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Amended SEC Rules Under the Short-Swing Profit Rules of Section 16 of the Securities Exchange Act of 1934


On May 30, 1996, the Securities and Exchange Commission adopted amendments to its rules and forms regarding the filing of ownership reports by officers, directors, and 10% shareholders, and the exemption of certain transactions by those persons from the short-swing profit recovery provisions of Section 16 of the Securities Exchange Act of 1934 and related provisions of the Investment Company Act of 1940 and the Public Utility Holding Company Act of 1935.

The new rules, which essentially implement the SEC's 1995 proposals and elements of its 1994 proposals not addressed in 1995, generally broaden and simplify the reporting and liability exemptions for employee benefit transactions and certain other transactions. Eliminated are certain employee plan requirements, including the written plan requirement (including the requirement that a plan specify a maximum number of shares) and the prohibition on transfer of options and other derivative securities. In addition, the shareholder approval, disinterested administration and six-month holding requirements are eliminated, except as an alternative ground for exemption on a transaction-by-transaction basis.

The new rules are generally effective August 15, 1996. The existing phase-in period, permitting the use of "old" Rule 16b-3 (and certain portions of "old" Rule 16a-8), is extended until November 1, 1996. Issuers may also continue to rely on "current" Rule 16b-3 until that date. As with the current transition rule, an issuer must conform all plans to the new rules at the same time.

Highlights of changes from the current rules, taken from the SEC Release Nos. 34-37260 and 35-26524, are as follows:

A. Transactions Between an Issuer and its Directors or Officers

  • Generally, transactions between an issuer (including an employee benefit plan sponsored by an issuer) and its directors or officers will be exempt from Section 16(b) if they satisfy the applicable conditions of new Rule 16b-3, as set forth below:
  • Routine transactions pursuant to specified tax-conditioned plans will be exempt from Section 16(b) without further condition. Tax-conditioned plans include:

    • Qualified Plans - plans that satisfy the minimum coverage and participation rules applicable to tax-qualified retirement plans (IRC section 410 and 401(a)(26)), whether or not the plan is so qualified.
    • Stock Purchase Plans - plans that satisfy the minimum coverage and participation requirements applicable to tax-qualified employee stock purchase plans (IRC Sections 423(b)(3) and (5)) or tax-qualified retirement plans IRC Section 410), whether or not the plan is so qualified. (Thus, an employee stock purchase plan not qualified under IRC Section 423 is a tax-conditioned plan if it would satisfy the minimum coverage rules of IRC Section 410.)
    • Excess Benefit Plans - plans that work in conjunction with a Qualified Plan to provide only a benefit or contribution otherwise prohibited under the Qualified Plan due to limitations of the Internal Revenue Code.
  • Fund-switching transactions or volitional cash withdrawals from an issuer equity securities fund will be exempt if the election to engage in the transaction is at least six months after the last election to engage in such a transaction that was opposite-way (i.e., a previous acquisition if the transaction to be exempted is a disposition, and vice versa). These transactions need not be made during a quarterly window period. The six-month requirement does not apply to certain elections mandated by the Internal Revenue Code (e.g., retirement age diversification elections under an ESOP) or triggered by termination of employment.
  • Other acquisitions by an officer or director from the issuer, including grants, awards and participant-directed transactions, will be exempt upon satisfaction of any one of three alternative conditions:

    • approval of the transaction by the board of directors of the issuer or a committee of two or more Non-Employee Directors (defined to exclude directors with consulting or other compensation arrangements or relationships that must be disclosed in proxy statements under certain requirements Item 404 of Regulation S-K);
    • approval or ratification of the transaction by the holders of the majority of the issuer's securities; or
    • satisfaction of a six-month holding period following the date of acquisition.
  • Other dispositions by an officer or director to the issuer will be exempt if approved by the board of directors of the issuer, a committee of two or more Non-Employee Directors or the holders of the majority of the issuer's securities.

B. Derivative Securities

  • The current Section 16 exclusion from the definition of "derivative securities" for certain instruments based on the value of the issuer's equity securities but settled exclusively in cash is rescinded. However, these instruments are eligible for exemption pursuant to new Rule 16b-3, as described above. Cash-only instruments issued before August 15 that were excludable from the definition of "derivative security" under current Rule 16a-1(c)(3) will remain exempt after August 15 from the reporting requirements of Section 16(a) and a transaction on or after that date that is consistent with the conditions of the cash-only exclusion pursuant to which the security was issued also will not to be subject to Section 16.
  • Options granted to an underwriter in a registered public offering to satisfy over-allotments are expressly excluded from the definition of "derivative security."
  • Rights to withhold or surrender a security in satisfaction of the exercise price of a derivative security, or in satisfaction of the tax-withholding consequences applicable to the receipt, exercise or vesting of an issuer equity security (including a derivative security) are excluded from the definition of "derivative security."

C. Form 3, 4 and 5 Reporting

  • A number of transactions exempt from Section 16(b) that currently must be reported on Form 5 no longer will be required to be reported at all, among them:

    • Exempt transactions pursuant to tax-conditioned plans (other than fund-switching transactions and volitional cash withdrawals from an issuer equity securities fund);
    • Transactions pursuant to dividend or interest reinvestment plans and domestic relations orders;
    • Transactions that change only the form of beneficial ownership;
    • Certain transactions by a person who has ceased to be an insider; and
    • Expirations or cancellations of certain derivative securities.
  • Exercises and conversions of derivative securities, including employee stock options, whether or not exempt from Section 16(b), will be reported on Form 4.
  • All other exempt transactions and small acquisitions will be reported annually on Form 5, with earlier reporting on Form 4 permitted.
  • Reporting will be permitted on a joint basis when more than one person subject to Section 16 is deemed to be a beneficial owner of the same issuer equity securities.
  • A trust will be subject to Section 16 only if the trust is the beneficial owner of more than ten percent of a class of issuer equity securities registered pursuant to Section 12 of the Act. Current Rule 16a-8(a)(1)(ii), which makes a trust subject to Section 16 if the trustee otherwise is subject to Section 16 and exercises or shares investment control of issuer securities held by the trust and the trustee or a member of the trustee's immediate family has a pecuniary interest in such issuer securities, is rescinded. Other obligations applicable to trusts, trustees, beneficiaries and settlors pursuant to current Rule 16a-8 are not affected by this change.
  • Insiders' obligation to report equity swap transactions is reiterated and clarified, and a new reporting code is added for equity swaps.
D. Proxy Disclosure
  • Item 405 of Regulations S-K and S-B is revised to clarify the nature of the issuer's obligation to review insiders' filings in order to determine whether there are any delinquent reports that require disclosure. The issuer may rely on Forms 3, 4 and 5 furnished to it, as well as written representations by an insider that no Form 5 is required. However, the issuer is obligated to consider the absence of certain forms, e.g. the absence of a Form 3 and, unless the issuer has received a written representation that none is required, the absence of a Form 5.
  • Item 405 disclosure will be required to be placed under a separate caption entitled "Section 16(a) Beneficial Ownership Reporting Compliance."
E. Other Issues

  • The exemption for the reinvestment of dividends and interest pursuant to dividend and interest reinvestment plans is revised to eliminate the requirement that the plan be made available on the same terms to all holders of the class of securities.
  • A new exemption is provided for transactions pursuant to domestic relations orders.
  • The exemption for stock splits, stock dividends and pro rata rights is expanded to exempt stock dividends paid in the securities of a different issuer, such as spinoff distributions.
  • A transaction that occurs after a person ceases to be an officer or director will be subject to Section 16 only if it is not otherwise exempt from Section 16(b) and is executed within six months of an opposite-way transaction subject to Section 16(b) that occurred while the person was an officer or director.
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