We expect several enforcement actions this year based on the failure to offer the lowest mutual fund share class available. We recommend that advisers conduct an internal reviews of recommendation practices and take action to reimburse clients.
The SEC’s Enforcement Division is offering amnesty from civil penalties for firms that self-report failures to fully disclose conflicts of interest when recommending mutual fund share classes that pay 12b-1 fees. Under this new “Share Class Selection Disclosure Initiative,” self-reporting firms would disgorge the 12b-1 fees and reimburse clients as well as implement other compliance procedures to prevent future wrongdoing. The Share Class Initiative would apply to a registered adviser that failed to fully disclose the conflict of interest where it recommended mutual fund share classes that paid back 12b-1 fees to the firm or affiliates when lower fee share classes were available. The amnesty program would not apply to firms already involved in enforcement actions related to share classes but would be available if a firm is undergoing a pending OCIE examination. This amnesty program will not protect individuals associated with self-reported firms as the Enforcement Division will do a “case-by-case assessment of specific facts and circumstances, including evidence regarding the level of intent and other factors such as cooperation by the individual.”
OUR TAKE: Advisers should consult counsel to conduct a cost/benefit analysis of self-reporting, including the potential impact on senior executives.