The SEC adopted Regulation Best Interest for broker-dealers that make recommendations to retail clients. Regulation Best Interest, intended to enhance a broker’s standard of care beyond suitability, requires a broker-dealer to act in the retail customer’s best interest and to refrain from transactions that favor the interests of the broker over the customer. The new rule requires disclosure as well as policies and procedures to ensure that brokers identify and mitigate conflicts of interest. The SEC also adopted new Form CRS that requires both advisers and brokers to provide retail customers with standardized information about their relationship, including services, fees, conflicts, standard of conduct, and disciplinary history. The SEC also issued an interpretation that addresses an adviser’s fiduciary responsibilities. Part of this regulatory package includes a refining of the “solely incidental” exception to adviser registration for brokers. Firms have until June 30, 2020 to comply with Regulation Best Interest, although the new interpretations apply immediately upon publication.
Let’s rename this “The Compliance Officer Full Employment Act.” Compli-pros at broker-dealers will have to rework all of their Written Supervisory Procedures, revise client agreements, create disclosures, and eliminate all prohibited conflicts. Compliance offices at investment advisers must address the new Form CRS requirement and implement new client onboarding procedures while figuring out the changes required by the investment adviser fiduciary interpretation. And, we only have 12 months to get this all done.
A broker-dealer Chief Compliance Officer was fined $50,000 and barred from the industry for failing to implement procedures to prevent the unlawful liquidation of microcap securities. FINRA asserts that the firm and its principals liquidated 74 million shares of microcap securities without satisfying Rule 144, thereby distributing securities in violation of the Securities Act. The firm’s Written Supervisory Procedures designated the CCO as the person responsible for Rule 144 compliance. FINRA rejected the CCO’s defense that the WSPs did not reflect how the firm actually operated. FINRA also faulted the CCO for adopting inadequate WSPs, which failed to outline procedures to conduct adequate due diligence.
The CCO should review the compliance manual or WSPs and ensure s/he understands and undertakes all designated responsibilities. If the CCO can’t or won’t follow the procedures, then s/he must revise the procedures to satisfy regulatory requirements while reflecting the firm’s accurate allocation of authority.
FINRA fined a large broker-dealer $6.25 Million for failing to prevent customers from using lines of credit to purchase securities, thereby violating the margin rules. The BD offered a program whereby customers could borrow against their brokerage accounts and use the proceeds for purposes other than buying securities. However, FINRA alleges that the firm failed to implement adequate supervisory procedures to educate and train employees and customers and prevent the misuse of the lending proceeds. FINRA maintains that customers often borrowed and invested in securities within 14 days.
OUR TAKE: This case shows the difference between policies and procedures. A policy states a firm’s position on a course of conduct or practice. Procedures are then required to implement that policy and ensure compliance. Firms that stop at broad policy statements have not implemented an adequate compliance program.