July 17, 2009
SEC’s Proposed Changes to the Custody Rule
Release No. IA-2876
“Custody of Funds or Securities of Clients by Investment Advisers”
To The United States Securities and Exchange Commission:
I am a member of The Financial Planning Association (“FPA”) and my firm is an SEC-registered investment adviser. I am opposed to the requirement in the proposed amendments to the custody rule that would subject non-custodial investment advisers to a surprise audit by an accounting firm.
This proposal is unnecessary and would create an undue burden for small firms such as ours. The new surprise audit requirement will add additional costs to our business that will ultimately be passed on to clients. Adding such unnecessary expenses would reduce our opportunity to retain employees, and to best serve clients whose need for time and attention - have only increased due to the financial crisis.
Our firm uses unaffiliated, large regulated financial institutions to serve as custodian for our client’s assets. We likewise utilize outside firms (who are also regulated) to independently calculate and debit fees from our clients accounts on our behalf. We monitor such activities to seek to promptly remedy any error should one occur. As these calculations are performed by computers with pre-tested formulas, such errors are indeed very rare.
In fact, we do not even take direct control of the software that actually processes fee calculations and deductions from client accounts. In a firm structured the way we have purposefully designed ours – I don’t know how we could actually cause an inappropriate deduction of funds from a clients account if we wanted to do so. We have designed and installed safe guards to the point that it would always be necessary to go through another regulated and unrelated third party to do seek to make a deduction from a customers account – automatically installing an addition level of inspection. In a small number of instances clients may elect to write checks directly from their own bank checking accounts to pay for their investment advisory fees, or to otherwise direct that such fees be electronically debited from a checking account that the clients maintains at their own local bank. Certainly we must expect that the client’s bank sends them a checking account statement that the client may review.
Clients are already notified who their accounts qualified custodian is, at the time the account is established. The custodians send account statements directly to the clients; we receive copies and other account related data, most generally in electronic form. We already have a reasonable belief that these large firms serving as qualified custodians do send statements directly to the customers, and we do encourage our customers to read their statements and to check for errors. Although it already appears to be a routine standard that the custodians notify us when new statements are generated (or alternatively the custodian may simply make statements available for secure internet download on a scheduled basis – and we know the schedule), it does not appear that any harm would be done by requiring the custodians to e-mail or fax advisors a notification that the latest statements are now available.
It may be reasonable for SEC to have a different, stricter, set of standards for investment advisors who actually take custody of client accounts, or who custodian assets through an affiliate company. However for a small firm operating in the arms length manner that we have with the custodians we utilize, the necessary safeguards are already in place. The proposed rule would generate significant expense with no apparent increase in customer protections. The additional expense would either cause a reduction in services to customers or an increase in the costs that they ultimately would bear.
The proposed surprise audit appears to be more of a political reaction to public criticism of the SEC, and congressional pressure after the Madoff scandal, than an effective regulatory response. It simply does not make sense when examined relative to a firm constructed in the manner that ours is.
The Madoff and other Ponzi schemes resulted from a lack of aggressive enforcement by the SEC and FINRA of current rules. There had been repeated warnings from the media and whistle blowers. The SEC should hold FINRA accountable for its shared oversight of Bernie Madoff. After all, the fact is that Mr. Madoff had been conducting his Ponzi scheme for decades as a Broker/Dealer - before registering only about two years ago with SEC as an investment adviser.
The Ponzi schemes uncovered by the SEC have had nothing to do with fees deducted by investment advisers. As far as I am aware, there have been no systemic problems in the area of fee billing. The proposed changes are unnecessary, costly and burdensome, particularly for small independent investment advisers such as our firm.
Please direct your attention to the real and legitimate issues that need SEC’s attention. This fee billing issue is not where public customers have been shown to have been at risk.
Neal J. Solomon, CFP®, CLU, ChFC, CASL
CERTIFIED FINANCIAL PLANNER™
Managing Director and Chief Compliance Officer