On August 19, 2014, Rick A. Fleming, the head of the Office of the Investor Advocate of the Securities and Exchange Commission (the “SEC”), gave a speech at the 38th Annual Southwest Securities Conference, in which he urged Congress to authorize the SEC to collect an annual “user fee” from registered investment advisers that would be used to fund additional investment adviser examinations.
Office of the Investor Advocate
The Office of the Investor Advocate is a new office established by the SEC whose purpose is to ensure that concerns of investors are considered when decisions are being made by the SEC, self-regulatory organizations, and in Congress. The Office of the Investor Advocate is tasked with analyzing the potential impact on investors of proposed rules and regulations as well as identifying issues within existing rules and regulations and with investment products and financial services providers that investors may encounter.
Areas of focus
In his remarks, Mr. Fleming identified certain areas that the Office of the Investor Advocate will focus on in the coming year. Those areas are: (1) Reviewing whether the equity markets are fundamentally fair to investors; (2) Determining whether investors have left the equity markets because of fears related to those markets; (3) Encouraging reforms in the municipal securities market; (4) Surveying the efforts of regulators and market participants to prevent market disruptions and safeguard the assets and private information of investors; (5) Working with the SEC’s Division of Corporate Finance to make financial disclosures by public corporations more effective; and (6) Exploring areas of elder abuse.
In addition to these areas, Mr. Fleming highlighted a recommendation that he made in his recent report to Congress, requesting that Congress provide sufficient resources to the SEC so that it can perform an adequate number of investment adviser examinations. He noted that the SEC only examined approximately 9 percent of registered investment advisers in 2013. In explaining this statistic, Mr. Fleming stated that the number of investment advisers has grown by approximately 40 percent over the last decade while the staff in the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) has grown only approximately ten percent during that time period. Mr. Fleming recommended that Congress appropriate additional funds so that the SEC can hire more examiners. In addition, he asked that Congress authorize the SEC to collect annual user fees so that the SEC would have more funds to conduct investment adviser examinations.
Mr. Fleming acknowledged that shorter examination cycles would not stop all fraud. However, he believes that it would allow the SEC to stop fraudulent activities sooner and would provide a stronger deterrent to investment advisers that may otherwise engage in fraudulent activities. He also noted that user fees would not increase the budget deficit because the increased spending would be equal to the revenue received by investment advisers.
While there are critics of his proposal to implement user fees, Mr. Fleming stated that several industry associations representing investment advisers have endorsed this concept. They have recognized that fraudulent investment advisers not only harm investors, but leave a stain on the advisory industry and funds to enable more frequent examinations would help deter and detect such activities.
Another solution that has been suggested instead of implementing a user fee would be to require investment advisers to hire third-party consultants to conduct SEC-like examinations. However, Mr. Fleming noted that while third-party audits are better than no audits, there could be inherent conflicts of interest when the auditor is selected and paid for by the investment adviser. The costs of such audits could also be more expensive and burdensome than user fees. Therefore, he viewed such third-party audits as a less desirable alternative to user fees.
Although it is not clear whether Congress will authorize the SEC’s collection of user fees, it is important to understand that Congress and the SEC are reviewing the current lack of investment adviser examinations and even without user fees, it is likely that such examinations will become more frequent in the future. Reviews by consultants will continue to have a role in identifying areas of concern in advance of such examinations. If firms are willing to share the results with SEC examiners, SEC examinations may be more circumscribed and credit may be given for the identification of shortcomings.