If you work as a Registered Investment Advisor (RIA) or RIA representative, you may be entering an era of greater oversight by the Securities and Exchange Commission (SEC). Historically, the agency has only been able to examine about 10% of all registered advisors in a given year, with a focus on those with the largest amount of assets under management (AUM). In 2014, the Office of Compliance Inspections and Examinations (OCIE) launched the “Never Before Examined” initiative. This resulted in a push to give compliance examinations to new RIAs who have been in the business for at least three years but had never been examined before. The governmental agency is also making other internal changes aimed at increasing its ability to oversee the RIA industry.
The New Examinations
The SEC’s new examination process will consist of a two-pronged approach. The risk assessment will be an examination of the overall practices of an RIA’s business, and especially those of its compliance department or officers. There will also be a focused review that thoroughly explores the specific aspects of its business that entail a greater degree of risk, such as portfolio management, its marketing practices, filings and disclosures and how the RIA or firm safeguards and houses client assets. The examination as a whole is ultimately designed to focus on the areas that are of greatest risk to investors. The new examinations have now been in place for over a year and will continue to be used to monitor the safety of advisors’ business practices going forward. (For more, see: SEC Audit? How Financial Advisors Can Be Ready.)
The SEC is also attempting to address the growing number of RIAs versus broker-dealers by increasing the number of examination officers in its OCIE department. It will do this via a combination of about 30 new hires and 70 internal reassignments, so that there are a total of more than 600 examiners working on the RIA side of the business. This represents an increase of about 20%, which will help the OCIE to keep up with its workload of examining RIA firms on an annual basis. This move has met with approval by industry experts who have been concerned for some time about the SEC’s ability to adequately supervise the growing number of advisors in the field.
Karen Barr, president and CEO of the Investment Advisers Association, said: "This reallocation of examination resources is consistent with the evolving registrant population, given that the number of SEC-registered investment advisors has been growing while the number of broker-dealers has been diminishing. Allocating substantial resources to the advisor examination staff is good, sound public policy that contributes substantially to the SEC's mission of ensuring investor protection and market integrity and will meaningfully augment SEC examination of the advisory profession." (For more, see: Financial Advisors: Be Wary of These Serious SEC Snags.)
However, the SEC has also voiced a proposition to enlist a third-party entity to start conducting these examinations on its behalf instead of conducting them internally like they are doing now. This has led to some concern by industry pundits who fear that the third party who is ultimately chosen will be FINRA. Attempts have been made to get Congress to approve a bill that would give the SEC authority to charge advisors for their examinations, but it failed to gain traction in the Senate and is unlikely to pass at this point. FINRA for its part responded that it would probably be interested in the job if the SEC asks if it is willing to do this, but that it is not going to press the issue.
Bob Colby, FINRA’s chief legal officer, made this statement at its recent annual conference: "Our business card says investor protection, market integrity. That's what we try to do, and we try to do it by supporting the SEC. Our ambit is to oversee broker-dealers. If the SEC sees a role for us to help on a voluntary basis in third-party examinations, we would be interested, but we're not pushing it." But opponents feel that FINRA would not be a good match for the type of organization that would provide RIA examinations and would instead end up imposing a burdensome set of bureaucratic rules on RIAs that could seriously hamper their businesses and would be much larger in scope than what pertains to examinations. (For more, see: Culture Questions FINRA Will Ask in Exams.)
The Bottom Line
At this point, it is unclear exactly what the future holds for the SEC in its attempt to improve its examination process and quotas. It is unlikely that a formal proposal of any kind will appear on the SEC’s platform before the elections in November and then there will be an inevitable period of internal restructuring for the new Presidential administration before further meaningful action can be taken. (For more, see: How to Avoid Risk in Your Practice.)