Form ADV | Regulatory Filings

Form ADV Amendments Finalized: SEC Wants Data on SMAs, Social Media and CCOs

By Jaqueline M. Hummel, IACCP®
Managing Director
Hardin Compliance Consulting LLC
August 29, 2016

On August 25, 2016, the SEC finalized its amendments to Form ADV and the books and records rule (Rule 204-2 of the Advisers Act) that require additional reporting and disclosure from investment advisers. The SEC is looking for more data with respect to separately managed accounts, requiring more specific records to support performance calculations, and disclosure about the use of social media. Finally, the amendments establish a more efficient method for the registration of multiple private fund adviser entities operating as a single advisory business (“Umbrella Registration”). The amendments are effective as of October 1, 2017.

Changes for Investment Advisers

Amendments to Form ADV

The SEC has adopted amendments to Form ADV Part 1A to obtain more data on advisers in order to improve the Commission’s ability to monitor risk.1 The amendments will provide the Commission with more information on separately managed accounts (including aggregate information on assets under management, types of investments and use of derivatives and borrowing). Additionally, the SEC is asking for information on advisers’ use of social media, branch offices and whether the adviser or some other entity is compensating the Chief Compliance Officer. Other proposed amendments are aimed at establishing a more efficient method for the registration of multiple private fund adviser entities operating a single advisory business. There are also a few technical amendments intended to make the form easier to complete.

Separately Managed Accounts (SMAs) and Types of Assets: Section 5.K(1) of Schedule D

The SEC will require advisers to report the approximate percentage of assets under management in twelve broad categories of assets (e.g., exchange-traded equity securities and U.S. government/agency bonds) held in separately managed accounts. Advisers with at least $10 billion in regulatory assets under management (RAUM) are required to provide this data both mid-year and at year-end. Advisers with less than $10 billion in RAUM will be required to report this data only at year end. Instead of defining these terms, the instructions permit advisers to use their own “consistently applied methodologies” to select asset categories.2

Borrowing and Derivatives used in SMAs: Section 5.K(2) of Schedule D

The SEC is also requiring disclosure about gross notional exposure, borrowings, and gross notional value of derivatives in separately managed accounts. Advisers managing at least $500 million but less than $10 billion in RAUM attributable to separately managed accounts (SMAs) are required to disclose the dollar amount of borrowings attributable to those assets that correspond to three levels of gross notional exposures. Advisers with at least $10 billion must report this same information along with the derivatives exposures for six different types of derivatives for each category of SMA. Such borrowing and derivatives information must be reported mid-year and year-end. Investment advisers may, but are not required to, limit their reporting to individual accounts of at least $10 million.

Identification of Custodians: Section 5.K.(3) of Schedule D

The SEC is also requesting information on custodians. Advisers are required to identify any custodians that hold at least ten percent of SMAs’ regulatory assets under management, and the total amount of the adviser’s assets held at the custodian attributable to SMAs.

Social Media, Additional Offices and the CCO

In addition to websites, the SEC has amended item 1.l of Form ADV Part 1A to require disclosure about the use of social media platforms, such as Twitter, Facebook and LinkedIn. Advisers will be required to list the addresses of its social media pages. In response to numerous comments, however, the SEC limited required disclosure to accounts where the adviser controls the content. Additionally, advisers will not have to provide information about the social media accounts of employees.

The SEC will also be asking for information not only about an adviser’s main office in item 1F of Form ADV Part 1A, but also the total number of offices it uses to conduct business. Additional information will be required for an adviser’s 25 largest locations, including the number of employees providing advisory services and the types of activities conducted in these offices.

More disclosure is also being requested about Chief Compliance Officers. Item 1.J, which previously requested the name and contact information of an investment adviser’s chief compliance officer, now asks whether a firm’s CCO is compensated or employed by any person other than the adviser (or an affiliate), and to report the name and IRS employer identification number of that other person. Advisers will not be required to disclose the identity of the other person compensating or employing the chief compliance officer if that other person is an investment company registered under the Investment Company Act of 1940 advised by the adviser. In the adopting release, the SEC said “Our examination staff has observed a wide spectrum of both quality and effectiveness of outsourced chief compliance officers and firms.

Identifying information for those third-party service providers … would allow us to identify all advisers relying on a particular service provider and could be used to improve our ability to assess potential risks.”3

Specific Data about Clients, Accounts and Wrap Programs

The SEC is also amending Item 5 of the Form ADV Part 1A to require more detail about a firm’s advisory business. Item 5 will now require the following disclosure:

  • The actual number of clients and amount of RAUM attributable to each category of clients (currently only ranges are disclosed);
  • The approximate amount of an adviser’s total RAUM attributable to clients that are non-United States persons;
  • The number of clients that an adviser provides advisory services to, but does not include in its RAUM;
  • Whether an adviser reports assets in Form ADV Part 2A differently from RAUM reported in Part 1A;
  • The RAUM attributable to all separately managed accounts that are managed in parallel to a registered investment company;
  • The adviser’s total RAUM attributable to acting as a sponsor and/or portfolio manager of a wrap fee program, as well as SEC file number and CRD number for those wrap fee programs.

Umbrella Registration

The SEC’s proposal also provides a better process for “umbrella registration”, for a filing adviser and one or more relying advisers, as allowed under the 2012 ABA letter.4 The SEC has limited this type of registration to a private fund adviser operating as a single business through multiple legal entities. A new Schedule R would be added to the Form ADV Part 1A that would have to be filed for each relying adviser to provide identifying and ownership information.

The remaining amendments are technical in nature, and are meant to clarify areas where there have been frequent questions from filers.

Clarifications and Technical Changes

The SEC has also made a number of clarifications to Form ADV. Significantly, the SEC has amended the language in Item 2.A.(9) of Form ADV Part 1A, which asks whether the adviser is eligible for registration because it is a “newly formed adviser” relying on rule 203A-2(c) because it expects to be eligible for SEC registration within 120 days. Recognizing that registration may be required for entities that may not be newly created as corporate or other legal entities, the phrase “newly formed adviser” has been deleted from Item 2.A.(9) and Section 2.A.(9) of Schedule D. Section 2.A.(9) will be renamed “Investment Adviser Expecting to be Eligible for Commission Registration within 120 Days.

The SEC has made a number of changes to the private fund reporting section on Schedule D, which should make it easier to understand and complete. Notably absent are any changes to Item 9 on custody, which seems to be a constant source of confusion for filers.

Amendments to Investment Advisers Act Rules

The SEC has amended Rule 204-2(a)(16) under the Advisers Act, relating to an adviser’s books and records. Prior to this amendment, advisers were only required to maintain records demonstrating the calculation of the performance or rate of return in any communication that was circulated to ten or more persons. The SEC has removed the “ten or more persons” condition and replaced it with “any person.” According to the SEC, “[t]he veracity of performance information is important regardless of whether it is a personalized client communication or in an advertisement sent to ten or more persons.”5

The SEC amended Rule 204-2(a)(7) to require advisers to maintain originals of all written communications received and copies of written communications that relate to the performance or rate of return of any or all managed accounts or securities recommendations. Apparently this change is in response to In the Matter of Michael R. Pelosi6, where the SEC brought a case against a portfolio manager for providing false and misleading portfolio performance returns in quarterly and annual letters to his clients. The case was ultimately dismissed, because there was insufficient evidence relating to the calculation of the performance data, either by the portfolio manager or his firm. Had this revised rule been in place, the SEC could have charged the portfolio manager and his firm with a failure to maintain required books and records, even if the fraud charge could not be proven.

There were also a few technical amendments to rules under the Advisers Act, and the withdrawal of transition Rule 203A-5. Basically these amendments remove transition provisions where the transition process is complete.

1 – Form ADV and Investment Advisers Act Rules, Release No. IA-4509, August 25, 2016, https://www.sec.gov/rules/final/2016/ia-4509.pdf.

2 – Id. at 13

3 -Id. at page 41.

4 – See American Bar Association, Business Law Section, SEC Staff Letter (Jan. 18, 2012), available at http://www.sec.gov/divisions/investment/noaction/2012/aba011812.htm (the “2012 ABA Letter”).

5 – See Release IA-4091, https://www.sec.gov/rules/proposed/2015/ia-4091.pdf, at footnote 1, page 44.

6 – IA Release No. 3141 (Jan. 14, 2011); Initial Decision Release No. 448 (Jan. 5, 2012); IA Release No. 3805 (Mar. 27, 2014)