to be an issuer, the fund shall satisfy the 
diversification requirements of paragraph (c)(4)(iii) of this section 
with respect to any Demand Feature or Guarantee to which the Ten 
Percent Obligor's obligations are subject.
    (E) Shares in Master Funds. A money market fund substantially all 
of the assets of which consist of shares of another money market fund 
Acquired in reliance on section 12(d)(1)(E) of the Act (15 U.S.C. 80a-
12(d)(1)(E)) shall be deemed to be in compliance with this section if 
the board of directors of the money market fund holding the assets of 
another money market fund reasonably believes that the fund in which it 
has invested is in compliance with this section.
    (iii) Diversification Rules for Demand Features and Guarantees. The 
money market fund shall be diversified with respect to Demand Features 
and Guarantees Acquired by the fund as provided in paragraphs 
(c)(4)(iii) and (c)(4)(iv) of this section, other than with respect to 
a Demand Feature issued by the same institution that issued the 
underlying security.
    (A) General. Immediately after the Acquisition of any Demand 
Feature or Guarantee or security subject to a Demand Feature or 
Guarantee, a money market fund, with respect to seventy-five percent of 
its Total Assets, shall not have invested more than ten percent of its 
Total Assets in securities issued by or subject to Demand Features or 
Guarantees from the institution that issued the Demand Feature or 
Guarantee, subject to paragraphs (c)(4)(iii) (B) and (C) of this 
section.
    (B) Second Tier Demand Features or Guarantees. Immediately after 
the Acquisition of any Demand Feature or Guarantee (or a security after 
giving effect to the Demand Feature or Guarantee) that is a Second Tier 
Security, a money market fund shall not have invested more than five 
percent of its Total Assets in securities issued by or subject to 
Demand Features or Guarantees from the institution that issued the 
Demand Feature or Guarantee.
    (C) Demand Features or Guarantees Issued by Non-Controlled Persons. 
Immediately after the Acquisition of any security subject to a Demand 
Feature or Guarantee, a money market fund shall not have invested more 
than ten percent of its Total Assets in securities issued by, or 
subject to Demand Features or Guarantees from the institution that 
issued the Demand Feature or Guarantee, unless, with respect to any 
security subject to Demand Features or Guarantees from that institution 
(other than securities issued by such institution), the Demand Feature 
or Guarantee is a Demand Feature or Guarantee Issued By A Non-
Controlled Person.
    (iv) Demand Feature and Guarantee Diversification Calculations--(A) 
Fractional Demand Features or Guarantees. In the case of a security 
subject to a Demand Feature or Guarantee from an institution by which 
the institution guarantees a specified portion of the value of the 
security, the institution shall be deemed to guarantee the specified 
portion thereof, Provided, however, if the security is an Asset Backed 
Security and the Demand Feature or Guarantee is with respect to all or 
a portion of the first losses with respect to the security, the 
institution providing the Demand Feature or Guarantee shall be deemed 
to have provided the Demand Feature or Guarantee with respect to the 
entire principal amount of the security.
    (B) Layered Demand Features or Guarantees. In the case of a 
security subject to Demand Features or Guarantees from multiple 
institutions that have not limited the extent of their obligations as 
described in paragraph (c)(4)(iv)(A) of this section, each institution 
shall be deemed to have

[[Page 66633]]

provided the Demand Feature or Guarantee with respect to the entire 
principal amount of the security.
    (v) Diversification Safe Harbor. A money market fund that satisfies 
the applicable diversification requirements of paragraph (c)(4) of this 
section shall be deemed to have satisfied the diversification 
requirements of section 5(b)(1) of the Act (15 U.S.C. 80a-5(b)(1)) and 
the rules adopted thereunder.
    (5) Demand Features and Guarantees Not Relied Upon. If the fund's 
board of directors has determined that the fund is not relying on a 
Demand Feature or Guarantee to determine the quality (pursuant to 
paragraph (c)(3) of this section), or maturity (pursuant to paragraph 
(d) of this section), or liquidity of a portfolio security, and 
maintains a record of this determination (pursuant to paragraphs 
(c)(9)(ii) and (c)(10)(vi) of this section), then the fund may 
disregard such Demand Feature or Guarantee for all purposes of this 
section.
    (6) Downgrades, Defaults and Other Events--(i) Downgrades--(A) 
General. Upon the occurrence of either of the events specified in 
paragraphs (c)(6)(i)(A)(1) and (2) of this section with respect to a 
portfolio security, the board of directors of the money market fund 
shall reassess promptly whether such security continues to present 
minimal credit risks and shall cause the fund to take such action as 
the board of directors determines is in the best interests of the money 
market fund and its shareholders:
    (1) A portfolio security of a money market fund ceases to be a 
First Tier Security (either because it no longer has the highest rating 
from the Requisite NRSROs or, in the case of an Unrated Security, the 
board of directors of the money market fund determines that it is no 
longer of comparable quality to a First Tier Security); and
    (2) The money market fund's investment adviser (or any person to 
whom the fund's board of directors has delegated portfolio management 
responsibilities) becomes aware that any Unrated Security or Second 
Tier Security held by the money market fund has, since the security was 
Acquired by the fund, been given a rating by any NRSRO below the 
NRSRO's second highest short-term rating category.
    (B) Securities To Be Disposed of. The reassessments required by 
paragraph (c)(6)(i)(A) of this section shall not be required if, in 
accordance with the procedures adopted by the board of directors, the 
security is disposed of (or matures) within five Business Days of the 
specified event and, in the case of events specified in paragraph 
(c)(6)(i)(A)(2) of this section, the board is subsequently notified of 
the adviser's actions.
    (C) Special Rule for Certain Securities Subject to Demand Features. 
In the event that after giving effect to a rating downgrade, more than 
five percent of the fund's Total Assets are invested in securities 
issued by or subject to Demand Features from a single institution that 
are Second Tier Securities, the fund shall reduce its investment in 
securities issued by or subject to Demand Features from that 
institution to no more than five percent of its Total Assets by 
exercising the Demand Features at the next succeeding exercise date(s), 
absent a finding by the board of directors that disposal of the 
portfolio security would not be in the best interests of the money 
market fund.
    (ii) Defaults and Other Events. Upon the occurrence of any of the 
events specified in paragraphs (c)(6)(ii)(A) through (D) of this 
section with respect to a portfolio security, the money market fund 
shall dispose of such security as soon as practicable consistent with 
achieving an orderly disposition of the security, by sale, exercise of 
any Demand Feature or otherwise, absent a finding by the board of 
directors that disposal of the portfolio security would not be in the 
best interests of the money market fund (which determination may take 
into account, among other factors, market conditions that could affect 
the orderly disposition of the portfolio security):
    (A) The default with respect to a portfolio security (other than an 
immaterial default unrelated to the financial condition of the issuer);
    (B) A portfolio security ceases to be an Eligible Security;
    (C) A portfolio security has been determined to no longer present 
minimal credit risks; or
    (D) An Event of Insolvency occurs with respect to the issuer of a 
portfolio security or the provider of any Demand Feature or Guarantee.
    (iii) Notice to the Commission. In the event of a default with 
respect to one or more portfolio securities (other than an immaterial 
default unrelated to the financial condition of the issuer) or an Event 
of Insolvency with respect to the issuer of the security or any Demand 
Feature or Guarantee to which it is subject, where immediately before 
default the securities (or the securities subject to the Demand Feature 
or Guarantee) accounted for \1/2\ of 1 percent or more of a money 
market fund's Total Assets, the money market fund shall promptly notify 
the Commission of such fact and the actions the money market fund 
intends to take in response to such situation. Notification under this 
paragraph shall be made telephonically or by means of a facsimile 
transmission, followed by letter sent by first class mail, directed to 
the attention of the Director of the Division of Investment Management.
    (iv) Defaults for Purposes of Paragraphs (c)(6)(ii) and (iii). For 
purposes of paragraphs (c)(6) (ii) and (iii) of this section, an 
instrument subject to a Demand Feature or Guarantee shall not be deemed 
to be in default (and an Event of Insolvency with respect to the 
security shall not be deemed to have occurred) if:
    (A) In the case of an instrument subject to a Demand Feature, the 
Demand Feature has been exercised and the fund has recovered either the 
principal amount or the amortized cost of the instrument, plus accrued 
interest; or
    (B) The provider of the Guarantee is continuing, without protest, 
to make payments as due on the instrument.
    (7) Required Procedures: Amortized Cost Method. In the case of a 
money market fund using the Amortized Cost Method:
    (i) General. In supervising the money market fund's operations and 
delegating special responsibilities involving portfolio management to 
the money market fund's investment adviser, the money market fund's 
board of directors, as a particular responsibility within the overall 
duty of care owed to its shareholders, shall establish written 
procedures reasonably designed, taking into account current market 
conditions and the money market fund's investment objectives, to 
stabilize the money market fund's net asset value per share, as 
computed for the purpose of distribution, redemption and repurchase, at 
a single value.
    (ii) Specific Procedures. Included within the procedures adopted by 
the board of directors shall be the following:
    (A) Shadow Pricing. Written procedures shall provide:
    (1) That the extent of deviation, if any, of the current net asset 
value per share calculated using available market quotations (or an 
appropriate substitute which reflects current market conditions) from 
the money market fund's amortized cost price per share, shall be 
calculated at such intervals as the board of directors determines 
appropriate and reasonable in light of current market conditions;
    (2) For the periodic review by the board of directors of the amount 
of the deviation as well as the methods used to calculate the 
deviation; and

[[Page 66634]]

    (3) For the maintenance of records of the determination of 
deviation and the board's review thereof.
    (B) Prompt Consideration of Deviation. In the event such deviation 
from the money market fund's amortized cost price per share exceeds \1/
2\ of 1 percent, the board of directors shall promptly consider what 
action, if any, should be initiated by the board of directors.
    (C) Material Dilution or Unfair Results. Where the board of 
directors believes the extent of any deviation from the money market 
fund's amortized cost price per share may result in material dilution 
or other unfair results to investors or existing shareholders, it shall 
cause the fund to take such action as it deems appropriate to eliminate 
or reduce to the extent reasonably practicable such dilution or unfair 
results.
    (8) Required Procedures: Penny-Rounding Method. In the case of a 
money market fund using the Penny-Rounding Method, in supervising the 
money market fund's operations and delegating special responsibilities 
involving portfolio management to the money market fund's investment 
adviser, the money market fund's board of directors undertakes, as a 
particular responsibility within the overall duty of care owed to its 
shareholders, to assure to the extent reasonably practicable, taking 
into account current market conditions affecting the money market 
fund's investment objectives, that the money market fund's price per 
share as computed for the purpose of distribution, redemption and 
repurchase, rounded to the nearest one percent, will not deviate from 
the single price established by the board of directors.
    (9) Specific Procedures: Amortized Cost and Penny-Rounding Methods. 
Included within the procedures adopted by the board of directors for 
money market funds using either the amortized cost or penny-rounding 
methods shall be the following:
    (i) Securities for Which Maturity Is Determined by Reference to 
Demand Features. In the case of a security for which maturity is 
determined by reference to a Demand Feature, written procedures shall 
require ongoing review of the security's continued minimal credit 
risks, which review must be based on, among other things, financial 
data for the most recent fiscal year of the issuer of the Demand 
Feature and, in the case of a security subject to a Conditional Demand 
Feature, the issuer of the security whose financial condition must be 
monitored under paragraph (c)(3)(iv) of this section, whether such data 
is publicly available or provided under the terms of the security's 
governing documentation.
    (ii) Securities Subject to Demand Features or Guarantees. In the 
case of a security subject to one or more Demand Features or Guarantees 
which the fund's board of directors has determined that the fund is not 
relying on to determine the quality (pursuant to paragraph (c)(3) of 
this section), maturity (pursuant to paragraph (d) of this section) or 
liquidity of the security subject to the Demand Feature or Guarantee, 
written procedures shall require periodic evaluation of such 
determination.
    (iii) Adjustable Rate Securities Without Demand Features. In the 
case of a Variable Rate or Floating Rate Security that does not have a 
Demand Feature and for which maturity is determined pursuant to 
paragraphs (d)(1), (d)(2) or (d)(4) of this section, written procedures 
shall require periodic review of whether the interest rate formula, 
upon readjustment of its interest rate, can reasonably be expected to 
cause the security to have a market value that approximates its 
amortized cost value.
    (iv) Asset Backed Securities. In the case of an Asset Backed 
Security, written procedures shall require the fund to periodically 
determine the number of Ten Percent Obligors (as that term is used in 
paragraph (c)(4)(ii)(D) of this section) deemed to be the issuers of 
all or a portion of the Asset Backed Security for purposes of paragraph 
(c)(4)(ii)(D) of this section.
    (10) Record Keeping and Reporting--(i) Written Procedures. For a 
period of not less than six years following the replacement of such 
procedures with new procedures (the first two years in an easily 
accessible place), a written copy of the procedures (and any 
modifications thereto) described in paragraphs (c)(6) through (c)(9) 
and (e) of this section shall be maintained and preserved.
    (ii) Board Considerations and Actions. For a period of not less 
than six years (the first two years in an easily accessible place) a 
written record shall be maintained and preserved of the board of 
directors' considerations and actions taken in connection with the 
discharge of its responsibilities, as set forth in this section, to be 
included in the minutes of the board of directors' meetings.
    (iii) Credit Risk Analysis. For a period of not less than three 
years from the date that the credit risks of a portfolio security were 
most recently reviewed, a written record of the determination that a 
portfolio security presents minimal credit risks and the NRSRO ratings 
(if any) used to determine the status of the security as an Eligible 
Security, First Tier Security or Second Tier Security shall be 
maintained and preserved in an easily accessible place.
    (iv) Determinations with Respect to Adjustable Rate Securities. For 
a period of not less than three years from the date when the 
determination was most recently made, a written record shall be 
preserved and maintained, in an easily accessible place, of the 
determination required by paragraph (c)(9)(iii) of this section (that a 
Variable Rate or Floating Rate Security that does not have a Demand 
Feature and for which maturity is determined pursuant to paragraphs 
(d)(1), (d)(2) or (d)(4) of this section can reasonably be expected, 
upon readjustment of its interest rate at all times during the life of 
the instrument, to have a market value that approximates its amortized 
cost).
    (v) Determinations with Respect to Asset Backed Securities. For a 
period of not less than three years from the date when the 
determination was most recently made, a written record shall be 
preserved and maintained, in an easily accessible place, of the 
determination required by paragraph (c)(9)(iv) of this section (the 
number of Ten Percent Obligors (as that term is used in paragraph 
(c)(4)(ii)(D) of this section) deemed to be the issuers of all or a 
portion of the Asset Backed Security for purposes of paragraph 
(c)(4)(iv)(D) of this section). The written record shall include the 
identities of the Ten Percent Obligors (as that term is used in 
paragraph (c)(4)(ii)(D) of this section), the percentage of the 
Qualifying Assets constituted by the securities of each Ten Percent 
Obligor and the percentage of the fund's Total Assets that are invested 
in securities of each Ten Percent Obligor.
    (vi) Evaluations with Respect to Securities Subject to Demand 
Features or Guarantees. For a period of not less than three years from 
the date when the evaluation was most recently made, a written record 
shall be preserved and maintained, in an easily accessible place, of 
the evaluation required by paragraph (c)(9)(ii) (regarding securities 
subject to one or more Demand Features or Guarantees) of this section.
    (vii) Inspection of Records. The documents preserved pursuant to 
this paragraph (c)(10) shall be subject to inspection by the Commission 
in accordance with section 31(b) of the Act (15 U.S.C. 80a-30(b)) as if 
such documents were records required to be maintained pursuant to rules 
adopted under section 31(a) of the Act (15 U.S.C. 80a-30(a)). If any 
action was taken under paragraphs (c)(6)(ii) (with respect to defaulted 
securities and events of

[[Page 66635]]

insolvency) or (c)(7)(ii) (with respect to a deviation from the fund's 
share price of more than \1/2\ of 1 percent) of this section, the money 
market fund will file an exhibit to the Form N-SAR (17 CFR 274.101) 
filed for the period in which the action was taken describing with 
specificity the nature and circumstances of such action. The money 
market fund will report in an exhibit to such Form any securities it 
holds on the final day of the reporting period that are not Eligible 
Securities.
    (d) Maturity of Portfolio Securities. For purposes of this section, 
the maturity of a portfolio security shall be deemed to be the period 
remaining (calculated from the trade date or such other date on which 
the fund's interest in the security is subject to market action) until 
the date on which, in accordance with the terms of the security, the 
principal amount must unconditionally be paid, or in the case of a 
security called for redemption, the date on which the redemption 
payment must be made, except as provided in paragraphs (d)(1) through 
(d)(8) of this section:
    (1) Adjustable Rate Government Securities. A Government Security 
which is a Variable Rate Security where the variable rate of interest 
is readjusted no less frequently than every 762 calendar days shall be 
deemed to have a maturity equal to the period remaining until the next 
readjustment of the interest rate. A Government Security which is a 
Floating Rate Security shall be deemed to have a remaining maturity of 
one day.
    (2) Short-Term Variable Rate Securities. A Variable Rate Security, 
the principal amount of which, in accordance with the terms of the 
security, must unconditionally be paid in 397 calendar days or less 
shall be deemed to have a maturity equal to the earlier of the period 
remaining until the next readjustment of the interest rate or the 
period remaining until the principal amount can be recovered through 
demand.
    (3) Long-Term Variable Rate Securities. A Variable Rate Security, 
the principal amount of which is scheduled to be paid in more than 397 
calendar days, that is subject to a Demand Feature shall be deemed to 
have a maturity equal to the longer of the period remaining until the 
next readjustment of the interest rate or the period remaining until 
the principal amount can be recovered through demand.
    (4) Short-Term Floating Rate Securities. A Floating Rate Security, 
the principal amount of which, in accordance with the terms of the 
security, must unconditionally be paid in 397 calendar days or less 
shall be deemed to have a maturity of one day.
    (5) Long-Term Floating Rate Securities. A Floating Rate Security, 
the principal amount of which is scheduled to be paid in more than 397 
calendar days, that is subject to a Demand Feature, shall be deemed to 
have a maturity equal to the period remaining until the principal 
amount can be recovered through demand.
    (6) Repurchase Agreements. A repurchase agreement shall be deemed 
to have a maturity equal to the period remaining until the date on 
which the repurchase of the underlying securities is scheduled to 
occur, or, where the agreement is subject to demand, the notice period 
applicable to a demand for the repurchase of the securities.
    (7) Portfolio Lending Agreements. A portfolio lending agreement 
shall be treated as having a maturity equal to the period remaining 
until the date on which the loaned securities are scheduled to be 
returned, or where the agreement is subject to demand, the notice 
period applicable to a demand for the return of the loaned securities.
    (8) Money Market Fund Securities. An investment in a money market 
fund shall be treated as having a maturity equal to the period of time 
within which the Acquired money market fund is required to make payment 
upon redemption, unless the Acquired money market fund has agreed in 
writing to provide redemption proceeds to the investing money market 
fund within a shorter time period, in which case the maturity of such 
investment shall be deemed to be the shorter period.
    (e) Delegation. The money market fund's board of directors may 
delegate to the fund's investment adviser or officers the 
responsibility to make any determination required to be made by the 
board of directors under this section (other than the determinations 
required by paragraphs (c)(1) (board findings); (c)(6)(i)(C) (rule for 
certain securities subject to second tier Demand Features); (c)(6)(ii) 
(defaults and other events); (c)(7)(i) (general required procedures: 
Amortized Cost Method); (c)(7)(ii)(A) (shadow pricing), (B) (prompt 
consideration of deviation), and (C) (material dilution or unfair 
results); and (c)(8) (required procedures: Penny Rounding Method) of 
this section) provided:
    (1) Written Guidelines. The Board shall establish and periodically 
review written guidelines (including guidelines for determining whether 
securities present minimal credit risks as required in paragraph (c)(3) 
of this section) and procedures under which the delegate makes such 
determinations:
    (2) Oversight. The Board shall take any measures reasonably 
necessary (through periodic reviews of fund investments and the 
delegate's procedures in connection with investment decisions and 
prompt review of the adviser's actions in the event of the default of a 
security or Event of Insolvency with respect to the issuer of the 
security or any Guarantee to which it is subject that requires 
notification of the Commission under paragraph (c)(6)(iii) of this 
section) to assure that the guidelines and procedures are being 
followed.
    5. Section 270.2a41-1 is amended by revising the introductory text 
of paragraph (a) to read as follows:


Sec. 270.2a41-1  Valuation of standby commitments by registered 
investment companies.

    (a) A standby commitment means a right to sell a specified 
underlying security or securities within a specified period of time and 
at an exercise price equal to the amortized cost of the underlying 
security or securities plus accrued interest, if any, at the time of 
exercise, that may be sold, transferred or assigned only with the 
underlying security or securities. A standby commitment entitles the 
holder to receive same day settlement, and will be considered to be 
from the party to whom the investment company will look for payment of 
the exercise price. A standby commitment may be assigned a fair value 
of zero, Provided, That:
* * * * *
    6. Section 270.12d3-1 is amended by revising paragraph (d)(7)(v) to 
read as follows:


Sec. 270.12d3-1  Exemption of acquisitions of securities issued by 
persons engaged in securities related businesses.

* * * * *
    (d) * * *
    (7) * * *
    (v) Acquisition of Demand Features or Guarantees, as these terms 
are defined in Sec. 270.2a-7(a)(8) and Sec. 270.2a-7(a)(14) 
respectively, provided that, immediately after the acquisition of any 
Demand Feature or Guarantee, the company will not, with respect to 75 
percent of the total value of its assets, have invested more than ten 
percent of the total value of its assets in securities underlying 
Demand Features or Guarantees from the same institution. For the 
purposes of this section, a Demand Feature or Guarantee will be 
considered to be from the party to whom the company will look for 
payment of the exercise price.
* * * * *

[[Page 66636]]

    7. Section 270.17a-9 is revised to read as follows:


Sec. 270.17a-9  Purchase of certain securities from a money market fund 
by an affiliate, or an affiliate of an affiliate.

    The purchase of a security that is no longer an Eligible Security 
(as defined in paragraph (a)(10) of Sec. 270.2a-7) from an open-end 
investment company holding itself out as a ``money market'' fund shall 
be exempt from section 17(a) of the Act (15 U.S.C. 80a-17(a)), provided 
that:
    (a) The purchase price is paid in cash; and
    (b) The purchase price is equal to the greater of the amortized 
cost of the security or its market price (in each case, including 
accrued interest).
    8. Section 270.31a-1 is amended by revising the last sentence of 
paragraph (b)(1) to read as follows:


Sec. 270.31a-1  Records to be maintained by registered investment 
companies, certain majority-owned subsidiaries thereof, and other 
persons having transactions with registered investment companies.

* * * * *
    (b) * * *
    (1) * * * In the case of a money market fund, also identify the 
provider of any Demand Feature or Guarantee (as defined in Sec. 270.2a-
7(a)(8) or Sec. 270.2a-7(a)(14) respectively) and give a brief 
description of the nature of the Demand Feature or Guarantee (e.g., 
unconditional demand feature, conditional demand feature, put, letter 
of credit, or bond insurance) and, in a subsidiary portfolio investment 
record, provide the complete legal name and accounting and other 
information (including sufficient information to calculate coupons, 
accruals, maturities, puts, and calls) necessary to identify, value, 
and account for each investment.
* * * * *
    9. Section 270.34b-1 is amended by revising paragraph (b) (the Note 
remains unchanged), to read as follows:


Sec. 270.34b-1  Sales literature deemed to be misleading.

* * * * *
    (b)(1) Except as provided in paragraph (b)(2) of this section:
    (i) In the case of sales literature regarding a money market fund:
    (A) Any quotation of yield or similar quotation purporting to 
demonstrate the income earned or distributions made by the money market 
fund, shall be accompanied by a quotation of current yield specified by 
paragraph (d)(1) of Sec. 230.482 of this chapter;
    (B) Any quotation of tax equivalent yield or other similar 
quotation purporting to demonstrate the tax equivalent yield earned or 
distributions made by the money market fund shall be accompanied by a 
quotation of tax equivalent yield as specified in paragraph (d)(1) of 
Sec. 230.482 of this chapter; and
    (C) Any quotation of total return shall cover a period of no less 
than one year and shall be accompanied by a quotation of the fund's 
current yield described in paragraph (b)(1)(i) of this section which 
shall be given equal prominence.
    (ii) In the case of sales literature regarding a company other than 
a money market fund:
    (A) Any quotation of yield or similar quotation purporting to 
demonstrate the income earned or distributions made by the company 
shall be accompanied by a quotation of current yield specified by 
paragraph (e)(1) of Sec. 230.482 of this chapter; and
    (B) Any quotation of tax equivalent yield of other similar 
quotation purporting to demonstrate the tax equivalent yield earned or 
distributions made by the company shall be accompanied by a quotation 
of tax equivalent yield as specified in paragraph (e)(1) of 
Sec. 230.482 of this chapter.
    (2) The requirements specified in paragraphs (b) (1) and (2) of 
this section shall not apply to any quarterly, semi-annual, or annual 
report to shareholders under Section 30 of the Act (15 U.S.C. 80a-29), 
containing performance data for a period commencing no earlier than the 
first day of the period covered by the report; nor shall the 
requirements of paragraphs (e)(3)(ii) and (f) of Sec. 230.482 of this 
chapter apply to any such periodic report containing any other 
performance data.

PART 239--FORMS PRESCRIBED UNDER THE SECURITIES ACT OF 1933

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

    10. The authority citation for part 239 continues to read, in part, 
as follows:

    Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 77sss, 78c, 78l, 
78m, 78n, 78o(d), 78w(a), 78ll(d), 79e, 79f, 79g, 79j, 79l, 79m, 
79n, 79q, 79t, 80a-8, 80a--29, 80a-30 and 80a-37, unless otherwise 
noted.
* * * * *
    11. 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.

Form N-1A [Amended]

    12. Part B, Item 22(a) of Form N-1A (referenced in Secs. 239.15A 
and 274.11A) is amended by:
    (a) Adding in paragraphs (i) and (ii) the phrase ``and income other 
than investment income'' after the phrase ``exclusive of capital 
changes'' in each paragraph.
    (b) Adding at the end of Instruction 2 the following: ``Exclude 
income other than investment income.''
* * * * *
    Note: Form N-1A does not and the amendments will not appear in 
the Code of Federal Regulations.

    13. Guide 21 (Disclosure of Risk Factors) to Form N-1A (referenced 
in 17 CFR 239.15A and 274.11A) is amended by revising the word 
``effect'' to read ``affect'' in the sentence of the last paragraph.
* * * * *
    Note: Guide 21 to Form N-1A does not and the amendments will not 
appear in the Code of Federal Regulations.

    14. Guide 35 (Money Market Fund Investments in Other Money Market 
Funds) to Form N-1A (referenced in 17 CFR 239.15A and 274.11A] is 
amended by revising the last sentence to read as follows:
    * * * Paragraph (c)(4)(ii)(E) of rule 2a-7 describes the 
obligations of a fund that invests substantially all of its assets in 
another money market fund.

    Note: Guide 35 to Form N-1A does not and the amendments will not 
appear in the Code of Federal Regulations.

Form N-3 [Amended]

    15. Item 25(a) of Form N-3 (referenced in Secs. 239.17a and 
274.11b) is amended by:
    (a) Adding in paragraphs (i) and (ii) the phrase ``and income other 
than investment income'' after the phrase ``exclusive of capital 
changes'' in each paragraph.
    (b) Adding at the end of Instruction 3 the following: ``Exclude 
income other than investment income.''
* * * * *
    Note: Form N-3 does not and the amendments will not appear in 
the Code of Federal Regulations.

    16. Guide 38 to Form N-3 (Money Market Fund Investments in Other 
Money Market Funds) (referenced in 17 CFR 239.17a and 274.11b) is 
amended by revising the last sentence to read as follows:
    * * * Paragraph (c)(4)(ii)(E) of rule 2a-7 describes the 
obligations of a fund that invests substantially all of its assets in 
another money market fund.


[[Page 66637]]


    Note: Guide 38 to Form N-3 does not and the amendments will not 
appear in the Code of Federal Regulations.

Form N-4 [Amended]

    17. Part B, Item 21(a) of Form N-4 (referenced in Secs. 239.17b and 
274.11c) is amended by:
    (a) Adding in paragraphs (i) and (ii) the phrase ``and income other 
than investment income'' after the phrase ``exclusive of capital 
changes'' in each paragraph.
    (b) Adding at the end of Instruction 3 the following: ``Exclude 
income other than investment income.''
* * * * *
    Note: Form N-4 does not and the amendments will not appear in 
the Code of Federal Regulations.

By the Commission.

    Dated: December 10, 1996.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 96-31783 Filed 12-17-96; 8:45 am]
BILLING CODE 8010-01-P