July 15, 2009
I am writing concerning the proposed custody rule IA-2876.
Your proposed rule indicates confusion regarding the meaning of "custody." I am aware that the current rule considers an Investment Advisor to have custody if the IA is able to deduct advisory fees or other expenses directly from clients' accounts, but this also evidences confusion. Access to a client's account for the purpose of deducting a fee specified according to an advance agreed-upon formula is not "custody" in any sense that anyone in the real world would consider custody: it simply is what it says it is, access for a specific purpose known in advance and agreed upon by Advisor and Client. Why not call it something like "approved access" and remove it from the category of custody altogether?
The SEC's own concept of custody is clearly indicated in the SEC's rule regarding custody, namely, that custody refers to "client funds or securities in [the Advisor's] custody or possession." Once the advisory fee has been earned, it no longer is a client fund or security; it belongs rather to the Advisor providing the advisory service. Other than the additional administration, what is the difference between a client writing a check in response to an invoice and the Advisor deducting the fee after sending an invoice?
To the point: a surprise audit would not turn up any such client funds or securities in the possession of advisors who obey the law. A surprise audit of this sort would be a futile effort and pointless waste of time and money. Of course, if the SEC has reason to suspect an abuse of approved access for the purpose of deducting fees, it can always initiate an investigation. But to make this a mandatory exercise on an annual basis is not only overkill, it is just plain lunacy. The SEC is always able to initiate an audit any time it sees fit for any purpose. Why single out this one narrow focus for a special audit mandated to be done annually?
Would more detailed advance disclosure re fee deduction in the ADV or elsewhere get at the purpose for which the proposed rule has been proposed? It seems to me that the avenue for enforcement would be better served through disclosure. Or some other method. Honest Advisors should not have to bear the burden of the SEC's failure to ferret out the abuses of the few IAs who cheat their clients. Your proposed rule is a sledge hammer aimed at the wrong object.
Steven F. Wertime, Ph.D., CFP Wertime Financial Services, Inc.