On November 4, 2019, the Securities and Exchange Commission (“SEC”) voted to propose amendments to modernize Rule 206(4)-1, addressing investment adviser advertisements, and Rule 206(4)-3, addressing payments to solicitors, under the Investment Advisers Act of 1940, as amended (the “Advisers Act”) and, originally adopted in 1961 and 1979, respectively. The long awaited amendments are proposed to update the rules to reflect advancements in technology, expectations of investors, and the evolution of market practices.
The proposed amendments to the advertising rule would replace the broad limitations of the existing rule with principles-based provisions more consistent with other recent regulatory modernization efforts. Noteworthy is that the proposed approach would permit the use of testimonials, endorsements, and third-party ratings, provided such use meets certain conditions, and included certain requirements for the presentation of performance based on the intended audience.
Additionally, through proposed amendments to the solicitation rule (the rule which prohibits certain payments to solicitors), the current rule would be expanded to cover solicitation arrangements involving all forms of compensation, rather than only cash, subject to a new de minimis threshold. They also would update other aspects of the rule, such as who is disqualified from acting as a solicitor under the rule.
The Commission also voted to propose amendments to Form ADV, and Rule 204-2, the books and records rule, which would reflect the changes proposed to the advertising and solicitation rules. Further, the SEC’s release accompanying the proposed amendments included a list of no-action letters and other guidance addressing the application of the current advertising and solicitation rules, which the staff indicating it would be reviewing to determine whether any should be withdrawn in connection with any adoption of the proposed amendments.
Amendments to Advertising Rule
The proposed amendments to Rule 206(4)-1 would replace the current rule’s limitations with more principles-based provisions. The term “Advertisement” would be defined in such a manner that that is flexible enough to remain relevant and effective in the face of continuing advances in technology and evolving industry practices.
The proposed rule would prohibit any of the following practices:
Testimonials and Endorsements
Disclosures required to permit testimonials and endorsements would vary depending on whether from a client and whether compensation has been provided by or on behalf of the adviser.
The proposed rule would permit third-party ratings, subject to specified disclosures and certain criteria pertaining to the preparation of the rating.
Presentation of Performance
The proposal would prohibit including in any advertisement:
Internal Pre-Use Review and Approval
In addition, the proposed amendments advertisements would be required to be reviewed and approved in writing by a designated employee before dissemination, except for advertisements that are: (i) communications disseminated only to a single person or household or to a single investor in a pooled investment vehicle; or (ii) live oral communications broadcast on radio, television, the internet, or any other similar medium.
Amendments to Solicitation Rule
The proposed amendments to Rule 206(4)-3 would refine scope, the content of the required written agreement, and new disclosure requirements.
An adviser that compensates a solicitor for solicitation activities would be required to enter into written agreement with the solicitor, unless an exemption applies. The written agreement proscribed must include: (i) a description of the solicitation activities and compensation; (ii) a requirement that the solicitor perform its solicitation activities in accordance with certain provisions of the Advisers Act; and (iii) a requirement that solicitor disclosure be delivered to investors.
The proposed rule eliminates the current rule’s requirements that the solicitor agree to deliver the adviser’s Form ADV brochure.
The disclosure required under the proposed rule would continue to highlight the solicitor’s financial interest in the client’s choice of an investment adviser. However, the proposed rule would modify the current solicitor disclosure to include additional information about a solicitor’s conflict of interest. The proposed rule would also no longer require that advisers obtain from each investor an acknowledgment of receipt of the disclosures.
Oversight of Solicitors
Similar to the current rule, proposed rule would require that advisers using solicitors have a reasonable basis for believing that the solicitor has complied with the rule’s written agreement, including complying with the solicitor disclosure requirement.
The proposed amendments will be published on the SEC’s website and in the Federal Register. The public comment period will remain open for 60 days after publication in the Federal Register.