Ria What Constitutes Continuous and Regular Supervision

Properly calculating regulatory assets under management (AUM) is one of the most common registered investment adviser (RIA) compliance mistakes we see as RIA compliance consultants. The SEC staff defines AUM for the purposes of Item 5.F on the Form ADV Part 1 assecurities portfolios for which you provide continuous and regular supervisory or management services. Fortunately, the SEC staff does further expand on what constitutes a securities portfolio as well as regular supervisory or management services.

First, let's take a look at the SEC's definition of securities portfolios:

1. At least 50% of the total value of the account must consist of securities for the account to be considered a securities portfolio.
2. Cash and cash equivalents are considered securities.
3. Family accounts, accounts for which you receive no compensation, accounts for non-US persons, and all assets within in a private fund including any uncalled mandatory commitments must all be counted as securities.

Second, let's explore the SEC's definition of continuous and regular supervisory or management services:

1. Your RIA firm has discretion over an account and your advisory firm provides ongoing supervisory or management services with respect to the account (or)
2. Your investment advisory firm does not have discretion over an account, but you have an ongoing duty to select or make recommendations based upon the needs of your client and if the client accepts your investment recommendation, you are responsible for arranging or effecting the purchase or sale.

It is very important to review situations in which your advisory firm does not have discretion of the account and your firm is not directly executing the recommended transaction, as you may be in a situation in which your client's portfolio should not be considered regulatory AUM for the purposes of the Form ADV.

The SEC further provides a few factors to evaluate to help determine if your firm is providing continuous and regular supervisory or management services to an account:

1. Does your advisory contact with client suggest you provide ongoing management services of the account? Do your actual management practices also reflect ongoing management services?
2. Are you compensated based on the average value of the client's assets you manage?

Furthermore, the SEC suggests that if you receive compensation similar to either of the following scenarios, it's likely that your firm does not provide continuous and regular supervisory or management services to an account:

1. You are compensated based on the time spent with a client (or)
2. You are paid a retained based on a percentage of assets covered under a financial plan.

Next, the SEC aides in calculating the value of the portfolio by providing the following guidance:

1. Only include the value of each securities portfolio for which you provide continuous and regular supervisory or management services.
2. Exclude assets which are managed by another person or firm.
3. Exclude real estate or business operations that you manage on behalf of a client rather than as an investment.
4. Do not deduct any outstanding indebtedness, etc. on the securities portfolio.

And lastly, the SEC attempts to further outline a few common scenarios in which an RIA firm would likely not be considered to have regulatory assets under management from an RIA compliance standpoint. Those scenarios include:

1. Only provide market timing recommendations to a client but do not have any ongoing management responsibilities.
2. Only provide market newsletters or commentary.
3. Help a client with an initial asset allocation but do not continuously and regulatory monitor the account.
4. Only provide advice on a periodic or intermittent basis such as only when a client calls, when there is a particular market event, or only on a specific date each quarter, etc.

Bullet point #4 is one to pay particular close attention to as the SEC is providing investment adviser compliance guidance that simply reviewing your client's portfolio on a quarterly basis may not allow that client's portfolio to be considered regulatory AUM for the purposes of the Form ADV.

Regulatory AUM also becomes a delicate topic if you are an investment adviser who utilizes third party asset or investment managers (e.g. turn-key asset management providers (TAMPs), sub-advisers, etc.). The SEC states that in such manager of managersituations, an RIA firm may be able to count such assets as AUM for regulatory purposes if the firm has discretionary authority to hire and fire managers and reallocate assets among them.

As RIA compliance consultants, we strongly advise all registered investment adviser firms to carefully review if your advisory firm is properly calculating regulatory assets under management. It is a very common RIA compliance mistake and unfortunately can lead to serious regulatory issues. And whenever discussing the Form ADV, it's important to remember that the Form ADV Part 1 not matching the Form ADV Part 2 is one of the most common RIA compliance deficiences. As such, don't forget to also update your RIA firm's Form ADV Part 2A when appropriate.

Topics: RIA Compliance

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Source: https://www.riainabox.com/blog/how-to-calculate-investment-adviser-regulatory-assets-under-management

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