Welcome to the January 23, 2025 edition of On The Docket, which includes the following content:
- Big Data Is Watching You: How the SEC Uses Advanced Analytics to Uncover Violations
- Remain Mindful of “Operational Integration”
- Confidentiality provisions must respect the whistleblower protections afforded by Rule 21F-17(a) of the Securities Exchange Act of 1934
- Lying by omission is still a lie… and both are an equal sin in the eyes of the SEC
- Arbitration Clauses & The SEC’s 2025 Exam Priorities
- Paul Atkins nominated to replace outgoing Chair Gary Gensler; existing Commissioner Mark Uyeda designated Acting Chair in the interim
- As a reminder, the part of the recordkeeping rule at the center of the SEC’s “off-channel communications” crackdown does not just apply to communications with clients; it applies equally to intra-firm communications
- BOI filing obligations on hold during the pendency of ongoing litigation… but not for long?
- Downsides to “over-complying” with the law?
- Reminder: There are 2 steps to the investment adviser annual registration renewal process
- Form ADV Part 1: Common Missteps And Best Practices For RIAs
🌐 All past On The Docket editions (as well as other article, video, and podcast content) are available by visiting the On The Docket page of the Beach Street Legal website.
📥 If this edition was forwarded to you, you can subscribe directly by clicking here.
💬 Prefer to follow along via social media? You can follow us below:
Happy reading.
– Chris
* * * * *
Big Data Is Watching You: How the SEC Uses Advanced Analytics to Uncover Violations
This Anderson Insights article sheds light on the arsenal of data analytics tools at the SEC’s disposal, and how they inform policy and enforcement initiatives:
At its core appears to be:
🤖 The Advanced Relational Trading Enforcement Metric Investigation System (ARTEMIS), utilized by the Market Abuse Unit’s Analysis and Detection Center
🤖 The National Exam Analytics Tool (NEAT) and High-Frequency Analytics Lab utilized by the Division of Examinations
🤖 The Division of Economic Risk Analysis (DERA), which provides overall economic modeling, statistical analysis, and risk assessments
The litany of systems, units, centers, tools, labs, and divisions may be a classic example of government acronyms gone wild, but their capabilities (and their continual improvement alongside AI) are no joke.
Remain Mindful of “Operational Integration”
🌐 Recent SEC enforcement action integrating affiliated advisers
Affiliates of registered investment advisers claiming an exemption from registration should remain mindful of “operational integration,” which may negate the claimed registration exemption and treat the two affiliates as one.
“The Commission has stated that it will treat as a single adviser two or more affiliated advisers that are separate legal entities but are operationally integrated, which could result in a requirement for one or both advisers to register.”
Operational integration factors can include, e.g.:
🪢 Overlapping ownership
🪢 Overlapping management and personnel
🪢 Shared office space
🪢 Shared operations
🪢 Policies and procedures ensuring separation of related entities
Confidentiality provisions must respect the whistleblower protections afforded by Rule 21F-17(a) of the Securities Exchange Act of 1934
Confidentiality provisions – whether embedded in a client advisory agreement, an employment contract, or a settlement/release agreement – must respect the whistleblower protections afforded by Rule 21F-17(a) of the Securities Exchange Act of 1934. The whistleblower protection rule traces its origins back to the Dodd-Frank Act in 2010.
Though it’s promulgated under the Exchange Act and not the Advisers Act, Rule 21F-17(a) functionally applies to investment advisers and states in relevant part that “No person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement…”
In practice, this means that such confidentiality provisions should permit the client or employee to voluntarily report possible securities law violations (about the adviser) to regulators.
For a deeper dive (and a summary of recent SEC enforcement activity in this area), refer to this linked article.
In this recent example of another SEC settled order with an investment adviser regarding the whistleblower protection rule, it was the mere fact that the employee separation agreement in question required employees to disclose to their employer whether they had previously reported possible violations of the federal securities laws to the SEC (and, as a result, forego their ability to receive post-separation payments and benefits from their employer) that violated the whistleblower protection rule.
Though the employee separation agreement contained a purported carve-out to protect whistleblowing, it did not “remedy the impeding effect of the separation agreement, which addressed past employee conduct (i.e., it required disclosure of already-made complaints to the SEC), because the carve out was prospective in application (i.e., it did not prohibit departing employees from making future complaints).
Postscript: If your SEC exam information request letter includes a request for copies of separation agreements signed by former employees, this is very likely the reason.
Lying by omission is still a lie… and both are an equal sin in the eyes of the SEC
Under the SEC’s Marketing Rule, omitting a material fact in an advertisement is just as problematic as lying or making an unsubstantiated statement of material fact in an advertisement.
In other words, lying by omission is still a lie… and both are an equal sin in the eyes of the SEC.
The following are examples of advisers’ lies by omission cited in an SEC Risk Alert on the matter:
🙊 Claiming differentiation from other advisers b/c they acted “in the best interests of clients” (without disclosing that all advisers have a fiduciary duty to act in their clients’ best interests).
🙊 Recommending investments (on podcasts or otherwise) without disclosing that they were paid by the sponsors of such investments.
🙊 Claiming they were “seen on” XYZ media venue or publication, without disclosing that they paid to be quoted / seen on such media venue or publication.
🙊 Including images of celebrities without disclosing that such celebrities did not endorse them.
🙊 Failing to include sufficient disclosure of the share classes, fees, and expenses included or excluded from performance returns.
🙊 Implying that SEC registration imputed a certain level of skill or ability, or that the SEC had approved or passed upon the advisers’ business practices. Some advisers even included the SEC logo on their website.
🙊 Not disclosing that third-party ratings were based purely on AUM, number of clients, or co-worker nominations.
Arbitration Clauses & The SEC’s 2025 Exam Priorities
One seemingly throw-away line buried in the SEC’s 2025 Exam Priorities caught my eye:
“Examinations [of advisers’ compliance programs] typically include an analysis of advisers’ annual reviews of the effectiveness of their compliance programs, which are a critical element for addressing and monitoring conflicts of interests, including those conflicts stemming from the advisers’ business and compensation arrangements, 👉🏻 arbitration clauses, 👈🏻 and/or affiliations with certain parties and transactions.”
This is the first time I recall seeing arbitration clauses referenced in an SEC exam priorities report, or such clauses being categorized as a conflict of interest.
There is no further explanation of what expectations are with respect to arbitration clauses.
Time will tell whether further guidance will be provided or whether arbitration clauses will share the same fate as hedge clauses, but let’s hope the SEC doesn’t use an enforcement action as its opening salvo.
Paul Atkins nominated to replace outgoing Chair Gary Gensler; existing Commissioner Mark Uyeda designated Acting Chair in the interim
Paul Atkins – a former Commissioner of the SEC from 2002 – 2008, has been nominated by President Trump as the new Chair of the SEC to replace outgoing Chair Gary Gensler.
In the interim, President Trump tapped existing Commissioner Mark Uyeda as the Acting Chair. Commissioner Uyeda wasted no time in reversing the SEC’s animosity toward digital currencies under former Chair Gensler by announcing the formation of a crypto task force “dedicated to developing a comprehensive and clear regulatory framework for crypto assets.”
To further quote the SEC’s press release regarding “SEC Crypto 2.0”: “To date, the SEC has relied primarily on enforcement actions to regulate crypto retroactively and reactively, often adopting novel and untested legal interpretations along the way. Clarity regarding who must register, and practical solutions for those seeking to register, have been elusive. The result has been confusion about what is legal, which creates an environment hostile to innovation and conducive to fraud. The SEC can do better.”
As a reminder, the part of the recordkeeping rule at the center of the SEC’s “off-channel communications” crackdown does not just apply to communications with clients; it applies equally to intra-firm communications
Thus, communications among firm personnel related to the following topics – whether email, SMS text, social media DM, or other messaging app – are subject to retention under the recordkeeping rule:
“Originals of all written communications received and copies of all written communications sent by such investment adviser relating to:
(i) Any recommendation made or proposed to be made and any advice given or proposed to be given;
(ii) Any receipt, disbursement or delivery of funds or securities;
(iii) The placing or execution of any order to purchase or sell any security; and, for any transaction that is subject to the requirements of § 240.15c6-2(a) of this chapter, each confirmation received, and any allocation and each affirmation sent or received, with a date and time stamp for each allocation and affirmation that indicates when the allocation and affirmation was sent or received;
(iv) Predecessor performance and the performance or rate of return of any or all managed accounts, portfolios, or securities recommendations;”
As you can see, the abbreviated rule excerpt above does not distinguish between communications purely among firm personnel and communications with clients.
Bear this in mind in the context of the SEC’s “off-channel communications” crackdown, and the communications that may or may not be captured by the firm’s record retention technology.
BOI filing obligations on hold during the pendency of ongoing litigation… but not for long?
The short version
Reporting companies are not required to file beneficial ownership information (“BOI”) with FinCEN during the pendency of ongoing litigation in federal court; however, recent Supreme Court action may be coming to a head soon.
The long version
⚖️ December 3, 2024: The U.S. District Court for the Eastern District of Texas, Sherman Division, issued an order granting a nationwide preliminary injunction preventing BOI filing obligations.
⚖️ December 5, 2024: The Department of Justice, on behalf of the Department of the Treasury, filed a Notice of Appeal and separately sought of stay of the injunction pending that appeal.
⚖️ December 23, 2024: A panel of the U.S. Court of Appeals for the Fifth Circuit granted a stay of the district court’s preliminary injunction, pending the outcome of the Department of the Treasury’s ongoing appeal of the district court’s order. FinCEN immediately issued an alert notifying the public of this ruling, and recognizing that reporting companies may have needed additional time to comply with beneficial ownership reporting requirements, FinCEN extended reporting deadlines.
⚖️ December 26, 2024: A different panel of the U.S. Court of Appeals for the Fifth Circuit issued an order vacating the Court’s December 23, 2024 order granting a stay of the preliminary injunction. Accordingly, as of December 26, 2024, the injunction issued by the district court is in effect and reporting companies are not currently required to file beneficial ownership information with FinCEN.
⚖️ January 23, 2025: The Supreme Court granted a stay of the prior temporary restraining order that prohibited enforcement of BOI filing obligations, which means that such the prior injunction is no longer in effect pending the outcome in the prior Fifth Circuit Court of Appeals.
* * * * *
Stay tuned for the ultimate implications of this convoluted game of courtroom hot potato, as BOI filing obligations may once again be around the corner.
Downsides to “over-complying” with the law?
Sometimes I’m asked if there is any downside to “over-complying” with a law, or voluntarily adopting policies and procedures to which an adviser is not otherwise required to.
The SEC administrative proceeding linked below is an example of how over-compliance can come back to bite you.
In a nutshell, an adviser settled SEC charges and agreed to pay a $150k civil penalty for failing to actually follow an AML and customer identification program it was not required by law to adopt. But because the adviser’s policies and procedures and investor materials self-imposed such elective AML and customer identification requirements, the adviser was bound to adhere to such requirements. It also cited the adviser for misrepresenting its voluntary AML and customer identification program to investors.
Check out the SEC Press release linked here.
The morals of the story are as follows:
- The SEC doesn’t necessarily award extra credit for over-compliance. Failed attempts to over-comply can in fact make matters worse.
- Don’t overstate or embellish policies and procedures. The SEC expects you to sleep in the bed you make.
- Don’t overstate or embellish investor communications. Do what you say, and say what you do.
As a footnote, per this fact sheet, most advisers will be subject to AML rules (and likely customer identification program rules) effective January 1, 2026.
Reminder: There are 2 steps to the investment adviser annual registration renewal process
Step 1: Pay registration renewal fees incurred as of November 11, 2024 (when a firm’s Preliminary Statement was generated). The payment deadline for such fees was December 9, 2024.
Step 2: Pay any additional registration renewal fees incurred between November 11, 2024 and December 31, 2024 (i.e., after a firm’s Preliminary Statement was generated). Additional registration renewal fees may have been incurred due to U4 filings, new state registrations or notice filings, or exam registration fees, e.g. The payment deadline for such additional fees is January 24, 2025.
If no additional registration renewal fees were incurred after November 11, 2024, no additional fees are due and no further action is needed.
We always recommend that firms log in to their FINRA E-Bill Account to confirm one way or the other.
If the “Renewal Fees” balance is “0.00” and it states “No Fees Owed”, you’re all set. If the “Renewal Fees” balance lists a dollar amount of fees owed, deposit such fees through E-Bill before January 24, 2025.
Form ADV Part 1: Common Missteps And Best Practices For RIAs
I’m resharing my Form ADV Part 1 tips/tricks article from a few years back for advisers entering the Annual ADV Amendment filing season:
🌐 Form ADV Part 1: Common Missteps And Best Practices For RIAs