More On Legal & Compliancefrom The Advisor's Professional Library
- The Need for Thorough and Effective Policies and Procedures Whethere an advisor is SEC or state-registered, RIAs must revise their policies and procedures to address significant compliance problems occurring during the year, changes in business arrangements, and regulatory developments.
- Do’s and Don’ts of Advisory Contracts In preparation for a compliance exam, securities regulators typically will ask to see copies of an RIAs advisory agreements. An RIA must be able to produce requested contracts and the contracts must comply with applicable SEC or state rules.
The Financial Industry Regulatory Authority (FINRA) has released an estimate of what its start-up and ongoing annual investment costs would be should it become the self-regulatory organization (SRO) for advisors—an estimate far below projections released by the Boston Consulting Group (BCG).
Covering a universe of 14,500 advisory firms out of the current population of more than 26,000, FINRA says it estimates that its one-time start-up cost would be approximately $12 million to 15 million, while its ongoing costs would total approximately $150 million to $155 million annually. This compares to BCG’s start-up investment projection of $200 million to $255 million and an ongoing cost of $460 million to $510 million.
FINRA said it used the 14,500 advisory firm total in an attempt to reflect an approximate number of firms that could be subject to SRO examinations, given that pending SRO legislation introduced Wednesday by House Financial Services Committee Chairman Spencer Bachus, R-Ala., “provides exemptions for IAs with institutional customer bases as well as for state-regulated IAs for which examinations are conducted by state regulators an average of once every four years.”
FINRA said it “assumed a risk-based examination program across all firms, and assumed that all firms would be examined at least once every four years.” The risk based examination program would be based on factors such as custody arrangements, business lines, personnel, customer complaints and assets under management, FINRA said.
The problem with BCG’s cost projections, FINRA said, is that “BCG used as its base the costs for establishing the PCAOB (Public Company Accounting Oversight Board) and the CFPB from scratch. BCG used these figures—set up costs for organizations that didn’t even have one desk or employee to start with—and provided for only a 20% discount off the from-scratch start-up costs to allow for efficiencies in FINRA’s existing infrastructure.”
In its estimate, FINRA said it would need to hire additional staff members—about 900 full-time employees, the vast majority of which would be for the examinations staff—to serve as an SRO for investment advisors, the broker-dealer regulator said it believed BCG “vastly underestimated our ability to leverage existing staff, district offices and the technology underlying our existing nationwide examination program.”
The annual ongoing cost, FINRA said, reflects the full staffing estimate, “even though the staffing is unlikely to be complete in the first year.” This ongoing cost estimate also includes overhead and support costs for examinations and enforcement, FINRA said. However, “it does not include costs for testing, advertising review or dispute resolution,” FINRA said. “If Congress or the [Securities and Exchange] Commission determine that those functions should be included, then the annual ongoing investment would increase by approximately $10 million.”
In addition, FINRA says “BCG used existing FINRA regulatory and user fee totals to estimate examination program costs. This combination of fees currently supports a wide variety of programs beyond just exams. Secondly, they used current SEC numbers to estimate the number of annual exams per examiner, which is less than current FINRA ratios.”
But the Financial Planning Coalition is already questioning FINRA's "page-and-a-half cost estimate," which the Coalition says "lacks any analysis, backup assumptions or data, with the comprehensive, 38-page study released in December 2011 and prepared by the BCG." BCG's data, the Coalition says, "utilized publicly available data, including FINRA’s actual costs and the SEC's actual IA examination costs, and was based on rational and fully disclosed assumptions."
While the Coalition—which comprises the Financial Planning Association, National Association of Personal Financial Advisors and the CFP Board—says it's in the process of "trying to analyze and understand FINRA’s cost-estimates, at first blush it appears that they use very different assumptions regarding examiner productivity and cost per examiner than their current, publicly available data shows."
FINRA, the Coalition says, shows "no accounting for enforcement costs, which are required under the Bachus-McCarthy legislation, and which BCG estimated at $130 million annually. They also left out the cost estimates for the legally required oversight by the Securities and Exchange Commission (SEC), which BCG estimated at $90 to $105 million annually and which is an essential component of the overall cost of an SRO."
The Coalition concludes that when FINRA’s "very brief cost estimates are set beside BCG’s comprehensive Economic Analysis, we are not comparing apples to apples." FINRA's estimate "raises more questions than it answers. The limited budget that they attribute to setting up a FINRA IA-SRO raises concerns about its independence and ability to understand and meet the unique needs of IAs and their clients."