On January 17, 2025, the SEC announced that it settled charges against a Registered Investment Adviser (RIA) for not disclosing the conflicts of interest created by the advisory firm’s incentive compensation payments to Investment Adviser Representatives (IARs). Those payments were made in connection with the referral and rollover of retirement assets to thousands of the firm’s accounts. The SEC also charged the RIA with failing to implement disclosure-related policies and procedures.
Background of the case
The SEC alleged that the RIA breached its fiduciary duty to certain clients by failing to disclose conflicts of interest arising from the payment of incentive compensation to its IARs based on their rollover of retirement assets to the advisory firm. The RIA, which was based in Cedar Rapids, Iowa, offered investment education and managed account services to participants of employer-sponsored retirement plans. An affiliate of the RIA provided recordkeeping services to these plans.
Approximately 7,300 employer plan participants rolled over roughly $1.2 billion into advisory accounts without full disclosure of the RIA’s conflicts of interest. These rollovers generated $12 million in revenue for the RIA.
The RIA paid incentive compensation to IARs when those participants rolled over their assets into advisory accounts. According to the SEC, this compensation included:
- Variable incentive compensation based on metrics such as the number of referrals made;
- Flat fee payments for referrals during certain years;
- Variable compensation based on a percentage of assets rolled over into advisory accounts; and/or
- A flat fee in situations where assets were rolled over.
The RIA did not begin to disclose those incentive-related conflicts of interest until February, 2022. In the years prior to 2022, the RIA made inadequate conflict of interest disclosures regarding incentives it “may” provide to IARs. This disclosure was misleading, because the RIA was, in fact, already paying incentive compensation to IARs when they opened new client accounts for rollover transactions.
Disclosure failures and policies and procedures deficiencies
As an investment adviser, the RIA was required to disclose all material facts to its advisory clients. To meet this fiduciary obligation, the RIA was required to provide employer plan participants with full and fair disclosure that was sufficiently specific for them to understand the conflicts of interest arising from rolling over employer plan assets into the RIA’s managed account products.
Although the RIA disclosed to participants the costs and fees of services when it recommended rollovers, the firm did not disclose the conflicts of interest triggered by the incentive compensation paid to IARs. The RIA failed to make those disclosures in communications with participants, in Form ADVs and in product brochures.
The RIA disclosed that from time to time, it “may” offer “incentive trips” to its IARs based on overall productivity. The RIA also disclosed that those trips provided an incentive for IARs to sell advisory products. These disclosures were misleading, because IARs received either a flat fee or variable compensation for rollover transactions. The RIA asserted that the firm managed conflicts of interest by training and monitoring its IARs.
In addition, the RIA failed to implement written compliance policies and procedures that were reasonably designed to prevent violations of the Investment Advisers Act and its rules. Specifically, the RIA did not implement policies and procedures to ensure full disclosure of conflicts of interest pertaining to its incentive compensation plans. Furthermore, the RIA’s policies and procedures did not require an annual review of its compensation plans that offered incentives to IARs for rollover transactions.
The SEC determined that the RIA violated Sections 206(2) and 206(4) of the Investment Advisers Act and Rule 206(4)-7. The SEC also found that the RIA failed to provide full and fair disclosure regarding conflicts arising from paying its IARs incentive compensation between June 1, 2017, and February 1, 2022. Without admitting or denying the SEC’s findings, the RIA agreed to a cease-and-desist order and censure, as well as a $2.9 million penalty.
Takeaways
The word “may” in disclosures can cause problems for RIAs. The word “may” is not accurate if the RIA is actually engaged in that conduct. The word “may” gives the impression that the RIA does not engage in these activities on a regular basis. Prior to 2022, the RIA made limited conflicts of interest disclosures regarding incentives it “may” provide to its IAR. According to the SEC, this choice of words was misleading in view of the incentive compensation the firm was already paying to IARs for referrals and rollovers of employer plan participants’ assets.
These are not the only incentives that RIAs must disclose. Advisers will run into problems with examiners if they do not fully disclose rebates, forgivable loans, and transition assistance benefits they receive from custodians, products sponsors and vendors.
The enforcement action can be reviewed at SEC.gov | SEC Charges Investment Adviser for Failing to Disclose Conflicts of Interest Created by Paying Incentive Compensation, Orders It to Pay Affected Clients.
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