Though the rule that requires firms to have a Code of Ethics (“Code”) is over a decade old, compliance professionals regularly deal with issues within their firms arising from the Code, and it’s not uncommon for firms to create a Code that becomes stagnant and maintaining the Code as circumstances within the business change, while the ebb and flow of business get in the way of making timely updates.
If it’s been a while since you’ve reviewed your Code, there’s no better time than now to take a look at your existing policy and determine if any updates are necessary.
While regulatory changes often dictate when a Code may be updated, firms should still be reviewing their Code regularly regardless. Furthermore, smaller firms may find themselves struggling to review their Code or dealing with issues arising from the Code due to not having a budget for a full-time CCO; lacking the infrastructure for reviews of Code-related violations or personal trading activity; tracking regular and periodic certifications and disclosures; and, struggling to keep their code of ethics updated, to report on time, and to keep their form ADV updated as it relates to their code of ethics.
Potential Pitfalls with a Code of Ethics
There’s a reason we recommend firms manually review their Code reports — violations of the Code can lead to some very serious problems, especially when it comes to certain types of violations that may seem small or inconsequential.
For instance, late reporting is a pervasive issue because there’s a clear misunderstanding of the word “late” within the context of the reporting requirements. Reporting even a single day late is a violation in the eyes of the SEC — they are quite serious when it comes to violations of any sort.
Personal trading activity is an integral component that should be constantly tracked and reviewed. The regular practice of tracking activity can accurately reflect the firm’s business practices, employees’ compliance with standards of procedure, and the continuous enforcement from CCOs and various supervisors.
Another problem, as mentioned above, is keeping the code of ethics aligned with the language in Part 2A of your form ADV. Again, this can seem like a small or inconsequential issue — after all, if your code of ethics is up to date, surely it doesn’t matter much if that’s reflected on your Form ADV? We don’t advise trying such an argument on the SEC — every time a regulation dictates that your Code be altered or updated in some way, ensure that change is reflected in your Form ADV.
Finally, another, often thorny issue is political contributions and violations of the SEC’s Pay to Play rule. In fact, 10 firms in 2017 felt the sting of these rules as the SEC issued orders instituting administrative and cease-and-desist proceedings for alleged violations.
As the above-mentioned examples highlight, these violations could easily be overlooked. Though these rules are designed to deal with firms where sizable donations are being traded for political power, only one firm out of the ten cited, donated anything close to even a hundred thousand dollars, and despite the relatively small size of the donations for the other firms, those donations got those firms in a great deal of trouble, demonstrating that the SEC is willing to bring down violations for lesser amounts, even in the hundreds of dollars.
If You Don’t Have the Time to Review Your Code of Ethics, Hire a Professional
Our reason for existence is simple — most small modern firms are simply unable to afford a full-time CCO and often are too busy running their business to be able to focus completely on compliance. As a result, potential issues can slip through the cracks. We can help firms get back into compliance and help them develop the tools, policies, and procedures that will keep them on track — click to learn more about our unique approach.