Compliance Zero Hour

Considering the Costs

To help advisors decide how much money they’ll need to devote to compliance, Lininger points advisors to her template that details the cost of setting up a practice. For instance, advisors get compliance tips from many publications. If they don’t qualify to receive a free subscription to trade magazines–which are typically the most helpful–they’ll have to shell out some extra money each year. Next come costs for compliance newsletters and reference books like the NASD manual. “Professional services” and “legal and accounting” are two other categories. Then there’s “compliance consulting.” Advisors will also have to devote cash to obtaining different registrations–like registered rep fees, filing an IARD, or state registration fees.

Don’t forget about the costs of obtaining various professional designations, like the CFP. Software is another expense, as are memberships to trade associations like FPA or NAPFA, both of which offer compliance help through newsletters and conferences. To buy Lininger’s template on setting up your practice, advisors would have to pay an initial setup charge plus annual fees, Lininger says.

Michelle Heyne-Wyrick of the consulting firm BDIA Complete in Seattle says that since the SEC issued its October 5 deadline, her firm has seen a rush of new advisor clients. “Most planners have had [compliance] procedures in place, but they have nothing to do with their actual business,” she says.

So how much money should advisors be spending on compliance? “Whatever it takes to maintain a superior program,” says Mark Tibergien, IA columnist and partner-in-charge at the Securities & Insurance Niche of Moss Adams in Seattle. “Advisors can’t afford to be cheap,” he says, “because the risk to the business it too great.” Labor, compliance, and errors and omissions insurance are the “fastest rising costs for advisory firms today,” Tibergien says. Independent advisors that aren’t affiliated with a broker/dealer “will need to ramp up their productivity and capacity to support higher levels of revenue in order to keep pace with these rising expenses,” he says. The new “critical mass” for advisory firms, he says, is $1 million in revenue, “though, in reality, it’s probably closer to $3 million.” It should be higher, he says, because “firms must invest in infrastructure, processes, and technology to maintain a safer business.” All of this has to occur “while keeping the principal’s compensation as well as the staff’s at reasonable levels and producing a reasonable return on equity.”

Guy Talarico, co-CEO of EOS Compliance Services in New York, agrees that now is not the time for advisors to cut corners when it comes to compliance. He says that presidents and CEOs of advisory firms that choose to assume the CCO role “have to be very careful” to ensure they can handle the added workload. “Advisors have to make sure that they are fulfilling [the CCO role] and are taking it seriously.” Some presidents and CEOs may not be familiar with the Investment Advisers Act of 1940 and other compliance matters, he says, to effectively administer a compliance program. Talarico suggests advisors consider outsourcing the CCO position to a firm like EOS. His firm already serves as CCO for a handful of larger advisory firms and mutual fund complexes with assets ranging from $400 million to $2 billion. Mutual fund firms are having to pay anywhere from $150,000 to $300,000 in annual salaries to bring on a CCO, he says. But EOS’s services aren’t cheap. Annual fees range anywhere from $75,000 to $125,000. But the problem with outsourcing the CCO role is that the SEC requires that the officer be “intimately familiar with the firm’s operations.” This could be difficult if the firm you outsource the function to is located across the country.

Money-Laundering Rules

If the new SEC rules were not enough, right around the corner are U.S. Treasury money-laundering regulations for RIAs. The proposal that RIAs have their own set of money-laundering rules came out last May, and industry officials expect the final rule to be issued any day. A fair number of advisors are already affiliated with mutual funds, banks, or broker/dealers and are thus subject to anti-money-laundering rules. But “the U.S. Patriot Act didn’t include investment advisors,” says David Tittsworth, executive director of the Investment Counsel Association of America (ICAA) in Washington. “Who knows if Congress [omitted advisors] with great understanding, but I think it was appropriate because advisors don’t have custody of client money in most cases. The whole idea of anti-money laundering is basically ‘follow the money.’” But Treasury is arguing that advisors should be subject to anti-money-laundering rules because advisors are in a know-your-customer position. That argument “is not without merit,” Tittsworth admits.

Whether they like it or not, advisors are being barraged with new regulations from all corners. No longer is the motto “be prepared” just for the Boy Scouts. Fortunately, advisors have plenty of resources for building their defenses.

Washington Bureau Chief Melanie Waddell can be reached at [email protected].