SEC Issues Important Interpretive Guidance on Implications of "Unbundling" the Costs of Investment Research from the Costs of Trade Execution, Mandated by EU Requirements

by Katten Muchin Rosenman LLP

On October 26, the Securities and Exchange Commission (SEC) issued three long-awaited letters clarifying how regulatory requirements in the European Union (EU), which go into effect on January 3, 2018, will impact US money managers.

Background on the EU Requirements

The Markets in Financial Instruments Directive (MiFID), which has been in effect since 2007, is the framework of EU legislation for the regulation of a wide variety of investment firms (including, among others, intermediaries that provide services to clients with respect to financial instruments) and the organized trading of financial instruments (including the regulation of EU trading venues). EU updates to this regulatory structure (in the form of a revised and restated Directive, an EU regulation and underlying subordinate legislation (jointly referred to as MiFID II)), will, among other things, prohibit certain money managers from receiving "inducements" from a third party in connection with providing any investment or ancillary service to a client. Under MiFID II, an "inducement" can include a money manager's receipt of in-scope research from an executing broker, among others.

For the purposes of MiFID II, the type of research that is in scope is research material or services: (1) concerning one or several financial instruments or other assets; or (2) concerning the issuers or potential issuers of financial instruments; or (3) closely related to a specific industry or market such that it informs views on financial instruments, assets or issuers within that sector, and which in each case, explicitly or implicitly recommends or suggests an investment strategy and provides a substantiated opinion as to the present or future value or price of such instruments or assets, or otherwise contains analysis and original insights and reaches conclusions based on new or existing information that could be used to inform an investment strategy or be capable of adding value to a firm's decisions on behalf of clients ("Investment Research").

Under MiFID II, Investment Research provided by third parties to advisers will not be regarded as an inducement prohibited under MiFID II if the Investment Research is received in return for: (1) direct payments by the adviser out of its own resources; (2) payments from a separate research payment account (RPA) controlled by the adviser and funded by means of a research budget that is set, regularly assessed, and agreed upon with each client; or (3) a combination of both arrangements.

Under MiFID II, research payments may continue to be collected alongside brokerage commissions to fund an RPA, provided that the amounts charged to clients in connection with the trade include both a distinct execution component and a distinct research component; and the distinct research component (i.e., a research charge) is determined based upon the client's individually agreed upon research budget.

In an RPA subject to MiFID II, an adviser will direct a trade to a broker-dealer and transmit the research payment alongside the execution payment. The broker-dealer will then retain the execution payment and remit the research payment, collected alongside the execution payment, to the RPA. The adviser is then able to distribute the funds in the RPA to pay for investment research products and services.

An investment manager that uses an RPA to purchase Investment Research must meet certain requirements, including that the investment manager: (1) funds the RPA with a research charge to the client that has been agreed on a client-by-client basis; (2) sets and regularly assesses a research budget, with any surplus refunded to the relevant client or used to offset future research costs; (3) regularly assesses the quality of the research received; (4) provides clients and EU regulators, upon request, certain information about the use of the RPA to purchase Investment Research; and (5) establishes a written policy addressing how Investment Research purchased through the RPA will be used to benefit clients' portfolios and how the costs will be allocated among clients.

When Do the EU MiFID II Rules Apply to US Advisers or Managers

The UK Financial Conduct Authority (FCA) has confirmed that a US sub-adviser to a FCA-regulated MiFID manager also must be required (as delegate of the FCA-regulated manager) to comply (contractually) with the research and inducements rules under MiFID II on a substantially similar basis. The FCA commented this summer that non-EU managers acting as delegate to UK managers should operate within a framework that achieves the same investor protection outcomes for their underlying clients—with the FCA highlighting three areas where consistency may be achieved by having the UK manager contractually require the non-EU manager (in a revised investment management or sub-advisory agreement) to:

  1. set a budget with a maximum research spend, and implement procedures as to how that budget will be used;
  2. fully account for the Investment Research received in relation to the delegated funds; make an assessment of the value of this Investment Research, and control the payments made to such providers on the basis of this valuation; and
  3. maintain systems and controls to ensure that research does not compromise best execution or otherwise give rise to conflicts of interest.

As with EU managers, the FCA also noted that if a delegate of a UK manager were to pay for the research itself this would also satisfy MiFID II research costs unbundling rules.

Currently, it is unknown whether or not other EU regulators are taking the same approach to sub-advisors. It is recommended that advisers and managers seek guidance where they are a delegate of a sub-adviser to any EU MiFID management firm.

Issues Raised by MiFID II That the SEC Addressed

When a Broker Separately Charges for Research, Is It Entering Into an Advisory Relationship with a Client?

Historically, full service brokers did not "unbundle" the costs of research (whether Investment Research or otherwise) from execution services. This model conformed to the so-called brokers' exemption from the definition of an investment adviser in Section 202(a)(11)(C) under the Investment Advisers Act of 1940, as amended ("Advisers Act"). Arguably, the brokers' exemption would no longer be available if a broker separately charged for the provision of research services, as will soon be required by MiFID II. This would mean that brokers separately charging for research would have to be registered as advisers and, more important, would be subject to Section 206(3) of the Advisers Act in their trading for clients. In dealer markets, such as NASDAQ and the bond markets, brokers trade out of their own inventories and therefore trade on a principal basis with clients. If such trading were subject to Section 206(3) of the Advisers Act, because of the loss of the brokers' exemption due to the separate pricing and selling of research, such trading might become impractical because disclosure to clients and client consent would be required on a trade-by-trade basis.

To address this concern, the SEC's Division of Investment Management has provided temporary relief for 30 months from MiFID II's implementation date under the Advisers Act to permit a broker-dealer to receive payments in hard dollars or through MiFID-governed RPAs from MiFID-affected clients without being considered an investment adviser.1

Aggregation of Trades When Clients Might Pay Different Amounts in Such Trades

For decades, the SEC has permitted client trades to be aggregated and executed together provided, among other conditions, that transaction costs be shared by clients pro rata based on each client's participation in the transaction.

Advisers that are subject to MiFID II will be required to enter into new arrangements with clients regarding payment for Investment Research, with each client having a separate budget for research (or no budget at all) depending on individual arrangements. The amount of the payment attributable to research may vary by client depending upon the client's applicable arrangement in relation to the payment for such Investment Research. The amount of the research charge collected in respect of a particular transaction through an RPA depends on the applicable research budget. In addition (or alternatively), an adviser may elect to pay for Investment Research from its own resources for other clients where an RPA is not feasible. Therefore, even though execution rates remain constant, total costs associated with a particular transaction may vary depending upon the client's applicable arrangement. As a result of the various potential research arrangements and combinations thereof, all clients may not pay a pro rata share of all costs (i.e., research payments) associated with an aggregated order as contemplated in SEC no-action letters although all clients will continue to pay the same average security price and execution rates. This then raises the question whether MiFID II would prohibit the aggregation of orders for client accounts.

To address this concern, the Division of Investment Management provided relief under the Investment Company Act of 1940, as amended ("Investment Company Act"), and the Advisers Act to permit investment advisers to continue to aggregate client orders for purchases and sales of securities, where some clients may pay different amounts for research because of MiFID II requirements, but all clients will continue to receive the same average price for the security and execution costs.

Availability of the Section 28(e) Safe Harbor for Soft Dollar Arrangements

Section 28(e) of the Securities Exchange Act of 1934, as amended ("Exchange Act"), creates a safe harbor from provisions of federal and state law that might otherwise be interpreted as prohibiting an investment adviser from using client commissions to pay for research and brokerage services. The Section 28(e) safe harbor is viewed as essential protection in certain cases, such as for client accounts that are regulated under ERISA or the Investment Company Act, and as valuable protection for investment advisers for all types of client relationships. To qualify for the safe harbor, the soft dollar arrangement must meet certain requirements, including that the research and brokerage services are provided by a broker who effects transactions to generate the soft dollar credits. In a 2006 interpretation of Section 28(e), the SEC modified prior interpretations of Section 28(e) to permit client commission arrangements (CCA)2 to qualify under Section 28(e).

However, an RPA differs somewhat from a CCA under the framework established by the SEC under Section 28(e) of the Exchange Act. First, in the RPA model, the amount paid for research is identified separately from the amount paid for execution before the money manager makes the payments to the executing broker-dealer. In a CCA, the brokerage (including execution) and research portions of the commission are separated at a later point in time (i.e., when the executing broker-dealer retains its payment for brokerage, including execution, and credits or transmits the research payment to the CCA). Second, the RPA is required to be under the control of the money manager and the money manager is held responsible for the RPA. When an RPA is operated in connection with a CCA, the research payments will continue to be paid to the executing broker-dealer, and the payments into the CCA will then be routed into an RPA. The money manager may in some circumstances engage the executing broker-dealer or third-party administrator to administer the RPA. In all cases, however, the executing broker-dealer will be contractually required to collect the research payments alongside payments for execution services made by the money manager out of client assets and pay such amounts into the RPA. By contract, once these research payments are deposited into an RPA, they may be used solely to pay for research, or be refunded to clients.

Because of these differences between CCAs and RPAs, there was a question of whether RPA arrangements would be able to rely on the Section 28(e) safe harbor. To address these concerns, the Division of Trading and Markets stated that, under MiFID II, Section 28(e) will be available for RPAs if investment advisers make payments to an executing broker-dealer out of client assets for research alongside payments for order execution, and the executing broker-dealer transmits the payments for RPAs.


The practical effect of the SEC letters is that US broker-dealers may charge for and receive payment for Investment Research from EU managers and in-scope US money managers without violating the Advisers Act, and in-scope US money managers may charge different clients different amounts for such Investment Research. The SEC interpretations also may impact the unbundling of the cost of research in the United States since the regulatory obstacles to such unbundling have now been removed.

It is likely that after 30 months, the SEC will decide what to do on a permanent basis. It will probably just extend the interpretation of the brokers exemption, but it is unclear at the current time.

1 There is a question whether the SEC has authority to interpret the brokers' exemption in this way. Fin. Planning Ass'n v. Securities & Exch. Comm'n, 482 F.3d 481 (D.C. Cir. 2007)

2 A client commission agreement (CCA), which is widely referred to in the EU and elsewhere as a commission sharing agreement (CSA), is a type of soft dollar arrangement that allows investment advisers to separately pay the executing broker for trade execution and ask that broker to allocate a portion of the commission directly to an independent research provider. CCAs consist of a percentage of execution fees that are directed to pay for research services provided to the investment adviser and paid for with client commissions.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Katten Muchin Rosenman LLP | Attorney Advertising

Written by:

Katten Muchin Rosenman LLP

Katten Muchin Rosenman LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
- hide

JD Supra Privacy Policy

Updated: May 25, 2018:

JD Supra is a legal publishing service that connects experts and their content with broader audiences of professionals, journalists and associations.

This Privacy Policy describes how JD Supra, LLC ("JD Supra" or "we," "us," or "our") collects, uses and shares personal data collected from visitors to our website (located at (our "Website") who view only publicly-available content as well as subscribers to our services (such as our email digests or author tools)(our "Services"). By using our Website and registering for one of our Services, you are agreeing to the terms of this Privacy Policy.

Please note that if you subscribe to one of our Services, you can make choices about how we collect, use and share your information through our Privacy Center under the "My Account" dashboard (available if you are logged into your JD Supra account).

Collection of Information

Registration Information. When you register with JD Supra for our Website and Services, either as an author or as a subscriber, you will be asked to provide identifying information to create your JD Supra account ("Registration Data"), such as your:

  • Email
  • First Name
  • Last Name
  • Company Name
  • Company Industry
  • Title
  • Country

Other Information: We also collect other information you may voluntarily provide. This may include content you provide for publication. We may also receive your communications with others through our Website and Services (such as contacting an author through our Website) or communications directly with us (such as through email, feedback or other forms or social media). If you are a subscribed user, we will also collect your user preferences, such as the types of articles you would like to read.

Information from third parties (such as, from your employer or LinkedIn): We may also receive information about you from third party sources. For example, your employer may provide your information to us, such as in connection with an article submitted by your employer for publication. If you choose to use LinkedIn to subscribe to our Website and Services, we also collect information related to your LinkedIn account and profile.

Your interactions with our Website and Services: As is true of most websites, we gather certain information automatically. This information includes IP addresses, browser type, Internet service provider (ISP), referring/exit pages, operating system, date/time stamp and clickstream data. We use this information to analyze trends, to administer the Website and our Services, to improve the content and performance of our Website and Services, and to track users' movements around the site. We may also link this automatically-collected data to personal information, for example, to inform authors about who has read their articles. Some of this data is collected through information sent by your web browser. We also use cookies and other tracking technologies to collect this information. To learn more about cookies and other tracking technologies that JD Supra may use on our Website and Services please see our "Cookies Guide" page.

How do we use this information?

We use the information and data we collect principally in order to provide our Website and Services. More specifically, we may use your personal information to:

  • Operate our Website and Services and publish content;
  • Distribute content to you in accordance with your preferences as well as to provide other notifications to you (for example, updates about our policies and terms);
  • Measure readership and usage of the Website and Services;
  • Communicate with you regarding your questions and requests;
  • Authenticate users and to provide for the safety and security of our Website and Services;
  • Conduct research and similar activities to improve our Website and Services; and
  • Comply with our legal and regulatory responsibilities and to enforce our rights.

How is your information shared?

  • Content and other public information (such as an author profile) is shared on our Website and Services, including via email digests and social media feeds, and is accessible to the general public.
  • If you choose to use our Website and Services to communicate directly with a company or individual, such communication may be shared accordingly.
  • Readership information is provided to publishing law firms and authors of content to give them insight into their readership and to help them to improve their content.
  • Our Website may offer you the opportunity to share information through our Website, such as through Facebook's "Like" or Twitter's "Tweet" button. We offer this functionality to help generate interest in our Website and content and to permit you to recommend content to your contacts. You should be aware that sharing through such functionality may result in information being collected by the applicable social media network and possibly being made publicly available (for example, through a search engine). Any such information collection would be subject to such third party social media network's privacy policy.
  • Your information may also be shared to parties who support our business, such as professional advisors as well as web-hosting providers, analytics providers and other information technology providers.
  • Any court, governmental authority, law enforcement agency or other third party where we believe disclosure is necessary to comply with a legal or regulatory obligation, or otherwise to protect our rights, the rights of any third party or individuals' personal safety, or to detect, prevent, or otherwise address fraud, security or safety issues.
  • To our affiliated entities and in connection with the sale, assignment or other transfer of our company or our business.

How We Protect Your Information

JD Supra takes reasonable and appropriate precautions to insure that user information is protected from loss, misuse and unauthorized access, disclosure, alteration and destruction. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. You should keep in mind that no Internet transmission is ever 100% secure or error-free. Where you use log-in credentials (usernames, passwords) on our Website, please remember that it is your responsibility to safeguard them. If you believe that your log-in credentials have been compromised, please contact us at

Children's Information

Our Website and Services are not directed at children under the age of 16 and we do not knowingly collect personal information from children under the age of 16 through our Website and/or Services. If you have reason to believe that a child under the age of 16 has provided personal information to us, please contact us, and we will endeavor to delete that information from our databases.

Links to Other Websites

Our Website and Services may contain links to other websites. The operators of such other websites may collect information about you, including through cookies or other technologies. If you are using our Website or Services and click a link to another site, you will leave our Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We are not responsible for the data collection and use practices of such other sites. This Policy applies solely to the information collected in connection with your use of our Website and Services and does not apply to any practices conducted offline or in connection with any other websites.

Information for EU and Swiss Residents

JD Supra's principal place of business is in the United States. By subscribing to our website, you expressly consent to your information being processed in the United States.

  • Our Legal Basis for Processing: Generally, we rely on our legitimate interests in order to process your personal information. For example, we rely on this legal ground if we use your personal information to manage your Registration Data and administer our relationship with you; to deliver our Website and Services; understand and improve our Website and Services; report reader analytics to our authors; to personalize your experience on our Website and Services; and where necessary to protect or defend our or another's rights or property, or to detect, prevent, or otherwise address fraud, security, safety or privacy issues. Please see Article 6(1)(f) of the E.U. General Data Protection Regulation ("GDPR") In addition, there may be other situations where other grounds for processing may exist, such as where processing is a result of legal requirements (GDPR Article 6(1)(c)) or for reasons of public interest (GDPR Article 6(1)(e)). Please see the "Your Rights" section of this Privacy Policy immediately below for more information about how you may request that we limit or refrain from processing your personal information.
  • Your Rights
    • Right of Access/Portability: You can ask to review details about the information we hold about you and how that information has been used and disclosed. Note that we may request to verify your identification before fulfilling your request. You can also request that your personal information is provided to you in a commonly used electronic format so that you can share it with other organizations.
    • Right to Correct Information: You may ask that we make corrections to any information we hold, if you believe such correction to be necessary.
    • Right to Restrict Our Processing or Erasure of Information: You also have the right in certain circumstances to ask us to restrict processing of your personal information or to erase your personal information. Where you have consented to our use of your personal information, you can withdraw your consent at any time.

You can make a request to exercise any of these rights by emailing us at or by writing to us at:

Privacy Officer
JD Supra, LLC
10 Liberty Ship Way, Suite 300
Sausalito, California 94965

You can also manage your profile and subscriptions through our Privacy Center under the "My Account" dashboard.

We will make all practical efforts to respect your wishes. There may be times, however, where we are not able to fulfill your request, for example, if applicable law prohibits our compliance. Please note that JD Supra does not use "automatic decision making" or "profiling" as those terms are defined in the GDPR.

  • Timeframe for retaining your personal information: We will retain your personal information in a form that identifies you only for as long as it serves the purpose(s) for which it was initially collected as stated in this Privacy Policy, or subsequently authorized. We may continue processing your personal information for longer periods, but only for the time and to the extent such processing reasonably serves the purposes of archiving in the public interest, journalism, literature and art, scientific or historical research and statistical analysis, and subject to the protection of this Privacy Policy. For example, if you are an author, your personal information may continue to be published in connection with your article indefinitely. When we have no ongoing legitimate business need to process your personal information, we will either delete or anonymize it, or, if this is not possible (for example, because your personal information has been stored in backup archives), then we will securely store your personal information and isolate it from any further processing until deletion is possible.
  • Onward Transfer to Third Parties: As noted in the "How We Share Your Data" Section above, JD Supra may share your information with third parties. When JD Supra discloses your personal information to third parties, we have ensured that such third parties have either certified under the EU-U.S. or Swiss Privacy Shield Framework and will process all personal data received from EU member states/Switzerland in reliance on the applicable Privacy Shield Framework or that they have been subjected to strict contractual provisions in their contract with us to guarantee an adequate level of data protection for your data.

California Privacy Rights

Pursuant to Section 1798.83 of the California Civil Code, our customers who are California residents have the right to request certain information regarding our disclosure of personal information to third parties for their direct marketing purposes.

You can make a request for this information by emailing us at or by writing to us at:

Privacy Officer
JD Supra, LLC
10 Liberty Ship Way, Suite 300
Sausalito, California 94965

Some browsers have incorporated a Do Not Track (DNT) feature. These features, when turned on, send a signal that you prefer that the website you are visiting not collect and use data regarding your online searching and browsing activities. As there is not yet a common understanding on how to interpret the DNT signal, we currently do not respond to DNT signals on our site.

Access/Correct/Update/Delete Personal Information

For non-EU/Swiss residents, if you would like to know what personal information we have about you, you can send an e-mail to We will be in contact with you (by mail or otherwise) to verify your identity and provide you the information you request. We will respond within 30 days to your request for access to your personal information. In some cases, we may not be able to remove your personal information, in which case we will let you know if we are unable to do so and why. If you would like to correct or update your personal information, you can manage your profile and subscriptions through our Privacy Center under the "My Account" dashboard. If you would like to delete your account or remove your information from our Website and Services, send an e-mail to

Changes in Our Privacy Policy

We reserve the right to change this Privacy Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our Privacy Policy will become effective upon posting of the revised policy on the Website. By continuing to use our Website and Services following such changes, you will be deemed to have agreed to such changes.

Contacting JD Supra

If you have any questions about this Privacy Policy, the practices of this site, your dealings with our Website or Services, or if you would like to change any of the information you have provided to us, please contact us at:

JD Supra Cookie Guide

As with many websites, JD Supra's website (located at (our "Website") and our services (such as our email article digests)(our "Services") use a standard technology called a "cookie" and other similar technologies (such as, pixels and web beacons), which are small data files that are transferred to your computer when you use our Website and Services. These technologies automatically identify your browser whenever you interact with our Website and Services.

How We Use Cookies and Other Tracking Technologies

We use cookies and other tracking technologies to:

  1. Improve the user experience on our Website and Services;
  2. Store the authorization token that users receive when they login to the private areas of our Website. This token is specific to a user's login session and requires a valid username and password to obtain. It is required to access the user's profile information, subscriptions, and analytics;
  3. Track anonymous site usage; and
  4. Permit connectivity with social media networks to permit content sharing.

There are different types of cookies and other technologies used our Website, notably:

  • "Session cookies" - These cookies only last as long as your online session, and disappear from your computer or device when you close your browser (like Internet Explorer, Google Chrome or Safari).
  • "Persistent cookies" - These cookies stay on your computer or device after your browser has been closed and last for a time specified in the cookie. We use persistent cookies when we need to know who you are for more than one browsing session. For example, we use them to remember your preferences for the next time you visit.
  • "Web Beacons/Pixels" - Some of our web pages and emails may also contain small electronic images known as web beacons, clear GIFs or single-pixel GIFs. These images are placed on a web page or email and typically work in conjunction with cookies to collect data. We use these images to identify our users and user behavior, such as counting the number of users who have visited a web page or acted upon one of our email digests.

JD Supra Cookies. We place our own cookies on your computer to track certain information about you while you are using our Website and Services. For example, we place a session cookie on your computer each time you visit our Website. We use these cookies to allow you to log-in to your subscriber account. In addition, through these cookies we are able to collect information about how you use the Website, including what browser you may be using, your IP address, and the URL address you came from upon visiting our Website and the URL you next visit (even if those URLs are not on our Website). We also utilize email web beacons to monitor whether our emails are being delivered and read. We also use these tools to help deliver reader analytics to our authors to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

Analytics/Performance Cookies. JD Supra also uses the following analytic tools to help us analyze the performance of our Website and Services as well as how visitors use our Website and Services:

  • HubSpot - For more information about HubSpot cookies, please visit
  • New Relic - For more information on New Relic cookies, please visit
  • Google Analytics - For more information on Google Analytics cookies, visit To opt-out of being tracked by Google Analytics across all websites visit This will allow you to download and install a Google Analytics cookie-free web browser.

Facebook, Twitter and other Social Network Cookies. Our content pages allow you to share content appearing on our Website and Services to your social media accounts through the "Like," "Tweet," or similar buttons displayed on such pages. To accomplish this Service, we embed code that such third party social networks provide and that we do not control. These buttons know that you are logged in to your social network account and therefore such social networks could also know that you are viewing the JD Supra Website.

Controlling and Deleting Cookies

If you would like to change how a browser uses cookies, including blocking or deleting cookies from the JD Supra Website and Services you can do so by changing the settings in your web browser. To control cookies, most browsers allow you to either accept or reject all cookies, only accept certain types of cookies, or prompt you every time a site wishes to save a cookie. It's also easy to delete cookies that are already saved on your device by a browser.

The processes for controlling and deleting cookies vary depending on which browser you use. To find out how to do so with a particular browser, you can use your browser's "Help" function or alternatively, you can visit which explains, step-by-step, how to control and delete cookies in most browsers.

Updates to This Policy

We may update this cookie policy and our Privacy Policy from time-to-time, particularly as technology changes. You can always check this page for the latest version. We may also notify you of changes to our privacy policy by email.

Contacting JD Supra

If you have any questions about how we use cookies and other tracking technologies, please contact us at:

- hide

This website uses cookies to improve user experience, track anonymous site usage, store authorization tokens and permit sharing on social media networks. By continuing to browse this website you accept the use of cookies. Click here to read more about how we use cookies.