New ERISA Section 408(b)(2) Rule Finalized

The final rule is designed to help clients understand the fees that are being charged so they determine whether they are reasonable. It’s your job to meet these new disclosure requirements while helping your clients understand why these fees are reasonable given all the services performed.

The final rule, which was published on February 2nd, includes a new effective date of July 1, 2012, to ensure that covered service providers and other parties have sufficient time to prepare for compliance with the rule.

This rule applies to those covered service providers that expect to receive $1,000 or more in compensation and provide certain fiduciary or registered investment advisory services, make available plan investment options in connection with brokerage or record-keeping services or otherwise receive indirect compensation for providing certain services to a plan.

Although affiliates or subcontractors of the covered service providers may provide some or all of the services under the contract or arrangement or may receive some or all of the compensation for the services, the affiliates or subcontractors do not, themselves, become "covered service providers" solely as a result of the services they perform. In an arrangement where multiple services are provided to a plan, only the party entering into the agreement with the Plan is responsible for making the 408(b)(2) disclosures.

The DOL did not provide a specific format for the required disclosures, but stated that they must be written. The required disclosures include:

• Description of the services to be provided
• The compensation paid
• The method of payment

Disclosure Requirements

Services - A description of the services to be provided pursuant to the contract or agreement.

Status - If applicable, a statement that the provider, an affiliate, or a subcontractor will provide, or reasonably expects to provide, services as an Investment Adviser registered under the Advisers Act or any State law acting as a fiduciary of the plan.

Compensation - All compensation that will be received by the covered service provider, its affiliates, or subcontractors including:

• Direct compensation - A description of all direct compensation received by the provider, affiliate, or sub-contractor in connection with the services, usually payment received directly from the Plan assets. Direct compensation, however, does not include payments from the Plan Sponsor that are not from plan assets.
  
  Direct compensation" includes (i) compensation initially paid by the Plan Sponsor, but which is then subsequently reimbursed from the plan, and (ii) compensation paid directly from participants' and beneficiaries' accounts.


• Indirect compensation - A description of all indirect compensation received by the provider, an affiliate, or a subcontractor in connection with the services. The disclosure for indirect compensation must include (i) the services for which the indirect compensation will be paid; (ii) the payers of the indirect compensation; and (iii) a description of the agreement between the payer and the covered service provider, an affiliate, or a subcontractor, as applicable, regarding such indirect compensation.


• Related Party - Any compensation that will be paid among the covered service provider, an affiliate, or a subcontractor, that it is set on a transaction basis (e.g., commissions, soft dollars, finder’s fees or other similar incentive compensation based on business placed or retained) or is charged directly against the covered plan's investment and is reflected in the net value of the investment. The disclosure must include (i) identification of the services for which such compensation will be paid; and (ii) identification of the payers and recipients of such compensation (including the status of a payer or recipient as an affiliate or a subcontractor).

An estimate of the cost of record keeping services (if record keeping is provided).

An estimate of investment fees and expenses (if designated investments are provided). Compensation for Termination – A description of any compensation that the provider, an affiliate, or a subcontractor reasonably expects to receive in connection with the termination of the contract or agreement, and how any prepaid compensation will be calculated and refunded upon termination.

Manner of Receipt - Describe how compensation will be received (i.e., billed to plan, deducted from plan accounts, etc.) and, if applicable, must disclose the manner in which direct compensation is determined (e.g., as an amount, formula, per capita charge or percentage of plan assets.

In the future, covered service providers may be required to furnish Plan Fiduciaries with a summary or guide, separate from the initial disclosures, identifying certain information such as the document, section and page number where descriptions of services and compensation may be found. The Final Regulations contain an appendix as a sample guide. Presently, the use of the sample guide is strictly voluntary. However, the DOL has indicated that it will issue proposed regulations on this issue in the near future, and the sample guide, or something similar, may be required in the future.

The Final Regulations also requires that upon receipt of a written request from a Plan Fiduciary, the covered service provider must provide the information reasonably in advance of the deadline for reporting and disclosure requirements, unless the disclosure is impossible due to extraordinary circumstances beyond the CSP's control (in which case the information must be disclosed as soon as reasonably possible).

A covered service provider must disclose any changes to this disclosure information, corrections to the information provided or omitted information as soon as possible, but no later than 60 days after discovering the change, error or omission.

Is your Compliance House in order?

As the first quarter of 2012 winds down, is your firms’ compliance house in order? Do you feel prepared to meet your compliance obligations or do you find yourself putting compliance planning on a back burner, intending to address items as needed with no clear plan in place? Running a financial services practice involves dedication, focus, and a vast time commitment, often times certain areas may not receive as much attention as others due to where resources are directed.

Creating and maintaining a compliance program is a key component of running your business and attention to this critical business area is necessary to mitigate risk, both for your firm and your clients. As Q1 closes and you head into April here are suggested areas to focus thought and create plans, as well as some key dates.

Compliance Calendar - Has your firm analyzed key compliance dates for 2012, such as regulatory filing dates or required annual mailings, internal risk management tasks, and annual review testing dates? Are those dates mapped out on a Compliance Calendar to guide your risk management process throughout the year?

Annual Review - Have you conducted an annual risk assessment of your firm, reviewed any previous year’s reports for risk items, findings, and a status check on how those items may be addressed? Have you taken action on any previous findings, both from an internal annual review and any regulatory reviews? Is there a testing plan created for conducting an annual review?

Form ADV Filing - Due to the Dodd-Frank Wall Street Reform and Consumer Protection Act, Form ADV filing requirements have changed for 2012. Registered advisers are required to file an updated Form ADV with the SEC on an annual basis, within 90 days of fiscal year end. In 2012, ALL advisers registered with the SEC as of 1-1-12, must file an amended Form ADV with the SEC by 3-30-12. Advisers no longer eligible for SEC registration must still file the amended Form ADV, if they were registered with the SEC as of 1-1-12 and must start the state registration process. There is a 90 day window for filing with the state regulators and withdrawing from SEC registration, with a compliance date of 6-28-12.

Massachusetts Privacy Rules - As explored in a previous blog post, Massachusetts enacted new consumer privacy information, with a compliance date of 3-1-12. Has your firm examined its client list to identify any residents of Massachusetts and ensured your privacy policy and contracts with third-party service providers are in compliance?

Annual Mailings - Clients should receive, on an annual basis, your privacy policy and your Form ADV Part 2A Brochure as well as any supplements. Prior to the revised Form ADV Part 2 rule, advisers were only required to offer the Form ADV Part 2. Advisers are now required to deliver the Form ADV Part 2A Brochure, including or accompanied by a summary of material changes or a summary of material changes with an offer and instruction on how to obtain the Form ADV Part 2A Brochure.

Additionally, we recommend you annually review your compliance policies and procedures, your books and records maintenance system, and new regulations, keeping in mind changes to your organizational structure, business lines, and new products or services you’re engaged in or plan to add to your business.

The areas highlighted above are certainly not an all-encompassing example of a comprehensive compliance program, the list is intended to serve as reminders and triggers for thought as you look back on Q1 and forward to the remainder of a successful 2012.

Red Oak Compliance Solutions is available to help. We can provide guidance on all of your compliance needs. For more information or to request information on how we can help, please contact us.

Massachusetts Personal Information Security Law Grandfather Expires March 1, 2012

Massachusetts enacted 201 CMR 17.00: Standards for the Protection of Personal Information of Residents of the Commonwealth, new regulation regarding the safeguarding of Massachusetts residents personal information, in 2009 with compliance date of March 1, 2012. The regulation set standards to be met by persons, including Investment Advisers, with clients residing in Massachusetts to have privacy protection clauses or language contained within the contracts entered into with third party service providers. The compliance requirements of the law and regulations contained a grandfathering provision for any contract entered into prior to March 1, 2010. Under the grandfather provision, Investment Advisers with service provider contracts entered into before March 1, 2010 were deemed to be in compliance even if the contract made no reference to data protection. We’re highlighting the regulation today to remind you the grandfather provision EXPIRES on March 1, 2012. As of this date, all investment advisers with clients residing in the state of Massachusetts must be in compliance with this law, regardless of when the contract was entered into.

What does this mean for you?

If you have clients residing in Massachusetts, you have an obligation to ensure third party service providers you do business with, that may have access to client information, implements and maintain appropriate security measures for the protection of client personal information. The regulation established minimum standards to be met in connection with the safeguarding of personal information, covering both paper and electronic records. Section 17.03(2)(f): “Oversee service providers, by:

1. Taking reasonable steps to select and retain third—party service providers that are capable of maintaining appropriate security measures to protect such personal information consistent with these regulations and any applicable federal regulations; and

2. Requiring such third-party service providers by contract to implement and maintain such appropriate security measures for personal information…”

The contract between the Investment Adviser and service provider must contain language requiring the service provider to have protection measures in place.

We recommend you:

• Review your client list, identify whether you have clients residing in Massachusetts


• Review your contracts with third party providers that may provide services to Massachusetts clients


• If the contracts do not contain the required terms, re-negotiate and execute contracts to be compliant with the regulation Review your Privacy Policy and Procedures, verify against the standards required and ensure the firm is in compliance with the standards and includes all the provisions of Section 17.03: Duty to Protect and Standards for Protecting Personal Information.

If you have clients residing in Massachusetts, it’s critical you address this regulation in a timely manner, as there are penalties for non-compliance.

Red Oak Compliance Solutions is available to help. We can review your privacy policies, assist in the creation or updating of your privacy policies, as well as provide guidance on all of your compliance needs. For more information on the Massachusetts privacy regulations or to request information on how we can help, please contact us.

SEC Modifies Standard for Accredited Investors

The U.S. Securities and Exchange Commission ("SEC") has modified the rules used to determine whether an individual is qualified as an accredited investor. To qualify as an "accredited investor" an investor must have a net worth, alone or with a spouse, greater than or equal to $1 million, excluding the value of the home. The rule also excludes from the $1 million net worth calculation, any liabilities secured by the individual's primary residence. If the secured liabilities exceed the fair market value of the primary residence, then the indebtedness that is greater than the value of the residence is applied against the individual's net worth. In addition, secured loans must have originated more than 60 days prior to the purchase of the unregistered security to prevent individuals from taking out a second line of equity on their home in order to invest in unregistered securities. This new rule will go into effect 60 days after it has been published in the Federal Register.

SEC Penalizes Investment Advisers for Compliance Failures

In 2006 when the SEC implemented Rule 206(4)-7 of the Investment Advisers Act, the “Compliance Rule”, we all knew it was only a matter of time before the deficiencies resulting from that Rule would start to pile up. Not because advisers wish to defraud or hurt their clients, but from a general lack of understanding about what was required. Well today the SEC charged three investment advisers for failing to put in place compliance procedures designed to prevent securities law violations.

The cases are the result of a SEC initiative to proactively prevent investor harm by working closely with agency examiners to ensure that viable compliance programs are in place at firms. When SEC examiners identify deficiencies in a firm’s compliance program, those deficiencies need to be corrected before they lead to other securities law violations that could harm investors. Investment advisers that essentially ignore SEC examination warnings risk being the subject of SEC enforcement actions.

The firms being charged with compliance failures in separate cases today are Utah-based OMNI Investment Advisors Inc., Minneapolis-based Feltl & Company Inc., and Troy, Mich.-based Asset Advisors LLC. The SEC also charged OMNI’s owner Gary R. Beynon, who served as the firm’s chief compliance officer despite living in Brazil and performing virtually no compliance responsibilities. Feltl & Company, Asset Advisors, and Beynon will pay financial penalties and institute a series of corrective measures to settle the SEC’s charges.

In two of the cases, OMNI and Asset Advisors, SEC examiners previously warned the firms about their compliance deficiencies.

“Not all compliance failures result in fraud, but many frauds take root in compliance deficiencies,” said Robert Khuzami, Director of the SEC’s Division of Enforcement. “That simple truth underlies our renewed focus on identifying and charging firms and individuals that fail their legal obligations to maintain adequate compliance programs.”

Carlo di Florio, Director of the SEC’s Office of Compliance Inspections and Examinations, added, “When SEC examiners identify compliance deficiencies, firms are expected to remediate them. The Commission will take enforcement action against registrants that fail to do so.”

Advisers would be prudent to take a look at their compliance programs and see if they are up to the SEC test. If not, be proactive, time and money spent now can minimize your exposure to regulatory deficiencies and possibly fines. If your program is sound, try running a mock audit and see if you can produce everything the SEC would request in a timely manner. Compliance should be an everyday mindset, not a fire drill.

SEC Charges Prominent San Diego Financial Planner with Fraud

Full and complete disclosure to your clients is a critical component of your advisory business. This was illustrated perfectly today when the SEC charged a prominent San Diego-based financial advisor with fraud, accusing him and his firm of failing to disclose to clients a conflict of interest in an investment and lying to and misleading clients about a hedge fund he manages.

The defendant, Kevin O’Rourke, is the founder and president of Western Pacific Capital Management in Del Mar, Calif. He was named a top wealth manager by San Diego magazine in 2008 and 2010. He does not believe he did anything fraudulent and plans to fight vigorously to defend himself. However, this will cost him time, money and reputation. It takes a life time to build a reputation and just a few minutes to sully it.

Most advisors would never intentionally defraud their clients. They work very hard to do what is in their client’s best interests. They want to do all the right things, but sometimes it’s hard to know exactly what to do. The Rules are not always black and white, but subject to interpretation. That is why Advisors need knowledgeable compliance people to help them to make appropriate decisions in these gray areas. Unfortunately, knowledgeable compliance people are not inexpensive or plentiful. But they are worth their weight in gold when you compare their cost to the cost of enforcement. It has traditionally been difficult for compliance officers to measure their worth to the organization by the fine they did not receive or the deficiency that didn’t occur. But today’s action speaks to the need for compliance professionals to partner with Advisers to do what’s right for the client. Today should be the day that you thank your compliance team for protecting your reputation.

To read the full article, click here.

Rules for Registration of Securities-Based Swap Dealers and Major Security-Based Swap Participants

Based upon Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Securities and Exchange Commission voted this week to propose rules that lay out the process where security-based swap dealers and security-based swap participants must register with the Commission. This proposal is now open for comment.

During the SEC’s open meeting to announce this, SEC Chairman Mary L. Schapiro commented, "Registering the major market participants in the largely unregulated security-based swap markets is a critical step toward better protecting investors. Today's proposal draws from our experience with registration rules regarding broker-dealers - rules that are familiar to many market participants."

The proposed rule will be published in the Federal Register with a 60-day public comment period. The Commission will then review the comments it receives and consider those comments in determining whether to adopt the proposed rules.

To read the entire article, please click here Registration of Securities-Based Swap Dealers and Major Security-Based Swap Participants.