Regulators Going Easy on Self-Reporters – Here’s How to Handle “Good Faith” Compliance Mistakes
March 26, 2020
Is self-reporting an effective way of curbing U.S. Security and Exchange Commission fines and penalties?
It’s the right thing to do, and it can work in your favor.
Case in point, on March 11, 2019, the SEC reported a settlement agreement with 179 U.S investment advisors that imposed no penalties for violation of Section 206(2) and Section 207 of the Investment Advisers Act of 1940 https://www.sec.gov/news/press-release/2019-28.
The violation charged the investment management firms with “failing to include adequate disclosure regarding the receipt of 12b-1 fees; and/or failing to adequately disclose additional compensation received for investing clients in a fund’s 12b-1 fee-paying share class when a lower-cost share class was available for the same fund.”
While each firm had to consent to a cease-and-deceased order and had to pay back “improperly disclosed fees and distribute these monies with prejudgment interest to affected advisory clients,” none of the firms had to admit to any negative findings.
More importantly, no financial penalties were leveled against each of the 79 investment advisory firms, a move that is growing increasingly common in SEC cases involving financial services firms that self-report compliance violations.
“Consistent with the terms of the initiative, the Commission has agreed not to impose penalties against the investment advisers,” the SEC noted in a March 11, 2019 statement.
It’s not like the SEC hasn’t been dropping hints that it’s leaning toward greater leniency when investment firms self-report compliance violations.
Much like the police detective who tells a person suspected of a crime to confess, and that admittance now will help a judge and jury “go easier on you” later, the SEC is becoming fairly open about cutting investment firms a break when they self-report.
Action Steps in the Era of Self-Reporting
What can financial services firms do to take advantage of a newly-lenient SEC when it comes to self-reporting compliance violations? These action steps represent a good head start:
Go full bore. At a September 12, 2019 bond attorney’s conference in Chicago, Steve Varholik, senior counsel at the SEC’s Public Finance Abuse Unit, told attendees that there, indeed, was “value” in self-reporting compliance abuses, in comments to Bond Buyer.
But there are limits to the agency’s charitable demeanor.
When the SEC is approached by attorneys from financial firms looking to divulge inappropriate compliance actions, “sometimes the words don’t match the actions,” Varholik further stated. “Compliance is not the same as cooperation.”
Thus, it’s important for investment companies who are self-reporting to go “all in” when self-reporting compliance abuses, especially when conducting internal investigations. The more proactive the self-reporting, the higher the odds an investment firm will cut a better deal with financial regulators. As Varholik told conference attendees, if you’re going to self-report and self-investigate, do it fully and not halfway.
Weigh the Risks
Self-reporting a compliance problem does come with risk. An investment firm may open itself up to an SEC investigation that lasts a year or two and could cause legal fees and staffing times to accumulate, which runs the risk of a company collapsing under the financial weight of dealing with a compliance investigation.
On the other hand, not reporting runs a more severe risk — most notably, the SEC finding out about the compliance issue via a whistleblower or through a routine examination. If one of these scenarios occurs, the money management firm could face severe fines and penalties, especially if investigators accuse the firm of hiding the compliance infraction.
That’s why it’s a good idea for an investment management company, particularly a smaller one, to bring in expert legal counsel once an infraction is uncovered.
Be fully transparent with the compliance issue and follow your legal team’s advice down to the letter, whether that means documenting the issue (along with the decision-making process) and not self-reporting, or taking the issue to securities regulators right away.
Review Your Investment Management Policies. Lastly, it’s a good idea for investment firms to thoroughly review their investment policies and procedures.
The idea is to create, implement and track compliance programs that emulate the best industry practices. In doing so, build a solid team to oversee your company compliance policy review, including senior decision-makers from the legal, compliance, operations, investment and sales areas.
Undertake your review by having all your company stakeholders review your compliance policies from all angles. Doing so will tighten your compliance significantly, and help reduce the risk of triggering a compliance investigation, either internally or via industry regulators, going forward.
Asif Alam is the Chief Executive Officer at Compliance.ai. A leader in shaping disruptive technology, his experience includes building products using AI and natural language processing for GRC, payments, lending, risk, trading, and new solutions, from Fortune 500 companies to startups.
In his most recent role, he served as the Chief Strategy Officer of ThoughtTrace, unlocking new revenue streams and markets, and reignite portfolio growth. ThoughTrace was then acquired by Thomson Reuters in 2021.
He brings more than 20 years of management and business experience; increasing profitability, unlocking new revenue streams and markets, and reignite portfolio growth for companies like Thomson Reuters, Crux Informatics, and Finastra. Asif is a forward-thinking expert driving engagement via client forums, public presentations, and white papers.
Cesar Lee is a Principal at WRV, a venture capital fund focused on early-stage investments in hardware, semiconductor, and other technology-related companies. Previously, he was an investment professional at Riverwood Capital, a technology-focused, late-stage venture capital, and private equity fund. He began his career at RBC Capital Markets, where he was part of the Mergers & Acquisitions group for two years and the Equity-linked & Derivatives group for one year. While at RBC, Cesar spent a majority of his time working on M&A advisory transactions for technology companies.
Cesar’s investment experience includes buyouts, later stage, early stage and seed rounds. Cesar has completed transaction in the U.S., Latin America, and Asia, and in technology sectors including data centers, software, semiconductors, consumer electronics, robotics, big data, and internet.
Maria Devassy is a RegTech, Content, and Technology leader with over 20 years of experience helping companies bridge the gap between technology, product, and business. Maria has held leadership positions with MetricStream, KPMG, Oracle Corporation, and other technology companies. She has launched several successful RegTech products, business partnerships, and advised Fortune 100 clients on risk management, audit, advisory, and compliance business across Industries.
Hugh Cadden is a recognized expert in derivative financial and trading markets including futures, options, and swaps. Hugh is currently a senior consultant and expert with OnPoint Analytics, Inc. an economic, finance and statistical consultancy specializing in expert testimony for complex litigation. He has been specializing in the organization, operation, and regulation of financial and trading markets for over 40 years. Hugh’s experience includes both the public and private sectors and he has held senior level positions with the U.S. Commodity Futures Trading Commission including serving as Director of the Division of Trading and Markets and Deputy Director of Enforcement. He has been qualified as an expert on financial and trading market matters before the Commodity Futures Trading Commission, the Securities and Exchange Commission, the U.S. Tax Court, Financial Industry Regulatory Authority, National Futures Association, American Arbitration Association and federal courts.
Drake Ross is a former bank regulator who specialized in compliance with consumer protection regulations while at the OCC, FDIC, and OTS. While at these agencies, he provided extensive training and guidance and developed materials to ensure full comprehension and proper application of rules, laws, policies, and guidance, and served as a Subject Matter Expert in numerous areas. Because of his expertise, he often presented at agency and industry events. He also played a significant role in successful windup of the 2008 IndyMac Bank failure, where because of his extensive knowledge of the FDIC deposit insurance regulations, he was called upon to administer highly-complex insurance determinations.
Carliss Chatman is an Assistant Professor of Law teaching Contracts, Agency and Unincorporated Entities, Corporations, and Transactional Skills. Her work is influenced by over two decades of service on non-profit boards and involvement with community organizations. Through leadership positions, she has developed expertise in corporate governance and non-profit regulation. She has also been instrumental in strategic planning and fundraising efforts. Prior to law teaching, Professor Chatman was a commercial litigation attorney in Houston, Texas. In practice, she focused on trial law, appeals and arbitration in pharmaceutical, health care, mass torts, product liability, as well as oil, gas, and mineral law. In addition to negotiating settlements and obtaining successful verdicts, Professor Chatman has also analyzed and drafted position statements regarding the constitutionality of statutes and the impact of statutory revisions for presentation to the Texas Legislature.
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Mariam is an Operating Principal at Cota Capital. Mariam has experience providing guidance on strategic and operational planning to Venture and Growth stage companies. Prior to Cota Capital, Mariam spent her career in management consulting as a Director at KPMG. She has experience leading global transformation programs and developing innovative service offerings for Fortune 500 companies in the Technology sector. Mariam has an MBA from UCLA’s Anderson school of management with an emphasis in Finance and Entrepreneurship. She has a Bachelors in Science in Finance and a Bachelors in Science in Economics from Santa Clara University.
Chris Callison-Burch is an Associate Professor in Computer and Information Science Department at the University of Pennsylvania. His research interests include natural language understanding and crowdsourcing. He has served the Association for Computational Linguistics as the General Chair for the ACL 2017 conference, as an action editor for the Transactions of the ACL, as an editorial board member for the Computational Linguistics journal, and an officer for NAACL (the North American chapter of the ACL) and for SIGDAT (the special interest group for linguistic data and corpus-based approaches to natural language processing)
Tom Ladt is an experienced executive and investor. Tom has lead and served on the boards of several public and private companies serving highly regulated industries such as technology, healthcare, real estate, and food processing. Tom has also served in key governmental roles and on numerous community boards.
Jeroen Plink is a global executive with a proven track record of developing and growing businesses, teams, and technologies with innovation and passion. Jeroen was CEO of Practical Law US during its acquisition by Thomson Reuters. He now serves on numerous boards and acts as a strategic consultants for start-ups.
Global Legal and Compliance executive with 15+ years of success in the SaaS technology and financial services industries. Partner to the CEO and executive team in corporate transactions, business development, product expansion, and regulatory navigation during periods of intense growth and organizational change. An advocate of effective risk management that starts with sound business practices and putting the customer first.
Richard Dupree has held multiple Risk, Compliance and Operations positions at regional, national, and global financial services firms including Wells Fargo, Silicon Valley Bank, Bank of the West and BNP Paribas. Rick currently advises FinTechs and RegTechs and sits on industry panels, contributes to industry whitepapers, thought leadership efforts, and speaks at industry seminars on Risk and Compliance challenges faced by banks and FinTechs.
Brian advises clients on legal and regulatory compliance in the financial, tech, and procurement sectors. His passion is helping businesses succeed in heavily regulated environments. As counsel and trusted advisor to businesses of all sizes, and as a former regulator, policymaker, and federal official, Brian acutely understands the unintended burdens that even well-intentioned government requirements can put on innovation and business growth, as well as how to create policies that strike the right balance.
Brian served as National Ombudsman in the Obama Administration, leading the federal Office of Regulatory Enforcement Fairness in assisting hundreds of startups, entrepreneurs, and small business owners in every industry and every state.
Dr. Marsha Ershaghi Hames is Managing Director of Strategy & Development at LRN, a leader in advising and educating organizations about ethics and regulatory compliance, as well as corporate culture, governance and leadership. With the focus of inspired behavior versus required behavior, LRN is a leading voice in the industry for companies to build ethical cultures instead of “check-the-box” compliance approaches. She’s advised Department of Justice corporate monitors on successful program transformation under CIAs (Corporate Integrity Agreements. With over 20 years of experience in leading multinational ethics and compliance strategies, Marsha has become a highly sought-after thought leader on leading Corporate Compliance and Ethics practices.
Carla Carriveau is currently the Senior Managing Counsel at Wealthfront, an automatic investment service firm in Redwood City, California. Carla was previously Senior Counsel, Division of Trading and Markets, at the United States Securities and Exchange Commission. As a former regulator with over 15 years of experience in helping small businesses navigate legal and regulatory needs in the financial services sector, Carla advises Compliance.ai on financial services regulation, the regulatory landscape and industry practices.
