The SEC’s Division of Examinations is focusing on “hundreds” of firms the commission believes should have filed a Form CRS that have not yet done so, according to its division director. One industry expert said some firms cited the past year’s transition to working from home as the reason for the discrepancy.
Director Pete Driscoll, in a conversation at last week’s virtual Investment Adviser Compliance Conference with Investment Adviser Association General Counsel Gail Bernstein, said the SEC would look into firms that had not filed their Form CRS even after the agency in some cases sent multiple inquiries.
“We had identified hundreds of firms that we believed should have filed a Form CRS that didn’t,” he said. “So we did an outreach, and in some cases reached out twice in an informal way to say ‘we noticed you didn’t file it, and you say you have retail clients, and just checking in but should you be filing one?’ We had a large number that didn’t respond to us at all.”
The SEC implemented the customer relationship summary with its Regulation Best Interest rule last June to summarize the relationship between a client and their advisor, including information about services, fees, costs, conflicts and their disciplinary history. The implementation came with obstacles, including reports that as many as 20% of firms that reported on their forms they had no previous disciplinary incidents actually did. Additionally, some advisors said they hadn’t gotten any inquiries from clients about the form, raising the question as to whether customers were even reading it.
The SEC held a roundtable on its initial observations about Reg BI and Form CRS last October, underlining the broad concern about firms’ failing to properly disclose disciplinary issues, but MarketCounsel President and CEO Brian Hamburger said he was “shocked” to hear that as many as hundreds of firms had failed to comply altogether. However, he said he’d anecdotally heard of firms citing COVID-19’s effects as the source.
“I can’t make heads or tails as to why they haven’t done that, except to share with you that what these firms have told us is that ‘we’ve been so overwhelmed given the sudden move to remote status of our office and work-from-home, that we just haven’t had a chance to deal with it,” he said.
Hamburger speculated the SEC would follow up with letters to firms asking why it should not proceed with an enforcement action, and it was possible such actions could come later this year and into next year. But the sheer number of potentially noncompliant firms could complicate it, since enforcement actions include significant overhead, making it a tool the commission does not use lightly.
“You’re more likely to see these threatening letters issued to these firms and a rash of settlements announced by the SEC as a way to penalize these firms but at the same time avoiding a formal enforcement action,” he said. “But if there’s hundreds outstanding, it’s simply not going to be effective to address them all.”
The Form CRS document was important for clients but could also be an important tool for examiners, Driscoll said, noting it would probably be the first document he would read when preparing to examine a firm in order to get a general overview before digging deeper into its Form ADV.
Hamburger speculated that some firms would realize they were out of compliance when filing their annual updating amendment over the course of the next several weeks, but with hundreds of firms remaining nonresponsive, the problem was likely larger than that specific kind of lapse.
“It’s one thing if you didn’t realize it. Maybe you delegated it to someone who didn’t do their job, but how is it possible that it simply continues to be overlooked even if the SEC has sent those notices to firms?” he said. “Usually, when the SEC sends a notice like that to firms, usually firms notice."