SEC Approves Four-Part Rules Package

On June 5, 2019, the Securities and Exchange Commission (SEC) approved a four-part investment advice reform package containing new rules that govern conduct, forms, and interpretations for investment advisers and broker-dealers.

SEC Approves Four-Part Rules Package 

The focus of this package pertains mainly to the relationship between financial professionals and their clients.

The four parts are as follows:

  • Regulation Best Interest
  • Form CRS Relationship Summary
  • Written guidance  the fiduciary duty that governs advisers
  • An interpretation of the “solely incidental” condition of the broker-dealer exclusion that allows brokers to avoid registering as advisers

The package represents one of the most influential changes of policy in recent years, significantly affecting the adviser/broker-dealer landscape as a whole.

Read the official SEC press release here.

Regulation Best Interest

Under Regulation Best Interest, the broker-dealer standard of conduct will be extended beyond existing suitability obligations due to more broker-dealers offering financial advice, in addition to their traditional role of simply executing transactions.

Broker-dealers will be required to act in the best interest of a retail customer and may not put their own financial interests before the interests of retail customers, particularly when:

  • Recommending any securities transaction
  • Suggesting any investment strategy involving securities

Regulation Best Interest focuses heavily on the requirement for broker-dealers to adopt policies and procedures sufficiently designed to identify any potential or actual conflicts of interest and financial incentives the firm may have, and to provide proper disclosure in the event such a conflict is discovered.

Form CRS Relationship Summary

The SEC will require both advisers and broker-dealers  to provide a brief relationship summary to retail investors upon entering into a relationship.

The summary will provide retail customers with easy-to-understand information regarding the nature of their relationship with their financial professional, helping the customer grasp the differences between investment advisers and broker-dealers.

Specifically, the relationship summary is to inform retail investors of the following:

  • The types of client and customer relationships and services the firm offers
  • The fees, costs, conflicts of interest, and required standard of conduct associated with those relationships and services
  • Whether the firm and its financial professionals currently have reportable legal or disciplinary history
  • How to obtain additional information about the firm

The relationship summary will include a link to  Investor.gov, the SEC investor education website, which will provide educational information to investors about investment advisers, broker-dealers, and individual financial professionals, as well as other supporting materials.

Clarification of Fiduciary Duty

The SEC has reaffirmed and clarified the fiduciary duty that investment advisers owe to their clients, which is defined by Section 206 of the Advisers Act.

Specific clarification points  include:

  • Making clear the differences between retail clients and institutional clients
  • Providing more specific guidance on disclosures regarding conflicts of interest
  • Reaffirming that an adviser is not obliged to allocate investment opportunities among clients on a pro rata basis, though full and fair disclosure must be provided in such an event

Investment advisers should continue to review their disclosures, especially concerning conflicts of interest, in order to determine whether further explanation should be provided to remain consistent with the spirit of the amended rule.

This clarification of fiduciary duty perhaps could be best summed up as the firm’s duty to ensure that it conducts itself properly as a fiduciary, acting in the best interests of their clients with policies and procedures in place to maintain such duty at all times, and providing clients with transparent disclosures.

An Interpretation of the “Solely Incidental” Exclusion

The SEC’s interpretation of the “solely incidental” broker-dealer exclusion is intended to clarify when a broker-dealer’s performance of advisory activities renders it an investment adviser as defined by the Advisers Act.

The interpretation illustrates the application in practice in connection with exercising investment discretion over customer accounts and account monitoring.

Further information regarding this clarification is available here.

Assistance Available

Regulation Best Interest and Form CRS will become effective 60 days after they are published in the Federal Register. Firms are required to bring their business practices into compliance with the new requirements no later than June 30, 2020.

The two interpretations of the Advisers Act will become effective immediately upon publication in the Federal Register.

The need to firmly grasp the content and spirit of these changes should not be taken lightly by anyone whose business operations fall within their scope.

Should your firm have questions, need further clarification, or require assistance in constructing the required disclosures or applicable policies and procedures pertaining to the new SEC rules package, the consultants at Core Compliance can help.

Contact us today for assistance.