This is a reminder that the deadline for MSRB Rule G-44, which requires municipal advisors to provide evidence that they have reviewed their supervisory procedures and compliance policies, is April 23, 2016. Municipal advisors must review these policies and procedures at least annually to ensure they are reasonably designed to achieve compliance with applicable rules and to make any changes as a result of the review.
Additionally, beginning on April 23, 2016, a firm's Chief Executive Officer (CEO) or equivalent officer must certify on an annual basis that the municipal advisor has in place processes to establish, maintain, review, test, and modify written compliance policies and supervisory procedures reasonably designed to achieve compliance. The MSRB issued a Municipal Advisor 2016 Compliance Advisory in November 2015 highlighting some issues that municipal advisors should be aware of as they finalize their reviews and related certifications.
With the SEC’s approval of MSRB Rule G-42 and amendments to Rules G-20 and G-37, municipal advisors can use the annual review process to assess what changes are needed to their supervisory procedures and compliance policies in 2016. In addition, municipal advisors should review their client agreements and contracts, and related disclosures of conflicts of interest, as the deadline for compliance with Rule G-42 approaches (June 23, 2016).
Furthermore, during the Compliance Outreach Program for Municipal Advisors (“Compliance Outreach”) in February 2016, the SEC staff stated that they will review advisory contracts with municipalities and obligated persons to make sure that they are not purely boilerplate, but actually describe what the advisor is not doing for their clients.In addition, if the SEC staff finds that any existing, ongoing agreement in effect that does not meet the standards of Rule G-42, the SEC staff expects that municipal advisors will issue an amendment or supplement to the existing contract that contains any required provisions not addressed in the existing documentation, including the relevant conflict of interest disclosures required under Rule G-42.
The SEC staff highlighted during the Compliance Outreach event that Rule G-42’s requirements concerning suitability only apply to recommendations and the review of the recommendations of third parties, not merely advice. Also, while Rule G-8 requires the maintenance of records material to the review of a recommendation by a third party or that memorializes the basis for any determination as to suitability, the MSRB staff is not prescribing the creation of specific documents. The SEC staff did say, however, that they expect that some documentation is being maintained, as part of the ordinary course of business. In other words, the SEC staff will ask firms to articulate how they have met their fiduciary duty to municipal entity clients. The MSRB is hosting a free education webinar on Rule G-42 on April 28, 2016, in advance of the rule's effective date. To register for the webinar, click here.
In regard to the SEC's examination concerns and focus areas highlighted during the Compliance Outreach event, the SEC staff is still following the provisions of the Municipal Adviser Examination Initiative, which set forth the seven focus areas that may be selected by the examination staff (i.e., registration, fiduciary duty, disclosure, fair dealing, supervision, books and records, and training/qualifications). Highlights of deficiencies discovered during SEC exams thus far are:
- Lack of supervision or understanding of compliance– SEC examiners have found instances where municipal advisors maintain no or poorly tailored manuals, and when querying the advisory staff on procedures set forth in the supervisory and compliance manual, are finding advisory staff to be ignorant of their manual's procedures.
- Failure to maintain required books and records– the SEC staff has found this to be a common deficiency, particularly a failure to create and maintain the financial records set forth under the SEC’s recordkeeping rule, as well as failures to maintain electronic communications (e.g., email) and the commingling of records required by the SEC and MSRB with personal or other records.
- Failure to register with the SEC and/or MSRB– instances where municipal advisors fail to register with both the SEC and the MSRB, or fail to maintain such registrations (e.g., annual amendment of Form MA or Form A-12), are still being discovered. The MSRB staff pointed out that a total of 72 firms registered with the MSRB had failed to update Form A-12 as required, meaning that these firms could not engage in municipal advisory activity because SEC registration is required to update Form A-12. Therefore, any advisors that have not updated Form A-12 need to do so in order to engage in municipal advisory activity.
- Failure to comply with fiduciary requirements– the SEC staff pointed out that fiduciary duty has been required since the effective date of the Dodd-Frank Act, and will request records prior to the advisor’s permanent registration date if they feel it necessary to investigate potential fiduciary failures. This guidance is supported by a recent press release stating that that the SEC charged a Kansas-based municipal advisor, its CEO, and two employees for breaching their fiduciary duty by failing to disclose a conflict of interest to a municipal client (http://www.sec.gov/news/pressrelease/2016-54.html). The SEC staff did point out that they are finding that municipal advisors are missing supporting analyses on recommendations to clients, such as pricing analyses and comparable deal information.
The SEC staff also highlighted three issues that they expect to be a bigger concern for municipal advisors in the future, which will be incorporated into their examinations, specifically cybersecurity, written agreements/engagement letters, and gifts/entertainment.
The FINRA staff also highlighted a couple of issues that they have found in their examinations of dealer-advisors (approximately 150 municipal advisors are registered as broker-dealers):
- Unregistered municipal advisors – broker-dealers that fail to register as municipal advisors due to engaging in advisory activities without adequate registration, which generally result in process failures within dealers’ underwriting, public finance, or sales/trading departments.
- Failure to maintain adequate policies and procedures
The FINRA staff also noted that they are continuing to receive multiple one-off requests concerning municipal advisor registration implications that require input from FINRA’s Fixed Income Unit, and that concerns with regard to the timing of Rule G-17 disclosure statements by underwriters will be a future focus of their examinations.
Both the SEC and FINRA staff at the Compliance Outreach event relayed concerns with outsourcing CCO activities, telling attendees that municipal advisors should perform adequate due diligence to make sure the CCOs they are working with (i) don’t have too many clients or are overextended; (ii) have adequate experience; and (iii) spend adequate time with the municipal advisor to understand its business, risks, and procedures. Finally, the MSRB staff stated that in April 2016, they expect the announcement of the effective dates of the Series 50 final examination, likely to be in the fall of 2016, with a one-year grace period.
For further information regarding what to expect during an examination, or assistance with the requirements of Rule G-44, feel free to get in contact with the ACA personnel listed below.
ACA employs the world’s largest team of former SEC examiners and in-house compliance professionals. We assist firms in meeting their ongoing SEC, MSRB, and FINRA compliance obligations and specialize in preparing firms for regulatory inspections.
ACA Compliance Group