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SEC Reviewing 12b-1 Fees

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The Securities and Exchange Commission is currently reviewing as part of its exam cycle the entire spectrum of 12b-1 fees, Marc Wyatt, deputy director of the agency’s Office of Compliance Inspections and Examinations, said Tuesday.

Speaking on a panel at the District of Columbia Bar Association’s event titled “Straight Talk for Asset Managers and Their Counsel,” Wyatt said that OCIE is “conducting a series of [12b-1 fee related] exams to provide to the commission on the current practices and how they are developed.”

He told ThinkAdvisor after his remarks that OCIE is “looking at the whole complex” of 12b-1 fees.

Consumer advocates like the Consumer Federation of America and Fund Democracy urged SEC Chairwoman Mary Jo White in a March 12 letter to resurrect the plan that the agency put forth early in the Obama administration for 12b-1 fee reform.

The fees at issue are annual marketing or distribution fees on mutual funds. The 12b-1 fee is considered an operational expense and, as such, is included in a fund’s expense ratio, and is generally between 0.25% and 1% (the maximum allowed) of a fund’s net assets.

The groups told White that one way brokers “obscure the costs that investors incur for their services is by charging for those services through 12b-1 fees rather than through up-front commissions.”

While there is “nothing inherently wrong with charging for services in incremental payments, this practice suffers from several important short-comings,” the letter says. “Because 12b-1 fees are not considered commissions, they are not subject to [Financial Industry Regulatory Authority] commission limits. Because the fees are buried within the administrative fee charged by mutual funds and annuities, investors often fail to understand how much they are paying or what they are paying for through these fees.”

Wyatt, who was joined on the panel by Julie Riewe, co-chief of the Asset Management Unit within the SEC’s Enforcement Division, replaced OCIE Chief Andrew Bowden, who is leaving the agency at the end of April to return to the private sector.

Noting comments that she made in her recent speech, “Conflicts, Conflicts Everywhere…,” Riewe said Tuesday that “nearly everything we [in the Asset Management unit] look at involves conflicts,” whether that be in proprietary investments or products or undisclosed fee arrangements. For instance, “revenue flowing from BD to advisor is not being disclosed,” she said. “We see this most frequently in the private fund area.”

As she noted in her Feb. 26 speech, conflicts of interest “should be of concern to everyone in this room,” adding that the Asset Management unit divides the “vast asset management industry it polices” into three primary categories by investment vehicle: registered investment companies, private funds (both hedge funds and private equity funds), and other accounts (e.g., separately managed accounts/retail accounts).

Her advice to help firms properly assess their conflicts? “Take a step back and look at your firm holistically and principal risks it presents,” she advised.

Wyatt added that firms should be aware of conflicts that can possibly arise when “you bring on new business lines” and new products. “When you walk into a firm and they say there are no conflicts, [they] haven’t considered all the risks in [their] business.”

The agency has also finished its “presence exams” of private fund advisors and will return to “risk-based exams” of these types of advisors, Wyatt said.

Jordan Thomas, a partner at Labaton Sucharow LLP, who moderated the panel and who chairs the Investor Rights Committee for the DC Bar, noted that the whistleblowers who are now coming forward are “more senior” and that corporate whisteblowers are hailing from the asset management industry. “More people are coming forward in that space than any sector than I’ve seen,” he said.

— Related on ThinkAdvisor:

SEC Urged to Reform 12b-1 Fees, Block Risky ETFs

The Great Mutual Fund Expense Ratio Lie

SEC Exam Chief Bowden to Exit