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ASA in InvestmentNews: Tsunami of new rules bears down on advisors



by Mark Schoeff, Jr. | InvestmentNews


Many investment advisors broke out in a cold sweat when the SEC announced in May 2021 that the landmark marketing rule the agency had approved the previous December would go into force on Nov. 4, 2022.


The 18-month implementation deadline provided little comfort to registered investment advisors as they considered the effort that would be required to update their policies, procedures and controls related to advertising to comply with the 430-page rule that for the first time since 1961 overhauled how they can promote their firms.


Advisors worried that a year and a half wasn’t enough time to get the compliance work done. But they may find the stress caused by the marketing rule was just a warm-up compared to what they could be experiencing over the next two years.


What’s coming next is the finalization of a number of major Securities and Exchange Commission rules that affect advisors, including regulations regarding outsourcing, custody, cybersecurity, the use of ESG in portfolios and mutual fund liquidity, among many others.


Beginning early next year, the Investment Adviser Association anticipates the SEC will approve many final rules that will become effective from January through the early fall, many of which are hundreds of pages long. That starts the compliance clock ticking on implementation, with deadlines that could start falling in early 2025.


“For advisors to implement this many complicated, consequential rules in even close to the time frame the commission seems to be contemplating is unlike anything we’ve ever seen before,” said IAA general counsel Gail Bernstein. “If you could imagine eight marketing rules coming at you at the same time, that’s about what it’s going to look like. It’s really hard to implement more than one new rule at a time.”


OVERLAPPING PROPOSALS


In a June 17 letter to the SEC, the IAA urged the agency to consider the “costs and benefits together and holistically, prior to adopting any more final rules” relating to the advisor proposals. The IAA said 12 proposals could significantly affect advisors, and many of them are interrelated and overlapping.


It’s not just advisors who will be pressed by the regulatory convergence that’s likely to result from SEC Chair Gary Gensler’s agenda. Brokerage firms and registered representatives also are bracing for compliance challenges.


“There often isn’t a sufficient appreciation for how expensive and difficult it is for industry participants to implement all these things,” said Mark Quinn, director of regulatory affairs at Cetera Financial Group. “There are only so many major regulatory initiatives we can effectively digest and implement at the same time.”


When the regulatory storm hits, financial advisors will have to design and implement policies and procedures, train personnel on the new rules and consider whether to hire in-house compliance expertise, said Ken Joseph, managing director at Kroll, a compliance consulting firm.


“The tsunami of rules will seriously challenge advisors’ resources and the ability to react in a timely way,” said Joseph, a former SEC officer who ran the examination program for RIAs in New York and New Jersey.


BREATHING ROOM


There’s not much that advisors can do to prepare in advance because the SEC won’t vote on final rules for weeks or months in most cases. Typically, it takes a year for a proposal to work its way through the rulemaking process. A proposal can be modified before it becomes a final rule, based on public comments and political pressure on the SEC.


But assuming almost all the proposals will go final, industry representatives want the SEC to allow some breathing room regarding when they will go into force.


The SEC should “seek public feedback on a comprehensive implementation timeline for tiered and staggered compliance requirements and dates for all these proposals,” Bernstein and IAA associate general counsel Sanjay Lambda wrote in the IAA’s June 17 letter to the SEC.


An SEC spokesperson did not respond to a request for comment.


Gensler has defended his agenda, saying that he wants to increase the transparency and efficiency of the financial markets while lowering costs for investors. He also asserts his roster of proposals is smaller than that of his predecessor, Jay Clayton. Clayton’s total of 64 final rules was over a four-year period. Gensler took the SEC helm in April 2021.


POTENTIAL COSTS


The potential regulatory costs of pending SEC rules are on the minds of advisors and brokers.


An IAA survey of its members late last year showed that advisory firms anticipate that the cybersecurity rule will cost more to implement and maintain than the SEC estimates.


The survey showed that nearly 80% of respondents said implementation costs would be at least $20,000. About 50% said they would be $100,000 or more. That compares to the SEC’s estimate of $16,013. Ongoing compliance costs could be $100,000 annually, according to the survey.


CYBERSECURITY PROPOSAL


One owner of a small advisory firm is gritting his teeth about the cybersecurity proposal. Advisory firms — and brokerages — would have to assess and report cyberbreaches to the SEC on a tight deadline and follow up later with public reporting, among other requirements.


“Cybersecurity has me beside myself,” said the owner of an RIA with $150 million in assets under management, two advisors and 32 client families.


“There’s all kinds of traps in there for advisors, including potential fraud charges if [the SEC] believes advisors haven’t done everything they can to protect client data.”


The owner declined to talk on the record so that he could freely express his frustrations, which revolve in large part around regulatory costs.


“If I have to hire a full-time in-house compliance person who’s qualified — if I can find that person — it’s probably going to be a six-figure salary,” the owner said. “You’re basically going to need someone every day reviewing everything that’s going on.”


COMPLIANCE PAIN


Customers and clients also could feel some of the compliance pain.


“We have relatively narrow profit margins,” Quinn said. “Somebody has to pay all the costs. In the long run, it’s going to be investors.”


A trade association that represents regional brokerages said implementing the SEC’s array of rules will reallocate resources from advisors and their clients and customers to other groups.


“One thing is clear: the implementation of the chairman’s unprecedented regulatory agenda will result in a significant transfer of wealth from regulated market participants, retail investors and small businesses who use their own capital to take risks to a politically connected professional class of lawyers, consultants and accountants who do not,” said American Securities Association CEO Chris Iacovella.


IMPACT ON SMALLER FIRMS


Chief compliance officers who also fill other executive roles may be wearing their compliance hats longer than usual when the SEC rules start going final.

“CCOs are really under the gun,” said Bernadette Murphy, managing director at compliance firm Vigilant. “They can’t keep up with the regulatory environment. It’s not something you can do between phone calls. The biggest challenge will be for smaller firms.”


Dean Harman, managing director of Harman Wealth Management, feels lucky that he has compliance help on the broker-dealer side of his dually registered firm. His broker-dealer is part of Osaic, which was until recently known as Advisor Group.


Osaic’s compliance capabilities will help Harman navigate the SEC rules when they go final. He’s on the board of Osaic, whose legal team is tracking SEC proposals and trying to determine what implementation may look like if they go final.


“I don’t know how the smaller RIAs and broker-dealers will do it,” Harman said. “It’s an incredible task for them to take on. It’s why you’re going to see more and more consolidation of B-Ds into larger entities with more scale. You’re going to see less of the mom-and-pop businesses.”


Compliance burdens also could be a catalyst for M&A in the small advisor sector.


“A lot of [firm owners] are going to decide the best thing for them to do is to merge into another firm or just retire,” said the small-firm owner who asked not to be identified.


PREPARING FOR CONVERGENCE


Even if a financial firm has a well-staffed compliance function, it’s going to be difficult to keep up with everything, compliance experts said. Financial advisors can gird themselves for a raft of new compliance obligations by assessing what they have in place now.


“In preparation for convergence, they should review their policies and procedures and compare them to their current business practices to make sure they’re aligned,” said Ann Keitner, senior principal consultant at ACA Group.


The SEC’s proposals aren’t out of left field. For instance, the custody proposal would reform practices surrounding the possession of client funds and securities that advisors have had to grapple with for years.


“Custody has been clear as mud,” Keitner said. “I’m hopeful in a lot of areas [the SEC] will clarify best practices that have been in place for some time … [and] there’s not going to be anything brand-new.”


Even though the SEC may be covering areas that are familiar to advisors, the agency is proposing rules that don’t provide the flexibility needed to make them work for their particular business models, the IAA’s Bernstein said.


“The fact that these rules are so prescriptive will make them even more challenging [to implement],” she said.


Financial advisors shouldn’t get their hopes up that the final SEC rules will be substantially different — and perhaps easier to implement — than what they’ve seen in the proposals. But they may get some leeway on implementation.


“I expect that there will not be significant changes to the rule proposals,” Kroll’s Joseph said. “I would expect the final implementation dates will be staggered.”


Overall, that might be a good outcome for advisors.


“If they spread out the compliance dates for some of the rules that affect advisors so that they have an appropriate amount of time to implement policies, procedures, testing and education … that would benefit everybody,” Vigilant’s Murphy said.


This article originally appeared in InvestmentNews.




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About the American Securities Association


American Securities Association, based in Washington, DC, represents the retail and institutional capital markets interests of regional financial services firms who provide Main Street businesses with access to capital and advise hardworking Americans how to create and preserve wealth. ASA’s mission is to promote trust and confidence among investors, facilitate capital formation, and support efficient and competitively balanced capital markets. This mission advances financial independence, stimulates job creation, and increases prosperity. The ASA has a geographically diverse membership of almost one hundred members that spans the Heartland, Southwest, Southeast, Atlantic, and Pacific Northwest regions of the United States.

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