Congratulations! Your registered investment adviser ("RIA") firm has successfully made the transition from state to federal registration with the Securities and Exchange Commission ("SEC"). Firm growth is always exciting, but what does this change mean for your firm's compliance program?
In this post, we discuss the key differences between state and SEC regulations as well as filing requirements that may now apply to your firm. While this is not an exhaustive look at the differences between SEC and state regulatory compliance requirements, it highlights the most common topics and questions that advisers ask us while we assist with their state to SEC registration transition process.
In general, many states model their statutes and regulations on the Investment Advisers Act of 1940 and the SEC rules thereunder. This helps to create consistency; however, there are various rules and requirements that may change when an RIA firm transitions from state to SEC registration.
Certain states have specific net capital (firm net worth) requirements for investment advisers that have discretion and/or custody of client funds or securities. When a firm is state registered, that firm must generally comply with the financial requirements of its home state. SEC-registered firms must comply with the SEC financial requirement that the firm be solvent. There is no SEC rule requiring any specific net capital for federal covered advisers.
Individual Investment Adviser Representative ("IAR") Registration
The SEC does not register individual investment adviser representatives; however, states have rules in place for the registration of IARs of SEC-registered firms. The good news on this front is the firm may be able to, in some instances, drop some IAR state registrations in the transition to SEC registration. Most states require an IAR of an SEC-registered firm to register in the state only if the IAR has a physical place of business in that state. This differs from state registered firm requirements that typically require IARs to register in any state where (a) they service clients and (b) the firm is also required to be registered.
SEC registered RIAs, at least those serving retail investors, have another filing requirement that does not apply to the majority of state advisers: Form CRS. As Part 3 to Form ADV, the Form CRS is submitted via the Investment Adviser Registration Depository (“IARD”) system, albeit in a slightly different manner that Part 2 brochures. Form CRS relationship summary is composed of five items and limited to only two pages. The document focuses largely on fees, conflicts, and standards of conduct, while also allowing cross reference to the longer Form ADV Part 2A firm brochure and other materials.
SEC EDGAR Filings
In addition to completing Form ADV for the investment advisory firm, there are other filings that may now be required dependent on a number of factors including the firm's regulatory assets under management ("AUM"). The filing that generates the most questions is by far the Form 13F for Institutional Investment Managers. An Institutional Investment Manager is defined by the SEC as an “investment manager that uses the U.S. mail (or other means or instrumentality of interstate commerce) in the course of its business, and exercises investment discretion over $100 million or more in Section 13(f) securities. Furthermore, “an institutional investment manager is: (1) an entity that invests in, or buys and sells, securities for its own account; or (2) a natural person or an entity that exercises investment discretion over the account of any other natural person or entity.” The Form 13F must be filed quarterly by the investment adviser within 45 days of the end of a calendar quarter on the SEC’s Electronic Data Gathering, Analysis, and Retrieval ("EDGAR") system. Various other filings may apply, some of which might already be familiar to state RIAs but tend to be more commonly required of SEC advisers.
The transition from state to SEC registration is an excellent time for the Chief Compliance Officer ("CCO") of an RIA firm to review the firm’s entire compliance program.
In particular, this review should include conducting an initial risk assessment to help review the firm's policies and procedures manual to ensure it is current and relevant to the business model of the RIA and addresses any new SEC-specific requirements. In general, the CCO should consider taking this transition opportunity to clearly demonstrate that the firm is living up to the “Culture of Compliance” expectation of the SEC.