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Regulation and Compliance > Federal Regulation > FINRA

What to Do When the Examiners Visit Your Practice

By James J. Green

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Advisors love to learn from other advisors, which is why about 75 of them showed up early for a compliance session during Commonwealth Financial Network’s national conference.

John Hagberg, assistant director for licensing and compliance for Commonwealth, moderated a panel of three advisors who had gone through an audit recently. Heath Bartlett of Bartlett Financial was audited by the South Carolina Attorney General in May, while Sharon Duncan and Marcus Pinnock, both OSJs at their firms Selah Financial and Sterling Financial, respectively, were audited by FINRA over the past two years.

Hagberg said state auditors will, as a rule, show up announced, while FINRA will normally ask a broker-dealer for scads of data, which they’ll “run through” the regulator’s risk matrix to decide which branches to audit. Hagberg gave his first piece of advice for when an auditor shows up unannounced. “Call us,” he said, “and we can make sure the auditors are real,” as there have been some cases of scammers posing as auditors.

Bartlett said that his firm received a certified letter from the South Carolina Attorney General’s office two to three weeks before the examiners arrived. Duncan said it took her “days to determine why” the auditors had decided to visit her firm. It turns out the FINRA examiners were primarily interested in how the branch supervised its advisors.

Pinnock said that his audit was not a complete surprise, since Commonwealth had already warned him that because of the size of his practice (Sterling Financial is Commonwealth’s largest West Coast branch) and its business model—“we have lots of alternative investments and annuities”—Sterling would likely be audited. “They were looking at our blend of business,” Pinnock recalled, and in particular wanted to know what percentage of client assets were in alternative investments.

Hagberg said there’s an important lesson to be learned from the exams. “The focus” of FINRA “this year was on nontraded products: REITs, business development companies [BDCs], annuities and IRA rollovers.”

Duncan said her FINRA examiners focused on “know your clients,” which is a challenge, since the firm has over 1,200 household clients. However, she urged her fellow advisors that to ensure a “stress-free audit,” they should “do what you’re supposed to do, even if you don’t agree with the rules.” That was the case with Selah Financial, she said, particularly when it came to FINRA’s recently finalized and complex suitability rules.

Duncan said the majority of the questions concerned “how well we knew what we were supposed to be doing.” Rather than a fishing expedition to root out bad behavior, Duncan said her examiners wanted to know “did we understand the rules and follow them?”

Each of the panelists reported that the examiners took a very business-like approach in their interactions with advisors and staff. Duncan got a laugh when she said the examiners “don’t want a pen or a can of soda; anything that could be construed as a bribe.” Each also reported that the mock audits conducted by Commonwealth annually had prepared them for the real audits.

Hagberg said that state examiners will “often ask for the last two audits” conducted by Commonwealth, and will then want to know if the firm has addressed any deficiencies found in those audits.

How to prepare for an audit on a very practical level? Pinnock said we “vacuumed and dusted” and “gave the examiners a private room.” Duncan cautioned, “Don’t have files in your conference rooms,” while Bartlett said his firm prepared by focusing on areas like the lobby and making sure any printed materials were out of sight, though he also mentioned “they can go anywhere and ask for anything, like prospectuses.” Pinnock said his auditors “wanted a tour of the office,” and seemed interested in making sure that all file cabinets and doors were locked.

Hagberg suggested there was a method to that office tour and checking that files were physically secure. “Data security is a hot-button issue with regulators,” he said, though “regulators do have a right to your data.” Bartlett said that while his firm provided all the data the examiners requested, “we had logs they had to sign for everything.”

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