Regulatory Outlook | 04.15.20
Crunch Time Arrives for Firms Preparing to Comply With Reg BI
In less than three months, broker-dealers and their associated persons will be bound by a sweeping new standard of conduct, setting up one of the most challenging compliance feats ever attempted by securities industry professionals.
Between the sheer number of to-dos that have to be checked off and the inexorable march of the clock toward June 30, 2020 — the compliance date for Regulation Best Interest and Customer Relationship Summary (“Form CRS”) — scores of firms with broker-dealers and investment advisers are fully immersed in and consumed by implementation of these new rules.
"With the compliance deadline just around corner, many firms are certainly stressed," said Ben Marzouk, an attorney with Washington, D.C.-based Eversheds Sutherland. "There's still a lot of heavy lifting left to do before June 30, including drafting Reg BI and Form CRS disclosure documents and then developing the policies and procedures to document compliance with the new rules, and there is not much time in which to do it."
At its core, the SEC's Reg BI only applies to broker-dealers (and not registered investment advisers), and generally applies whenever a broker-dealer representative makes a securities transaction or investment strategy recommendations, including recommendations on account types, to retail customers. When engaging in advice-dispensing activity, the representative is obliged to document steps taken to justify that the recommendation — whether a low-cost ETF within a self-directed brokerage account or a higher-priced complex investment strategy is in the retail client's best interest.
In addition to Reg BI, there is Form CRS, a summary of the firm/client relationship and relevant services. It’s turning out to be a taxing new wrinkle. At least two pages, and up to four pages long for dual registrants, the form and related work will require months, industry members have said. This form (a digital template) needs to be drafted, edited, air-tightened, tested, formalized, utilized, updated and stored. It is one of the key, newly mandated ways of making sure broker-dealers and investment advisers provide retail investors with pertinent, plainly articulated information relating to their relationship/services.
The SEC has given pages upon pages of guidance to help the industry prepare for Reg BI, Form CRS and all of the other aspects.
At the broadest level, representatives are rigorously obliged to make sure all recommendations are in retail customers’ best interests. This means exercising reasonable diligence, care and skill to understand the potential risks, rewards and costs associated with the recommendation. It also means having a reasonable basis to believe the recommendation is in a retail customer’s best interest — one which does not place the firm's or the representative's interest foremost.
Four Main Areas
From a legal and compliance standpoint, there are four main builds.
- The Reg BI disclosure document
- Form CRS disclosure
- Policies and procedures for compliance with Reg BI’s disclosure, conflict of interest, care, and compliance obligations
- Policies and procedures for compliance with Form CRS, including its delivery and filing with SEC
"These are actual documents that broker-dealers and investment advisers will need to develop, approve, and in some cases, train personnel on, and all by June 30," Marzouk said.
That means developing training content, approving content and organizing training sessions, among other tasks.
Many firms are adopting a committee approach to Reg BI and Form CRS compliance. For example, a conflict committee may be charged with taking inventory of all conflicts of interest for the firm. Meanwhile, a product review committee may document approved product types, account recommendations, and securities transaction recommendations for compliance with Reg BI’s care obligation.
The technology and/or third-party vendor solutions that existed for DOL fiduciary rule have begun adapting their tools for compliance with Reg BI and Form CRS. As Marzouk said, “These technological solutions do exist, but legal and compliance personnel for broker-dealers and investment advisers will need to carefully review any proposed technological solution, as the final rule requires a thorough consideration of costs and reasonably available alternatives to ensure the recommendation is in the customer’s best interest.”
Form CRS Checklist
Industry members keep hearing about the Reg BI rule about to go into effect later this spring, but they can’t afford to under-appreciate the new Form CRS. Some basics include:
What is the purpose of Form CRS?
To reduce investor confusion regarding BD and RIA services when hiring a professional and determining whether to open BD or RIA account
What exactly is it?
A two-to four-page disclosure document given to customers at time of account recommendation
What goes in it?
Multiple disclosures on services provided, fees/costs paid, duties owed and conflicts, payment, and disciplinary information