More On Legal & Compliancefrom The Advisor's Professional Library
- Whistleblowers A whistleblower is any individual providing the SEC with original information related to a possible violation of federal securities law. The Dodd-Frank Act established a whistleblower program that enables the SEC to reward individuals who voluntarily provide such information.
- RIAs and Customer Identification Just as RIAs owe a duty to diligently protect their clients privacy and guard against theft, firms also play a vital role in customer identification. Although RIAs are not subject to an anti-money laundering rule, securities regulators expect advisors to address these issues in their policies and procedures.
As FINRA is pushing so hard to become the SRO for RIAs, and because the SEC’s well-publicized funding woes are making an outside regulator for investment advisors more likely, it might be instructive to explore just what kind of an RIA regulator FINRA would make. That’s what the insightful folks at fFi360 (the Pittsburgh-based fiduciary education and information center) thought anyway. The result is an excellent blog, titled “Is FINRA Suitable?” posted Jan. 5, describing the results of what happened when FINRA regulated the RIA reps at its member firms.
As you may know, in 1999, the SEC granted the then-NASD an exemption from registering fee-based programs under the ‘40 Act (which was subsequently challenged by the FPA and overturned by the Supreme Court in 2007). However, the SEC recently asked FINRA for details about abusive practices in the fee-based accounts containing some $300 billion in assets for one million clients that it regulated from 1999 to 2007. FINRA provided that information in a Dec. 6, 2010 letter to the Commission, and gave us a surprising insight into what a FINRA-regulated RIA world might look like. Here are the highlights:
- Of the 25 firms offering fee-based accounts in NASD/FINRA’s “audit,” 10 had “compliance problems," for which the firms were fined $7.5 million, while $9.5 million, according to fi360, “was paid in restitution to thousands of clients.”
- In 2003, the NASD issued a warning to member firms, describing problems including “reverse churning (doing nothing), unsuitable placement of unqualified customers in fee accounts, misleading advertising, and failure to supervise.” The NASD concluded that customers in fee-based accounts would have saved thousands of dollars by holding the dame assets in commission accounts. According to fi360: “Certainly, off the violations cited by the NASD would have been fiduciary breaches, given the implied suitability requirements of a fiduciary.”
- According to the NASD, compliance problems were compounded by brokers who “doubled dipped” by placing Class A or B shares in fee-based accounts.
- According to fiduciary advisors who worked with some of the victim clients, in some instances asset allocation recommendations fro the back office were completely ignored by brokers.
Fi360’s conclusion of the episode: “Content in the belief that its intensive rules-based regimen was superior to aprinciples-based fiduciary standard…[FINRA/NASD] was trapped in its own arguments regarding the advantages of a suitability versus fiduciary standard; the NASD diluted investor protection under a rule designed to enhance it.”
Sound familiar? FINRA is once again arguing the advantages of rules-based disclosures rather than a genuine fiduciary standard for brokers. Do we have any reason to believe the result will be any different? Seems like SEC Chair Mary Schapiro, who was head of broker regulation at FINRA during the fee-based accounts experiment, would understand this better than anyone.