More On Legal & Compliancefrom The Advisor's Professional Library
- The Few and the Proud: Chief Compliance Officers CCOs make significant contributions to success of an RIA, designing and implementing compliance programs that prevent, detect and correct securities law violations. When major compliance problems occur at firms, CCOs will likely receive regulatory consequences.
- Client Communication and Miscommunication RIA policies and procedures must specify what type of communications should be retained. The safest course of action is for RIAs to retain all communicationsto clients, from clients, and about client accounts. To comply with fiduciary obligations, communications must be thorough and not mislead.
Requiring advisors to get third-party exams is a “creative idea,” but there are “a number of issues that have to be carefully looked at” surrounding such a rulemaking, SEC Chairwoman Mary Jo White told reporters Thursday after her remarks at the Investment Company Institute’s annual conference in Washington.
White, who was addressing SEC Commissioner Daniel Gallagher’s recent suggestion that the commission consider requiring third-party audits to help the agency boost its advisor oversight, said that there was “no question that [the advisor exam] issue is a real challenge for us; we don’t have the resources to do the kind of coverage we need to do.”
Harvey Pitt, who was SEC chairman from 2001 to 2003, told ThinkAdvisor in an email message Thursday that the SEC “definitely” has the authority to write a rule to mandate third-party advisor exams, but the SEC could require advisors to get such audits without rulemaking.
Pitt, who's now CEO and managing director of Kalorama Partners in Washington, noted that he first floated the idea during his chairmanship, when the agency adopted the requirement that RIAs have dedicated compliance officials and programs.
By requiring third-party audits, Pitt says, “the SEC could ensure that all RIAs are examined at least annually.”
The SEC “could require the examiners to be independent and experienced, and certify those who are and whose audits would be acceptable to it,” Pitt continued. What’s more, the SEC, he said, “would dictate the scope of the audit, points of emphasis, etc.,” with the objective “to get a report to both the entity being examined, the public and the SEC. As the SEC receives all these reports, it would be better able to determine developing trends (and problem areas).”
Says Pitt, the SEC “has the ability to exempt RIAs from various provisions of the two ’40 Acts," the Investment Advisers Act and the Investment Company Act, "and could condition such exemptions on the entering into of a binding agreement of the RIA to have an independent third-party audit conducted at least annually.”
He said: "I don’t gainsay the SEC’s ability to compel these audits, but that would require formal rulemaking. If it [the agency] conditions these outside audits on obtaining certain exemptions from provisions of the ’40 Act, it could announce the policy, and allow entities to sign up for it voluntarily, without going through months and months of rulemaking."
The agreement, he continued, “would permit the SEC to designate which firm would conduct the examination, and at what time, and would also allow the SEC to decide when the audit would be conducted (to make it approximate a ‘surprise’ audit).”
The SEC, he added, “would reserve the right to conduct its own compliance audits ab initio, or as a supplemental audit.”
The bottom line, Pitt said, is that requiring third-party audits “would definitely boost the SEC’s ability to monitor registered firms,” arguing that such audits “shouldn’t be limited solely to RIAs, [but] should apply to any entity that takes money from the public for investment purposes.”
Gallagher, a Republican, said during the Financial Industry Regulatory Authority’s annual conference in Washington on Tuesday that the commission’s current seven-year exam cycle of advisors is leaving the agency vulnerable to missing another Madoff-type fraud.
“We are just sitting there as an institution with our chin out waiting to get pummeled,” he said. “We’re not even ‘there’ with advisors” in terms of an adequate number of exams.
Gallagher suggested at the FINRA event that the SEC create a rule to mandate that advisors have third-party exams. “I think third-parties should include SROs,” he said, but “I’m not going to pick” which ones. Such a rule, he said, would “not mandate SROs” (such as FINRA) to be the third party, noting that such a rule would “allow choice.”
The rule, he continued, would be an “Advisers Act rule that would be very prescriptive to an SEC exam, but we would have to have a mechanism to ensure that [outside] examiners were complying with some standards.”
Gallagher told reporters after his speech that an SEC rulemaking regarding third-party audits would delved into “how we examine” advisors.
If FINRA were authorized under an SEC rulemaking to do RIA inspections, however, Duane Thompson, senior policy analyst with fi360, questions whether the self-regulator would have the authority to issue fines. “My sense is while [FINRA] obviously could address issues on the BD side, they would have to refer serious problems to the SEC for RIA infractions.”
Check out Gallagher: SEC Fiduciary Rule Won’t ‘Stave Off’ DOL Redraft on ThinkAdvisor.