If RIAs didn’t pay attention last time the SEC came through looking for information about their fees, the regulator’s latest warning should make them take notice, compliance experts said.
A new sweep by the regulator’s Division of Examinations revealed widespread problems with how much RIAs charge clients and the manner that they disclose the expenses, despite the SEC’s listing of fees as an examination priority in each of the past four years and more than 150 enforcement cases. Most RIAs out of about 130 SEC-registered firms receiving audits are making errors in the calculation of advisory fees, failing to give clients discounts or credits or leaving pertinent information out of their required disclosures,
“Advisory fee calculation and billing has been, and continues to be, an area that warrants routine review” in RIA exams, the document stated.
The risk alert comes after many wealth managers have paid settlements to the SEC as part of a mutual fund fee disclosure program that
Even though the risk alert itself omits relevant details and the report sounds much the same as earlier SEC pronouncements and cases, RIAs should view it as a reminder to check their billing software against their client contracts, invoices and Form ADV, according to Scott Gill of Synergy RIA Compliance Solutions. The longer it takes firms to correct any disparities, “the more tedious it is to remediate” them, Gill said, noting that refunds prompt clients to wonder whether any other bills are wrong and other questions that are a bigger risk than the dollar cost.
“This will hopefully allow firms to catch both isolated and potential systemic issues in their billing practices,” said Gill, referring to quarterly billing and invoice reviews. Even though the matters discussed in the alert are by no means new, they’ve “become more complex with the introduction of new billing technology and software,” he added.
RIAs should consider proactive refunds to clients rather than waiting for an SEC examiner to require it, according to Gill and WilmerHale partner Amy Doberman, a securities attorney. Besides demonstrating the need for regular comparisons of disclosures and bills, the risk alert displays how important it is that RIAs “carefully” check their documentation of how they make recommendations to clients about cash and their method of calculating prorated fees during account opening and closing, said Doberman, a former SEC official who advises wealth and asset managers.
Citing the many enforcement cases and a very similar SEC risk alert from
“The same issues more or less that were recounted in that alert were just surfaced again in the recent alert,” Doberman said. “Advisors haven't taken the first alert sufficiently seriously, and they're still engaging in the type of conduct that they were alerted to several years ago.”
The steps RIAs ought to take to avoid a deficiency finding or enforcement case include hiring a vendor to build an audit log and detailed invoices “of all billing activity per client or household” with listings of their fee models and any complexities in their expenses, FIN Compliance Principal Cory Roberson said in an email.
It isn’t immediately clear which RIAs or how many firms examiners have found to be out of compliance with the rules or when exactly they audited the firms in question. Each of the firms examined in the SEC’s sweep offer “investment advice to retail clients; however, they had a wide range of assets under management, business operations, staffing levels, and affiliations,” according to the document.
Their inaccurate counting of advisory fees stemmed from firms double-billing, using different formulas than those in their contracts, basing rates on the wrong fee schedules, failing to combine family accounts into a single household or just adding up the value of clients’ holdings incorrectly, the risk alert stated. Besides those deficiencies, firms aren’t accurately applying their tiered schedules, giving refunds for prepaid or unearned fees or simply terminating the fees charged to clients who cancelled their account through an outside custodian, according to the document. Instead, they’re requiring clients to provide written requests, the SEC says.
Another section of the risk alert covers conflicts of interest and what it alleges are “false, misleading or omitted disclosures” about them, along with missing or inadequate procedures and inaccurate financial statements. The firms’ Form ADV brochures and other disclosures didn’t reflect their current fee rates and whether they’re open to negotiation, failed to spell out their billing formulas accurately or displayed inconsistencies with other documents, according to the risk alert. Specifically, many of the disclosures left out how cash flows can affect expenses, how the timing of valuations can make an impact on them or whether they have minimum fees, extra charges or any discounts, examiners said.
In its recommendations for advisors, the regulators instructed RIAs to adopt written rules and practices to verify their billing and fees, among other steps. RIAs that have placed responsibility for fees and billing to one centralized place within their organizations rather than leaving them dispersed throughout “had fewer clients being billed incorrectly or client accounts being calculated inconsistent with the advisors’ written policies and procedures,” according to the document.
In issuing the risk alert, the examiners are trying to encourage RIAs “to review routinely, refine, and improve, as appropriate, their fee billing policies, procedures and practices and address new risks as they are identified,” the document stated. “In addition, advisers should review their disclosures regarding such practices to ensure that clients are provided with full and fair disclosure of all fees and expenses and related material conflicts of interest.”
