By Cory Roberson, Principal at RIA Review and RIA Consults
Last month, we started a continuing
education series on FINRA compliance rules in order to provide firms with further
insight into overlapping regulations between the investment advisory and the
broker-dealer worlds. This month, we advise
advisors to take a closer look into their business model and activities to
anticipate any needed compliance changes.
Given the rise in popularity of
robo-advisory models and the number of RIAs who dually register with FINRA and as
a state securities agent, it is important for firms to take appropriate steps
to boost their compliance. Advisors with
both types of operations must understand their compliance reporting
requirements to appease FINRA, MSRB, SEC, and state jurisdictions.
What is an example of a business model with both operations?
A Robo-Advisor is a business
model that includes both advisory and broker-dealer activities. In short, the robo-advisory platform is
an algorithmic trading model or securities instrument. This instrument may engage in the issuing,
registering, and selling of its securities (sell-side), and concurrently act as
the advisor engaged in buying securities on behalf of client portfolio accounts
(“buy side”).
Factoring in regulatory rule overlaps
Below is a list of four overlapping
requirements monitored for both firm types:
1. Reporting Disciplinary History
|
For: Advisors and Broker-Dealers
Rules:
SEC Section 206 (“anti-fraud provisions”) advisors act
FINRA
Rule 3110
FINRA/SEC/State
Compliance Review Procedures:
SEC, State, and FINRA firms must
report disciplinary history on its U-4.
FINRA also reports disciplinary
history on a Form U-6, and initially on Form B-D
SEC and State advisors report on Form
ADV.
Six Types of Disciplinary History:
Criminal cases such as
investor fraud, theft, or misappropriation of funds.
Administrative/Civil cases
heard in arbitration or court.
Regulatory Agency Action cases
based on a particular ruling from a regulator.
Bankruptcy/Creditor
issues surrounding financial/credit reporting agencies.
Customer Complaints
Termination
2. Email Monitoring (Rule 17A-4)
|
For: Broker-Dealers and Registered Investment
Companies (mutual funds)
Rules:
SEC Exchange Act (SEA) Rule 17(a)-4
Along with the Exchange act, FINRA Rules 3110 and 4511 of the exchange act
requires broker-dealers to use a digital system to store a comprehensive record
of securities transaction and general business correspondence.
FINRA
Compliance Review Procedures:
What information was reviewed?
Who was the person reviewing materials?
What was the date of review
Firms
action
Note of regulatory issue
If yes, document and escalate as needed.
SEC
Compliance Procedures:
Standalone advisors, funds, or dually registered RIAs can
also use aforementioned guidelines for Rule 204-2, 17(A)-4 and books/records
requirements.
Most advisor books/records requirements include provisions
for electronic storage and not necessary the specified monitoring required by
FINRA’s Rule 3110 and 4511.
Supervision can be delegated to an unregistered person –
but principal has primary responsibility for monitoring emails.
3. Outside Business Activities
|
For: Advisors and Broker-Dealers
Rules:
SEC Rule 206(4) – 1 and Similar State Rules
FINRA Rule 3270 (supervision of outside activities)
FINRA/SEC/State
Compliance Procedures:
Reps must notify OSJ in writing of activities and report
on U-4 within 30 days of change.
Reps must notify advisory firms of activities and report
on U-4/Part 2B (Item 4) within 30 days of changes. Management persons must also report on Item
19.
4. Suitability Documentation
|
For: Advisors and Broker-Dealers
Rules:
FINRA Rule 2111, SEC and State
share similarities
Required when selling products,
such as variable annuities and certain mutual fund types, registered
representatives.
FINRA/SEC/State Compliance Procedures
Suitability
Questionnaire
Contains an overview of clients’ history, preferences,
and guidelines for making investment
recommendation, securities purchases, and
overview portfolio monitoring services.
Typically, this questionnaire will contain a summary of
the following:
Age
Investment
Financial Situation/Needs
Tax Status
Investment Objective
Investment Experience
Investment Time Horizon
Liquidity
Risk Tolerance
More FINRA Compliance procedures:
FINRA Rule 2111 goes a step
further by providing three measures of suitability
Reasonable Basis –
is this a fair and accurate portrayal of client guidelines?
Customer Specific –
Are customers informed of activities?
Quantitative Basis –
Are securities and types appropriate?
Summary:
Firms with both operations should
create a compliance program/manual for Investment Advisory and Broker Dealer activities.
With that said, advisors can
reduce their regulatory burden by keeping track of rules that will cover
regulations for both entities.
References:
Municipal Securities Rulemaking
Board (MSRB)
Financial Industry Regulatory
Authority (FINRA)
Securities and Exchange
Commission (SEC)
Our Mission: “Serving the Investment Community to Make a Social Impact”
Investment Advisor/Compliance/Broker Dealer
Cory Roberson is Principal of RIA Review, a compliance and document management portal https://RIAReview.com - 130+ users and growing.
He is also Principal of RIA Consults -Roberson Consults Group), a consulting firm providing compliance, operations, and business development services for registered investment advisors and next-gen fintech entrepreneurs - RIAConsults.com. To date, RIA Consults worked with more than 160 SEC & State advisors clients across the US (including a few in Europe). Our integration division, RegConsults helps to mitigate compliance issues for other Fintech businesses.
RegTech Products, a compliance tech notifications portal featuring RIA and other regulatory Products (SaaS/IaaS -beta) – regtechproducts.com
He is also Principal of RIA Consults -Roberson Consults Group), a consulting firm providing compliance, operations, and business development services for registered investment advisors and next-gen fintech entrepreneurs - RIAConsults.com. To date, RIA Consults worked with more than 160 SEC & State advisors clients across the US (including a few in Europe). Our integration division, RegConsults helps to mitigate compliance issues for other Fintech businesses.
RegTech Products, a compliance tech notifications portal featuring RIA and other regulatory Products (SaaS/IaaS -beta) – regtechproducts.com
FinTech/RegTech/Crypto
Fin Community is a member rewards and business listing network featuring providers in the FinTech, RegTech, Crypto and Blockchain communities (website coming soon). https://FINcommunity.io.
Impact
As a social entrepreneur, through his mission-driven arm SoCap Missions (http://SoCapmissions.com), he provides business support group sessions and has volunteered for more than fifteen youth programs in locations such as like S. Korea, China, S. Africa, Thailand, and India.
As a social entrepreneur, through his mission-driven arm SoCap Missions (http://SoCapmissions.com), he provides business support group sessions and has volunteered for more than fifteen youth programs in locations such as like S. Korea, China, S. Africa, Thailand, and India.
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