While the SEC’s Office of Compliance Inspections and Examinations (OCIE) maintained a relatively steady number of registered investment advisor examinations between 2018 and 2019, without staff increases it’s possible the office will have difficulty keeping up with a growing number of RIA firms, according to a new SEC report on 2020 exam priorities.
“OCIE’s coverage rates will not likely keep pace with the continued growth in the population and complexity, without corresponding staffing increases,” the report read. “While OCIE has made great strides to improve the coverage rate, the risks of diminished coverage, quality, and effectiveness are possible without further support. Ultimately, this trend is concerning and a focus for OCIE and Chairman Clayton.”
According to the report, the OCIE conducted 3,089 examinations in 2019, a 2.7% decrease from the previous fiscal year, while the OCIE’s coverage of RIAs increased from 10% in 2014 to 17% in 2018, before dropping to 15% in the following fiscal year (the report notes that these drops could be due in part to a 35-day lapse in appropriations caused by last winter’s government shutdown).
The report stressed the importance of assisting firms with attaining (and maintaining) compliance with Regulation Best Interest after it is implemented on June 30. According to the report, the OCIE will work with broker/dealers who are examined prior to that date to help assess how they’re progressing toward compliance.
“OCIE intends to assess implementation of the requirements of Regulation Best Interest, including policies and procedures regarding conflicts disclosures, and for broker/dealers and RIAs, the content and delivery of Form CRS,” the report read.
This broadly mirrors how SEC representatives described examinations pre- and post-Reg BI implementation at a FINRA conference focused on the new rule held last month. During the event, John Polise, the associate director of the Broker-Dealer and Exchange Program at the OCIE, said inspectors would be looking for “good faith efforts” to attain compliance, and that inspectors would not be trying to play “gotcha,” or regulate by enforcement before there is clarity over the new rules. (However, he also said that firms should not be surprised if inspectors start inquiring about compliance immediately after June 30).
“When we say things like ‘good faith,’ we have to mean it,” he said. “I think in the first round there will be much less ‘you did this wrong,’ and more ‘how about this?’”
According to the report, the OCIE’s priorities mirror those of recent years. The regulator will continue to look at fee and compensation arrangements and conflicts of interest, and, in language mirroring Regulation Best Interest, "This will include assessing, among other things, whether RIAs provide advice in the best interests of their clients and eliminate, or at least expose through full and fair disclosure, all conflicts of interest which might incline an RIA, consciously or unconsciously, to render advice which is not disinterested."
The letter also noted that the SEC will look at “care of duty” concerns that arise when RIAs fail to aggregate accounts when calculating fee discounts.
In addition, the office will continue to focus on information security, particularly how RIAs are protecting clients’ financial information, vendor management and how they are prepared to handle an incident around cybersecurity breaches or hacks.
The office will also continue to investigate how RIAs use automated advice platforms, or so-called robo advisors, including SEC registration eligibility, cybersecurity policies and procedures, marketing practices, how firms are adhering to fiduciary duties in their use of robos (including how conflicts are disclosed) and the effectiveness of firms’ compliance programs for their robo advisors.
The SEC is also taking a harder look at how RIAs handle environmental, social and governance or sustainable investments, with a "particular interest in the accuracy and adequacy of disclosures provided by RIAs," the letter noted.
