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Once a financial advisor has decided to go independent, a review of the business will be required to understand the types of investment products utilized in their practice. This review will help to determine if there is a need for a broker-dealer affiliation. Most advisors and staff leaving traditional financial institutions are heavily licensed due to the use of commissionable products. Under FINRA and under those firms' compliance rules, that may be true, but in the independent space, those rules change.
We educate on the methodology by which a business can operate as a fee-only offering, or whether commissionable payments will be important to your business and revenue profile. Generally, when we begin to explore the specifics of an advisor’s business, there are commonly asked questions around the nuances between the SEC and FINRA. For example, what licenses are required for specific products and actions, and what giving up those licenses could mean to your offering as an advisor? Many financial professionals fight to stay FINRA-registered and keep their licenses to retain an emotional state of security, not necessarily to manage a profitable business.
Let's begin with an overview of the SEC and FINRA to clarify the segregation of authorities in the RIA environment.
The Securities and Exchange Commission (SEC) is the primary regulator for securities markets and investor protection. It is a federal government agency established by the Securities Exchange Act of 1934.
The Financial Industry Regulatory Authority (FINRA) is not a governmental agency; rather, it's a "self-regulatory organization" with congressional authority under the SEC's regulation and oversight to supervise stockbrokers and brokerage firms. FINRA rules are subject to the review and acceptance of the SEC.
While the SEC functionally regulates almost all facets of securities markets from exchanges to mutual funds, private equity, and corporate reporting, let’s focus is on its regulation of Registered Investment Advisers (RIAs). The SEC is the primary regulator for RIA firms meeting the qualifications for federal registration (firms that do not must register at the individual state level). The Investment Advisers Act of 1940 serves as the core of requirements federally registered RIA firms must follow.
Many firms serve as both broker-dealers and RIAs, which puts them under the purview of both FINRA and the SEC, but significant growth has been seen in the independent fee-only space. One of the first considerations a team should make when considering independence is whether or not they will seek to maintain a relationship with a FINRA-member firm in order to continue to offer commission-based products in their business model.
Now that we have established the baseline of these two authorities, let us discuss some of the considerations involved in maintaining broker-dealer affiliation or going fee-only in your new RIA venture:
- What percentage of revenue generated from your book is attributable to commissionable business?
- Could any of this move to fee-based?
- Would that recommendation be appropriate for those clients?
- Do you have clients who prefer to pay transaction-based commissions versus a fee for advice?
- Do you have clients who like to have the option to decide?
- What types of products do you leverage at your current firm, and how compatible would your current book be with a move to a fee-only structure?
- Do you want to focus on fiduciary standardsand limit real or perceived conflicts of interest?
- Is your current process of servicing your clients compatible with a fiduciary standard of care?
- How do you want to hold yourself out to the public in marketing and advertising materials?
If you decide to maintain a broker-dealer affiliation, here is a general overview of what is required in your new RIA capacity:
Maintaining a relationship with a brokerage firm while creating an independent RIA will require maintaining a series 7 and potentially a series 63/65. There will be certain supervisory requirements from the broker-dealer you affiliate with requiring registered individuals to comply. Interesting to note, the broker-dealer will consider your RIA an outside business activity (OBO) to file. The degree and nature of those requirements may vary from firm to firm, depending on your offering to clients. Mainly, the individuals registered with the broker-dealer will be responsible for complying with the policies and procedures of that firm (as applicable), being responsive to their requests, and submitting to a compliance exam with some frequency.
If you feel comfortable foregoing your FINRA affiliation to go fee-only, here is a general overview of what would be required:
Depending on what examinations you've completed and kept in good standing, you may be required to pass an examination to register as an IAR of your new RIA firm.
If you are currently leveraging the series 7 and 66 as a registered representative and investment advisor representative and choose to move to an independent RIA without a broker-dealer relationship, you'll need to pass the series 65 or meet a state-level exemption. These exemptions vary from state to state, but one of the most common types is based on holding an approved designation that is active and in good standing.
Use of a designation in lieu of series 65 or series 7/66:
Certain financial services industry designations are accepted in lieu of passing the aforementioned examination(s) in the majority of states:
Those designations are Certified Financial Planner (CFP®), Chartered Financial Analyst (CFA), Certified Insurance Counselor (CIC), Chartered Financial Consultant (ChFC®), or Personal Financial Specialist (PFS). Individual state requirements may vary; your state regulator or a compliance professional can help you assess your individual situation.
Although we have started with step one, for SEC-only or both FINRA and SEC there are additional things to consider when registering as an independent firm:
In the advisory space, an "RIA" is the firm and an "IAR" is the individual. Generally (unless your firm does not meet SEC requirements), the firm is registered with and mostly governed by the SEC, but the individual is registered with the state regulators where they have a place of business or are otherwise required to register. There is no concept of IAR registration with the SEC; instead, firms qualified with the SEC need to "notice" file with states where they have a place of business. Basically, you need to let the states know there is an SEC registered investment advisor operating in their jurisdiction.
One other notable factor moving from a dual-registrant firm to an independent RIA firm is the supervision and ongoing requirements. Much of the supervision and compliance work at a wirehouse is largely done centrally by a "home office" unit, and are handled by a "branch manager" with FINRA supervisory licenses (Series 9/10 or Series 24, for example). In the independent space, your firm will largely be responsible for its own compliance program (unless you retain a consultant or outside CCO). There is no licensure requirement for supervising in the RIA-only space (although individual states may require the general IAR registration a requirement), but the SEC expects that your firm’s CCO has an understanding of the applicable investment advisory rules and regulations and sufficient authority to enforce your firm's policies and procedures.
There are many decisions to make when establishing your new firm; some are based on rules in our industry, some are dictated by client expectations, and some are dictated by entrepreneurial dreams. This one today comes down to money and regulations.
Tara Coakley is senior vice president, transition services and relationship management, and Alex Hansen is senior vice president and chief compliance officer for Dynasty Financial Partners.
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