Under SEC Rule 206(4)-7 of the Investment Advisers Act of 1940 (“Investment Advisers Act”), investment advisers registered with the U.S. Securities and Exchange Commission (“SEC”) are required to maintain written policies and procedures reasonably designed to prevent and detect violations of the Investment Advisers Act and the SEC’s related rules by the investment adviser or any of its supervised persons. Many state securities regulators have similar requirements regarding written policies and procedures. As part of developing the investment adviser’s written policies and procedures, the investment adviser should identify the areas of risk that need to be addressed.
SEC Rule 206(4)-7 also requires federally registered investment advisers to conduct a review at least annually to determine the adequacy and effectiveness of the implementation of the investment adviser’s written policies and procedures. Part of this annual compliance review process should be an assessment of the initial risks identified to determine if all risks have been identified and if the written policies and procedures properly address each area of risk identified. Although SEC Rule 206(4)-7 only requires an annual review, investment advisers should consider conducting more frequent compliance reviews when necessary or performing ongoing testing and monitoring.
When conducting the annual compliance review, the investment adviser should first consider any compliance matters that arose during the year, any violations that occurred during the year, any changes in the business activities of the investment adviser or any of its affiliates, and any changes in any applicable rule or regulations governing the investment adviser. An annual compliance review should not simply consist of reading through the investment adviser’s policies and procedures to determine if everything is still accurate and up to date. The annual compliance review process should be designed to test the comprehensiveness of the investment adviser’s policies and procedures. The investment adviser should develop methods of performing transactional or quality control testing, analyzing exception reports, and forensic testing.
SEC Rule 206(4)-7 does not require an investment adviser to prepare a report to summarize the results of the annual review, but as part of a regulatory exam, the SEC and many states securities regulators will request proof that the required annual compliance reviews are being conducted. It is a good compliance practice for the investment adviser to prepare a report to document the work that was performed, the findings of the annual compliance review, and the recommendations for improvements. SEC examiners generally expect to find exception reports, compliance checklists, and management reports that note problems or issues, and the examiners will review and assess the timeliness of any corrective actions taken as well as the effectiveness of the corrective actions. If a review of compliance records and/or a discussion with an investment adviser’s compliance staff reveals that the investment adviser has not found any compliance problems during its annual compliance reviews, the examiner may be skeptical and conduct additional testing of the investment adviser to confirm the lack of findings.
For more details regarding conducting an annual review of your investment adviser’s compliance program, register for our webinar, “Conducting an Annual Compliance Review,” on Thursday, November 8, at 12:00 pm CST. This webinar is complimentary. To register, simple click here.
RIA Compliance Consultants can help your investment adviser conduct its annual compliance review. For more information on this or any of the other investment adviser compliance support services provided by RIA Compliance Consultants, click here to schedule a time for one of our senior compliance consultants to call you to discuss your specific needs.