While state-registered advisors and firms—generally those with under $100 million in AUM—are not required by the SEC to complete a Form CRS, Oklahoma and Rhode Island have gone against the grain. Regulators in those two states require firms under their jurisdiction to develop a customer-relationship form, which is mean to describe, in plain language, a firm's business, professional relationships and fees, just as the SEC has demanded of its registered advisors.
But in doing so, these state securities commissioners may be overstepping their authority, according to Max Schatzow, an attorney with Stark & Stark’s Investment Management and Securities Group and the author of the investment adviser blog AdviserCounsel.
“Those states have given advisors two weeks to prepare and file the Form CRS in the middle of the summer in a pandemic,” Schatzow said. “Most state-registered advisors were under the impression that they did not need to do this.”
Earlier this month, the Securities Division in Rhode Island’s Department of Business Regulation released Securities Bulletin 2020-2, asserting that Rhode Island registered investment advisors needed to meet the same June 30 deadline for filing a Form CRS as SEC-registered firms. Both the Rhode Island rule and Oklahoma’s own rule employed similar language.
The Rhode Island bulletin noted that state-registered advisors do not have the ability to file a Form CRS through the Investment Adviser Registration Depository (IARD), which is how firms electronically deliver SEC filings. According to the Securities Division, Rhode Island advisors would sidestep this problem by attaching their Form CRS as an upload under Part 2 of their Form ADV.
“Also, although the Rules do not explicitly require the delivery of the Form CRS to clients, as a fiduciary, an investment adviser is obligated to ensure that clients understand the capacity in which it is functioning,” the bulletin read. “Since this is the whole purpose of the form, delivering the Form CRS to clients will now be a best practice for Rhode Island registered investment advisers. Such delivery would particularly be true for dually-registered firms and their representatives.”
The North American Securities Administrators Association’s (NASAA) has not taken a position on whether state securities commissioners should require state-registered IAs to complete a Form CRS, according to Ohio Securities Commissioner Andrea Seidt. Though the two states’ rules contained similar language, Sedit said they were not based upon any templates released by NASAA, and she did not think other states would follow suit.
The association is waiting to see how advisors and clients react to Forms CRS in the coming months after Regulation Best Interest is implemented on June 30th. The NASAA has criticized the implementation of the form in several comment letters sent to the SEC during the public comment period for Reg BI.
“While we like short-form disclosure, we wanted them to do an update of the entire ADV system,” she said. “(Form CRS) is regurgitating information from Parts 1 and 2. We were hoping we could work with the SEC to come up with an updated form that wouldn’t increase the burden on investment advisors.”
NASAA’s comment letter from August 2018 stressed the need for "pre-release testing" on Form CRS to see if it worked. Without it the form was “unlikely to become palatable to retail investors,” the association said. According to Christopher Gerold, NASAA’s president and New Jersey’s Securities Bureau Chief, many state-registered advisors are small businesses with a low employee headcount and under $100 million in assets under management (above this threshold, firms are required to register with the SEC). There are 17,543 state-registered investment advisors throughout the country, according to NASAA’s 2019 annual report on investment advisors.
“It’s a balancing test. You want investors to have all the disclosures that are necessary, all the material information. But on the flip side...these state-registered IAs are trying to run a business,” he said. “Before we ask our registrants to do one more form, we want to make sure the form has utility for investors.”
The two-week window before June 30 leaves state-registered advisors in Rhode Island and Oklahoma little time to prepare, Schatzow said. He also criticized the bulletin for requiring advisors to create a Form CRS while delivering it to clients was merely a “best practice.” However, he expected firms would likely file a form rather than file a legal challenge to the rule, suggesting the only potential challengers would be advocacy organizations like SIFMA or the FSI.
“It’s clear the SEC and FINRA never intended this to be a state registered filing,” he said. “Everyone should look at the specific law in the state where they reside or are registered or registering, and make sure they’re comfortable with whatever decision they’re going to make."