More On Legal & Compliancefrom The Advisor's Professional Library
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- Risk-Based Oversight of Investment Advisors Even if the SEC had a larger budget and more resources, it is doubtful that the Commission would have the resources to regularly examine all RIAs. Therefore, the SEC is likely to continue relying on risk-based oversight to fulfill its mission of protecting investors.
The North American Securities Administrators Association (NASAA) released on Monday the results of its coordinated examinations of broker-dealers throughout the United States, identifying BDs' top five compliance violations.
NASAA also recommended 10 best practices for broker-dealers to consider.
A total of 236 examinations conducted between Jan. 1 and June 30 found 453 types of violations in five compliance areas, NASAA said. The greatest frequency of violations (29%) involved books and records, followed by supervision (27%), sales practices (24%), registration and licensing (14%) and operations (6%).
About half (44%) of the examinations involved one-person branch offices; 23% were home offices; 20% were branch offices with two to five reps; 11% were branch offices with more than five reps; and 2% were non-branch offices.
Based on the exam results, NASAA recommended several best practices to help BDs improve compliance. Here are the top five categories of BD compliance violations, along with NASAA's recommendations.
Top violation category No. 5: Internal audits
Branch office audits. Develop a branch audit program that includes a meaningful audit document/plan, unannounced visits, a means to convey audit results, and a follow-up plan requiring that the branch take corrective action.
Top violation category No. 4: Maintenance of customer account information
Customer complaints. Upon receipt of a complaint, firms must acknowledge the receipt, conduct and document a thorough review of the customer's allegations, and, if necessary, update the broker's Form U-4.
In situations where the firm discovers wrongdoing, the firm should redress customer harm. Timely reporting and remediating customer harm are some of the factors under NASAA guidelines to determine if the firm is entitled to credit for cooperation.
Top violation category No. 3: Correspondence/E-mail
Correspondence, both electronic and hard copy, must be effectively monitored by the BD. This includes a system of capturing and maintaining electronic, business-related correspondence sent by sales staffers from websites and social network service providers outside the firm. For additional guidance, refer to FINRA Notice 11-39.
Advertisements. Advertisements and sales literature MUST be fair and balanced and MUST be approved by the BD and/or FINRA. Seminar notices/advertisements, programs, seminar materials utilized, and guest speakers must be approved by the BD. In instances where brokers routinely conduct seminars, a supervisory representative of the firm should randomly attend the seminar for compliance purposes.
Top violation category No. 2: Suitability
Suitability. Broker-dealers must develop effective standards and criteria for determining suitability. State regulations and FINRA Rules 2090 and 2111 require registered persons to "know your customer" and receive training sufficient to demonstrate knowledge of products pre-sale.
Working with seniors. Baby boomers are moving into retirement, and as individuals age, cognitive abilities begin to wane. BDs and their registered representatives should develop procedures/best practices for handling accounts of "senior" investors. A number of recommendations relating to these best practices are contained in joint reports issued in 2008 and 2010 by NASAA, the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA).
Top violation category: Failure to follow written supervisory policies and procedures
Develop, update and enforce written supervisory procedures. BDs also should ensure that staffing and expertise are commensurate with the size of the BD, type(s) of business engaged in by the firm, and the individual responsible for specific procedures.
Selling away. BDs must ensure that adequate procedures are in place to address private securities transactions (selling away). If this activity is permitted, the firm's written supervisory procedures should be adequate to monitor this activity on an ongoing basis. The BD's procedures must have a mechanism to conduct a meaningful review of the request and in the instance where the request is denied, a process to determine the broker is/has not engaged in the activity.
Outside business activity. The firm should have a supervisory procedure in place to address its approval/denial process and a requirement that the broker promptly report any changes to the approved outside activity. Written outside business activity requests from brokers must be received, reviewed and approved by the firm prior to the activity. The BD and broker are required to report the outside business activity on the broker's Form U-4.
Exception reports. Introducing dealers should obtain the necessary exception reports from the clearing dealer to ensure proper compliance. Upon the generation of exception reports, all BDs must document and resolve "red flags" in a timely manner. BDs that rely solely upon conversations with brokers to address exception reports without contacting investors may subject themselves and supervisory staff to regulatory and/or legal action.