Compliance Solutions for Investment Advisers

FAQs — State Registration

 

Introductory Note

The state registration process can vary greatly from state to state as each state has it own unique registration requirements. As a result, the information provided herein is meant to be general in nature and does not represent the requirements of any one particular state. Accordingly, registrants for state registration should always check the rules and regulations of each state in which they plan on registering for the specific registration requirements of that state.

 

Registration Basics

What is an investment adviser?

While the definition may vary from state to state, most states follow the Uniform Securities Act definition of investment adviser:

“Investment adviser” means a person that, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or the advisability of investing in, purchasing, or selling securities or that, for compensation and as a part of a regular business, issues or promulgates analyses or reports concerning securities. The term includes a financial planner or other person that, as an integral component of other financially related services, provides investment advice to others for compensation as part of a business or that holds itself out as providing investment advice to others for compensation.

What determines whether an investment adviser should register with the SEC or with one or more state securities regulators?

If an advisory firm meets the definition of investment adviser, whether it will be required to register with one or more states or the SEC will most likely be a function of the amount regulatory assets under its management. Advisory firms that have less than $100 million of assets under continuous and regular management generally must register with the state or states in which it has a place of business and in which it has clients, while advisory firms that have more than $110 million under management must register with the SEC. Between $100 and $110 million an advisory firm is allowed to register with either the SEC or applicable states at its discretion (and depending on the advisory firm’s initial registration status).

 

Regulatory Assets Under Management

What is the definition of regulatory assets under management?

The definition of regulatory assets under management is outlined in the instructions to Part 1 of Form ADV.  Advisers must include in their regulatory assets under management securities portfolios for which they provide continuous and regular supervisory or management services. An adviser must include the following types of securities portfolios when calculating its regulatory assets under management:

  • Family or proprietary accounts;
  • Accounts for which the adviser receives no compensation for its services; and
  • Accounts of clients who are not United States persons.

Advisers must include the entire value of each securities portfolio for which it provides continuous and regular supervisory or management services. If an adviser provides continuous and regular supervisory or management services for only a portion of a securities portfolio, it should include as regulatory assets under management only that portion of the securities portfolio for which it provides such services. In addition, an adviser must calculate its regulatory assets under management on a gross basis (e.g., without deduction of any outstanding indebtedness or other accrued but unpaid liabilities).

Are there any special rules for calculating regulatory assets under management when the advisory firm is an adviser to a private fund?

Yes. When calculating its regulatory assets under management, an adviser must include the value of any private fund over which it exercises continuous and regular supervisory or management services, regardless of the nature of the assets held by the fund.  A sub-adviser to a private fund would include only that portion of the value of the portfolio for which it provides continuous and regular supervisory or management services. An adviser must also include the amount of any uncalled capital commitments made to a private fund managed by the adviser. Finally, advisers must use the market value of private fund assets or the fair value of private fund assets where market value is unavailable.

 

State Registration Process

How does a firm begin the state registration process?

The first step in applying for investment adviser registration is to apply for access to the Investment Adviser Registration Depository (IARD) system by completing the Super Account Administrator Form in the State Registration IARD Entitlement Packet. This information is available at www.iard.com. The IARD Entitlement Group will send the advisory firm a Confirmation Packet containing a log-on name and initial password which it will use to sign onto the IARD.

Once the advisory firm has set up its IARD account, it can access Part 1 of Form ADV on IARD, complete this part of Form ADV, and submit it electronically through IARD to the SEC. Part 2B of Form ADV is also required to be filed electronically through IARD by advisers registering with one or more states. An adviser must have established an IARD account and have the necessary funds on deposit with the IARD before it can file Parts 1 and 2 of Form ADV, or the filing will not be accepted.

What are the primary documents that are filed as part of the state registration process?

Like investment advisers registering with the SEC, applicants for state registration must file Parts 1A and 2A of Form ADV. In addition, state registrants must also file Part 1B and 2B of Form ADV. Applicants for state registration typically must file copies of their investment advisory agreements and some form of financial statement.

What other documents are typically filed?

While the primary registration documents are generally familiar to all investment advisers, there is an abundance of supplemental documents unique to the state registration process. Failure to correctly file these forms is a common cause of delay in the approval of a state registrant’s application. A non-exhaustive list of these supplemental filings includes:

  • Corporate formation documents (e.g., articles of incorporation, certificate of formation, partnership agreement)
  • Affidavit of investment adviser activity prior to registration
  • Worker compensation coverage affidavit
  • Statement of financial condition and a financial condition worksheet
  • Designation of supervisor form
  • Form BR (branch office information)
  • Customer authorization of disclosure of financial records
  • Supplemental application form listing investment adviser representatives
  • Compliance manual
  • Code of Ethics
  • Compliance attestation
  • Conflict-of-interest disclosure
  • Statement of citizenship and immigration status
  • Copies of all marketing and advertising material (including copies of web pages, business cards and letterheads)
  • Tax certification form
  • Proof of errors and omissions insurance
  • Surety bond form
  • Form Regulation D (hedge funds)
  • Private placement memorandum and subscription agreement (hedge funds)

How does an adviser determine in which states it must be registered?

An investment adviser typically must file for registration with each state where it maintains a place of business and in those states where the advisory firm has more than five advisory clients. Certain states – Texas, Louisiana and New Hampshire – do not adhere to the national five client registration de minimis and require advisers to register even if they have just a single client in that state.

What are the fees for registering a firm as an investment adviser with one or more states?

Registration fees vary from state to state and can be found in the Fees and Accounting section of the IARD web site (www.iard.com).

How long does the state registration process usually take?

Unlike the SEC, which has a regulatory requirement to approve or deny an applicant for investment adviser registration within 45 days of the firm’s initial filing, states are under no such constraints. Even the most trouble-free state registration can take 60 to 90 days and more problematic registrations can often linger on for months.

Why does the state registration process take so long?

Registration at the state level can be greatly influenced by many factors outside a registrant’s control, including the time of year the advisory firm submitted its application, the number of other registrants that submitted their applications at that time, and the number of examiners the state can devote to reviewing registration applications. The length of the state registration process can also be attributed to both the large amount of documentation required for state registration and the highly involved role that state regulators typically play in reviewing an advisory firm’s application.

What is the most difficult aspect of the state registration process?

Understanding the unique requirements of each particular state or states of registration is the most difficult aspect of the state registration process. For example, an adviser registering in Texas needs to know that Texas requires advisory agreements to have an ADV Part 2 disclosure provision that mimics the exact language of the Texas Administration Code, while an adviser registering in Wisconsin must know that Wisconsin requires advisory agreements to contain the formula for computing the amount of prepaid fee to be returned in the event of contract termination.

If an advisory firm is registering as an investment adviser with a state, does anyone associated with the firm need to register as an investment adviser representative?

Almost all states require a firm registering as investment advisers to also include at least one individual within such firm to serve as an investment adviser representative. Since these requirements vary from state to state, advisers must check the rules and regulations applicable to the registration of individuals in each state in which the firm is registering.

 

Compliance

Are state-registered investment advisers required to adopt compliance policies and procedures?

While the requirement to develop and implement compliance policies and procedures varies from state to state, some states have incorporated the provisions of the SEC Compliance Rule into their state regulations. Those states that have not done so, most likely have some regulation or “best practice” that calls for written supervisory/compliance procedures. In any event, all states have some form of books and records requirements that would necessitate the need for certain compliance policies and procedures. Regardless of the specific requirements of the state or states in which an advisory firm is registered, it is a good business practice and a necessary part of fulfilling an adviser’s fiduciary duty to its clients to implement compliance policies and procedures.

Are state-registered investment advisers required to adopt codes of ethics?

Many states now require state-registered advisers to maintain a code of ethics. Some states have expressly adopted Rule 204A-1 under the Advisers Act while other have incorporated the requirement through other means. State-registered advisers should consult the rules and regulations of each particular state in which they are registered.

What are some compliance “best practices” for state-registered investment advisers?

In order to help investment advisers registered or to be registered with state securities agencies to develop compliance policies and procedures, the North American Securities Administrators Association has provided the following best practices:

  • Review and revise Form ADV and disclosure brochure annually to reflect current and accurate information;
  • Review and update all contracts;
  • Prepare and maintain all required records, including financial records;
  • Back up electronic data and protect records;
  • Document all forwarded checks;
  • Prepare and maintain client profiles;
  • Prepare a written compliance and supervisory procedures manual relevant to the type of business to include business continuity plan;
  • Prepare and distribute a privacy policy initially and annually;
  • Keep accurate financials, and file them timely with the jurisdiction;
  • Maintain surety bond, if required;
  • Calculate and document fees correctly in accordance with contracts and Form ADV;
  • Review all advertisements, including Web site and performance advertising, for accuracy;
  • Implement appropriate custody safeguards, if applicable; and
  • Review solicitor agreements, disclosure, and delivery procedures.

 

Regulatory Examinations

Are state-registered investment advisers subject to examination by state securities regulators?

In most states yes (New York does not examine its state-registered investment advisers). Examinations by state securities regulators are normally much less involved than those conducted by the SEC and are typically limited to a books and records review of the adviser’s business.  However, unlike with the SEC, state examinations are unannounced and advisers can often show up at work and find state examiners waiting for them in their office.

What records do state examiners typically review during a state examination?

Advisers should be prepared to have any of the books and records required by state statute available for inspection. However, some of the more typical records reviewed include:

  • Accounting journals and auxiliary records such as cash/check receipts and disbursement records;
  • Checkbooks, bank statements, canceled checks and other bank documents;
  • Unpaid and paid bills and documents pertaining to the expenses of the firm;
  • Trial balances, financial statements and internal working papers;
  • All incoming and outgoing correspondence including electronic mail messages;
  • Complaint file;
  • Advertising file including web sites, pamphlets and brochures;
  • Client contracts, customer information documents, broker-dealer new account forms, trading authorizations, power-of-attorney forms (if applicable);
  • Client brokerage statements;
  • Compliance manual;
  • Litigation file;
  • Client trade confirmations;
  • List of names and positions of every employee, along with their business cards;
  • Part 2A of Form ADV
  • Part 2B of Form ADV;
  • Client file-order memoranda;
  • Personal securities transactions; and
  • Billing invoices sent to clients.

What are the general problem areas cited by state regulators?

The top five categories with the greatest number of deficiencies cited by state regulators are:

  • Registration,
  • Books and records,
  • Unethical business practices,
  • Supervision, and
  • Advertising.

What are some specific compliance deficiencies found by state regulators?

Common compliance deficiencies found during state examination are as follows:

  • The top registration deficiencies were inconsistencies between Parts I and 2 of Form ADV and failing to amend Form ADV in a timely manner.
  • In the area of preparing and maintaining current and accurate books and records, the top deficiencies included not maintaining client suitability information, not properly safeguarding client records and data, and not backing up data.
  • The leading unethical business practice deficiencies involved missing or no contracts and other contract-related issues, altered documentation, and signing blank documents.
  • The most common supervision deficiencies were inadequate or no supervisory/compliance procedures, supervision over personal trades, and remote location supervision.
  • Common advertising deficiencies included issues involving Web site, correspondence, business cards, and the misuse of “RIA” (registered investment adviser).

 

Important Information

The information contained in this Frequently Asked Questions is only a summary and is not intended to be a comprehensive analysis of the rules and regulations applicable to registered investment advisers. It is not intended to constitute legal or compliance consulting advice or apply to any one investment adviser’s particular situation. For more information, please see our Terms of Use.

line