When financial advisors choose to change firms, they must navigate a slew of state and federal regulations, contractual obligations and other legal risks. The transition may seem daunting, but there are steps that can be taken to minimize or mitigate risks.
Douglas Hyman of Lewitas Hyman, a Chicago law firm, said advisors considering independence should be “fully apprised of all your obligations to the firm that you're considering leaving.
“In terms of avoiding litigation, your former employer is who you should be most concerned about. In that respect, it's very important to have a complete understanding of your obligations to your former employer,” Hyman said. “In this regard, you should retain experienced legal counsel who can help you understand and comply with those obligations as it relates to the planning stages of the transition, the actual transition and how you conduct yourself with respect to clients that you seek to move to your new firm.”
Brian Hamburger, president and CEO of MarketCounsel Consulting, a business and regulatory compliance firm based in New Jersey, said advisors should figure the duties they owe before making the move.
“All of the responsibilities they have to the employer can be found in existing laws, rules, regulations or contracts. Depending upon where they're currently employed will often depend upon what responsibilities they have to that former employer,” Hamburger said.
Compliance
Many advisors think about the transition in terms of potential lawsuits, but there are also considerable regulatory issues to consider.
“It's no longer just us versus them, or wirehouse versus independent, or trust company versus independent. This is far broader. This is about employment transitions. You have regulatory restrictions, firms’ limitations on representatives conducting outside business activities. You have restrictions on private securities transactions,” Hamburger said.
Even a representative acquiring shares in their own future RIA, without proper advanced disclosure to their current firms, could be a serious violation.
“These are all regulatory restrictions that FINRA would impose, regardless of the particular firm that they are leaving,” Hamburger said. “So there's certainly some concern about that.”
Hyman said advisors who are starting RIAs need to make sure corporate documents are in order, procedures and policies are in place and that advisors are appropriately registered with the state or the SEC.
“Setting up a good compliance program that anticipates expected growth when you start the RIA is an important piece of minimizing overall litigation risk in your practice,” Hyman said. “In this regard, hiring experienced legal counsel, compliance professionals and/or consultants are important components of risk management.”
Get to know the Broker Protocol
The Broker Protocol, an agreement established in 2004, protects registered representatives who are moving from one participating broker-dealer or RIA to another.
“Broadly speaking, if the Broker Protocol applies, a registered representative will be free from any restrictive covenant relating to soliciting clients, and it will allow them to take some very basic information about their clients, such as their names, addresses, telephone numbers and email addresses,” Hyman said. “However, the firm may qualify their participation in the Broker Protocol, and registered representatives lose the protections of the Broker Protocol if they do not follow its requirements. It is thus very important to consult with experienced legal counsel prior to relying on the Broker Protocol.”
Registered representatives whose firms are not covered by the Broker Protocol are held to the applicable provisions in their employment agreements, but Hyman said “there may be some provisions in their employment agreement that, depending upon the state that they are in or the circumstances in play, may make those provisions unenforceable.”
Hamburger added that “The Broker Protocol has been a wonderful development that's been incredibly helpful for so many advisors who are looking to make the move to independence, but keep in mind the Broker Protocol is considered a limited forbearance agreement.
“I think people have gotten a little comfortable with the protocol, and quite often they ignore all of the requirements and qualification terms,” he added.“They just kind of jump right onto the protocol. The protocol relieves advisors from having their restrictive covenants enforced, but that's not the real meaningful restrictions that advisors face nowadays.”
Restrictive covenants
Advisors could face other contractual concerns, including restrictive covenants — things like non-solicit and non-compete clauses.
“Broadly speaking, restrictive covenants and the misuse of confidential information are at the root of most litigation arising out of transitions,” Hyman said. “These are risk points. Most of them are going to be set forth in your employment agreement. However, in the case of misusing confidential information, there may also be statutes that could give rise to a lawsuit.”
Restrictive covenants can be found in employment agreements and other documents signed over the years, Hamburger said.
“They may have signed documents when they acquired a book of business from an advisor, just by way of example,” Hamburger said. “The primary restriction that advisors are most concerned about is the privacy and confidentiality of data. Regardless of regulatory restrictions or contractual restrictions, these legal restrictions and responsibilities to their clients are quite often the most disputed and hotly contested areas in connection with advisor transitions.”
