On July 23, 2019, the SEC’s Office of Compliance Inspections and Examinations (OCIE) published a Risk Alert, which discussed its observations from examining firms that currently employ or previously employed supervised persons with a history of disciplinary events. According to the Risk Alert, OCIE conducted over fifty examinations of Registered Investment Advisers (RIAs) as part of its Supervision Initiative. Almost all of the advisers received a deficiency letter following their examination. OCIE’s observations can be found HERE.

OCIE’s Supervision Initiative focused on RIAs’ practices in the following areas:

    • Compliance programs and supervisory oversight practices;
    • Disclosures; and
    • Conflicts of interest.

The Supervision Initiative did not focus entirely on supervisory practices related to individuals with prior disciplinary histories. Supervisory practices are essential in establishing a strong “tone at the top” and building a culture of compliance.

OCIE findings specific to supervised persons with disciplinary histories

For purposes of the Supervision Initiative, “supervised persons” included principals and officers of the RIA, as well as other individuals performing services on behalf of the firm except for clerical employees. Examiners looked at both independent contractors and employees of the RIA. Examiners identified a number of deficiencies in RIAs’ oversight of supervised persons with disciplinary histories.

Almost half of the disclosure-related deficiencies occurred, because the RIAs failed to provide sufficient information regarding disciplinary events. Aside from omitting material disclosures regarding disciplinary histories, advisers did not promptly disclose new disciplinary events. In addition, many RIAs did not implement compliance policies and procedures covering the risks associated with hiring and employing individuals with prior disciplinary histories.

Additional findings identified by the Supervision Initiative

In addition to their findings that were directly related to RIAs’ hiring and oversight of individuals with disciplinary histories, the Supervision Initiative uncovered other deficiencies. They found that many RIAs did not adequately supervise personnel nor did the firms establish appropriate standards of business conduct for them.

Examiners concluded that many RIAs did not verify that the supervised persons responsible for handling certain compliance policies and procedures were, in fact, performing those duties. Examiners encountered situations where RIAs had adopted policies and procedures that were inconsistent with their actual business practices and disclosures. The most frequent inconsistent compliance practices involved commissions, fees, and expenses such as solicitation and management fees.

Examiners observed that RIAs’ annual reviews were insufficient, because the firms did not fully document the reviews. The RIAs also failed to identify certain risks or appropriately assess the risks facing them.

Examiners determined that several RIAs did not fully disclose their compensation arrangements, which resulted in conflicts of interests potentially impacting the impartiality of the advice given by supervised persons to their clients. As an example, forgivable loans were made to advisers or their supervised persons. The terms of these loans may have unduly influenced the investment decision-making process, resulting in higher fees and expenses for the affected clients, or both. In some cases, supervised persons were incentivized to trade less frequently.

Important Note: Clients should note that the SEC has been focusing on all compensation arrangements that create conflicts of interest. RIAs should make certain that they adequately disclose compensation received by the RIA or its related persons for the sale of investment products, including 12b-1 fees for the sale of mutual funds. RIAs should also be aware that the SEC expects them to uphold their fiduciary duty towards clients by recommending, where possible, the lowest-cost share class of a mutual fund, even if the RIA or its related persons do not derive additional compensation from the sale of the mutual fund. Where the lowest-cost share class is not recommended, the RIA must be prepared to provide a legitimate reason for recommending the higher-cost share class, such as minimum account size requirements to invest in institutional shares or transaction fees associated with the purchase of non 12b-1 paying shares, which could have resulted in higher overall fees for the client.


After they read the Risk Alert, advisers should examine their own supervisory practices. For example, advisory firms that hire or employ supervised persons with disciplinary histories should:

    • Implement written policies and procedures stipulating what steps must be taken before hiring an individual with a disciplinary history;
    • Enhance their due diligence procedures that must be adhered to when hiring supervised persons with a disciplinary history;
    • Establish heightened supervisory procedures that apply to the oversight of supervised persons with certain disciplinary histories;
    • Increase oversight of previously-disciplined individuals working out of remote or branch offices; and
    • Implement written policies and procedures governing client complaints related to supervised persons.

Examiners observed that advisers with written policies and procedures addressing client complaints related to their supervised persons were consistently more likely to escalate issues of concern than RIAs without written protocols.

When OCIE publishes Risk Alerts, its goal is to encourage RIAs to review their practices, as well as their policies and procedures. This particular Risk Alert was intended to encourage firms to:

    • Assess their supervisory, compliance, and/or other risk management systems related to these risks; and
    • Make any necessary changes to improve those systems.

The Risk Alert encourages RIAs to consider the risks created and disclosures triggered by the hiring and employing of supervised persons with disciplinary histories. Effective policies and procedures help RIAs address those risks and disclosure requirements. These policies and procedures must be tailored to each RIA’s profile and other facts and circumstance.


About RIA Compliance Group: RIA Compliance Group is an investment adviser compliance consulting firm based in Delray Beach, Florida. The firm’s mission is to provide affordable, timely, practical, and cost-effective compliance advice. We help investment advisers to comply with the myriad of state and SEC regulations and compliance obligations facing their firms. RIA Compliance Group takes pride in giving personal service and real world compliance advice, not theoretical concepts and legalese. The firm interacts on a daily basis with SEC and state securities regulators.

RIA Compliance Group, LLC – 701 SE 6th Ave, Suite 201, Delray Beach, FL 33483 – Tel: 561-600-0564 – sales@ria-compliance.com.