The Securities and Exchange Commission continues to be very aggressive, progressive and punitive and often seeks every opportunity to compel advisors to reimburse clients. Advisors need to stay on top of these hot buttons.
Margin Interest
If you have clients on margin, and bill on the higher margin value, beware. The SEC has been aggressively reviewing margin balances and seeking reimbursement to clients unless there is clear 2A Brochure disclosure.
Thus, if you bill on the higher margin value, there should be unambiguous disclosure on your 2A Brochure indicating the same, including the conflict of interest that arises (i.e., because you earn a higher fee, there is a disincentive to encourage the client to trim or eliminate the margin balance).
In addition, because the SEC recently has sought express client acknowledgment of such a billing arrangement, consider a short corresponding Margin Acknowledgment to be executed by the client. Or, you can include the disclosure on the Fee Schedule to his Advisory Agreement in lieu of the Acknowledgment.
However, I prefer the Acknowledgment at the time that the client commences the use of margin because he may not use margin for a long time subsequent to the execution of the Advisory Agreement.
Cash Balances Policy
Also beware if you bill on cash (i.e., money market funds). The SEC doesn't like that, especially in this very low-yield environment when your advisory fee is substantially higher than the yield.
To protect your firm, adopt a written policies and procedures document. The policy should state that you consider cash to be an asset class, and — as a result — you include it in your fee calculation, regardless of your fee model.
Also include corresponding disclosure on your 2A Brochure, including that at times (such as now) your fee will exceed the money market yield. Without the above clear disclosure — you continue to charge on cash at your peril.
Wrap Program Sponsors
The SEC equally loathes wrap programs. The onus will continue to be on the advisory firm to prove that it does not economically benefit from sponsoring such programs. Clear and concise Part 2A and corresponding wrap brochure disclosures are a must.
