A biennial report compiled by state securities examiners on the regulatory deficiencies among the investment advisors under their respective jurisdictions found the most common deficiencies by far occurred in the areas of books and records, registration and contracts.

Under the auspices of the North American Securities Administrators Association, every two years state securities examiners voluntarily report sample data from their investment advisor examinations to Nasaa’s Investment Adviser Operations Project Group. Nasaa said this year’s report, which was released this autumn, comprised sample examination data reported by 44 state and Canadian provincial securities examiners between January and June 2013. The 1,130 reported examinations uncovered 6,482 deficiencies in 20 compliance areas, compared to 3,543 deficiencies in 13 compliance areas identified in a similar 2011 examination of 825 investment advisors.

The most recent report included some of the roughly 2,100 midsize investment advisors with assets under management between $30 million and $100 million who switched from federal to state oversight earlier this year as part of the Dodd-Frank Act. On the surface, it looks like there’s a much higher number of deficiencies based on the number of reported advisor examinations (37% more examinations and 83% more reported deficiencies).

But Nasaa says it’s a case of expanding the number of compliance areas covered, which in turn gave state examiners more criteria to evaluate advisors. “The exam modules were expanded and became more detailed, which I think helps examiners lift up every corner of the rug,” says Mike Huggs, director of the Mississippi Securities Division and chair of Nasaa’s Investment Adviser Operations Project Group.

Regarding books and records, the most frequent deficiencies dealt with suitability documentation, missing client contracts and trial balance/financial statements. When it came to registration deficiencies, the most common no-nos involved Form ADV—Part 1 versus Part 2, fee structures and services provided. And the most common deficiencies related to contracts entailed improper execution, fees and fee formula.

As a result of these and other deficiencies among advisors, Nasaa put together the following “Best Practices” list:
• Prepare and maintain all required records, including financial records. Back up electronic data and protect records. Document checks forwarded.
• Review and revise Form ADV and the disclosure brochure annually to reflect current and accurate information.
• Review and update all contracts.
• Prepare and distribute a privacy policy initially and annually.
• Deliver disclosure brochure initially and annually as required.
• Review all advertisements, including Web site and performance advertising, for accuracy.
• Calculate and document fees correctly in accordance with contracts and the ADV.
• Prepare a written compliance and supervisory procedures manual relevant to the type of business to include the business continuity plan. Assess and update periodically.
• Implement appropriate custody safeguards, as applicable. Pay close attention to direct fee deduction invoices.
• Keep accurate financials. File it in a timely manner with the jurisdiction. Maintain surety bond if required.
• Make sure client’s investment policy and suitability information are current.
• Disclose soft dollars or benefits received.
• Prepare and maintain current client profiles.
• Review solicitor agreements and disclosure and delivery procedures.