RIA Compliance Blog

SEC Issues “Concept Release” Seeking Public Comment on Potential Overhaul of Commission’s Securities Registration Exemptions

August 8, 2019 | Steve Parker

Signaling an interest in potentially overhauling its current securities offering exemption structure, the SEC has published a Concept Release, seeking public comments on a broad host of topics centering around the Commission’s current registration exemption regime. Clearly, the impetus for these potential changes comes from SEC Chairman Jay Clayton, who has declared the rationalization and democratization of capital formation to be a major goal of his tenure at the SEC.

A “Concept Release” is an infrequently-used administrative proceeding that enables the SEC to potentially commence the process of regulatory reform by first soliciting opinions from interested parties. In announcing the publication of its new Concept Release, the SEC aims to “simplify, harmonize, and improve” its current exemption regime in an effort to balance the goals of promoting capital formation and protecting investors. Continue reading ›

New OCIE Risk Alert Warns Advisers of Compliance Pitfalls in Hiring Individuals with Disciplinary Histories

July 25, 2019 | Parker MacIntyre

A new Risk Alert released by the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) reminds advisers of the added compliance obligations that arise when hiring representatives carrying the baggage of reportable disciplinary histories. While by no means exhorting advisers not to hire such persons, the Risk Alert nonetheless encourages advisers to properly consider the obvious compliance risks presented by such hiring practices, and, in turn, to adopt prudent policies and procedures to address those risks.

We follow OCIE’s periodic Risk Alerts closely as they not only provide insights regarding the focus of recent OCIE examinations, but also provide insights as to what OCIE management will be directing the staff to focus on in the future. This particular Risk Alert is a read-out of the results of a recent series of OCIE exams from 2017 specifically targeting advisory firms that (i) previously employed, or currently employ, any individual with a history of disciplinary events and (ii) for the most part serve retail clients. Indeed, OCIE makes special notation of its “focus on protecting retail investors” as a genesis for both the targeted exam initiative (the “Initiative”) as well as this new Risk Alert. Accordingly, advisers with a large retail customer base should pay especially close attention to the new Risk Alert.

In conducting the Initiative, OCIE’s staff focused on three areas of interest: (i) the compliance policies and procedures put into place to specifically cover the activities of previously-disciplined individuals; (ii) the disclosures relating to previously-disciplined individuals required to be made in filings and other public documents (including advertising); and (iii) conflicts of interest implicated by the hiring of previously-disciplined individuals. With this roadmap in place, the Initiative identified a variety of observed deficiencies across a range of topics, including:

Chairman Clayton Announces New SEC Policy for Granting Disqualification Waivers

July 11, 2019 | Parker MacIntyre

SEC Chairman Jay Clayton recently announced, on behalf of the Commission, a significant change in policy as to how the SEC will consider requests for disqualification waivers made by respondents in SEC enforcement proceedings where a settlement offer is being negotiated. We think that Clayton is to be applauded for this move as the new policy should prove to be a fairer and more efficient alternative to the status quo that has prevailed in recent years, most notably because it will give respondents a heightened degree of certainty regarding “collateral consequences” of an enforcement settlement.

First a bit of background. While the majority of SEC enforcement proceedings are resolved with a settlement agreement between the SEC and the respondent resulting in fines, restitution to investors, or other sanctions, a secondary or “collateral” consequence of the settlement may be statutory disqualification under the securities laws of the respondent (or an affiliate) from some otherwise permissible activity. A prime example is the so-called “bad-boy” provisions of Reg D, which, among other things, prohibit persons subject to SEC cease-and-desist orders or other SEC disciplinary orders from raising capital in a Reg D private placement. Another example is the prohibition on receipt of cash fees for solicitation under Rule 206(4)-3 of the federal Advisers Act where the solicitor is subject to certain SEC disciplinary orders. As noted by Clayton, “[t]he effects of these collateral consequences can vary widely depending on the scope of the businesses and operations of the entity and, in practice, range from immaterial to extremely significant.” Continue reading ›

Massachusetts Adopts New Rules Mandating Additional Written Fee Disclosure by RIAs

June 25, 2019 | Parker MacIntyre

The Massachusetts Securities Division (“MSD”) has announced the adoption of new rules requiring that investment advisers registered with the MSD provide, to clients and prospective clients, an additional one-page stand-alone disclosure document specifically detailing the adviser’s fee schedule. This new disclosure document or “Fee Table” will need to be “updated and delivered consistent with the existing requirements for Form ADV (including the Brochure).” The new rules, which were adopted pursuant to the MSD’s notice and comment process, take effect—and will be enforced—commencing on January 1, 2020.

While only applicable to advisers registered with the MSD, the new rules requiring the Fee Table could portend similar future action by additional states. Moreover, the new rules come on the heels of the SEC’s June 5^th high profile standard-of-conduct releases (which we have previously chronicled) that also include a new stand-alone disclosure document for SEC-registered advisers to be known as Form CRS. If the MSD’s actions here are in fact echoed by additional states, it could cause potential headaches for the RIA industry, as this would require RIAs operating in multiple states to conform to multiple differing disclosure document regimes. Additionally, with the new Form CRS (applicable to SEC-registered advisers only) beginning to circulate at about the same time, an assortment of new documents being presented to clients may cause marketplace confusion as well. Continue reading ›

SEC Adopts Long-Awaited Regulation Best Interest and Amendments to Form ADV

June 13, 2019 | Parker MacIntyre

The SEC, on June 5^th, adopted a comprehensive set of rules and interpretations that will have a profound effect on the brokerage and advisory industries going forward, first and foremost by revising the standard-of-conduct applicable to broker-dealers and their registered representatives in dealings with retail customers. Even casual observers will likely be familiar with the various proceedings just concluded at the SEC, which resolve debates that have raged in the investment industry for decades as to the need to align the higher fiduciary “standard-of-conduct” applicable to investment advisers with the lesser suitability standard applicable to broker-dealers. While the June 5^th releases do not equalize the two standards—as many commentators would have desired—they do significantly raise the standard applicable to broker-dealers from suitability to “best interests.” The SEC’s releases number four separate documents, each covering a distinct aspect of the standard-of-conduct controversy, and run over 1200 pages. Accordingly, this note will seek to identify the major headlines from the various releases. Look for future writings, wherein we will explore the nuances of the June 5^th releases in greater detail.

As noted, the SEC released a package of Final Rules and Interpretive Releases comprising four separate components: (1) Final Rules implementing Regulation Best Interest (“Reg BI”), the new enhanced standard for brokers; (2) Final Rules implementing a new Form CRS Relationship Summary (“Form CRS”), a new disclosure document applicable to both brokers and advisers (that, for advisers, will function as a new Part 3 to Form ADV); (3) an Interpretive Release clarifying the SEC’s views of the fiduciary duty that investment advisers owe to their clients; and (4) an Interpretive Release intended to more clearly delineate when a broker-dealer’s performance of advisory activities causes it to become an investment adviser within the meaning of the Advisers Act. All four components of the regulatory package were approved by a 3-1 vote of the SEC’s Commissioners, with Commissioner Robert Jackson being the sole dissenter.

While the June 5^th releases are the culmination of a decades-long controversy, they are the proximate result of a formal rulemaking commenced on April 18, 2018, at which time the SEC published initial proposed versions of Reg BI, Form CRS and the advisory interpretations. The Final Rules for Reg BI and Form CRS will become effective 60 days after they are formally published in the Federal Register; however, firms will be given a transition period until June 30, 2020 to come into compliance. The two Interpretive Releases will become effective upon formal publication. Continue reading ›

State Securities Regulators’ Association Adopts Model Information Security Rule for RIAs

June 5, 2019 | Parker MacIntyre

The North American Securities Administrators Association—also known as “NASAA”—a cooperative association consisting of the chief securities regulators for each of the 50 United States, as well as Canadian and Mexican jurisdictions, has recently voted to adopt a model information security rule. NASAA’s new model information security rule could—if widely implemented by the individual NASAA Member jurisdictions—ultimately have a broad impact on the compliance programs of state-registered investment advisers.

Among its many roles as a confederation of individual regulators, NASAA frequently drafts and circulates “model rules” to its Members, who eventually vote on and adopt these draft rules for use by the various Member jurisdictions. A “model rule” is a familiar regulatory tool, which essentially provides a template upon which laws, rules, and other regulations can be drafted. For example, many of the individual states’ securities acts are variants of the Uniform Securities Act of 2002, a model act created by a group of legal scholars, regulators and veteran attorneys. NASAA’s new model rule is just such a template for regulators. Individual states and other jurisdictions may—at their discretion—adopt it in whole, in part, or not at all. That said, we believe that, especially given the growing importance of cybersecurity issues, it will be used more likely than not as the states come around to developing rules to parallel those already in place at the federal (SEC) level. Continue reading ›

New OCIE Risk Alert Urges Advisers to Review Their Data Security Procedures

May 31, 2019 | Parker MacIntyre

In its latest Risk Alert, the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) heeds advisers and broker/dealers to take a fresh look at their policies and procedures in the area of electronic customer record storage in light of shortcomings discovered by OCIE’s staff as part of recently-conducted regular examinations. These shortcomings include weak or misconfigured security settings on a network storage device that, in the worst-case event, could result in unauthorized access to customer information.

OCIE Risk Alerts are highly useful resources for compliance professionals to consider as these published notices serve as a window into not only the recent experiences of OCIE staffers out in the field, but also the thinking of OCIE management as to where it will be directing its staff to focus on in future examinations. In other words, if the management of OCIE warrants it important enough to publish a Risk Alert on an particular topic, registrants can be assured that future exams will likely focus on deficiencies in that area.

This most recent Risk Alert zeros-in on deficiencies uncovered by examiners with respect to how advisers and brokers are protecting their customers’ electronic records—specifically, records kept in the “cloud” or on other types of networked storage solutions. OCIE defines cloud storage as the “electronic storage of information on infrastructure owned and operated by a hosting company or service provider.” Obviously, such storage systems may be especially vulnerable to hacking or other nefarious activities, and as such, warrant robust protections. Continue reading ›

Appeals Court Ruling in Case Involving Inadequate Disclosure by RIA May Have Significant Impact on Future SEC Enforcement Proceedings

May 16, 2019 | Parker MacIntyre

A recent decision handed down by the DC Circuit Court of Appeals in a case involving SEC action against an adviser for failure to disclose material conflicts of interest provides potentially significant precedent for SEC enforcement proceedings going forward. See The Robare Group, Ltd., et al. v. SEC, No. 16-1453, (D.C. Cir. April 30, 2019). The Robare decision is a mixed bag for the SEC in that, while it affirmed the SEC’s findings of negligence against the adviser under one section of the Advisers Act, it threw out the SEC’s findings that the adviser “willfully” violated a second Advisers Act provision based on the same negligent conduct. Notably, the Court predicated its holding against the SEC on negligent behavior and willful behavior being “mutually exclusive.” The significance of this holding is that the SEC has traditionally applied a standard of willfulness in enforcement proceedings that falls short of the level of intent required by Robare. Accordingly, unless Robare is reversed or modified, the SEC will be forced to reconsider its prior practice of assuming that all voluntary conduct constitutes “willful” behavior going forward.

Robare involved an appeal by a Houston-based adviser, The Robare Group (“TRG”), of SEC administrative findings that TRG had violated Advisers Act Sections 206(2) and 207, and Rule 206(4)-7 under the Advisers Act, as a result of TRG’s inadequate disclosure of a “revenue sharing” arrangement with Fidelity Investments, whereby Fidelity compensated TRG in return for TRG clients investing in certain funds offered on Fidelity’s online platform. While TRG received approximately $400,000 over an eight year period from Fidelity under this arrangement, the SEC alleged that, during that same period, TRG failed (at first entirely and then inadequately) to disclose to its clients and to the SEC the compensation received from Fidelity and the conflicts of interest arising from that compensation.

SEC Commissioner Fears that Non-Public Guidance from Agency Staffers May Amount to “Secret Law”

May 7, 2019 | Parker MacIntyre

In a recent speech, an SEC Commissioner took the opportunity to voice her concern that the prevalence of non-public guidance now being conveyed by SEC staffers to certain market participants and their counsel is tantamount to what she terms “secret law” which, in her opinion, “crosses the line” of propriety.

SEC Commissioner Hester M. Peirce’s well-crafted speech, given in Washington at the recent SEC Speaks 2019 event, invokes imagery of the children’s novel The Secret Garden to posit her belief that the abundance and importance of non-public guidance being provided and relied upon by certain of the SEC’s divisions and offices has created a secret garden of its own within the SEC’s walls. As an example, she cites her hearing that “staff simply will not accept certain applications for entire categories of products or types of businesses for reasons not found in our rules.” Additionally, she notes hearing that “one particularly complex set of Commission rules does not matter much in practice because firms operate instead under a set of published and unpublished letters and other directives from staff.” She also references firms being examined “against the terms of draft no-action letters and notes of telephone calls with Commission staff.” In all of these cases, Peirce fears that the “line has been crossed” and that such activities amount to “secret law.”

That such “sub rosa guidance,” as she terms it, amounts to “secret law,” is in Peirce’s opinion undeniable. As she points out, while it is true that courts would be reluctant to defer to such staff guidance in a legal proceeding, it nonetheless does “as a practical matter, bind market participants, affecting the scope of their rights and obligations and limiting the range of permissible activities.”

SEC Identifies Common Compliance Issues with Reg S-P Privacy Notices and Safeguarding Policies

April 30, 2019 | Patricia Klusmeyer

The SEC’s Office of Compliance Inspections and Examinations recently conducted examinations of privacy notices and safeguarding policies of SEC-registered investment advisers and broker-dealers adopted pursuant to Regulation S-P. As a result of these examinations, the SEC issued a Risk Alert identifying common deficiencies that are important to keep in mind when adopting, implementing and reviewing compliant privacy notices and effective safeguarding policies.

Regulation S-P requires financial institutions such as investment advisers and broker-dealers to adopt written policies and procedures to safeguard nonpublic personal client information. These policies must be reasonably designed to protect the confidentiality and security of nonpublic personal client information from any anticipated threats or hazards and any unauthorized access or use. The policies should address administrative, technical, and physical safeguards.

Investment advisers and broker-dealers must also provide initial and annual privacy notices to their clients describing the types of information collected and disclosed, the types of affiliated and non-affiliated third parties the information is disclosed to and, unless exempted from the opt-out notice requirement, an explanation of the client’s right to opt out of disclosure of nonpublic personal information to a non-affiliated third party. The privacy notice should also generally describe the firm’s safeguarding policies and procedures.