/SEC Office of Compliance Inspections and Examinations Releases Risk Alert: Most Frequent Advisory Fee and Expense Compliance Issues Identified in Examinations

SEC Office of Compliance Inspections and Examinations Releases Risk Alert: Most Frequent Advisory Fee and Expense Compliance Issues Identified in Examinations

WHAT HAPPENED?

On April 12, 2018, the Securities and Exchange Commission (SEC) Office of Compliance Inspections and Examinations (OCIE) released a compiled list of compliance issues relating to fees and expenses that were the most frequently identified in deficiency letters sent to advisers.

Advisers are required to disclose fees in their Form ADV and should also include a detailed fee description in their advisory agreements.  An adviser that fails to meet the terms of such agreements and disclosures, or exercise inappropriate fee billing practices, are at risk of violating the Investment Advisers Act of 1940, as amended.

According to OCIE, the most frequent deficiencies related to advisory fees and expenses are as follows:

  1. Fee Billing Based on Incorrect Account Valuations – OCIE staff identified advisers that incorrectly valued client assets, resulting in overbilled advisory fees. The staff observed advisers using a different metric and/or process than what was detailed in the client’s advisory agreement.  This could also mean that the data used to value an account was stale, resulting in an incorrect account valuation.
  2. Billing Fees in Advance or with Improper Frequency – OCIE staff found advisers billing clients monthly, instead of on a quarterly basis as stated in the advisory agreement or in From ADV 2A. OCIE staff also found new clients being billed for an entire billing cycle, instead of being pro-rated to reflect the advisory services than began mid-billing cycle.  The staff frequently discovered advisers that did not reimburse a terminating client a pro-rated portion of the advisory fees, despite stating they would do so in Form ADV Part 2.
  3. Applying Incorrect Fee Rate – OCIE staff found advisers applying a different fee rate than what was agreed upon in the advisory agreement or inconsistent with their disclosures in From ADV 2A. OCIE staff also found advisers double-billing clients.
  4. Omitting Rebates and Applying Discounts Incorrectly – OCIE staff repeatedly found clients being overcharged due to advisers incorrectly applying certain discounts or rebates to the client advisory fees.  For example, the staff found: (a) advisers that did not aggregate client account values for members of the same household; (b) advisers that did not reduce a client’s fee rate when the value of the client account reached a prearranged threshold (such as the tiered fee schedules disclosed in the adviser’s Form ADV 2); and (c) advisers that charged additional fees when the client was already in the adviser’s wrap fee program.
  5. Disclosure Issues Involving Advisory Fees – OCIE staff repeatedly found disclosures in the Form ADV 2A, Item 5 to be inconsistent with actual practices.
  6. Adviser Expense Misallocations – OCIE staff observed advisers to private and registered funds that allocated expenses to the funds in a manner inconsistent with the fund documents.  Examples include travel expenses; marketing expenses and regulatory filing fees being charged to the clients instead of the adviser.

WHAT DOES THIS MEAN FOR ME?

OCIE’s goal in publishing this Risk Alert is to remind advisers to assess their advisory fee and expense practices to ensure they are fulfilling their fiduciary obligations and complying with the Advisers Act and their own compliance programs.  OCIE’s findings have resulted in some advisers electing to change their practices, improving policies and procedures and reimbursing clients for any billing errors.

The published Risk Assessment is not all inclusive and other risks besides those described in this report remain appropriate to consider.

Fairview is committed to answering any questions or concerns regarding the findings of OCIE Risk Assessment and will be working with clients to ensure fees and expenses comply with relevant disclosures found in policies and procedures and Form ADV.

About the Author:

Fairview
Founded in 2005 with the goal of developing streamlined back office solutions for investment advisers. Fairview is now servicing investment advisers, foundations and funds with over $185 billion in collective assets.