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Yes, it is all about the Benjamins. Unfortunately, during recent examinations, the SEC too often is doing its aggressive best to find ways for advisors to reimburse clients. In fact, in some instances, the SEC is so aggressive that you might think there was a bonus system (I am certainly not alleging that there is, just emphasizing the scope and aggressiveness of the SEC’s review as to fees and reimbursement thereof to clients).

Sadly, there is no room for error, no matter if such error was clearly unintentional or otherwise understood by the client. Rather, all errors will generally be construed against the advisor, resulting is some reimbursement. Here are some examples:

• Mutual Fund Share Class issues: Hopefully there is no need to expand on this. Every advisor should be keenly aware that it should be determining whether the client would be better off with an institutional share vs. a no-transaction fee share. Avoiding a transaction fee is no defense if it clear that the institutional share was more appropriate for the client given the client’s situation (i.e. amount invested, anticipated holding period, etc.).

As a fiduciary, you have an obligation to counsel a client who seeks to avoid incurring transaction fees, as to why such purchases are in his/her best financial interest. If the client still balks, have them acknowledge, in writing, that you explained the expense ­differential of the two share classes, and the client required that you still purchase NTF funds.

• Fee Schedule Dispersion: Do you generally deviate from your fee schedule? Never charge a client the highest fee? Do you discriminate between clients without clear disclosure on Part 2A as to fee dispersion and ­discrimination, and under what circumstances you would deviate from the fee schedule? It’s the same issue relative to “minimum fees” — do some pay them and others don’t? How is that ­determined? At the rep level, or must it be approved by compliance? Is compliance maintaining a record as to why a deviation was permitted?

• Lack of Fee Schedule: Do you opt for a fee range (between X% and Y%) rather than a fee schedule? Do you make clear on Part 2A as to what subjective and objective factors are considered by the firm when determining the fee? Is the fee determined at the rep level, or must it be approved by compliance? Is there a material conflict of interest — the higher the fee, the greater the compensation to the rep? Do you also make clear that as result of the fee arrangement (whether or be deviation from a fee schedule or determining a fee based upon a fee range), that similarly situated clients could pay disparate fees, and/or rep has an incentive to charge a higher fee (regardless of whether or not he/she does, there may be a compensation incentive that presents a conflict requiring disclosure).

• Intra-Quarter Fee Adjustments: Do you adjust your fee based upon intra-quarter account additions and withdrawals? Are there thresholds? Do you just do it for additions? Do you clearly disclose that? Even if you do disclose it, be prepared to make your case to the SEC as to why, as a fiduciary, that it is fair to (in the best interests of) the client that you increase your fee for account additions, but don’t decrease the fee for account withdrawals. Disclosure may not be enough.

• Private Fund Valuations: Do your clients hold “fair-valued” private equity or real estate funds? If yes, do you simply rely on the quarterly values provided by the fund sponsor/administrator without making a determination as to whether such values are reasonable? Do you clearly disclose the limitations of such reliance? Do you regularly address fund status/valuation issues with the fund sponsor? Can you defend the value that you use for fee billing purposes?

Be mindful of the above, and be prepared to address them, if raised, during an exam.

Thomas D. Giachetti is chairman of the Securities Practice Group of Stark & Stark, a law firm with offices in Princeton, New York and Philadelphia that represents investment advisors, financial planners, BDs, CPA firms, registered reps and investment companies, and is a regular contributor to Investment Advisor. He can be reached at [email protected].


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