Series 65

Client Communication and Compensation - Special Disclosure Requirements

Under the Uniform Securities Act, additional disclosure is required if the IA acts as principal for its own account or as broker for both an advisory client and another person on any securities transaction. In these instances, the IA must disclose (prior to completion of the transaction) the capacity in which it is acting and must receive the client's written consent.
Special disclosure is also required for wrap accounts:
  • Wrap fee (or wrap account) programs require a special disclosure form (Schedule H) attached to Form ADV Part II. For these purposes, the SEC definition does NOT include:

    • Managed account programs - traditional portfolio management services offered by money managers

    • Mutual fund asset allocation programs - bundled programs that charge a fee based on the percentage of the total assets being managed within a portfolio of no-load (or load-waived) mutual funds
A wrap account is an account under which investment advisory services and brokerage trades are "wrapped" into a single fee that is not based on the number of transactions in an account.

The wrap fee disclosure in Schedule H must include the following information (where applicable):
  • The amount of the wrap fee, the services that are included and whether the fees are negotiable
  • Any additional fees that might be required
  • What methods are used to select portfolio managers
  • What compensation is paid to the person who recommended the program
Form 13F Disclosure
An IA may be subject to additional disclosure requirements under other federal statutes, other than the Investment Advisers Act of 1940. Under the Securities Exchange Act of 1934, an IA exercising investment discretion over an equity portfolio of $100 million or more is required to file on a quarterly basis a Form 13F disclosing the holdings it manages on its behalf or on the behalf of others.

Exam Tips and Tricks
Be prepared to answer a number of questions on the "brochure rule". Also, familiarize yourself with what must be included on Form ADV Part II. Here are two questions you might encounter on the exam:
The brochure rule applies to:
  1. Only discretionary advisory contracts
  2. Only written advisory contracts
  3. Only oral advisory contracts
  4. Both oral and written advisory contracts
The correct answer is "d". The brochure rule applies to all investment advisory contracts.

  1. Under the brochure rule, the IA's clients (or potential clients) must receive a copy of the brochure:
    1. At least 48 hours prior to entering into an advisory contract
    2. Within 24 hours of entering into an advisory contract
    3. At the time of entering into an advisory contract, as long as the client can terminate the contract without penalty within three days
    4. Within five days of entering into an advisory contract
The correct answer is "a". Option "c" is wrong because this provision only applies if the client can terminate within five days.



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