July 21, 2009
“Custody of Funds or Securities of Clients by Investment Advisers”
As a member of the Financial Planning Association and a State-registered investment advisor, I am opposed to the SEC’s Proposed Changes to the Custody Rule Release No. IA-2876. In specific, I oppose the amendment that would require most advisory firms to undergo a surprise audit annually by an independent accounting firm if they directly debit investment management fees from client accounts.
I’m a proponent of enhancing consumer safeguards; unfortunately it takes a Bernie Madoff to put these issues into the spotlight. The source of the fraud created by Bernie Madoff was not attributable because he could debit fees. It was because he was both custodian and advisor at the same time coinciding with the failure of the SEC from 2006 on and FINRA to identify the fraud in the years prior to this. And now we are faced with the political backlash of having to close the barn after the horses have left the stable.
Although this rule does not affect state-registered firms, I suspect that many states will eventually conform to changes such as they have with federal rules in the past. If this would occur, the estimated audit cost of $8,100 annually would hurt my clients on either of the two options I would have to choose if required:
A. If I were to continue to debit fees, I would have to pass these costs on in the form of higher services fees. Costs count and in light of 2008, people can’t afford to have any more residual drag on their investment returns when saving for retirement, college or other lifetime goals. For clients who decide to discontinue my services will be return to going it alone. As one client once told me, “When I have a medical problem, I don’t self diagnose; I go to a doctor. Why would I do anything different for my financial health as I don’t have the time or expertise?” They would go back to the approach that had them come to me in the first place.
B.The other option would be for me to not directly debit fees out of the account. Unfortunately, many of my clients can afford to retain me when I debit the fees directly from the account, but can’t afford it if it was to be paid out of pocket. Imagine if the mutual fund industry had to bill outright for services; it would never work. Again, this would return clients to their former approach, an approach that hurt them financially and triggered them to seek advice in the past. Financial advice is a 21st century survival need; why would we want to prevent more people from not being able to afford it?
There are more reasonable ways address this operational component of providing investment advice while improving consumer safeguards. As an alternative, many custodians (including the one that I use) allow me to view client statements to insure that the client was delivered the statement reflecting this charge. Or similar to trade confirmations, both adviser and client can be simultaneously sent a fee debit confirmation instead whether electronically or via mail. In the end, I think this would be a more practical approach, from a small business perspective and more importantly, improve consumer protection. The required audit approach meanwhile I feel is like trying to kill a fly with a sledgehammer.
Regards,
Jeffrey N. Bogue, CFP™
Bogue Asset Management LLC