A new FINRA analysis finds that the first full year of Reg BI and Form CRS compliance was rife with instances of poorly written supervisory procedures, inadequate staff training and conflict of interest red flags.
But it wasn’t all bad news as the debut of the new requirements saw many firms stay on top of things by relying on technology or creating initiatives dedicated to meeting compliance standards.
Reg BI and Form CRS requirements were among the highlighted topics covered in
Reg BI, or Regulation Best Interest, establishes that brokers only have to recommend “suitable” investments and merely disclose conflicts of interest, not avoid them. Forms CRS are brief relationship summaries provided to retail investors that provide vital information about a company, including disclosures that can help clients decide if a particular firm is the right fit.
Form CRS also attempts to standardize the way in which investors compare information about different firms.
FINRA officials said the report aims to provide member firms with information to support their compliance programs by explaining the relevant rules, outlining key considerations and summarizing noteworthy findings from recent examinations.
The document also lists additional resources that may be helpful to member firms as they review their supervisory procedures and work to fulfill their compliance obligations. The intent is for the report to be an “up-to-date, evolving resource or library of information” that will be tweaked throughout the year to address new regulatory concerns and risks as they emerge.
“Today’s securities industry landscape is highly dynamic in terms of business models, technologies, products and compliance practices,” Greg Ruppert, FINRA's executive vice president for member supervision, said in a statement. “This report looks at these significant changes through the lens of FINRA’s commitment to investor protection and market integrity so that firms’ compliance programs can benefit from our findings about emerging and ongoing issues.”
Many of the areas addressed in the report represent ongoing core compliance responsibilities that are reviewed annually as part of FINRA’s regular risk-based exam program, officials said.
Domina, who is head of his firm's broker-dealer regulatory practice group, said understanding and embracing that can be a boon to firms as they work to meet compliance standards and serve their clients to the best of their abilities.
“Whether they are focused on technology or other growth areas in the industry, FINRA and its examinations are looking into those areas with increased focus. Both from the point of view of wanting to understand better with the industry's doing, but also to understand how well the industry is taking its existing framework of rules and applying them to the new technologies and new business practices,” he said. “I think it is important for firms to recognize the newer areas that FINRA focuses on so they're not surprised when it comes to their own examinations.”
The report states that Reg BI and Form CRS became effective on June 30, 2020, making 2021 the first full calendar year in which FINRA examined firms’ implementation of related obligations.
During that first year, FINRA expanded the scope of its reviews and testing relative to 2020 in order to do a more comprehensive review of firms’ processes, practices and conduct in areas such as establishing and enforcing adequate written supervisory procedures; filing, delivering and tracking accurate Forms CRS; making recommendations that adhere with Reg BI’s care obligation; identifying and mitigating conflicts of interest; and providing effective training to staff.
“The
The examination found written supervisory procedures ill equipped to achieve compliance with Reg BI and Form CRS by failing to identify the specific individuals responsible for supervising compliance, and for failing to detail exactly how the firm will comply with the new requirements.
Firms also struggled with modifying existing policies and procedures to reflect Reg BI’s requirements by not addressing how costs and reasonably available alternatives should be considered when making recommendations; not addressing recommendations of account types; not addressing conflicts that create an incentive to place their own interests ahead of those of their customers; and not including provisions to address Reg BI-related recordkeeping obligations.
Staff training was an issue as well. FINRA found that firms failed to adequately prepare their teams before the June 30, 2020, compliance date and delivered training without making all of the new rules clear.
The study found that improper use of the terms “advisor” or “adviser” were common, and the report states that the titles were used by individuals and firms that lack the appropriate registrations. In some cases, retail customers were not presented with “full and fair” disclosures of all material facts about their relationships with firms and related conflicts of interest.
In terms of Form CRS issues, FINRA found filings from firms that significantly departed from the Form CRS instructions and guidance from the SEC, according to the report.
The filings exceeded prescribed page lengths; omitted material facts; inaccurately represented their financial professionals’ disciplinary histories; failed to describe types of compensation and compensation-related conflicts; incorrectly stated that the firm does not provide recommendations; changed or excluded language required by Form CRS; and not include a relationship summary.
There were also instances of firms failing to post Forms CRS to their websites or make them easy to find.
As far as effective practices, FINRA mentions firms focusing on Identifying, disclosing and eliminating conflicts by establishing policies like conflicts committees or by creating conflicts matrices tailored to the specifics of the firm’s business.
There should also be an effort to limit high-risk or complex investments for retail customers. The report says firms can mitigate the risk of making recommendations that might not be in a retail customer’s best interest by establishing product review processes to identify and categorize risk and complexity levels, and by applying heightened supervision to recommendations of high-risk or complex products.
Finally, the report discusses increased staff monitoring to ensure Reg BI and Form CRS compliance. Monthly reviews to confirm that requirements are met and keeping an eye on communication channels like email and social media to make sure that individuals associated with the firm are not using the term “advisor” incorrectly are among the effective practices suggested.
For Domina, the 2022 report is a blend of new focus areas and “old favorites” such as outside business activities and private placements.
He marks Reg BI and Form CRS matters firmly among the new, pointing out that there is not a lengthy track record of examination history for firms to rely on when figuring out what’s right and what’s wrong.
“What was surprising is that there appeared to be a fair amount of non-compliance regarding Form CRS. And I don't know if that may point to a lack of clarity or focus in the SEC guidance, or a lack of clarity and guidance on firms to understand the role and usage of Form CRS and how it differs from Reg BI requirements,” Domina said.
He added that when looking at the entire report, firms and individuals should pay equal attention to both the deficiencies and the effective practices observed.
When viewed through a more objective lens, the chances of improvement are much greater.
“As a result, the report offers a good roadmap for firms and compliance officers as to what the current focus areas of FINRA are,” Domina said. “I think sometimes a focus is placed just on the exam deficiencies, but the rest of the report is beneficial to be looking at as well for any particular topic area. Over time, with the continued use of the disclosures and understanding the parameters, things will improve. Especially in COVID times when it was not ideal to roll out a big initiative like this during a time when firms are not at their most efficient, given the practical considerations of dealing with a pandemic and working from home.”
The FINRA report pointing out REG BI and Form CRS shortcomings during year one follows a year-end analysis by an
Suggested improvements from the SEC include the removal of technical language, legal terminology and disclaimers lacking clear explanation. The committee also zeroed in on correcting omissions or improper modifications of required disclosures in the form, including those related to conflicts of interest, investment authority, monitoring services and disciplinary history.
