US social impact bonds get boost as SEC clears nonprofit Social Finance for intermediary role

Trading and markets division won’t recommend enforcement under Exchange Act

In a move which could help catalyse the social impact bond market in America, the US Securities and Exchange Commission (SEC) has advised US-based Social Finance Inc., the nonprofit organization aiming to mobilize capital to drive social progress, that it can offer and sell social impact bonds (SIBs) without having to register as a broker-dealer, as required under US federal law.

Social Finance Inc. was co-founded in 2011 by Generation Investment Management’s David Blood, social impact investment pioneer Sir Ronald Cohen and Tracy Palandjian, co-chair of the US National Advisory Board to the G8 Social Impact Investment Taskforce. It takes its inspiration from the UK group of the same name.

In a ‘no-action’ letter seen by Responsible Investor, Paula Jenson, Acting Chief Counsel at the SEC’s trading and markets division, says her department will not recommend enforcement action under the Securities Exchange Act if Social Finance structures SIB deals without registering as a broker-dealer.

It follows a request for ‘no-action relief’ by lawyers WilmerHale, representing Social Finance, that argues that while Social Finance structures SIBs and engages potential investors, the majority of its work is in a social capacity such as identifying social causes which are a good match for SIBs and monitoring social service providers. Further, WilmerHale argues that Social Finance does not directly handle funds or securities in connection with SIB transactions.The SEC has accepted these arguments; indeed it replied to WilmerHale’s November 12 letter the next day. The letter also addresses the state of the SIB market, noting that the first bipartisan Social Impact Bond Act at federal level was introduced this summer; President Obama’s fiscal 2014 budget includes funding for several pay-for-performance programmes; and many states are pursuing SIBs. “Accordingly, the issuance of SIBs is likely to increase,” it says.

The ‘no-action relief’ means Social Finance will have much less onerous requirements than a traditional broker dealer, and could lead to much more SIB activity in the US involving the organisation.

However, the relief only applies to Social Finance, and the SEC makes clear in its letter that it expresses no view on whether other participants in SIB transactions would be required to register as broker-dealers under the Securities Exchange Act.

Social Finance has been at the forefront of SIBs in the US since its launch. It was involved in the first state-led SIB or ‘Pay for Success’ as they are also known in the US, project in New York, where Bank of America Merrill Lynch raised $13.2m from investors to train and employee former prisoners to reduce recidivism.

The letter also notes that SEC staff do “not opine as whether SIBs are securities under the federal securities laws”.

Social Finance points out in its letter that it is expected that SIBs will be in the form of debt or equity issued by a special purpose vehicle (SPV).