Lessons Learned from Recent SEC and FINRA Cases for April 2018


If it walks like a duck, swims like a duck, and quacks like a duck…. Then it just may be a duck. The SEC censured and fined Financial Fiduciaries, LLC, a SEC registered investment advisor and Thomas Batterman for violating the custody rule because a dual employee also had trust powers.  Thomas Batterman was the majority shareholder of WTC, Inc. (“WTC”) which also was the sole member of Financial Fiduciaries, LLC.  WTC entered into two arrangements with Investors Independent Trust Company (‘IITC”) whereby both entities not only shared office space but also the services of one employee.  Financial Fiduciaries, per the second arrangement, would provide investment advisory services to IITC’s trust clients. The dual employee worked as a bookkeeper for WTC and for IITC she performed trust administrative activities on behalf of IITC’s clients. In this capacity, the dual employee had direct access to and control over assets of Financial Fiduciaries trust clients.  IITC paid WTC $2,000 a month towards the dual employee’s salary and it also paid WTC “variable” monthly rent based on 50% of trust administrative fees it generated. Financial Fiduciaries benefited from recommending IITC’s trust services but did not disclose the conflict to its clients.

The SEC found Financial Fiduciaries breached its fiduciary duty by not disclosing the conflicts of interests in the arrangements, as well as violating “The Custody Rule” for not having a qualified custodian handle the assets, failing to conduct an independent audit, and for not maintaining the assets in separate accounts.  Furthermore, the SEC charged Batterman with filing an inaccurate Form ADV by not disclosing that his firm had custody of client assets. Contributed by Heather Augustine, Senior Compliance Consultant

BD/IA pays $2.2 million to Compensate Investors for Recommending More Expensive Mutual Fund Share Classes.   Ameriprise Financial Services, Inc. is yet another in casualty in the SEC’s crackdown on firms that sell investors mutual fund shares classes with higher expenses.  Ameriprise settled a case with the SEC and agreed to pay back investors $2.2 million in remediation for recommending higher-cost mutual fund share classes. According to the settlement order, Ameriprise recommended and sold Class A Shares with an up-front sales charge (when load-waived shares were available), and Class B or Class C shares with a back-end deferred sales charge that had higher ongoing fees and expenses than other share classes.  These recommendations were made without checking to see whether investors qualified to purchase load-waived Class A Shares, or telling investors that Ameriprise would receive more money as a result of selling the more expensive share classes.

Ameriprise has become yet another poster child for the SEC’s Share Class Disclosure Initiative.  To avoid a similar fate, advisers should be looking at their processes for selecting mutual fund share classes to make sure that they have taken into consideration which share classes are the best deal for the client.  Firms should also review their disclosures to ensure that they tell investors if they have a conflict of interest in recommending one share class over another.  Contributed by Jaqueline M. Hummel, Partner and Managing Director

Cautionary tale:  SEC goes after CCO for Aiding and Abetting Fraud Scheme.  The SEC charged three oil and gas companies and their executives for engaging in a fraudulent scheme to raise $11.7 million for drilling projects.  The complaint alleges that the four executives targeted unsophisticated investors to buy shares in oil and gas drilling operations that they claimed were already profitable. What makes this case different from all the other fraudulent oil drilling schemes is that the corporate compliance officer was also charged for his role in the offering.  According to the complaint, the CCO knew what was going on and assisted in the sales efforts by drafting and reviewing communications to investors and filing Forms D with incorrect information.  The CCO played a key role in the scheme, according to the complaint, by “adding an aura of legitimacy.”  The lesson here is that CCOs can also become the targets of regulators for failing to take the securities laws seriously.  Contributed by Jaqueline M. Hummel, Partner and Managing Director

Worth Reading:

 How The Product Distribution Industry Beat DOL Fiduciary By Proving Their “Advisors” Aren’t Real Advisors.  Great analysis of latest developments on Fiduciary Rule by Michael Kitces!

Pillsbury provides a comprehensive to do list for RIAs.  If you are updating your compliance program, this is a great resource!

In-Depth Discussion of the Fifth Circuit’s decision.  Check out Nevin E. Adams discussion of the opinion and its implications.

Hardin Compliance Consulting provides links to other publicly-available legal and compliance websites for your convenience. These links have been selected because we believe they provide valuable information and guidance.

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