More On Legal & Compliancefrom The Advisor's Professional Library
- Client Commission Practices and Soft Dollars RIAs should always evaluate whether the products and services they receive from broker-dealers are appropriate. The SEC suggested that an RIAs failure to stay within the scope of the Section 28(e) safe harbor may violate the advisors fiduciary duty to clients, so RIAs must evaluate their soft dollar relationships on a regular basis to ensure they are disclosed properly and that they do not negatively impact the best execution of clients transactions.
- Do’s and Don’ts of Advisory Contracts In preparation for a compliance exam, securities regulators typically will ask to see copies of an RIAs advisory agreements. An RIA must be able to produce requested contracts and the contracts must comply with applicable SEC or state rules.
It has been a busy year for the SEC since President Obama signed the Dodd-Frank Act on July 21, 2010. On June 22, the SEC approved a new rule to define the term “family office,” which modified its proposed rule of Oct. 12, 2010. The final rule became effective on Aug. 29. As a result, I sat down with my colleague, Matt Jacobs, to discuss the key provisions of the family office rule.
Matt advised that the SEC originally proposed the new family office rule in anticipation of the Dodd-Frank Act’s repeal of the private advisor exemption from registration contained in section 203(b)(3) of the Advisers Act. In doing away with the private advisor exemption, Congress’ intent was to require that advisors to private funds (such as hedge funds and private investment vehicles, etc.) register with the SEC; its intent was not to affect family office advisors. Therefore, the Dodd-Frank Act provided that advisors to family offices were exempt from registration as an investment advisor, if the advisor met the definition of family office.
Pursuant to the SEC’s new definition, a family office is a firm: 1) whose only clients are family clients; 2) is wholly owned by family clients and controlled by family members or family entities; and 3) does not hold itself out to the public as an investment advisor.
Under the final rule, family members include all lineal descendants of a common ancestor (who may be living or deceased), as well as current and former spouses or spouse equivalents of those descendants, provided that the common ancestor is not more than 10 generations removed from the youngest generation of family members. Furthermore, the rule accepts all children by adoption and current and former stepchildren as family members.
Included in the definition of family clients are family members (as defined above) and all of the following individuals and entities: 1) key employees of the family office (including executive officers, directors, trustees and general partners of the family office or its affiliated family office); 2) any other employee of the family office or any affiliated family office (other than an employee performing solely clerical, secretarial or administrative functions) who has participated in the investment activities of the family office or any affiliated family office for at least 12 months; 3) any estate of a family member, former family member, key employee (and in some instances, a former key employee); 4) nonprofit and charitable organizations funded exclusively by family clients; 5) certain family trusts; and 6) companies wholly owned and operated for the benefit of family clients.
Under the final rule, a family office may continue to provide advice, for a period of time, with respect to assets that were involuntarily transferred to a person who is not a family client. In addition, the definition of family client includes any irrevocable trust in which one or more family clients are the only current beneficiaries.
Those firms fitting the definition of family office are excluded from registration as an investment advisor; however, while not required to register, firms must respond to certain questions found on Form ADV Part 1A.
Most importantly, those family office advisors who were relying upon the private advisor exemption from registration, but do not meet the new definition of family office, must register with the SEC by March 30, 2012. Because the SEC has 45 days to grant registration or institute proceedings to determine if registration should be denied, it is critical that advisors file Form ADV no later than Feb. 14, 2012.