SEC 2024 EXAMINATION PRIORITIES:

Examinations will focus on those recommended products that are:

(1) complex, such as derivatives and leveraged ETFs;

(2) high cost, such as variable annuities;

(3) illiquid, such as nontraded REITs and private placements;

(4) proprietary; and

(5) microcap securities. 

Citing recent SEC, FINRA and NASAA guidance, as well as REG BI Care Obligation 2023 SEC exam deficiencies and 2024 exam priorities, Alts Fund LINK provides a more Reg BI Care Obligation compliant environment providing process and procedures (per SEC staff guidance) for the following:

“A broker-dealer should have a reasonable process for establishing and understanding” the scope of reasonably available alternatives to be considered in order to fulfill the Care Obligation.

A process and procedure for reviewing Reasonably Available Alternatives (RAA's) (including low cost alternatives IE: ETF's) with documentation.

Applying heightened "scrutiny" to complex and risky investments IE: Private Placements, NTR's etc. SEC staff believe "firms should consider developing procedures outlining the due diligence process for complex or risky financial products".

"In the SEC staff’s view, it may be difficult for a firm to demonstrate compliance, without documenting the basis for certain recommendations. This could include documentation of the consideration of reasonably available alternatives for complex and risky investments."

On April 20, 2023, the Securities and Exchange Commission (SEC) released a Staff Bulletin (Bulletin) on the care obligations for broker-dealers and investment advisors, pursuant to Regulation Best Interest (Reg BI). 

Several portions of the Bulletin appear designed to impose heightened requirements on broker-dealers.

A) Reasonable Process for understanding scope of RAA's

B) Procedures for outlining Due Diligence for C&R products

C) Establish procedures/training to assist FA's understanding of RAA's and their costs & risks

D) Supervision of the above

The Division of Examinations (Division) prioritizes examinations of certain practices, products, and services that it believes present potentially heightened risks to investors or the integrity of the U.S. capital markets. This year’s examinations will prioritize areas that pose emerging risks to investors or the markets, as well as examinations of core and perennial risk areas.

BROKER-DEALERS Reg BI component obligations:

(1) Disclosure Obligation: providing certain required disclosure about the recommendation and the relationship between the retail customer and the broker-dealer 

(2) Care Obligation: exercising reasonable diligence, care, and skill in making the recommendation

(3) Conflict of Interest Obligation: establishing, maintaining, and enforcing policies and procedures reasonably designed to address conflicts of interest 

(4) Compliance Obligation: establishing, maintaining, and enforcing policies and procedures reasonably designed to achieve compliance with Regulation Best Interest 

In reviewing whether broker-dealer recommendations are in customers’ best interest, areas of particular interest will include:

(1) recommendations with regard to products, investment strategies, and account types

(2) disclosures made to investors regarding conflicts of interest

(3) conflict mitigation practices

(4) processes for reviewing reasonably available alternatives

(5) factors considered in light of the investor’s investment profile, including investment goals and account characteristics.

The Bulletin seems to go farther than Reg BI in three ways:

First, under Reg BI representatives should apply heightened scrutiny when recommending a “potentially high risk product” to a retail customer.14 In contrast, the Bulletin refers to applying heightened scrutiny in the context of “complex or risky” products ,15 thereby expanding the requirement of heightened scrutiny to complex products as well as to their costs and reasonably available alternatives.

Second, Reg BI requires broker-dealers to “establish, maintain, and enforce written policies and procedures reasonably designed to achieve compliance with Regulation Best Interest.”16 The Bulletin, however, builds on this general obligation by stating that firms should have a specific “process” for the evaluation of reasonably available alternatives, a requirement not included at this level of detail in Reg BI.17 Under the Bulletin, this “process” should include “guidance (e.g., policies and procedures, employee training) for the firm’s financial professionals that defines the scope of alternatives that should be considered and the factors that should be weighed (e.g., costs, potential benefits and risks as well as compatibility with the retail investor’s investment profile) in evaluating the available alternatives.”18

Third, after noting that Reg BI requires compliant policies and procedures, the Bulletin “extends that point,” stating that the staff believes that firms that recommend complex or risky products should “strongly consider establishing procedures specifically designed to address recommendations of, or advice about, complex or risky products.”19 It goes on to provide the example of “developing procedures outlining the due diligence process for complex or risky financial products, to help ensure that these products are assessed by qualified and experienced firm personnel.”20

Most recent REG BI Care Obligation guidance.

SEC Staff Bulletin: Standards of Conduct for Broker-Dealers and Investment Advisers Care Obligations. April, 2023

SEC 2024 EXAMINATION PRIORITIES

Report and Findings of NASAA’s Broker Dealer Reg BI Deficiencies  - NationalExaminationInitiativePhase II (B) September 2023

FINRA Regulatory Notice 23-08 - FINRA Reminds Members of Their Obligations When Selling Private Placements. Published Date: May 09, 2023

SEC RN 23-20 FINRA Highlights Available Guidance and Resources Related to Regulation Best Interest. December 2023

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1) FINRA Rule 2111, the customer-specific obligation requires that a member or associated person have a reasonable basis to believe that the recommendation is suitable for a particular customer based on that customer's investment profile. 6/2020
2) RN 10-22 Obligation to conduct reasonable investigations in REG D Offerings 8/2010

3) RN-3110  Adequate supervision of private placement reasonable investigations 3/2015

4) Report and Findings of NASAA’s Regulation Best Interest Implementation Committee National Examination Initiative Phase II (A) 11/2023

5) Regulatory Notice 22-08 FINRA Reminds Members of Their Sales Practice Obligations for Complex Products and Options and Solicits Comment on Effective Practices and Rule Enhancements 3/2022

6) Staff Bulletin: Standards of Conduct for Broker-Dealers and Investment Advisers Conflicts of Interest 8/2022
7) Staff Bulletin: Standards of Conduct for Broker-Dealers and Investment Advisers Account Recommendations for Retail Investors 3/2022
8) Staff Bulletin [1]: Standards of Conduct for Broker-Dealers and Investment Advisers Care Obligations 4/2023
9) Regulatory Notice 23-08    May 09, 2023 FINRA reminds members of obligations when selling private placements
10) Report on FINRAs exam & risk monitoring deficiencies  1/10/2023
11) 2024 SEC Examinations Priorities Report 10/2023
12) Report and Findings of NASAA’s Broker Dealer Section Committee National Examination Initiative Phase II (B) 11/2023
13) DOL New proposed retirement security rule 9/2023
14) Massachusetts fiduciary rule  Reaffirmed 10/2023
15) 2023 Report on FINRA’s Examination and Risk Monitoring Program 11/2023
16) RN 23-20 Regulation Best Interest FINRA Highlights Available Guidance and Resources Related to Regulation Best Interest 12/5/2023