More On Legal & Compliancefrom The Advisor's Professional Library
- Regulatory Oversight of Investment Advisors Although the regulatory environment is in a state of flux, it is imperative that RIAs adhere to their compliance obligations. To ensure compliance, RIAs and IARs must fully understand what those obligations are.
- Preventing and Dealing with Client Complaints Although the SEC has not provided specific guidance on how client complaints should be handled, a firms policies and procedures should provide clear direction how to do so, as neglecting complaints can exacerbate a bad situation.
A Georgetown professor is offering another option in lieu of a self-regulatory organization for advisors: outsourcing routine advisor exams to external third parties, such as accounting and consulting firms.
In a paper to be released Friday, James Angel, associate professor at Georgetown University’s McDonough School of Business, argues that while an SRO is attractive in theory “because the industry presumably has the expertise to regulate itself,” designing an “effective SRO is problematic”—and costly.
What’s more, Angel told AdvisorOne in an exclusive interview Thursday, “At the end of the day a new SRO will look just like the Financial Industry Regulatory Authority,” FINRA. Any new SRO that is set up would, like FINRA, “continue to be micromanaged by the SEC and it would be run by people with SEC and FINRA experience,” he says.
Angel’s research paper, “On the Regulation of Investment Advisory Services: Where Do We Go From Here?,” which was supported through a grant from TD Ameritrade, proffers Angel’s conclusions about the worthiness of an SRO based on numerous conversations he conducted with brokers, regulators, advisors, scholars and industry trade groups.
The Dodd-Frank Act mandated that the SEC consider setting up an SRO for investment advisors, but the agency can't move forward with an SRO until Congress enacts legislation telling it to do so. The idea of an SRO for advisors has raised much controversy among RIAs, broker-dealers, and industry groups as to which organization, if any, should be charged with that duty.
Skip Schweiss, managing director of advisor advocacy for TD Ameritrade Institutional, told AdvisorOne the same day at TD Ameritrade’s regional conference in Washington that Angel’s “independent analysis” of the SRO issue offers a “very interesting conclusion that will add substance to the [SRO] debate.” The use of external compliance reviews is a “fourth” option “beyond the three that are being debated in the industry today.”
A presentation of Angel’s paper and its external auditor option to about 30 advisors at the TD Ameritrade conference garnered a positive response, Schweiss says.
Angel argues in his paper that an SRO could take on two “extremes”: it could become a “’selfish
What’s more, he says, the United Kingdom has abandoned the SRO model and turned over such responsibility to government agencies.
Angel concludes that because it’s unlikely the SEC will devote more resources to “routine examinations” and the “problems” with SROs, routine advisor exams should be “outsourced to third parties.”
Qualified third parties to perform the external compliance reviews would be:
- PCAOB registered accounting firms;
- Self-regulatory organizations such as FINRA or national stock exchanges;
- Compliance consulting firms with qualified personnel;
- Qualified individuals acting as compliance consultants;
- Other RIA firms as part of a peer review process similar to that used in the accounting profession.
“The report from the external auditors would get filed with the SEC, and then the SEC would step into action,” if need be, Angel told AdvisorOne. Use of external auditors “would leverage SEC resources so they can go after bigger fish.”
Angel explained that the audits would verify information on Form ADV and verify that the firm has procedures in place to comply with U.S. securities laws. The frequency and depth of the exams, he said, would be based on a risk-adjusted basis. Smaller firms “with a clean regulatory history,” Angel says, would be subject to less frequent audit requirements than “larger riskier firms.” This, he says, “would free up SEC resources to conduct higher-level for-cause examinations.”
As for the cost of an SRO, Angel notes that because approximately 72.1% of FINRA's operating revenue comes from broker-dealer user and regulatory fees, this means that the assets in place related to broker-dealer regulation are approximately $455 million, or about $718 per representative. This implies, he goes on to say, that an SRO would need to have assets of about $198 million to oversee the approximately 275,000 advisor representatives.
When asked by AdvisorOne if he consulted with lawmakers about the idea of external auditors examining advisors, Angel said he did not.