A wide array of broker-dealers—including wirehouses, independents and insurance-affiliated firms—have received Regulation Best Interest exam deficiency letters from the Securities and Exchange Commission regarding conflicts of interest and alternative investment obligations, a leading attorney for the securities industry told Financial Advisor Magazine.
The “widespread” deficiency letters are citing firms for failing to meet the requirements of Reg BI—the SEC’s 16-month old rule governing retail investment advice, Issa Hanna, counsel with Eversheds Sutherland, who represents broker-dealers and registered investment advisors said.
According to Hanna, the SEC letters are citing firms for deficiencies in two prominent areas: a failure by firms and their reps to consider reasonably available alternative investments and deficiencies around processes and procedures to identify and root out conflicts of interests.
“The SEC is asking some pretty tough questions about what process firms have in place to ensure that reps are actually considering alternatives. I’ve seen this come up on a consistent basis,” Hanna said.
"I think the SEC has been dissatisfied with how firms are complying with the reasonably available alternatives requirement by simply having reps fill out a narrative about what alternatives they considered before making a recommendation to clients. The SEC wants to see firms provide guidance to the field explaining the process they should go through and how they should compare alternative investments against what’s being recommended,” he said.
When considering alternatives, there are certain types of transactions that the regulator wants firms to provide guidance to the field on, Hanna said. “Costly transactions, complex, overly risky ones and account type recommendations, including rollover recommendations, these are the starting point, he added.
Questions sent to the SEC asking for details on the deficiency letters and how many firms have received such letters were not answered immediately by deadline.
Hanna said that while he is not aware of any Reg BI deficiencies being referred to enforcement yet, “I don’t think we are far away from the first Reg BI enforcement. It’s not difficult to imagine an enforcement action that says, ‘this firm just failed to adopt any policies or procedures.’ In the meantime, the SEC’s expectation is ‘clean up these deficiencies,’” he added.
“I think the deficiencies are really widespread and the reason for that is the SEC has not given folks reasonable guidance about what expectations are,” Hanna said. “So, I think it is not at all surprising that the process the firms are putting out there for the reps to follow is not terribly well defined yet. The industry at large is waiting for guidance which today hasn’t really been forthcoming,” he said.
“Firms are, by and large, very well aware of requirement but are struggling to implement because they haven’t been given a roadmap from the SEC about how to accomplish it,” he added.