On December 20, 2018, the Securities and Exchange Commission ("SEC") Office of Compliance Inspections and Examinations ("OCIE") released its annual top exam priorities for the 2019 calendar year. OCIE is the SEC division which conducts examinations of registered investment adviser ("RIA") firms and this priority list can help investment advisers be better properly prepared for a regulatory examination. In general, the list of priorities for 2019 contains many similar focus areas as highlighted in the agency's 2016, 2017, and 2018 examination priority lists as well as recently issued risk alerts. For 2019, the SEC is primarily focused on six categories: compliance and risk at registrants responsible for critical market infrastructure, matters of importance to retail investors, including seniors and those saving for retirement, Financial Industry Regulatory Authority ("FINRA") and the municipal Securities Rule Making Board ("MSRB"), digital assets, cybersecurity, and anti-money laundering programs. These six categories are nearly identical to the five 2018 focus areas except for this year's new additional focus on digital assets.
Once again as part of this year's examination priorities release, the SEC also reported a new record-breaking 2018 fiscal year in terms of total number of audits conducted and RIA examination coverage rate:
- In the 2018 fiscal year, OCIE completed over 3,150 examinations which represents a 10% increase over the 2017 fiscal year.
- In the 2018 fiscal year, the SEC achieved examination coverage of ~17% of all investment adviser firms, compared to 9% five years ago.
OCIE states that within the priority areas, the agency will be particularly focused on these common RIA regulatory compliance issues:
- Fees and Expenses: Disclosure of the Cost of investing: The staff notes, "for these examinations, OCIE will select firms with practices or business models that may create increased risks of inadequately disclosed fees, expenses, or other charges. With respect to mutual fund share classes, OCIE will continue to evaluate financial incentives for financial professionals that may influence their selection of particular share classes. In addition, OCIE remains focused on investment advisers participating in wrap fee programs, which charge investors a single bundled fee for both advisory and brokerage services. Continued areas of interest include the adequacy of disclosures and brokerage practices."
- Conflicts of Interest: With the SEC's proposed Regulation Best Interest rule expected to be finalized later this year, the staff remains focused on an RIA's fiduciary duty. The staff notes, "as fiduciaries, investment advisers have a duty to act and provide advice in the best interests of their clients. Ensuring that investment advisers are acting in a manner consistent with their fiduciary duty and meeting their contractual obligations to their clients is paramount to maintaining investor confidence in the markets and investment professionals." Two particular potential conflicts of interest highlighted are: advisers using services or products provided by affiliates and borrowing funds from clients.
- Portfolio Management and Trading: In particular, "OCIE will also examine investment adviser portfolio recommendations to assess, among other things, whether investment or trading strategies of advisers are: (1) suitable for and in the best interests of investors based on their investment objectives and risk tolerance; (2) contrary to, or have drifted from, disclosures to investors; (3) venturing into new, risky investments or products without adequate risk disclosure; and (4) appropriately monitored for attendant risks."
- Never-Before or Not Recently-Examined Investment Advisers: As has been the case in recent years, the staff remains focused on its Never-Before Examined Adviser initiative. They will "continue to conduct risk-based examinations of certain investment advisers that have never been examined, including newly-registered investment advisers as well as those registered for several years but that have yet to be examined. OCIE will also prioritize examinations of certain investment advisers that have not been examined for a number of years and may have substantially grown or changed business models."
- Cybersecurity: The SEC examination staff continues to focus on cybersecurity. As it relates to RIA firms, "OCIE will emphasize cybersecurity practices at investment advisers with multiple branch offices, including those that have recently merged with other investment advisers, and continue to focus on, among other areas, governance and risk assessment, access rights and controls, data loss prevention, vendor management, training, and incident response."
It's important to note that OCIE also highlights that "while the priorities drive many of OCIE’s examinations, the scope of any examination is determined through a risk-based approach that includes analysis of the registrant’s operations, products offered, and other factors. This risk-based approach often results in examinations that address key aspects of the SEC’s regulatory oversight, such as the disclosure of services, fees, expenses, conflicts of interest for investment advisers, and trading and execution quality issues for broker-dealers."
As RIA compliance consultants, we strongly recommend that the principals and Chief Compliance Officer of all investment advisory firms registered with the SEC, regardless if the firm has been examined before or not, review the contents of the SEC 2019 exam priority document. Furthermore, past exam priority lists released in prior years should also be reviewed. Links to these past investment adviser audit priority lists are here:
- 2018 SEC RIA Examination and Audit Priorities
- 2017 SEC RIA Examination and Audit Priorities
- 2016 SEC RIA Examination and Audit Priorities
- 2015 SEC RIA Examination and Audit Priorities
- 2014 SEC RIA Examination and Audit Priorities
- 2013 SEC RIA Examination and Audit Priorities
RIA in a Box LLC is not a law firm, investment advisory firm, or CPA firm. RIA in a Box LLC does not provide legal advice or opinions to any party or client. You should always consult your relevant regulatory authorities or legal counsel if applicable.