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FinCEN Proposes Broad AML Obligations for Investment Advisers

August 31, 2015

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As part of its continuing but slow expansion of the types of financial institutions that are subject to anti-money laundering (AML) obligations under the Bank Secrecy Act and USA PATRIOT Act, FinCEN proposed on August 25, 2015, to require certain investment advisers to establish and maintain AML programs and file suspicious activity reports (the Proposed Rules).  The Proposed Rules go further than FinCEN’s 2002 and 2003 proposals for investment advisors, which generally were limited to proposing AML program requirements only, without additional suspicious activity reporting and certain other record keeping requirements.

In explaining its rationale for the Proposed Rules, FinCEN acknowledges that advisers work with financial institutions that are already subject to BSA requirements, such as when executing trades through broker-dealers to purchase or sell client securities, or when directing custodial banks to transfer assets.  FinCEN notes, however, that these institutions may not have sufficient information to assess suspicious activity or money laundering, and that investment advisers therefore have an important role to play in safeguarding the financial system from terrorist activities and financial crime.

General Scope and Examination Authority

Under the Proposed Rules, covered investment advisers would include any persons who are registered or required to be registered with the SEC under section 203 of the Investment Advisers Act.  This would include both primary advisers and subadvisers.  However, because advisers with less than $100 million in regulatory assets under management are generally prohibited from registering with the SEC, those advisers would not be subject to the Proposed Rules.

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FINRA Action Highlights Risks to Broker-Dealers of Allowing Use of Independent RIA’s

April 10, 2015

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A FINRA Hearing Panel issued a decision on March 9, 2015 that will have a potential significant impact on any broker-dealer that allows its registered representatives to have their own investment adviser.  In light of this decision, broker-dealers should assess and evaluate the adequacy of their supervisory systems and procedures relating to supervision of a representative’s outside advisory activities.

In DOE v. Fox Financial Management Corporation (“Fox Financial”), Brian Murphy and James Rooney, the FINRA Hearing Panel found that the firm, its President, and its Chief Compliance Officer failed to adequately supervise a representative (Representative James Rooney, hereafter “JER”).  Specifically, the Respondents failed to adequately supervise JER with respect to his independent registered investment adviser (RIA).  Instead of treating JER’s RIA business as a private securities transaction, the Respondents instead treated JER’s RIA business as an outside business activity.  The Panel imposed principal bars on the supervisors, along with an expulsion of the firm.

FINRA issued Notice To Members (NTM’s) in 1994 and 1996 discussing a firm’s supervisory obligations with respect to a representative’s RIA activities.

In these NTM’s, FINRA indicated that firms were specifically required to assess whether the advisory activities of a representative constituted private securities transactions that were required to be supervised as such and recorded on a firm’s books and records.  FINRA has also issued a series of Interpretive Letters since the NTM’s were released, reiterating that firms were required to assess whether outside RIA activities needed to be treated as private securities transactions.

With respect to the specific facts of the case, the Panel found JER joined Fox Financial in May 2008, and was with the firm until October 2012.  Immediately after joining Fox Financial, the firm had JER complete the firm’s “Outside Activity Approval” form.  Beyond that, however, the firm did not take any steps to supervise JER’s RIA business.  Specifically, the Panel found Respondents’ supervision deficient in the following respects:

  • The firm did not review any customer suitability information for investors;
  • The firm failed to obtain duplicate account information, confirmations and statements from the executing broker-dealer;
  • The Respondents did not take any action to ensure that JER’s actions complied with regulatory requirements; and
  • The firm failed to record the RIA’s transactions on the firm’s books and records.
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