RIA Compliance Blog
The SEC Division of Examinations issued a Risk Alert earlier this month detailing examination observations related to investment adviser economic conflicts of interest. The alert serves as a reminder that the SEC continues to prioritize the review of compensation arrangements, revenue-sharing programs, fee practices, and disclosure obligations during adviser examinations.
For registered investment advisers (RIAs), the message is clear: firms should review their disclosures, billing practices, and compliance programs to ensure they adequately address conflicts that could influence recommendations made to clients.
Key Areas Identified in the Risk Alert
Cash Management Programs and Revenue Sharing
One of the primary areas of concern involves advisers recommending cash management programs that automatically sweep client cash into interest-bearing accounts. The SEC observed situations where advisers received compensation based on client cash balances held with custodians or affiliated entities.
Examiners found instances where firms failed to adequately disclose:
- Revenue-sharing arrangements with custodians
- Incentives to recommend certain cash sweep vehicles
- The impact of advisory fees on client cash balances
- Situations where clients may experience reduced or even negative returns due to fees and expenses
The SEC emphasized that disclosures must clearly describe actual conflicts of interest. Generic statements indicating a firm “may” receive compensation may be insufficient when the compensation arrangement already exists.
Share Class Selection Conflicts
The Risk Alert also highlights concerns regarding mutual fund and money market fund share class recommendations. Specifically, the SEC observed advisers recommending higher-cost share classes that generated additional revenue while failing to disclose:
- Economic benefits received by the adviser
- The availability of lower-cost alternatives
- Revenue-sharing arrangements connected to selected share classes
These findings reinforce the importance of adopting and maintaining share class selection policies, documenting share class selection methodologies, and maintaining transparent client disclosures.
Form ADV Disclosure Deficiencies
The SEC also identified shortcomings in Form ADV disclosures, particularly under:
Item 10 – Financial Industry Activities and Affiliations
Some advisers failed to disclose material compensation arrangements involving affiliated entities. These omissions prevented clients from fully understanding potential conflicts arising from affiliated business relationships.
Item 12 – Brokerage Practices
Examiners found disclosures that were incomplete, inconsistent, or failed to adequately explain revenue-sharing relationships with clearing firms and custodians.
RIAs should, at least annually, compare Form ADV disclosures against actual business practices to ensure consistency and accuracy. If a firm hasn’t done such a comparison within the last year, it should be done promptly.
Fee Billing Errors Remain a Significant Examination Focus
Another recurring theme in the Risk Alert involves advisory fee calculations.
The SEC identified several common issues, including:
- Charging fees inconsistent with advisory agreements
- Applying incorrect fee schedules
- Failing to honor fee reductions or breakpoints
- Charging for services not provided
- Duplicate billing
- Failure to refund unearned fees after account termination
Fee-related deficiencies often result in client reimbursements and can attract heightened regulatory scrutiny. Firms should ensure billing procedures align with contractual obligations and disclosure documents.
Compliance Program Weaknesses
The SEC also observed compliance programs that did not adequately address fee billing and conflict management risks.
Common deficiencies included:
- Policies that failed to address all billing arrangements
- Inconsistent language across compliance manuals, advisory agreements, and disclosures
- Insufficient testing of fee calculations
- Weak controls surrounding rebates and refunds
Effective compliance programs should include periodic testing, documentation reviews, and procedures designed to identify conflicts before they become examination findings.
Action Steps for RIAs
In light of this Risk Alert, Parker MacIntyre recommends that RIAs consider taking the following actions:
- Review all economic conflict disclosures for completeness and accuracy.
- Evaluate revenue-sharing, referral, and compensation arrangements.
- Confirm Form ADV disclosures align with actual business practices.
- Test advisory fee calculations and billing methodologies.
- Review client agreements for consistency with disclosures and internal procedures.
- Strengthen compliance monitoring and periodic testing controls.
- Document how conflicts are identified, disclosed, mitigated, or eliminated.
Final Thoughts
The SEC’s latest Risk Alert demonstrates that economic conflicts of interest remain a core examination priority. Advisers that proactively review their disclosures, fee practices, and compliance controls will be better positioned to satisfy fiduciary obligations and withstand regulatory scrutiny.
At Parker MacIntyre, we continue to monitor regulatory developments affecting registered investment advisers and assist firms in strengthening their compliance programs. Firms that address these issues before an examination can significantly reduce regulatory risk and improve client transparency.
Frequently Asked Questions
What is the SEC’s latest Risk Alert about?
The Risk Alert focuses on investment adviser obligations related to economic conflicts of interest, including disclosure practices, compensation arrangements, fee billing, and compliance controls.
Why are economic conflicts of interest important for RIAs?
Economic incentives can influence recommendations made to clients. Advisers have a fiduciary duty to fully disclose material conflicts and obtain informed client consent.
What are examples of economic conflicts?
Examples include revenue-sharing arrangements, cash sweep compensation, mutual fund share class compensation, custodial credits, and affiliated business relationships.
Can inaccurate fee billing create regulatory issues?
Yes. The SEC frequently identifies billing errors during examinations, and firms may be required to reimburse clients for overcharges.
Should RIAs review Form ADV disclosures after this Risk Alert?
Absolutely. Firms should verify that disclosures accurately reflect current business practices, affiliations, compensation arrangements, and conflicts of interest.
How can RIAs prepare for future examinations?
Conduct periodic compliance reviews, test fee calculations, update disclosures, document conflict mitigation efforts, and ensure consistency across compliance documents and client agreements.
Parker MacIntyre provides legal and compliance services to investment advisers, broker-dealers, registered representatives, hedge funds, and issuers of securities, among others. Our Investment Adviser Group assists financial service providers with complex issues that arise in the course of their business, including complying with federal and state laws and rules. Please visit our Investment Adviser Practice Group page for more information.