The Securities and Exchange Commission announced a settled enforcement action against a registered investment adviser for violating the Custody Rule and for compliance violations associated with custody. The enforcement action, coupled with the SEC’s announcement, shows the significance that the SEC places on the safeguarding of client assets.
An investment adviser has custody when it holds client funds or securities or has the ability to obtain possession of such assets, directly or indirectly. In general, the custody rules and regulations are intended to protect client assets from misappropriation or misuse by their investment adviser. As a result, it is considered a prohibited act for an investment adviser to have custody of client funds or securities without implementing policies and procedures specifically designed to comply with the rules and regulations and prevent misuse of the assets. These policies and procedures include notice to client in certain situations, identification of the qualified custodian, and obtaining an audit or verification by an independent CPA of the client assets subject to custody. Custody can be further imparted to an investment adviser through a related party of the investment adviser.