Rules and Interpretations to Enhance Protections and Preserve Choice for Retail Investors in their Relationships with Financial Professionals

By July 11, 2019Uncategorized

SEC rules package published June 5, 2019
This past June, the U.S. Securities and Exchange Commission (“SEC” or the “Commission”) adopted two rules and issued two interpretations, each of which pertain to standard of conduct requirements for broker-dealers and investment advisers. The rules package addresses the following aspects of broker/dealer and investment adviser client disclosures and registrant comportment to the fiduciary standard of care:

Regulation Best Interest (Regulation BI), a new rule imposing a “best interest” standard of conduct on broker-dealers making recommendations to retail clients (compliance date: June 30, 2020)

Form CRS Relationship Summary and Form ADV Amendments (Form CRS), a new rule requiring both broker-dealers and investment advisers to provide retail clients with information about the nature of their relationship (compliance date: June 30, 2020)

Standard of Conduct for Investment Advisers, a new interpretation clarifying an investment adviser’s fiduciary duty to its clients (effective upon publication in the Federal Register)

Broker-Dealer “Solely Incidental” Exclusion, a new interpretation of Section 202(a)(11)(C) of the Investment Advisers Act of 1940 (Advisers Act), which excludes from the definition of “investment adviser” any broker or dealer that provides advisory services when such services are “solely incidental” to the conduct of the broker or dealer’s business and when such incidental advisory services are provided for no special compensation (effective upon publication in the Federal Register)

This newsletter summarizes only those aspects of the rules package which directly pertain to investment advisory compliance programs.

Form CRS Relationship Summary and Form ADV Amendments

Ongoing research by the Commission indicates that in general, retail investors are confused by disclosures addressing the investment services, fees, conflicts of interest, and standards of conduct observed by investment advisers, particularly when contrasted with broker-dealers.

To address this confusion, the SEC is adopting new Rule 204-5 under the Investment Advisers Act  

of 1940, as amended (“Advisers Act”). In so doing, the Commission is adopting amendments to Form ADV disclosure requirements whereby a new component of this disclosure, Part 3: Form CRS (“Customer Relationship Summary”), is to be added to current adviser disclosure requirements. Further information may be accessed at

For the time being, Form CRS requirements do not apply to state-registered investment advisers, at least, until/unless states ultimately choose to adopt their own conforming disclosure rules in the future.

The SEC is adopting this rule to further inform investors of their choices when hiring investment professionals. Form CRS is designed to assist retail investors in their due diligence when identifying and ultimately selecting a registered adviser and/or broker-dealer to manage their investments. This disclosure is intended to assist the investor in both the initial decision to engage an SEC registrant and/or whether to continue to maintain or possibly terminate such an engagement. A retail investor is defined under the rule to be a natural person, or the legal representative of such natural person, who seeks to receive or receives services primarily for personal, family or household purposes.

Advisers will now be required to file Form CRS and thereby provide succinct information pertaining to the various client relationships that a firm is prepared to offer retail investors and the various service offerings attendant to each specific relationship classification. Upon implementation in mid-2020, Form CRS must fully disclose and contrast various fees and related expenses which retail investors will be required to remit to the adviser or other entities (i.e., exchange fees, custody fees and brokerage fees) utilized by the adviser to execute investment advice. Furthermore, this disclosure drills into specific conflicts of interest attendant to the adviser business model wherein standards of conduct and related disciplinary history are addressed. The Form CRS relationship summary will also link to on the Commission’s investor education website, This website provides educational information to investors about investment advisers and broker-dealers … firms as well as individual financial professionals.

Disclosure Formatting

In contrast to the Part 2A narrative format of Form ADV, Form CRS utilizes a question-and-answer format, wherein standardized questions are formatted as disclosure topic headers in a prescribed order. This format is intended to promote consistency and comparability of information across the industry. The headings will be structured and machine-readable, to facilitate data aggregation and comparison. Under the standardized headings, firms will generally use their own wording to address the required topics. Advisers are encouraged to provide links to additional information in their responses to create “layered disclosures”. Form CRS for investment advisers and broker-dealers must be limited to two pages while for dual registrants, must be limited to four pages.

The rule release provides three examples of what a relationship summary might look like for a stand-alone broker or adviser as well as dually registered entities … we encourage our clients to refer to the link provided in the footnote below to review a mock-up Form CRS for a standalone investment adviser. The instructions state that Form CRS language must be concise and direct, and that firms “must use plain English and take into consideration retail investors’ level of financial experience”. Firms are not permitted to use multiple negatives, legal jargon or highly technical business terms unless clearly explained.

Firms must use the term “best interest” to describe their standard of conduct. Firms must disclose conflicts information regarding proprietary products, third-party payments, revenue sharing, and principal trading (if applicable).

Graphic Representations

To assist assimilation and comprehension of this disclosure, Form CRS instructions encourage advisers to utilize charts, tables or other graphical representations or text features to explain or compare different aspects of service offerings. If the representation is self-explanatory and fully responsive to the disclosure item, additional narrative language that may be duplicative is not required. Instructions permit, and in some instances require, a firm to cross-reference additional information (e.g., concerning services, fees, and conflicts). As noted, this scenario will entail a layered disclosure protocol whereby the adviser may embed the means for the investor to obtain access to this information if it is available online (e.g. hyperlinks, website addresses, QR Codes, or other equivalent methods or technologies). The Commission fully endorses layered disclosures on the basis that investors will benefit from a high-level client relationship summary that is in “plain English” and is complemented with additional information, if desired.

Description of Services

The Form CRS description of services will be prompted by preformatted questions addressing the following topics:

Monitoring – firms must disclose whether they monitor retail investors’ investments and if so, the frequency of such monitoring, any material limitations of the monitoring protocol, and whether the monitoring services are part of the firm’s standard service package.

Investment authority – advisers that accept discretionary authority must describe those services and any material limitations on that authority. Advisers that do not assume discretion must disclose the consequences of that condition relative to the ultimate decision regarding the purchase or sale of investments.

Limited investment offerings – advisers are required to explain whether they make available or offer advice only with respect to proprietary products, or a limited menu of products or types of investments or investment strategies. If so, they must also describe the limitations.

Account minimums and other requirements – advisers are required to explain whether the firm has any requirements for retail investors to open or maintain an account or establish a relationship, such as minimum account size or investment amount.

Combined Fees, Costs, Conflicts of Interest, and Standard of Conduct Section

The SEC is integrating the client fees and related costs section with those sections discussing the adviser’s conflicts of interest and related standards of conduct. Form CRS will include a summary of fees and costs, a description of revenue sources, selected conflicts of interest and standards of conduct. In addition, advisers must include disclosures pertaining to professional compensation.

Separate Disciplinary History Section

Firms will be required to indicate under a separate heading whether or not they or any of their financial professionals have reportable disciplinary histories and where investors can conduct further research on these events.


Investment advisers must deliver Form CRS to new retail investors before or at the time the adviser enters into an investment advisory contract, and to existing clients before or at the time the adviser:

  • Opens a new account for the existing client that is different from the retail investor’s existing account(s);
  • Recommends that the retail investor roll over assets from a retirement account into a new or existing account or investment; or
  • Recommends or provides a new investment advisory service or investment that does not necessarily involve the opening of a new account and would not be held in an existing account.

If changes are made to its Form CRS, the adviser must communicate the change to each retail investor who is an existing client within 60 days after the amendments are required to be made and without charge. The communication can be made by delivering the amended Form CRS or by communicating the information through another disclosure that is delivered to the retail investor. Each adviser must post Form CRS on its website and deliver a current Form CRS to each retail investor within 30 days upon request.

Formatting Considerations

For broker-dealers and investment advisers, a relationship summary in paper format must not exceed two pages, or the equivalent if delivered electronically. The final instructions do not prescribe paper size, font size, and margin width, providing instead that they should be reasonable (8 ½ x 11 and size 11 font).

Recordkeeping Requirements

Form CRS is included in Form ADV as new Part 3 of Form ADV. The initial Form CRS must be filed electronically with IARD no later than June 30, 2020. Firms can file Form CRS beginning on May 1, 2020. An investment adviser must record the date when a Form CRS is provided to a retail client, as directed under amended Advisers Act Rule 204-2. Records must be kept for at least five (5) fiscal years.

Notes for Dually Registered or Affiliated Registrants

The rule release provides three examples of what a relationship summary might look like for a stand-alone broker-dealer or adviser as well as dually registered entities. Dually registered and affiliated brokerage and investment advisory firms also have the flexibility to decide whether to prepare separate or combined relationship summaries. Dual registrants that prepare separate relationship summaries for their brokerage and advisory services are limited to two pages each, or the equivalent if delivered electronically.

Pursuant to SEC guidance attendant to the 2010 Form ADV Part 2 brochure implementation, the Commission requires advisers to provide factual narrative disclosure to clients. In so doing, the regulator acknowledged that advisers could and likely should view the narrative disclosure as both marketing and regulatory content. Contrary to this position, the Commission views Form CRS strictly as a regulatory disclosure “…rather than marketing material… and should not unduly emphasize aspects of firms’ offerings that may be favorable to investors over those that may be unfavorable.”

Standard of Conduct for Investment Advisers

As part of the rules package, the SEC addresses important elements of the fiduciary standard, including whether an investment adviser may merely disclose conflicts to obtain informed client consent (this is achieved by the adviser when the client, after being fully informed of conflicts and the means by which the adviser mitigates them, engages the adviser) with no “categorical duty to mitigate or eliminate those conflicts”. In its guidance, the SEC opines that if an investment adviser “cannot fully and fairly disclose a conflict of interest to a client such that the client can provide informed consent, the adviser should either eliminate the conflict or adequately mitigate (i.e., modify practices to reduce) the conflict such that full and fair disclosure and informed consent are possible.”

The release reiterates the adviser’s obligation to all clients however it states that sophisticated clients such as registered investment companies and private funds are permitted to shape the scope of their relationships to which fiduciary duties apply.

The release affirms that an investment adviser must serve the best interest of its client and absolutely may not subordinate the client’s interest to its (or its employees’) self-interest, either directly or indirectly. The fiduciary standard of care requires that investment advice always be developed and delivered in a manner that suits the best interest of the client based on the client’s investment objectives. The fiduciary duty of loyalty requires the adviser to make full and fair disclosure to clients of all material facts relating to the advisory relationship.

Finally, in this regulatory communication, the SEC rescinded the Heitman Capital Management No-Action Letter, concluding that advisers have generally applied the guidance incorrectly. This rescindment addresses the advisory contract hedge clause provisions which seek to limit an adviser’s exposure to client litigation. The SEC determined that anti-waiver provisions of the Advisers Act are dependent upon all of the surrounding facts and circumstances attendant to the client relationship. In its guidance, the SEC opines that there are few, if any, circumstances in which a hedge clause in a retail client agreement would be consistent with the Advisers Act’s antifraud provisions.

For More Information

Follow this link to the SEC’s press release announcing the rules package: From this page, readers can navigate by link to each adopting release.

Betsy Rathz

Author Betsy Rathz

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