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The Enforcement Blog

CFPB Requests Information on Supervision Processes

Posted in CFPB

On February 14, 2018, the CFPB issued a Request for Information seeking comments on improvements to the CFPB’s supervision program and “how best to achieve meaningful burden reduction.” The CFPB is seeking comments from “all interested members of the public,” including supervised entities, companies supervised by other agencies, consumer advocates, and regulators. The CFPB asks commenters to provide “as much detail as possible” without disclosing confidential supervisory information. This RFI is the fourth in a series of RFIs that the CFPB has issued under Acting Director Mick Mulvaney. According to the Bureau, it represents an attempt to “ensure the Bureau is fulfilling its proper and appropriate functions to best protect consumers.” As with the previous RFIs, this RFI presents an opportunity for commenters to provide specific suggestions for modifications to activities and functions of the CFPB.

Read our client alert.

First State Charges Broker-Dealer in Connection with Violations of DOL Fiduciary Rule

Posted in Enforcement Actions

On February 15, 2018, the Enforcement Section of the Massachusetts Securities Division (the “Division”) of the Office of the Secretary of the Commonwealth charged a registered broker-dealer (the “Broker-Dealer”) that operated in Massachusetts with violating its own internal policies designed to ensure compliance with the U.S. Department of Labor’s (the “DOL”) Fiduciary Rule.

The DOL Fiduciary Rule

The DOL Fiduciary Rule significantly expands the scope of persons who will be deemed fiduciaries when dealing with retail retirement accounts.  Under the Rule, virtually any suggestion made by a financial intermediary to a retail retirement account regarding specific investments, investment strategies or investments advisers will result in the intermediary being deemed a fiduciary.  Certain communications with retail retirement investors will not trigger fiduciary status.  These communications include educational communications, and “hire me” communications that do not recommend a specific investment or investment strategy.

As a fiduciary, a financial intermediary is required to act in the best interest of its customer, without regard to the interests of the intermediary.  A fiduciary is also prohibited from receiving commissions and other forms of transaction-based compensation, and the fiduciary may not act as a principal in transactions effected with its client.  These prohibitions are particularly problematic for the broker-dealer industry, which was built on transaction-based compensation and often effects transactions on a principal basis.  Recognizing these problems, the DOL adopted two new prohibited transaction exemptions that, subject to numerous conditions, would permit the receipt of commissions or engaging in principal transactions.

The DOL is continuing to evaluate the Fiduciary Rule and has delayed full implementation of the Rule and related prohibited transaction exemptions until July 1, 2019.  However, on June 9, 2017, the basic requirements of the DOL Fiduciary Rule became applicable, as did the new Impartial Conduct Standards that must be met in order to receive commissions or other transaction-based compensation.  In connection with the delay in full implementation, the DOL and IRS indicated they would refrain from bringing enforcement actions against firms that were in good faith attempting to implement the new standards.

Impartial Conduct Standards

The Impartial Conduct Standards require broker-dealers and other intermediaries who advise retirement accounts and receive transaction-based compensation to: (i) act in the “best interest” of the retirement investor, considering such investor’s investment objectives, risk tolerance, financial circumstances and needs; (ii) avoid receiving unreasonable compensation; and (iii) ensure that disclosure about compensation, conflicts of interest and other matters relevant to an investor’s decision is not misleading.

The Massachusetts Complaint

The Broker-Dealer in the Massachusetts case prepared to comply with the DOL Fiduciary Rule by including provisions in its brokerage and investment advisor compliance manuals, which stated that “the firm does not use or rely on quotas . . . contests, special awards or incentives that are intended or reasonably expected to cause associates to make recommendations that are not in the best interest of [r]etirement [a]ccount clients or prospective [clients].”  The Division alleges that the Broker-Dealer failed to implement and enforce its own policy by running sales contests that rewarded associates for generating new net assets, including retirement assets.  While the Division alleges a variety of “aggressive sales practices,” the Complaint mainly discusses the use of such practices to gather assets, without necessarily specifying any instances where such sales practices influenced specific investment recommendations made to retirement investors.  The Division also alleges that the Broker-Dealer failed to inform the customers of the conflicts arising from the sales contests.  As a result, the Broker-Dealer was charged with violating the relevant provisions of the Massachusetts Uniform Securities Act.

In its Complaint, the Division seeks, among other things, a cease and desist order, disgorgement of illicit profits and an unspecified administrative fine.  The Broker-Dealer has not yet responded to the Complaint.

Our Take-Aways

The Massachusetts action is a timely reminder that the basic requirements of the DOL Fiduciary Rule are in effect, and broker-dealers as well as other financial intermediaries need to ensure that their practices comply with these new standards.  While the DOL may refrain from active enforcement prior to July 1, 2019, enforcement actions by state regulators and private civil actions may be predicated on violations of the fiduciary standards imposed by the DOL Fiduciary Rule.

In order to comply with the new standards, broker-dealers and other financial intermediaries need to review their internal compensation systems to eliminate any arrangements or practices that could reasonably be expected to incentivize brokers or other financial advisers to make recommendations that are not in the best interest of the retail retirement investor.  Sales contests or quotas that reward brokers for pushing specific products or strategies that may not be in the best interest of a retail retirement investor are problematic and should not be utilized.

That said, the Massachusetts Complaint appears to focus on sales contests that were designed to reward brokers for bringing in new assets.  Sales efforts focused on bringing in new accounts could fall within the “hire me” exception.  The Complaint is not clear about the extent to which the “aggressive sales practices” included contests or other compensation arrangements that rewarded brokers for recommending specific products or for generating transaction-based commissions. In that sense, the Complaint reflects in large measure the regulator’s view that broker-dealers who are now deemed fiduciaries under the DOL Fiduciary Rule may be charged with violations under the Massachusetts state securities laws to the extent that the broker-dealers fail to enforce policies adopted to comply with the new fiduciary standards.

In any event, to better ensure compliance with the DOL Fiduciary Rule, broker-dealers should implement the following measures:

  • meet with retail retirement investors on a regular basis and make sure they have an adequate understanding of the client’s current circumstances an objectives;
  • conduct thorough diligence on all investment products offered to retail retirement investors;
  • document the basis for the agent’s conclusion that a particular investment product is in the best interest of the customer;
  • evaluate internal compensation arrangements to ensure that they do not improperly incentivize sales agents to recommend products or strategies that are not in the best interest of the client;
  • train all sales agents and supervisors to comply with the new requirements and internal policies;
  • monitor account activity with a view to detecting potential deviations from the new best interest standard;
  • establish procedures for documenting the reasonableness of compensation received from transactions with retail retirement accounts;
  • establish and enforce procedures to identify, manage and disclose conflicts of interest; and
  • revisit distribution arrangements for new issues to ensure they comply with the new standards.

For more information about the rule, see the following link or visit Morrison & Foerster’s BD/IA Regulator blog to keep abreast of all DOL Fiduciary Rule developments.

OCIE Announces Its 2018 Examination Priorities

Posted in Regulatory Developments

The SEC’s Office of Compliance Inspections and Examinations (OCIE) has published its 2018 examination priorities. Not surprisingly, it will continue to focus on the protection of retail investors and ensuring that registrants are appropriately disclosing or resolving conflicts of interest. In addition, OCIE will pay particular attention to developments in cryptocurrencies and initial coin offerings (ICOs). OCIE also identified its oversight of FINRA and the MSRB as an area of focus, which should be of particular interest to broker-dealers and municipal securities dealers.

Read our client alert.

CFPB’s Third Request for Information Broadly Seeks Feedback on Enforcement

Posted in CFPB

In its third Request for Information to “ensure the Bureau is fulfilling its proper and appropriate functions to best protect consumers,” the Consumer Financial Protection Bureau seeks comments “to help assess the overall efficiency and effectiveness” of its enforcement process. We issued client alerts previously on the CFPB’s outreach and RFI process, the first RFI relating to Civil Investigative Demands, and the second RFI on administrative adjudications. All three of the RFIs seek to address primary criticisms that the Bureau’s enforcement process has been overzealous and an inappropriate burden on the financial industry. Respondents may well address the issues in all three related RFIs together. The comment period on this RFI will run for 60 days after the RFI is published in the Federal Register, which is anticipated to happen by February 12.

Read our client alert.

2018: Business As (Un)usual – European Financial & Regulatory Developments into 2018

Posted in Regulatory Developments

2017 in the UK and the rest of Europe seems to have been primarily a year devoted to implementation – both of political decisions already made and of legislation that had already been enacted.  On the political front, Brexit continued to dominate many conversations around EU financial services.  Theories circulated that EU decisions on various equivalence and passporting provisions, intended to be based on regulatory system comparisons, were being delayed for political reasons linked to the continued non-finalization of a deal on the post-Brexit relationship between the UK and the rest of the EU.  After Brexit, it is likely that UK financial services entities will lose the benefit of EU financial “passports” and may need to try and utilize the existing provisions on equivalence for non-EU countries.  Equivalence is a recognition from the EU that the non-EU country’s financial regulations and supervision are of the same standard as those of the EU.  Given that the UK, as a member state of the EU, already has such standards in place, granting equivalence status to the UK post-Brexit would be a logical step.  However, politics and logic make strange bedfellows.  UK financial services entities will be watching this area closely in 2018.

Read our annual outlook report, where we set out our summary of the progress of some important areas of financial regulation in 2017 and look ahead to expected developments in 2018.

CFPB Starts Review of Administrative Adjudications

Posted in CFPB

The CFPB issued its second in a series of Requests for Information on January 31, 2018; this one dealing with administrative adjudications. In the associated press release, the Bureau explained that it “is seeking to better understand the benefits and impacts of its use of administrative adjudications, and how its existing process may be improved.”

The CFPB is currently issuing a series of RFIs to “ensure the Bureau is fulfilling its proper and appropriate functions to best protect consumers.”

Read our client alert.

PHH v. CFPB: Beyond the Headlines, A Big Win For Industry

Posted in CFPB, Mortgage

The D.C. Circuit’s long-awaited en banc decision in PHH v. CFPB upheld the constitutionality of the CFPB’s single-director structure in the face of a constitutional attack.  But don’t be fooled by the headlines:  under-the-radar parts of the decision were  big wins for the mortgage industry and the rule of law.

Read our client alert.

With CID Request, CFPB Follows Through on Plan to Review Functions

Posted in CFPB

On January 26, 2018, the CFPB published a Request for Information in the Federal Register regarding the Bureau’s Civil Investigative Demand processes. According to the Bureau’s related press release, the RFI is the first part of Acting Director Mick Mulvaney’s “call for evidence” about the Bureau’s functions. As presaged in the Bureau’s press release, the RFI is designed to “ensure the Bureau is fulfilling its proper and appropriate functions to best protect consumers” and to facilitate updating, streamlining, and revising agency processes “to better achieve the Bureau’s statutory and regulatory objectives.”

Read our client alert.

CFPB Amends Prepaid Accounts Rule and Delays its Effective Date

Posted in CFPB, Credit Cards, Regulatory Developments

On January 25, 2018, the CFPB finalized amendments to its final Prepaid Accounts Rule, which was published in November 2016. The Bureau stated that the 2018 Amendments finalize revisions proposed in June 2017 “generally as proposed, with certain modifications.” The 2018 Amendments address some of the issues raised by industry and delay the effective date for all provisions of the Final Rule until April 1, 2019.

Read our client alert.

EVENT: Complimentary Teleconference – Financing Fintech: State Regulation of Marketplace Lenders as Loan Brokers or Arrangers of Credit

Posted in Events

Thursday, January 25, 2018
5:00 p.m. – 5:45 p.m. EDT

Join us for one of our upcoming monthly telephone briefings led by members of our Fintech team:

This call will be an operator-assisted call of approximately 45 minutes in duration, and will be followed by a brief Q&A opportunity. We also invite you to submit questions before the start of the call. A replay will be available upon request.

In order to RSVP for the January call, and to submit questions, please email us.