Articles Posted in Form ADV

Last week the Securities and Exchange Commission (“SEC”) and the Financial Industry Regulatory Authority (“FINRA”) released updated guidance to the disciplinary disclosures section of Form CRS. The purpose of Form CRS is to provide a succinct summary of the business of the Investment Adviser or Broker-Dealer to provide a retail investor with the proper information to make an informed decision regarding whether an investment advisory or brokerage relationship is in the best interest of the investor. Form CRS also provides a platform to generate questions for clients to ask their financial professional to spark a conversation regarding the disclosures. Likewise, the purpose of the disciplinary section of the Form CRS is to give an overall indication as to whether the firm or its financial professionals have disciplinary history to disclose.

The SEC and FINRA place a high level of importance on ensuring that firms adequately disclose their disciplinary history to provide full and accurate disclosure to retail investors. Since June 30, 2020, the required implementation date of Form CRS, the SEC and FINRA have examined investment advisers to determine compliance with the guidance regarding Form CRS and Regulation BI. In its examinations, the regulators determined that many investment advisory and brokerage firms were either not providing a response to the disciplinary section or providing more details than the section’s instructions require. The following are summaries of the updated guidance on Form CRS disciplinary disclosures:

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As we mentioned in an earlier post, in April of this year the SEC’s Office of Compliance Inspections and Examinations (OCIE) issued separate risk alerts on the subjects of Form CRS and Regulation Best Interest (Reg BI). The risk alerts were designed to provide investment advisers and broker-dealers information regarding the anticipated scope and content of the examinations OCIE will conduct following the filing deadline for Form ADV, Part 3 and following the compliance date for Regulation Best Interest. In this post we examine the new requirements regarding Form ADV, Part 3, which we will refer to as “Form CRS,” and then review the SEC’s Risk Alert relating to Form CRS. Firms seeking to comply with the new requirements should carefully review the 17-page instructions to Form CRS. The SEC has also published a helpful Small Entity Compliance Guide.

Under the new requirements, federally registered RIAs must electronically file Form CRS via the IARD system and must deliver a Form CRS to all retail investors, regardless of net worth or sophistication. Currently registered RIAs or entities who currently have pending applications to become RIAs may file their form CRS at any time, but they must file the initial CRS on or before June 30, 2020. The Form CRS may be filed as part of an initial application to register under Rule 203-1, or as an other-than-annual amendment to the Form ADV under Rule 204-1. Beginning June 30, 3020, any new application will be considered incomplete and will be rejected if it does not contain a Form CRS. Every RIA’s firm must post its Form CRS on its public website, but there is no requirement that a firm without a public-facing website must create one. Continue reading ›

Due to recent guidance from the Small Business Association (SBA) and the Securities and Exchange Commission (SEC), registered investment advisers (RIAs) should carefully consider their eligibility for a loan under the Paycheck Protection Program, and whether they must disclose the circumstances that led to the loan, or the fact of receiving the loan itself, on form ADV.

The PPP Loan Certification
In order to qualify for a PPP loan, an applicant must certify that “[c]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” Our view of this language was that it was very broad, so as to apply to any business that reasonably anticipated a reduction in revenue that could result in curtailment of its current operations. If an RIA believed in good faith that its revenue will decrease or has decreased as a result of the pandemic, and also anticipated that it will have to terminate any employees without the loan, then it is eligible for the loan. Since the primary purpose of the loan program was to minimize unemployment, in our view such an RIA should have easily been able to make the certification in good faith. However, later SBA guidance effectively altered the standard, and any RIA who applied for a loan should reevaluate the certification under the new standard.

April 23, 2020 — SBA Guidance
There was political backlash in mid-April when it was revealed that certain large companies, including publicly-traded companies that had access to capital markets, were receiving PPP loans. This led the Small Business Administration to issue formal Q&A guidance last Thursday, April 23, 2020. As a result of the guidance, the SBA stated that, before submitting a PPP application, all borrowers should review carefully the required certification that “[c]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” Borrowers must make this certification in good faith, taking into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business. While it is tempting to read the SBA guidance as applicable only to large businesses with access to capital, the Q&A made it clear that the “significantly detrimental” standard applies to “all borrowers.”Furthermore, while the guidance could be interpreted to apply only to public companies, the SBA clarified that it applied to private companies by updated guidance issued on April 28, 2020.

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Earlier this month, the SEC’s Office of Compliance Inspections and Examinations (OCIE) announced its examination priorities for 2020.  Many of the priorities listed are similar to those identified in previous years’ priorities lists. The SEC’s approach in addressing them, however, continues to evolve to keep pace with the changing landscape of financial markets, market participants, products, technologies and risks. This post will address some of the areas that should be of concern to a large percentage of registered investment advisers (RIAs), broker-dealers and other regulated entities.

OCIE reiterated that a significant underpinning of any effective compliance program is the “tone at the top” set by C-level executives and owners. Those firms that prioritize compliance and effectively create a “culture of compliance” tend to be more successful in designing and implementing compliance plans than firms that view compliance as an afterthought or business hindrance. One of the “hallmarks” of a firm’s commitment to compliance is the presence of an “empowered” CCO who is routinely consulted regarding most facets of the firm’s operations. There is nothing new to these concepts, but it is worth noting that OCIE continues to emphasize them year after year. Although not stated in the priorities release, the degree to which a firm demonstrates a commitment to compliance often weighs heavily on decisions OCIE examiners must make regarding how deficiencies will be addressed by the Commission. All other things being equal, firms that have made mistakes but demonstrate the ability to make effective corrections will often be provided an opportunity to implement those corrections and are less likely to become the subject of an enforcement referral.

Not surprisingly, OCIE will continue to prioritize examining RIAs to assess compliance with their fiduciary duty to clients. For examinations of RIAs occurring during the second half of 2020, this will undoubtedly include the proper use of Form ADV Part 3, which RIAs are required to complete, file, and place into use with clients by June 30, 2020. Additionally, broker-dealers will be expected to implement compliance with new Regulation BI, requiring adherence to a best interest standard. The priorities list reiterates that advisers and broker-dealers must eliminate, or at least fully and fairly disclose, all conflicts of interest, as more fully explained in Investment Advisor Release 5248, issued in June of last year.

Among other priorities relevant to RIAs, OCIE also listed the protection of retail investors saving for retirement, information security, anti-money laundering programs and financial technology.

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The SEC’s Divisions of Investment Management and Trading & Markets have issued guidance in the form of a set of Frequently Asked Questions (or “FAQs”) addressing the upcoming implementation of the newly-created SEC Form CRS Relationship Summary (“Form CRS”).

As previously profiled on this blog, Form CRS is a new SEC disclosure document that will be applicable to both RIAs and broker/dealers offering services to retail investors. Indeed, for RIAs, the new Form CRS will function as a new Part 3 to the RIA’s existing Form ADV. The purpose of Form CRS is to summarize basic information about the firm’s services, fees, and costs, as well as its conflicts of interest and material disciplinary events. As noted, Form CRS obligations only arise for firms dealing with “retail investors,” which the SEC defines as “natural persons” or their legal representatives, who seek to receive or receive services “primarily for personal, family or household purposes.” Full implementation of Form CRS is slated for June 30, 2020.

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The SEC, on June 5th, 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 5th 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 5th 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 5th 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 ›

The amendments to Form ADV, Part 1 that became effective October 1, 2017 are presenting some registered investment advisers with unforeseen problems as we move into “annual amendment season” in 2018.  As we previously highlighted among those changes to Form ADV is the requirement for advisers to disclose estimated percentages of assets held within separately managed accounts in twelve categories of assets.

Advisers with more than $10 billion in regulatory assets under management are required to report the same data as of mid-year and year-end.  Smaller firms must report the same data as of year-end only.

This has not proved a simple exercise for some firms.  Many have assumed that the custodians of their clients’ assets would readily be able to categorize their clients’ holdings and provide them reports summarizing the data.  Continue reading ›

Beginning October 1, 2017, registered investment advisers are required to use revised form ADV, which requests certain information not sought on previous versions of the form. Advisers will also have to comply with amendments to Rule 204-2 under the Investment Advisers Act of 1940 (“Advisers Act”).  With the compliance date less than three months away, advisers should examine whether to modify their internal policies and procedures pertaining to Form ADV reporting and recordkeeping, and also should begin the process of collecting the new information and assuring that the information remains available for future Form ADV filings.

The amendments to Form ADV changed the requirements of Item 5 of Part 1A of Form ADV and Section 5 of Schedule D.  The amendments will obligate investment advisers to disclose the estimated percentage of regulatory assets under management (“RAUM”) held in separately managed accounts (“SMAs”) and to indicate those assets “that are invested in twelve broad asset categories.”  Investment advisers with $10 billion or more in RAUM connected to SMAs will be obligated to report both mid-year and end-of-year percentages for each category.  Investment advisers with fewer than $10 billion in RAUM connected to SMAs will only be obligated to report only end-of-year percentages.  The amendments to Form ADV will also require investment advisers to disclose the identity of custodians that make up 10 percent or more of an investment adviser’s total SMA RAUM. Continue reading ›

On March 8, 2017, the Securities and Exchange Commission (“SEC”) issued an Order Instituting Administrative and Cease-and-Desist Proceedings (“Order”) against Voya Financial Advisors, Inc. (“Voya”), an SEC-registered investment adviser.  The Order, to which Voya consented, obligates Voya to pay disgorgement of $2,621,324, prejudgment interest of $174,629.78, and a civil money penalty of $300,000.

The SEC’s Order claims that Voya did not inform its clients that it was receiving compensation from a third-party broker-dealer and that these receipts created a conflict of interest.  Section 206(2) of the Investment Advisers Act of 1940 (“Advisers Act”) states that investment advisers are forbidden from participating in “any transaction, practice, or course of business which operates as a fraud or deceit upon any client or prospective client.”  Section 207 provides that investment advisers are not allowed to “make any untrue statement of a material fact in any registration application or report filed with the Commission, or to omit to state in any such application or report any material fact which is required to be stated therein.”  Finally, Rule 206(4)-7 under the Adviser’s Act compels investment advisers to “[a]dopt and implement written policies and procedures, reasonably designed to prevent violation” of the Adviser’s Act and the rules thereunder. Continue reading ›

Parker MacIntyre attorneys Steve Parker and Bryan Gort attended the 2015 annual conference of the North American Securities Administrators Association (NASAA) held last week in San Juan, Puerto Rico. As usual, the conference provided valuable guidance and updated information on areas of importance to state-registered investment advisers, as well as federal notice filed broker-dealers and SEC registered investment advisers.

Of interest to state-registered investment advisers are proposed amendments to Part 1B of Form ADV that would attempt to capture an RIA’s use of social media and information on the use of third-party compliance professionals.

NASAA also presented the findings of its 2015 coordinated investment adviser examination review, compiled from the results of over 1100 investment adviser examinations. Once again, books and records deficiencies was the leading category, with 78% of all examined entities having deficiencies in that area. Within that category the failure to maintain adequate client suitability data was the leading deficiency, accounting for 10% of the deficiencies noted within the books and record category.
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