Articles Tagged with “Fiduciary Duty”

On June 2, 2017, Brian Sandoval, the Governor of Nevada, approved proposed amendments to a Nevada statute that regulates so-called “financial planners.”  According to the statute in question, a “financial planner” is “a person who for compensation advises others upon the investment of money or upon provision for income to be needed in the future, or who holds himself or herself out as qualified to perform either of these functions.”  Before the amendments, the statute carved out exclusions for investment advisers and broker-dealers from the definition of a financial planner.  The amendments, however, will remove those exclusions.  This will result in investment advisers and broker-dealers being identified as financial planners.  The amendments became effective on July 1, 2017.

The amendments will also result in investment advisers and broker-dealers having a fiduciary duty with respect to advice they give Nevada clients.  According to another Nevada statute, a financial planner must “disclose to a client, at the time advice is given, any gain the financial planner may receive… if the advice is followed.”  A financial planner is also required to make a comprehensive examination of each initial client and continually update information regarding a client’s financial situation and goals.

Investment advisers and broker-dealers with Nevada clients may also face potential liability if certain conditions are met.  Nevada law provides that if a client incurs losses after receiving advice from a financial planner, that client can recover from the financial planner if specified circumstances are present.  For a client to recover, it must be established that either the financial planner breached any part of his or her fiduciary duty, the financial planner was grossly negligent in choosing the method of action advised, in light of the client’s circumstances that the financial planner knew, or the financial planner broke any Nevada law in endorsing the investment or service.

On January 25, 2017, the Securities and Exchange Commission (“SEC”) filed a complaint in the District Court for the District of Massachusetts (“District Court”) against Strategic Capital Management, LLC (“SCM”), an investment advisory firm, and its owner, Michael J. Breton.  The complaint alleges that Breton, through SCM, garnered about $1.3 million by defrauding clients using what is known as a “cherry-picking” scheme.  The action follows a similar action brought by the SEC last October.

According to the SEC, cherry-picking occurs when an investment adviser “defrauds clients by purchasing stock and then waiting to see if the stock price goes up, or down, before deciding whether to keep the trades… or to put the trades into clients’ accounts.”  Cherry-picking typically involves the investment adviser allocating more profitable trades to its own accounts and allocating less profitable ones to client accounts.  It is a breach of fiduciary duty because it entails an investment adviser placing its interests above those of its clients.

The SEC’s complaint alleges that from about January 2010 through August 2016, Breton and SCM were investment advisers to numerous client accounts.  Breton, through SCM, bought public companies’ securities using a block trading omnibus account known as a “Master Account.”  Through this Master Account, Breton was permitted to make orders for both his personal accounts and his clients’ accounts.

On March 23, 2016, the Securities and Exchange Commission (“SEC”) approved the adoption of FINRA Rule 2273, a rule first proposed by the Financial Industry Regulatory Authority (“FINRA”) on December 16, 2015.  Rule 2273 provides that member firms who hire or associate with a registered representative must provide an “educational communication” to the representative’s former and current customers.  The education communication is designed to provide customers with guidance regarding their decision whether to remain customers of that representative.  Rule 2273 went into effect on November 11, 2016.

FINRA’s stated purpose for proposing Rule 2273 was to provide “customers with a more complete picture of the potential implications of a decision to transfer assets.”  The belief was that otherwise, customers would simply rely on their “experience and confidence” with the representative.  FINRA found that such experiences alone do not always guarantee that staying with the representative will be in the customers’ best interests.  Thus, FINRA proposed the educational communication, which contains a number of questions that FINRA believes customers should ask themselves before deciding to remain with the representative. Continue reading

On October 18, 2016, Parker MacIntyre hosted a seminar addressing legal issues that registered investment advisers (“RIAs”) often face, including developing cybersecurity guidance and implications of the new Department of Labor Fiduciary Rule.  The attendees consisted of sixteen individuals representing thirteen RIAs registered from around the southeast.  Both SEC-registered and state-registered RIAs were represented among the attendees.

Parker MacIntyre was pleased to welcome Noula Zaharis, the Director of the Securities and Charities Division of the Secretary of State of Georgia, as a guest speaker.  She began the seminar with a presentation on how the Georgia Secretary of State registers and regulates investment advisers and common deficiencies encountered by the Georgia regulators.  Highlights from another presentation, entitled “Common Deficiencies, Exam Priorities, and Regulatory Initiatives,” included common deficiencies found in RIA examinations, exam priorities that RIAs should ideally be aware of, and the Secretary of State’s regulatory initiatives. Continue reading

The Massachusetts Securities Division (the “Division”) recently issued regulatory guidance for state investment advisers who use third-party robo-advisers to provide advisory services to clients.  Robo-advisers have enjoyed a significant growth in popularity in the financial services industry based on perceived simplicity, ease of accessibility, and ability to service investment advisory clients who may not have sufficient assets to begin a relationship with a traditional investment adviser.  As discussed previously, the Division issued a policy statement in April 2016 declaring that because automated robo-advisers cannot provide fiduciary duties to clients as traditional human investment advisers can, the Division will evaluate their Massachusetts registration applications on a case-by-case basis.

The new regulatory guidance provides that to the extent a state-registered investment adviser (“state-registered adviser”) uses a third-party robo-adviser’s services to provide asset allocation and trading functions to clients, the state-registered adviser must meet a minimum of six requirements.  These six requirements are as follows: Continue reading

On July 18, 2016, the Securities and Exchange Commission (“SEC”) settled charges against two SEC-registered investment advisers (“investment advisers”).  The investment advisers, Advantage Investment Management, LLC (“AIM”) and Washington Wealth Management, LLC (“WWM”) failed to disclose receipt of revenue from third-party broker-dealers in the form of forgivable loans and the consequent conflicts of interest.

Investment advisers are prohibited from engaging in any transaction, practice, or course of business that operates as a fraud upon any client or prospective client under Section 206(2) of the Investment Advisers Act of 1940 (“Advisers Act”).  They are also prohibited from making any untrue statement of a material fact or omitting any material fact in any report filed with the SEC under Section 207 of the Advisers Act. Continue reading

 

The Securities and Exchange Commission (SEC) has frequently said that an investment adviser’s fiduciary duty requires an adviser to plan for unexpected disruptions in business. Consequently, advisers have developed business continuity plans as a “best practice” without necessarily being required to do so by rule.  Recently, however, the SEC proposed a rule that would require all SEC-Registered investment advisers to adopt and implement written business continuity and transition plans and to review them no less often than once per year.  The SEC also issued guidance for the baseline requirements that such plans should contain.

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The Securities Exchange Commission (“SEC”) recently filed suit against a North Carolina investment adviser for allegedly defrauding investors in the sale of certain real estate-related investments in unregistered pooled investment vehicles. The adviser, Richard W. Davis Jr., solicited investors primarily from the Charlotte, North Carolina region and was able to raise approximately $11.5 million from 85 investors, the majority of which were individuals with retirement accounts. However, he allegedly failed to disclose to clients that the money in the funds was being steered towards several other entities beneficially owned by himself.

Davis allegedly told investors in one of his funds that the fund’s capital would be invested in short term fully secured loans to real estate developers. He allegedly failed to mention, however, that many of the real estate developers receiving these loans were companies owned and operated by himself, creating an inherent conflict of interest. Furthermore, the companies never repaid the loans in full and Davis allegedly failed to inform his investors of this or reappraise the value of the fund’s investment. Instead, Davis allegedly misrepresented the value of the pooled fund by repeatedly stating that it had not lost any value.

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Last month, the Securities and Exchange Commission (“SEC”) brought and simultaneously settled administrative proceedings against accounting firm Santos, Postal & Co. P.C. (“SPC”) and one of its accountants, finding that SPC and the accountant conducted deficient surprise audits of investment adviser SFX Financial Advisory Management Enterprises (“SFX”).  The surprise examinations were conducted pursuant to the SEC custody rule and are designed to confirm the adviser’s appropriate handling of assets under their custody and to uncover, to the extent possible, fraudulent activity of the advisers.

As background to this enforcement action, under Advisers Act Rule 206(4)-2, investment advisers with custody of client funds or securities must maintain certain controls, commonly known as “safekeeping procedures,” to protect those assets. State-registered advisers must comply with rules that vary from state to state, but the model rule of the North American Securities Administrators Association is substantially similar to the SEC rule.  Since approximately March 2010, the Rule has required advisers that have custody other than because of an ability to deduct client fees to obtain an annual surprise exam by an independent public accountant to verify all client assets. Another basic requirement of the rule applicable to all advisers with custody is having a reasonable basis for believing that a qualified custodian or the adviser sends quarterly account statements to each client for which custody was maintained. Advisers that advise hedge funds or pooled investment vehicles may satisfy the audit requirement and other safekeeping provision by having an audit completed by a PCOAB auditing firm and timely delivering audit results to the fund’s shareholders.

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As the Department of Labor’s (“DOL’s”) proposed fiduciary rule awaits final adoption, market participants are starting to predict how it will affect retirement investment advice given that financial advisers such as broker-dealers, investment advisers, insurance companies, and other financial institutions, as well as their representatives, may soon be subjected to heightened fiduciary standards. Specifically, the sale of annuity products is predicted to face a large amount of change given its commission-based nature.

Currently, under the Employee Retirement Income Security Act of 1974 (“ERISA”) and the Internal Revenue Code of 1986 (“Code”), financial advisers are generally only fiduciaries if they provide investment advice or recommendations for compensation to employee benefit plans or participants and such advice is given on a regular basis and pursuant to a mutual understanding that the advice will serve as the primary basis for investment decisions and will be individualized to the particular needs of the plan. While investment advisers already have fiduciary duties under the Investment Advisers Act of 1940, the current narrow definition of fiduciary under ERISA and the Code generally does not encompass broker-dealers.

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