Office of Compliance Inspections and Examinations alert on advisory fee and expense compliance issues

On April 12, 2018, the US Securities and Exchange Commission (SEC) Office of Compliance Inspections and Examinations (“OCIE”) released an alert highlighting the most frequent fee and expense compliance issues identified during investment adviser examinations.1 While these identified deficiencies do not necessarily constitute violations of law or regulation, they reflect breakdowns of operating controls that could lead to inadvertent breaches of fiduciary duty. The alert, coupled with other recent SEC actions, provides critical insight into regulatory focus areas and expectations regarding advisory programs. As discussed in Deloitte’s2 recent white paper, The Rewards and Risks of Managed Account Programs, advisory accounts are an ever-increasing area of focus for regulators as growth continues to accelerate across the industry, surpassing $6T in total assets in Investment Advisory solutions at the end of 2017.3 Firms should carefully consider the OCIE alert and explore the tools and services available to support advisory program compliance while prioritizing, planning, and executing their risk management efforts.

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Proposed capital rules for swap dealers and security-based swap dealers

In December 2016, the Commodity Futures Trading Commission (“CFTC”) released its re-proposed capital rules for swap dealers (“SDs”) and major swap participants (“MSPs”).1  Additionally, the Securities and Exchange Commission (“SEC”) proposed its capital rules in 20122 for security-based SDs and MSPs.  The CFTC’s re-proposal attempts to accomplish several things, including harmonization with the proposed SEC capital rules.  It further provides optionality for financial and non-financial SDs regarding computing capital under a standardized versus models-based approaches.3  It is important for each financial SD to assess the implications of the proposed rulemaking to its swap dealing operating model.  Questions to consider include:  (1) Why should SDs consider a models-based capital approach versus non-model?  (2) How does entity type (e.g., bank, broker-dealer) impact capital methodology?

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Exam priorities for financial services firms in 2018

The Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA) recently released their annual examination priorities for 2018.  Although the regulators independently develop their areas of focus, there are five overlapping priorities that securities firms may want to address in the near term.

The SEC’s priorities are organized around five thematic areas: (1) compliance and risks in critical market infrastructure; (2) matters of importance to retail investors, including seniors and those saving for retirement; (3) FINRA and the Municipal Securities Rulemaking Board (MSRB); (4) cybersecurity; and (5) anti-money laundering (AML) programs.

FINRA’s priorities fall into six main categories: (1) fraud, (2) high-risk and firms and brokers, (3) operational and financial risks, (4) sales practice risks, (5) market integrity, and (6) new rules.

Our detailed review reveals five priorities shared by the SEC and FINRA:

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SEC’s Enforcement Division announces self-reporting initiative for investment advisers

On February 12, 2018, the US Securities and Exchange Commission’s (SEC) Division of Enforcement (the Division) announced1 the Share Class Selection Disclosure (SCSD) Initiative,2 under which the Division will agree not to recommend financial penalties against investment advisers who self-report violations of securities laws relating to certain mutual fund share class selection issues and promptly return money to affected clients.

Specifically, under the terms of the SCSD Initiative, the Division will recommend “standardized, favorable settlement terms to investment advisers that self-report that they failed to disclose conflicts of interest associated with the receipt of 12b-1 fees by the adviser, its affiliates, or its supervised persons for investing advisory clients in a 12b-1 fee paying share class when a lower-cost share class of the same mutual fund was available.”

For eligible participating advisers, the Division will recommend settlements that would require disgorgement and payment of such profits to affected clients, but would not impose a civil monetary penalty.  The settlements would also require advisers to undertake several specific actions, including evaluating, updating (if necessary), and reviewing the implementation effectiveness of compliance policies and procedures regarding mutual fund share class selection within 30 days.

The SEC has expressed “significant concern that many investment advisers have not been complying with their obligation under the Advisers Act to fully disclose all material conflicts of interest related to their mutual fund share class selection practices, and that investor harm involving this lack of disclosure may be widespread.”

In conjunction with the announcement, the Division warned that it “expects to recommend stronger sanctions in any future actions against investment advisers that engaged in the misconduct but failed to take advantage of [the SCSD Initiative].”

The SEC published a questionnaire3 and a related attachment4 alongside the announcement.
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529 Plans – Where we are today

The Financial Industry Regulatory Authority (“FINRA”) and the Securities Exchange Commission’s (“SEC”) Office of Compliance Inspections and Examinations (“OCIE”) have highlighted concerns around the sale of 529 College Savings Plans (“529 Plans”).1 The concerns they have expressed revolve primarily around 529 Plans share class recommendations and the conflicts of interest that may exist with such recommendations. These concerns remain relevant, and may receive additional scrutiny given the current focus of multiple regulators on fees, conflicts of interest and fiduciary behavior. Continue reading “529 Plans – Where we are today”

Regulatory analytics: Keeping pace with the SEC

5 insights into compliance

As 2016 drew to a close, the US Securities and Exchange Commission (SEC) touted its “vastly increased use of data and data analytics to detect and investigate misconduct.”1 The increasing scope and sophistication of analytics employed by regulators compel financial services firms to examine how they can use analytics, both in retrospective “look-back” manner and proactively, to address growing scrutiny and enforcement. Below are five insights that can be helpful in formulating a regulatory analytics strategy.

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Exam priorities for securities firms in 2017

The Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA) recently released their annual examination priorities for 2017.  Although the regulators independently develop their areas of focus, there are six overlapping priorities that securities firms may want to address in the near term.

The SEC’s priorities are organized around three thematic areas (two of which, the first and third, were included in 2015 and 2016):  (1) protecting retail investors; (2) focusing on risks specific to elderly and retiring investors; and (3) analyzing issues related to market-wide risks.

FINRA’s high-level focus will be on:  (1) high-risk and recidivist brokers; (2) sales practices; (3) financial risks, including liquidity risk and compliance with recently effective amendments to Rule 4210 (Margin Requirements); (4) operational risks, including cybersecurity; and (5) market integrity.

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SEC approves the CAT National Market System Plan

On November 15, 2016, the Securities and Exchange Commission (SEC) approved the National Market System (NMS) Plan governing the creation and operation of the Consolidated Audit Trail (CAT), capping four years of development by the 21 self-regulatory organizations (SROs) responsible for implementing the CAT.1 The CAT NMS Plan will require broker-dealers conducting business in the US equity and options markets to report all transactions—including orders, quotes, executions, cancels, allocations, and sensitive customer and account information—to a central repository.

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T+2 – Shortened Settlement Cycle: Notice of the SEC moving forward

Overview

One year ago, Deloitte began the journey with the industry and our clients to prepare for shortening of the trade settlement cycle to trade date plus two days (T+2). This work began with the creation of the T+2 Industry Playbook as a guide for financial firms to follow as they prepared for implementing T+2. Deloitte is working closely with SIFMA, ICI and DTCC in the T+2 Command Center function and continues to advance the messages of the shortened settlement cycle by facilitating T+2 workshops for our clients and the industry.

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