Close Close

Regulation and Compliance > Federal Regulation

The Dollar Cost of Compliance

Your article was successfully shared with the contacts you provided.

Securities and Exchange Commission regulations, along with legislation like Sarbanes-Oxley, the USA Patriot Act, and anti-money laundering rules, are putting a significant strain on asset management firms’ compliance budgets, according to a recent study by Boston-based Cerulli Associates.

Asset management firms estimate their compliance costs will climb 10% to 20% over the next 12 months, Cerulli found. Karen Keene, a senior analyst at Cerulli who wrote the report, says a hefty portion of the compliance costs are going to pay for new staff, with 88% of survey respondents saying they have hired between four and six new compliance employees over the past year. “Firms are also trying to determine how to enhance technology–if they have any–to manage all of the compliance and reporting demands” they now face, Keene says. “Profits are being squeezed–assets under management are down and costs are up” and the increased compliance burden is “putting additional pressure on asset management firms of all sizes.”

She adds that “for the past couple years, it’s been more difficult [for asset management firms] to increase assets under management and get their funds noticed in a large and competitive marketplace.” Distribution costs are also rising, she says. Small- to mid-sized firms are feeling the biggest pinch, since they often employ only one person to handle compliance.

None of the firms participating in the Cerulli survey said that they would merge with another firm in order to cope with their compliance load. Instead, Keene says, the majority of firms are choosing to outsource many compliance functions.

More than half of survey respondents outsource at least some compliance needs, the study found. Three-quarters of those firms are smaller asset managers, “illustrating the greater need for outsourcing options among asset managers with more limited operational capabilities,” Keene says. She adds that Cerulli plans to keep an eye on the outsourcing trend.

Besides Sarbanes-Oxley, the Patriot Act, and anti-money laundering rules, asset management firms and investment advisors faced significant costs in implementing the SEC’s rule requiring that they add a chief compliance officer and develop written compliance policies and procedures. Keene says pending legislation like The Mutual Fund Reform Act of 2004, the Mutual Funds Integrity and Fee Transparency Act of 2003, and the SEC’s proposed Confirmation and Point of Sale Disclosure rules are looming, causing considerable angst among firms. She says many firms are “starting to dedicate resources to examining, and potentially preparing for, the Mutual Fund Reform Act,” which is designed to improve the governance and regulation of mutual funds. “Nearly 70% of asset management compliance departments now allocate time to keep up to date on both current and proposed financial-services-related legislation,” Keene says.

Keene also notes that advisors will feel the brunt of several new and pending regulations. “Proposed disclosure rule changes and new regulations targeting smaller independent broker/dealers could create significant challenges for advisors, especially smaller firms.” She says that “enhanced reporting requirements will put additional strains” on those firms with small compliance staffs that have limited back-office operation, which may drive some smaller retail RIAs out of business.

While rising compliance requirements are giving many advisors and mutual fund managers bigger headaches, one new law has made it easier for funds to attract assets from abroad. Under the American Jobs Creation Act of 2004, non-resident aliens and foreign corporations now face short-term capital gains withholding tax of 15% instead of 30%. Joe Gulant, a tax lawyer with Blank Rome LLP in New York, says the act eased registered investment companies’ (RICs) estate tax burden. “The interest in the RIC is not going to be subject to estate tax in the hands of a foreign investor to the extent that the investor dies while holding the interest,” he says. “Also, as it relates to capital gains, there was a problem with short-term capital gains being subject to 30% withholding on distributions from a RIC. That is no longer a problem. Those distributions will no longer be subject to the 30% withholding tax.”–Melanie Waddell


© 2023 ALM Global, LLC, All Rights Reserved. Request academic re-use from All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.