RIAs are still making these 3 common mistakes when it comes to client referral arrangements.
1. SEC-registered advisers who pay parties more than $1,000 per year for referrals are sometimes not considering communications made by those referring parties as their own advertisements that are subject to the SEC Marketing Rule.
Even if the RIA had no hand in preparing those materials, the SEC would still consider the communication to be an advertisement of the RIA because of the compensation arrangement, and such communications are subject to the SEC Marketing Rule.
Therefore, it’s vital that RIAs have client referral agreements requiring the referring party to submit any communication to the RIA prior to dissemination because the adviser must ensure that the statements about the adviser are accurate and contain required disclosures relating to the relationship, compensation, and conflicts of interest associated with the referral arrangement.
2. RIAs are not vetting referral sources to ensure they are not statutorily disqualified (i.e., subject to certain criminal or regulatory sanctions).
The Marketing Rule prohibits RIAs from using testimonials and endorsements from individuals that have been subject to criminal or regulatory sanctions described in the Marketing Rule. Nonetheless, even if the RIA is not registered with the SEC, it’s still important to understand the background of the referring party to minimize the likelihood of inappropriate conduct in referring potential clients.
Therefore, it’s strongly recommended that RIAs conduct background checks on promoters and/or include a provision in their client agreements where the referring party represents that they have not been subject to statutory disqualification and will immediately notify the RIA if they do become subject to a statutory disqualification.
3. RIAs are still utilizing parties to refer clients for compensation even if those referring parties are not appropriately registered as investment adviser representatives in the states where they are soliciting clients.
Most states require persons soliciting clients for investment advisers to be registered as an investment adviser representative with the state where they solicit business. Even if this is technically a regulatory issue for the referring party, the RIA should avoid being implicated in retaining an unregistered person to solicit clients for their firms.
As such, RIAs should include language in their client referral agreements requiring any referring party to represent that they are licensed in all jurisdictions where their client referral activities require registration and to notify the RIA immediately should they fail to comply with any applicable registration requirements (including no longer being registered
in a state where they have previously referred clients to the RIA).
If you would like assistance with preparing any client referral agreements or reviewing your firm’s compliance with regulatory requirements pertaining to client referral arrangements, please contact us to schedule a free consultation.
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