As required under SEC Rule 204-3 under the Investment Advisers Act of 1940 and similar state securities rules, a registered investment advisor is required to provide all clients with a disclosure brochure. In order to comply with this rule, registered investment advisors may provide a copy of their Form ADV Part II or may provide a separate disclosure brochure that contains the same information required in the Form ADV Part II. The current Form ADV Part II is constructed in a check-the-box format that requires registered investment advisors to answer all questions and provide additional information on the Schedule F.
In March of this year, the SEC released proposed changes to the so-called new Form ADV Part 2 that, when passed, will dramatically change how registered investment advisors prepare and complete their client disclosure brochures. According to the proposal, the new Part 2 will not be prepared in a check-the-box format. The new Form ADV Part 2 instructions will consist of a series of items that contain disclosure requirements for preparing the disclosure brochure. The items will require narrative responses. Registered investment advisors may omit responses to the items that do not apply to their business. Investment advisor firms do not need to provide responses in the same order as the items appear and disclosures should not be repeated in the brochure. In other words, a disclosure brochure will not need to repeat information simply because the information is responsive to more than one item. The new Form ADV Part 2 general instructions will require registered investment advisors to write their brochures in plain English.
One of the main purposes of an investment advisor’s disclosure brochure is to provide detailed descriptions of real conflicts of interest, potential conflicts of interest and material arrangements a registered investment advisor has with affiliated and unaffiliated companies. However, many registered investment advisors fail to adequately provide all necessary information and sufficiently describe all conflicts of interests. One reason for this is that many registered investment advisors simply answer the questions listed on the current Part II instructions. Those current instructions do not explicitly require the disclosure of all conflicts of interest and all material arrangements. Upon passage of the new Form ADV Part 2 rule, there will be no excuses for not disclosing all conflicts of interest.
According, to the SEC’s proposed General Instructions for Part 2 of Form ADV, Item 3 states the following:
Under federal and state law, you [a registered investment advisor] are a fiduciary required to make full disclosure to your clients of all material facts, including conflicts of interest between you and your client and any other material information that could affect the advisory relationship. You therefore may have to disclose to clients information not specifically required by Part 2 of Form ADV. You may disclose this additional information to clients in your brochure or by some other means.
The new Form ADV Part 2 will require registered investment advisors to go above and beyond simply disclosing conflicts of interest. Disclosures must state why a certain arrangement is a real or potential conflict of interest and what the registered investment advisor does to control for the real or potential conflict of interest.
Further, Item 4 of the General Instructions state “all information in your brochure and brochure supplements must be true and may not omit any material facts.”
RIA Compliance Consultants strongly encourages all registered investment advisors to read the entire Form ADV Part 2 proposal which can be viewed by clicking here.
It is important to note that the new Form ADV Part 2 and the issues discussed in this article have only been proposed. Therefore, the registered investment advisor industry will not know for sure what will be required in order to comply with the new Form ADV Part 2 until the final rule is released. Stay tuned to RIA Compliance Consultants for more information and further updates regarding the new Form ADV Part 2. If you are interested in engaging RIA Compliance Consultants for its Form ADV Part 2 drafting services, please call us today for a proposal and quote.
Posted by Bryan Hill
Labels: Form ADV