Regulatory Updates – RegEd.com

CE Council Fall 2019 Firm Element Advisory Topics

Every year, RegEd reviews the latest guidance on CE Council Firm Element topics. Several times a year, the CE Council, established by FINRA to oversee the continuing education rules, writes the regulatory element exams and issues guidance on what they consider appropriate FE training topics.

Following are some highlights of new or updated topics as they appear in the recent Fall Advisory.

Alternative Investments

Digital Assets: Updated for Reg. Notice 19-24: Encourages firms to keep FINRA abreast of their activities related to digital assets.
Cryptocurrencies: An alert to warn investors to be cautious when considering shares of companies that tout the high returns associated with cryptocurrency-related activities without the business fundamentals and transparent financials to back up such claims. (RegEd Course 912)
Supervision: Complex Products: FINRA Notice 12-03. Identifies characteristics that may render a product “complex” for purposes of determining if a product is subject to heightened supervisory and compliance procedures and gives examples of heightened procedures. (RegEd Course 916)

Anti-Money Laundering

Suspicious Activity Reporting: Updated for Reg. Notice 19-18 on red flags. (2020 AML Update course, 35AU20)

Communications

FINRA Regulatory Notice 19-31 (September 19, 2019): Disclosure Innovations In Advertising And Other Communications With The Public.
Communications Related To Departing Registered Representatives: Updated for Reg. Notice 19-10. FINRA Provides Guidance on Customer Communications Related to Departing Registered Representatives.

Cybersecurity

Imposter Websites: Updated for Info Notice April 29, 2019. FINRA Provides Guidance to Firms Regarding Suspicious Activity Monitoring and Reporting Obligations. (We will add this info to our existing Cybersecurity courses 876_2 and 897)
FINRA Information Notice: October 2, 2019: Cybersecurity Alert: Cloud Based Email Account Takeovers.
Fraudulent Phishing Emails: Updated for Info Notice February 13, 2019. FINRA Warns of Fraudulent Phishing Emails Targeting Member Firms.

Financial Responsibility Rules for Broker-Dealers

Capital, Margin and Segregation Requirements: New. Discusses SEC Rel. No. 34-86175. The SEC adopted capital and margin requirements for security-based swap dealers (SBSDs) and major security-based swap participants (MSBSPs), segregation requirements for SBSDs, and notification requirements with respect to segregation for SBSDs and MSBSPs. (We will update course 922, which addresses the current status of Dodd-Frank.)

Fixed Income

Supervision: Municipal Advisors: Updated for FINRA Reg. Notice 19-28 on Guidance Regarding Member Firms’ Supervisory Obligations When Participating in Investment-Related Activities with Municipal Clients. (Covered in the 2020 Supervision Update.)

Margin

Exchange Traded Notes: New. Discusses FINRA Reg. Notice 19-21 on new higher strategy-based margin requirements for ETNs and options on ETNs.

Municipal Securities

General: New. Discusses MSRB Reg Notice 2019-15. SEC Approves Amendments to MSRB Rules and Data Collection Related to Primary Offering Practices. (2020 Municipal Securities Update)
General: Advertising Rule Changes: New. Discusses amended Rule G-21 on advertising by brokers, dealers, or municipal securities dealers. (2020 Municipal Securities Update.)
General: Best Execution Rule: Updated to discuss MSRB Reg Notice 2019-5 amending implementation guidance on MSRB Rule G-18. (2020 Municipal Securities Update)

Obligations to Customers (New)

Regulation Best Interest: New. The SEC is adopting a new rule, Reg BI, establishing a standard of conduct for broker dealers and natural persons who are associated persons of a broker-dealer when they make a securities recommendation to a retail customer. Enhances the standard of conduct beyond existing suitability obligations, and aligns it with retail customers’ reasonable expectations. (Course 923, Regulation Best Interest & Form CRS)
Suitability: Know-Your-Customer and Suitability Obligations. Same discussion of Rules 2090 and 2111 as contained in the last FE Advisory.

Observations From FINRA’s January 2020 Disciplinary Actions Report

Outside business activities and private securities transactions were a focus of FINRA’s January 2020 Disciplinary Actions Report with at least nine (9) cases being cited within the report. Several registered persons were sanctioned for failure to notify and obtain prior written approval from their member firm before engaging in an outside business activity or private securities transactions.

Those who failed to cooperate with FINRA’s investigation by refusing to provide on-the-record testimony have been barred from the industry.

For those who did cooperate in the FINRA investigation, all but one received fines. Fines ranged from $10,000 to $30,000. (A fine was not issued in one case due to the registered representative’s financial status.) All received suspensions ranging from three (3) months to eighteen (18) months. The most egregious case resulted in a $30,000 fine and an eighteen (18) month suspension. This case involved outside business activities that took place at the member firm branch office and involved customers of the member firm, private securities transactions as well as false statements on annual compliance and branch office questionnaires. Several other cases also involved false statements on compliance questionnaires.

Sanctions around outside activities vary based on facts and circumstances. FINRA’s 2019 Sanctions Guidelines provides information on principal considerations and sanctions:

Outside Business Activities

Principal considerations in determining sanctions include:
- Whether the outside activity involved customers of the firm.
- Whether the outside activity resulted directly or indirectly in injury to other parties, including the investing public, and, if so, the nature and extent of the injury.
- The duration of the outside activity, the number of customers and the dollar volume of sales.
- Whether the respondent’s marketing and sale of the product or service could have created the impression that the employer (member firm) had approved the product or service.
- Whether the respondent misled his or her employer member firm about the existence of the outside activity or otherwise concealed the activity from the firm.
- The importance of the role played by the respondent in the outside business activity.
Monetary fines range from $2,500 to $77,000 (disgorgement could also be considered).
Suspensions range from ten (10) days up to two (2) years (or could include a complete bar in lieu of suspension).

Private Securities Transactions

Principal considerations in determining sanctions include:
- The dollar volume of sales.
- The number of customers.
- The length of time over which the selling away activity occurred.
- Whether the product sold away has been found to involve a violation of federal or state securities laws or federal, state or SRO rules.
- Whether the respondent had a proprietary or beneficial interest in, or was otherwise affiliated with, the selling enterprise or issuer and, if so, whether respondent disclosed this information to his/her customers.
- Whether respondent attempted to create the impression that his or her member firm sanctioned the activity, for example, by using the employer’s premises, facilities, name and/or goodwill for the selling away activity or by selling a product similar to the products that the member firm sells.
Monetary fines range from $5,000 to $77,000 (disgorgement could also be considered).
Suspensions range from ten (10) days to twelve (12) months based on extent of selling away (dollar amount of sales, number of customers, length of time over which selling away occurred).

Although FINRA’s 2020 Risk Monitoring & Examinations Priorities Letter did not flag outside activities specifically as an examination priority (other than a digital asset footnote), their January 2020 Disciplinary Actions Report certainly evidences an ongoing regulatory focus on outside activities.

How confident are you in your compliance program around outside business activities and private securities transactions? When was the last time you trained your registered persons on how to report such activities to your firm for approval? Are you adequately supervising the activities you do approve or condition? How are you documenting your supervision of these activities? If you’ve denied activities, do you monitor to ensure activities aren’t taking place? Do you have best practices in place to validate the information you receive in response to your annual compliance questionnaires and branch office questionnaires? Do you require your non-registered persons to report such outside activities as a best practice?

RegEd is ready to assist with your compliance challenges. Our solutions deliver proven, robust, compliance-optimized capabilities that enable extraordinary efficiency and strong compliance oversight, dramatically reducing the risk of non-compliance. If you’d like to learn more, schedule a personalized consultation with our solution and subject matter experts. We’ll provide an overview of how RegEd’s enterprise platform enables our clients to improve efficiency, effectiveness and transparency across the enterprise.

BREAKING: NAIC Adopts a Best-Interest Standard for Annuity Sales

February 13, 2020—This afternoon, the National Association of Insurance Commissioners (NAIC) voted to recommend that the states amend their annuity sales regulations to require insurance agents to “act in the best interest of the consumer when making a recommendation of an annuity.”

The action came in the form of an amendment to the NAIC’s 2010 Suitability in Annuity Transactions Model Regulation, which was adopted by 45 states and the District of Colombia in the wake of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act.

The new best-interest standard requires insurance agents to exercise a greater degree of care in selecting annuities for their clients, to avoid conflicts of interest, to make certain disclosures to clients, and maintain adequate documentation to show that they have acted in the best interest of the client. Insurance companies are required to supervise agent compliance with this rule and to maintain compensation systems that will not undermine the best interest of clients.

Like the 2010 model regulation, the new model regulation requires that agents be trained in its requirements. For agents new to selling annuities, the new model calls for a 4-hour training course. For veteran agents who were trained under the old model regulation, the new model regulation allows for a 1-hour update course, but the regulation makes this option available only for the first 6 months after their state adopts the new rule.

RegEd has two courses completed that meet these requirements (which will be submitted for approval and continuing education (CE) credit in each state as their version of this regulation comes on line):

Recommending Annuities Under the NAIC Best Interest Standard (490)
This is the standard 4-hour training course required of insurance agents before they may sell annuities. It details the standard of care agents must adhere to when recommending annuities to clients. It discusses the fact finding and analysis required to make a recommendation that is in the best interest of the client. It discusses conflicts of interests, disclosures to clients, and documentation. In addition, the course review the operations of different types of annuities and how they are used to meet different client need.

Recommending Annuities Under the New NAIC Best Interest Standard—1 Hour Update Course
Veteran insurance agents who previously qualified to sell annuities under their state’s version of the NAIC annuity suitability regulation may take this 1-hour update course to qualify to sell annuities under the new NAIC best-interest standard. This course details the standard of care agents must adhere to when recommending annuities to clients. It discusses the fact finding and analysis required to make a recommendation that is in the best interest of the client. It discusses conflicts of interests, disclosures to clients, and documentation.

These courses will be available in each state upon approval.

The state of Arizona has already announced that it is going ahead with its process for adopting its version of the NAIC model regulation.

Form CRS: An Overview of the SEC-Mandated Customer Relationship Summary Due June 30, 2020

About Form CRS

In June 2019, the SEC adopted requirements (SEC Release 34-86032) for registered investment advisers, broker-dealers, and dual-registrants that do business with retail investors to file Form CRS (customer relationship summary). Form CRS is intended to inform retail investors about:

The types of client/customer relationships and services the firm offers;
Fees, costs, conflicts of interest, and required standard of conduct associated with those relationships and services;
Whether the firm and its financial professionals currently have reportable legal or disciplinary history;
How to obtain additional information about the firm.

Form CRS applies to registered investment advisers, broker-dealers, and dual registrants that do business with retail investors. See page 189 of SEC Release 34-86032 for the definition specific to Form CRS and more information.

For investment advisers, Form CRS is known as Part 3 of Form ADV.
For broker-dealers, Form CRS is known as such and has no association with Form BD.
Form CRS does not apply to those who do business only with institutional investors.
Form CRS is an additional disclosure requirement. It does not eliminate any existing disclosures.
Form CRS may be delivered as part of a disclosure packet, but it must be the first document. For example, some investment advisers are considering a disclosure packet approach to include Form ADV Part 2B disclosure supplements.
Dual registrants may have particular challenges. For example, if the firm is a dual registrant, but the financial professional engaging with the retail investor is qualified only as a registered representative, it must be made clear in the relationship summary.

The deadline for firms to be compliant with Form CRS is June 30, 2020.

Form CRS is designed to help retail investors better understand the nature of the relationship and what services they can expect from a financial firm and its individual professionals, primarily in terms of a fee-based account with an investment adviser, a transaction-based account with a broker-dealer, and the significance, roles, and duties of an investment advisory representative versus those of a registered representative.

Formatting and presentation instructions are specific (See general instructions for Form CRS).

Firms must respond to each item and must provide responses in the same order as the items appear in the instructions.
The relationship summary must not exceed the equivalent of two pages, for standalone investment advisers or broker-dealers, or four pages, for dual registrants, using reasonable paper size, font size, and margins. If delivered electronically, the relationship summary must be the equivalent of the paper formatting.
The relationship summary should be concise and direct, using short sentences and paragraphs. It must be written in plain English (see the SEC’s A Plain English Handbook: How to Create Clear SEC Disclosure Documents), taking into consideration retail investors’ level of financial experience. Responses to each item must be written as if speaking to the retail investor, using “you,” “us,” “our firm,” etc. Responses must be factual and provide balanced descriptions to help retail investors evaluate services.
White space, charts, graphs, tables, and other graphics design features should be included to make the relationship summary easy to read. For a relationship summary posted on a website or otherwise provided electronically, online tools are encouraged, including links to video or audio messages, mouse-over windows, chat functionality, and hyperlinks to information that enhances a retail investor’s understanding of the material in the relationship summary.
Conversation starter questions must be formatted to make them more noticeable and prominent than the standard surrounding text.

Conversation starter questions must be included in Form CRS. They are intended to engage retail investors in a discussion about the differences between an investment adviser and a broker-dealer and their relationship with a financial professional, including legal obligations, conflicts of interest, and reportable disciplinary history. For example:

“As a financial professional, do you have any disciplinary history? For what type of conduct?”
Firms must answer “yes” or “no” accordingly and, regardless of the answer, refer retail investors to Investor.gov/CRS, for additional information.
Firms with disciplinary history should be prepared to answer follow up questions and direct clients to additional information.

Other conversation starter questions pertain to conflicts of interest. (Item 3. Fees, Costs, Conflicts, and Standard of Conduct; see page 550 of SEC Release 34-86032 for more information.) For example:

“What are your legal obligations to me when providing recommendations as my broker-dealer or when acting as my investment adviser? How else does your firm make money and what conflicts of interest do you have?”
Firms will be required to distinguish firm-level from financial professional–level conflicts.

Initial Filing Requirements

Investment advisers must file Form ADV, Part 3 (Form CRS) electronically through IARD. Broker-dealers must file Form CRS electronically through CRD. Dual registrants are to file both. See page 544 of SEC Release 34-86032 for more information.

IARD and CRD systems should be available to accept filings on May 1, 2020; initial filings must be made no later than June 30, 2020.

Delivery Requirements to Clients

Initially, Form CRS must be delivered to current and prospective retail investor clients within 30 days of the regulatory filing deadline of June 30, 2020.

Investment advisers must send Form CRS to clients and prospective clients before or at the time they enter an investment advisory contract with the retail investor. This includes oral agreements. Broker-dealers must send Form CRS to clients and prospective clients before a recommendation of account type, securities transaction, or a recommendation of investment strategy involving securities is made or before placing an order for a retail investor, whichever is earliest. Dual registrants must send Form CRS in accordance with the earliest triggering event of an investment adviser or a broker-dealer.

Form CRS must be amended or revised and filed with IARD or CRD within 30 days of any information becoming materially inaccurate. Amended or revised versions of Form CRS must be delivered within 60 days of change to each retail investor who is a client or considered a prospect of the firm.

Compliance and Recordkeeping

The SEC may use the information provided in Form CRS to manage its regulatory and examination programs, and firms will need to integrate the relationship summary into their compliance controls, including policies and procedures, supervisory controls, testing, tracking, training, and recordkeeping.

Investment advisers must retain copies of each relationship summary and each amendment or revision, and they must retain a record of the dates that each relationship summary and any amendments or revisions were given to any client or prospective client who subsequently becomes a client. Records must be retained for a minimum of five years. (Amends Rule 204-2 of the Investment Advisers Act of 1940.)
Broker-dealers must retain a record of the date each relationship summary was provided to each retail investor, including any summary provided before the retail investor opens an account. Records must be maintained for a minimum of six years after the relationship summary is created. (Amends Rule 17a-3 of the Securities Exchange Act of 1934.)
Dual registrants must retain records in accordance with which role they adopt as a financial professional.
See page 499 of SEC Release 34-86032 for more information.

RegEd is ready to assist investment advisory firms, broker-dealers, and dual registered firms with various compliance issues related to Form CRS, including managing various disclosures, training, versioning, managing client delivery, and more. For further information, schedule a consultation with RegEd representative.

SEC and FINRA Exam Priorities to Include Firms’ AML Compliance Programs, Including Policies and Procedures

SEC’s Office of Compliance Inspections and Examinations (OCIE) has issued its examination priorities for 2020. According to the document, OCIE will assess the adequacy of firms’ AML compliance programs, including relevant policies and procedures. AML Compliance was also cited by FINRA as an area of focus in its recent 2020 Risk Monitoring and Examination Priorities Letter.

“The Bank Secrecy Act requires financial institutions, including broker-dealers and investment companies, to establish anti-money laundering (AML) programs. These programs must, among other things, include policies and procedures reasonably designed to identify and verify the identity of customers and beneficial owners of legal entity customers…Given the importance of these requirements, OCIE will continue to prioritize examining broker-dealers and investment companies for compliance with their AML obligations...”
– 2020 SEC Examination Priorities

Do you have the right tools in place to manage AML compliance?

Training
A robust training program is a core element of compliance with anti‐money laundering regulations. RegEd’s Anti-Money Laundering Training solutions deliver a streamlined user experience that enables insurance and securities professionals to satisfy AML training requirements with minimal disruption, while enterprise reporting capabilities enable administrators to monitor requirements and completion status.

Policies and Procedures
RegEd’s Policies and Procedures Management provides an enterprise workflow and task management solution that enables comprehensive, end-to-end administration and oversight of all elements of the firm’s policies and procedures.

Read more about RegEd’s Policies and Procedures Management solution.

Read more about RegEd’s AML training solution.

FINRA Priorities Letter Highlights Customer Communications as the Subject of Heightened Focus for 2020

FINRA’s 2020 Risk Monitoring and Examination Priorities Letter serves to document areas of emphasis for the coming year, which firms may consider for opportunities to improve their compliance and supervisory programs. Among the highlights in the 2020 letter is an emphasis on firms’ compliance with obligations relating to FINRA Rule 2210 (Communications with the Public), including their marketing, advertising and sales materials.

“FINRA will review how firms review, approve, supervise and distribute retail communications regarding private placement securities via online distribution platforms, as well as traditional channels.”
– FINRA 2020 Risk Monitoring and Examination Priorities Letter

Learn how leading firms partner with RegEd to streamline advertising compliance review and drive faster time to market.

Leading firms that together employ hundreds of thousands of registered representatives have selected RegEd’s Advertising Review, which delivers a single, integrated solution that streamlines the end-to-end processes for advertising and customer communication submission, review, collaboration and approval, speeding time to market for review items.

Read more about RegEd’s Advertising Review solution.

Case Study: Learn how CUNA Mutual increased efficiency in their advertising review process

SEC’s 2020 Examination Priorities Demonstrate a Continued Focus on Conflicts of Interest, Including Outside Business Activities

SEC’s Office of Compliance Inspections and Examinations (OCIE) has issued its examination priorities for 2020. According to the report, OCIE will continue its focus on the protection of retail investors, including seniors and those saving for retirement. Examinations in these areas will include reviews of disclosures relating to fees, expenses, and conflicts of interest.

“Registered firms must effectively implement controls and systems to ensure disclosures are made as required and that a firm’s actions match those disclosures… Examinations will relatedly focus on registered firms’ disclosures and supervision of outside business activities of its employees and associated persons, and any conflicts that may arise from those activities.”
– 2020 Examination Priorities, Office of Compliance Inspections and Examinations, U.S. Securities and Exchange Commission

Do you have the right tools in place to manage conflicts of interest?

RegEd’s fully integrated Conflicts of Interest Management solution suite enables firms to seamlessly monitor, identify and remediate conflicts of interest and code of conduct issues. The solution captures a full audit trail of requests, approvals, exceptions and remediation, and provides ready documentation for internal and external regulatory reporting.

The solution suite, including Outside Business Activities, leverages RegEd’s powerful platform capabilities to enable comprehensive monitoring, task management, alerts and sophisticated hierarchy management.

Read more about RegEd’s Conflicts of Interest solution suite.

Read more about RegEd’s Outside Business Activities solution.

Key Takeaways: FINRA’s 2019 Report on Examination Findings and Observations

On October 16, 2019, FINRA published its 2019 Report on FINRA Examination Findings and Observations. This report is a useful resource for firms to leverage to improve their compliance and risk management programs.

One of the findings in the report pertains to failure to effectively monitor for and react to regulatory changes. Firms are required to review regulatory changes against their supervisory systems, including their written supervisory procedures and training programs. FINRA found that some firms did not adequately respond to recent regulatory changes such as FinCen’s new Customer Due Diligence (CDD) obligations and requirements around Financial Exploitation of Specified Adults among other recently adopted or amended rules.

In addition, branch supervision and inspection programs were found to be inadequate at some firms. The following areas were specifically cited as supervisory and risk management gaps:

Failure to fully understand the activities that are taking place at branch offices, including the unique products and services offered at each branch location;
Failure to conduct periodic inspections of non-branch locations;
Failure to determine relevant areas of review, taking into consideration the nature and complexities of product and service offerings or indicators of irregularities or misconduct;
Failure to reduce the inspections and reviews to a written report;
Failure to follow through with necessary corrective action.

Suitability once again made the Sales Practice and Supervision hit list. Specific findings included:

Inadequate supervision of product exchanges;
Failure to identify and respond to red flags;
Inadequate oversight around customer account information changes;
Failure to recognize unsuitable transaction patterns;
Inadequate supervision of trading activities (excessive trading or churning);
Inadequate training of supervisors;
Unsuitable options strategies to unsophisticated customers.

Digital communications made it into this year’s report. FINRA specifically noted some firms that prohibit for business-related communications the use of text messaging, social media and collaboration applications such as Facebook, did not maintain a process to identify and respond to red flags around the use of the prohibited digital channel communications. Red flags could have been detected through adequate customer complaint management, email monitoring, outside business activity (OBA) reviews as well as advertising reviews. Some effective practices to manage digital communication were flagged, including:

Establishing comprehensive governance structures by leveraging marketing, compliance and technology departments as well as third-party vendors;
Defining and controlling permissible digital channels though supervision; records retention; policies and procedures; blocking prohibited channels; restricting use of messaging and collaboration applications that limit the firm’s ability to retain records;
WSPs to manage the lifecycle of video content which includes live-streamed public appearances, scripted commercials or video blogs;
Training prior to providing RRs access to firm-approved digital channels;
Disciplining misuse of digital communications such as temporarily suspending or blocking channels and requiring additional training.

FINRA also shares a number of cybersecurity-related observations and best practices in their 2019 report in hopes of assisting firms with strengthening their cybersecurity programs. The report reminds firms to evaluate each of the best practices and controls described in the report. Highlighted best practices include:

Maintaining branch-level written cybersecurity policies to protect confidential data;
Implementing procedures to verify that branch office controls were implemented and are functioning adequately;
Documenting formal policies and procedures on vendor and third-party management that include onboarding, ongoing monitoring, off-boarding and disposal of sensitive client information;
Establishing and regularly testing written formal incident response plans that outline procedures to follow when responding to cybersecurity and information security incidents;
Establishing data protection controls such as encryption of confidential data (customer and firm information) whether it is stored internally or at vendor locations;
Ensuring system patching is timely applied;
Applying a ‘Policy of Least Privilege’ around access controls, by only granting access to systems and data when required and removing such access rights when no longer needed;
Implementing multi-factor or two-factor authentication controls for RRs, employees, vendors and contractors accessing firm systems and data from outside the organization;
Maintaining an inventory of critical information technology assets, including hardware, software, data in home and branch offices; legacy assets that vendors no longer support as well as corresponding cybersecurity controls to protect these assets;
Implementation of data loss prevention controls to protect sensitive customer information such as SSN, dates of birth, bank information, driver’s license numbers;
Training for RRs, personnel, third-party providers and consultants;
Implementation of change management procedures to document, review, prioritize, test, approve, manage hardware and software changes.

Training staff on how to implement firm business continuity plans (BCPs) was cited as a BCP best practice in addition to engaging in annual testing of the BCP. Note: FINRA is currently conducting a retrospective review of FINRA Rule 3270 ~ Business Continuity Plans and Emergency Contact Information. See FINRA Regulatory Notice 19-06.

These are just some of the numerous highlights from the 2019 Report on FINRA Examination Findings and Observations to take into consideration when assessing the adequacy and effectiveness of your firm’s supervisory and risk management operations.

Note: RegEd is not engaged in rendering legal, accounting or other professional services. If legal or other professional advice is warranted, the services of an appropriate professional should be sought.