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Regulation and Compliance > Federal Regulation > SEC

Kovack Advisors Kept Clients in Unsuitable Wrap Accounts: SEC

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What You Need to Know

  • Certain clients remained in wrap accounts despite a lack of activity and weren't told about additional costs, the SEC said.

Kovack Advisors has agreed to settle Securities and Exchange Commission charges that it failed to review accounts of advisory clients in its wrap fee programs to determine whether such programs remained suitable and to adequately disclose certain fees to those clients.

The firm is required to pay a $700,000 civil money penalty along with $166,239 in disgorgement and $33,274 in prejudgment interest.

According to the SEC order, the clients at issue paid an all-inclusive fee for asset management, trade execution and other costs.

At various times beginning in at least 2015, and continuing through August 2018 when it stopped offering wrap accounts, KAI, according to the SEC, failed to:

  • review these advisory accounts for inactivity as required under its internal policies and external disclosures, to determine whether wrap accounts remained in the best interest of clients that traded infrequently; and
  • adequately disclose to these wrap clients that they would be charged, in addition to the wrap account fee, for trade execution by certain clearing brokers participating in KAI’s wrap program.

“As a result, certain KAI wrap clients remained in wrap accounts despite the lack of activity in their accounts, and/or paid transaction costs on top of the wrap account fee,” according to the agency.

KAI, the SEC said, also failed to adopt and implement written policies and procedures reasonably designed to prevent the aforementioned violations, and to conduct annual compliance reviews.

Kovack Advisors Inc. of Fort Lauderdale, Florida, advises retail, high net-worth and institutional clients. As of Dec. 31, 2021, KAI had assets under management of approximately $3.5 billion, which it managed on a discretionary basis, and $1 billion managed on a non-discretionary basis.

From at least 2015, KAI’s brochures and certain of its client account agreements provided that KAI would review its advisory accounts.

One of the purposes of the review was to determine whether wrap accounts remained suitable for clients, including identifying inactivity in wrap accounts. “Where a client is charged a wrap fee that covers all advisory services and trading costs, yet the client trades infrequently, the client may be better suited to a non-wrap account,” the SEC order states.

KAI disclosed in its brochures in 2015 and 2016 that it “periodically reviews the accounts and financial plans on at least a semi-annual basis,” and in 2017 and 2018 KAI’s brochures disclosed that it “periodically reviews client accounts,” the order states.

Further, KAI’s 2018 brochure more specifically disclosed that KAI would “review accounts and transactions for account type suitability, in addition to investor suitability.”

“The purpose of the account reviews described in KAI’s disclosures was, among other things, to determine whether wrap fee accounts remained suitable for advisory clients with minimal trading activity, based on their current investment needs and objectives,” the SEC said.

From at least 2015 through August 2018, KAI failed to adequately and timely conduct reviews for the wrap accounts it managed to evaluate whether wrap accounts continued to be in the clients’ best interests.

“As a result, wrap clients paid management fees to KAI despite having little to no trading activity in their accounts,” the order said.


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