Washington Department of Financial Institutions Updating Investment Advisor Rules

October 10, 2012

The State of Washington’s Department of Financial Institutions recently sent out a memo to investment advisors registered in Washington that described potential updates, amendments, and additions to Washington’s investment advisor rules and regulations.  Amendments to the custody requirements and an exemption for private fund advisors are the major provisions included in the memo, but the Washington Department of Financial Institutions also proposed changes for financial reporting, books and records, unethical practices, proxy voting, advisory contracts, and compliance procedures.  You can access a copy of the draft amendments here.

The proposed amendments to Washington’s custody rule would require investment advisors with custody of client funds or securities to provide more disclosure to their clients.  Under the proposed amendments, investment advisors will be required to notify clients of the identity of the custodian.  Also, if the investment advisor or a related person acts as the qualified custodian for the client’s funds and securities, the investment advisor must enter into an agreement with an independent certified public accountant to conduct an examination to verify such funds and securities.  The investment advisor or related person must also obtain an annual written internal control report prepared by an independent certified public accountant within six months of becoming subject to this rule and then annually thereafter.

The State of Washington’s Department of Financial Institutions also proposed exemptions for private fund investment advisors and investment advisors to venture capital funds.  Private fund investment advisors qualify for the exemption if neither the firm nor any of its advisory affiliates are subject to a disqualification and the investment advisor files with the State of Washington Department of Financial Institutions each report and amendment that an exempt reporting investment advisor is required to file with the Securities and Exchange Commission (“SEC”) pursuant to SEC Rule 204-4.  This rule is an adaptation of the North American Securities Administrators Association (“NASAA”) model rule.  The State of Washington Department of Financial Institutions also added a registration exemption for investment advisors to venture capital funds.  The exemption for investment advisors to venture capital funds is the same as the exemption for investment advisors to private funds.

Other important proposed changes include amendments to the financial reporting requirements, additions to the books and records section, and additions to the compliance procedures section.

If an investment advisor has custody of funds or securities, or clients are required to pay advisory fee six months in advance and in excess of $500, the investment advisor must file an audited balance sheet prepared in conformity with Generally Accepted Accounting Principles (“GAAP”) accompanied by an opinion report.  Currently, investment advisors only have to file a balance sheet in accordance with GAAP principles.

The proposed updates to the books and records rules adds a section for instances where an advisor inadvertently holds or obtains a client’s securities or funds.  This section would require that securities or funds received by an investment advisor be returned within one business day and any checks received by an investment adviser and made out to a third-party be forwarded to the appropriate party within one business day.  If this occurs, the investment advisor must keep additional records related to the inadvertent custody.

The State of Washington Department of Financial Institutions also proposed changes to the methods of maintaining and preserving records and added a section for records created or maintained on electronic storage media.  Pursuant to the proposed rules, investment advisors must establish and maintain procedures:

  • To maintain and preserve the records, so as to reasonably safeguard them from loss, alteration, or destruction;
  • To limit access to the records to properly authorized personnel and the director; and
  • To reasonably ensure that any reproduction of a non-electronic original record on electronic storage media is complete, true, and legible when retrieved.

Proposed changes to the compliance procedures section include adopting policies and procedures designed to prevent violations of the Securities Act of Washington, annually reviewing the policies and procedures adopted, and designating a CCO of the investment advisor firm.  The proposed rules make it unlawful for an investment advisor to provide investment advice to clients unless the advisor fulfills these requirements.

Stay tuned to RIA Compliance Consultants for more news on these potential rule changes for registered investment advisors in Washington.

Posted by Bryan Hill
Labels: Books Records, Compliance Program, Custody, Private Funds, Proxy Voting, Washington Investment Advisor