For many investment advisers, CPAs are a big source of referrals. Often these CPAs are compensated for the referrals. Most states now require registration of solicitors, including CPAs, as investment adviser representatives (“IAR”). This article provides some background on these requirements.
1. A Little Refresher
What is a solicitor? A solicitor is a person who, directly or indirectly, solicits or refers clients to an adviser. A solicitor relationship arises when an adviser pays an employee or third party for referring clients. The use of solicitors is regulated by the SEC under the Investment Advisers Act of 1940 and by the various states.
The SEC regulates the use of solicitors and imposes certain requirements. Generally, for the use of a solicitor to be lawful:
- There must be written agreement between the adviser and the solicitor that specifies the scope of the solicitor’s activities, the solicitor’s fee and includes covenants by the solicitor to act in compliance with the law and the adviser’s instructions.
- Solicitor cannot be subject to certain disqualifying events such as being barred or suspended by the SEC or respective state authorities, convicted of a felony, or misdemeanor relating to fraud;
- Solicitor must provide written disclosure statement to the client.
- Client must sign statement acknowledging the receipt of disclosure statement and the adviser’s brochure
The good news – the SEC does not require the registration of solicitors.
The bad news – most states now require the registration of solicitors as an investment adviser representative (“IAR”). Further bad news, the regulation of IARs differs among the states and advisers are wise to have their lawyer or compliance professional review the law relating to registration of solicitors and IAR’s in each state in which the adviser has operations.
2. State Registration of Solicitors
In 2006, Louisiana defined an IAR as including an individual who “solicits, offers or negotiates for the sale or sells investment advisory services”. In 2016, Louisiana specifically required IARs to be registered and to pass a Series 65 exam or meet other third-party certifications, such as CFP, PFS, or CFA. In the same regulation, Louisiana specifically defined “Third Party Solicitor” as:
[A]n investment adviser representative who meets all of the following criteria: 1. investment advisory business consists solely of referring individuals to other investment adviser firm(s); 2. provides no advice to individuals regarding specific investments; 3. fees consist entirely of referral fees received from the investment adviser firms to whom the investment adviser representative makes referrals.
Most states include a similar definition. For example, Mississippi defines an IAR as including an individual who “receives compensation to solicit, offer, or negotiate for the sale of or for selling investment advice.” As an IAR, CPA solicitors must be registered in Louisiana and most other states (there are exemptions, see below).
Although Louisiana requires the registration of third-party solicitors, third party solicitors are exempt from the exam requirement. In contrast, Mississippi requires solicitors to take the Series 65 test
3. Other Possible Exemptions for CPA’s as Solicitors
The SEC and most states incorporate a professional exemption for lawyers, accountants, engineers, etc. for performance of services solely incidental to the practice of his or her profession. However, the SEC and most courts have limited this exemption to providing information on broad classes of assets and the referral to a particular advisor would be outside of this definition. Moreover, if the fees paid are not consistent with customary professional fees (percentage of assets versus hourly fees), the exemption is not available. Accordingly, this exemption generally is not applicable.
De minimus Exemption
Most states have a de minimus exemption that varies from state to state. Louisiana, Florida, and Tennessee have an exemption of 15 clients in any 12-month period while Alabama and Texas have a de minimus exemptions of five clients.
Many states provide an exemption for advisers whose only clients are institutional investors. For example, Alabama includes an exemption from registration for advisers whose sole clients are banks, trust companies, insurance companies and employee benefit plans with assets of greater than $1 million. Louisiana has a similar exemption. Texas provides an exemption for individuals who are accredited investors, QIB’s and various entities with a net worth greater than $5 million. This could be used if a CPA only referred larger 401(k) and defined benefit plans for example.
A lawyer or compliance professional will need to examine the law in each state in which one intends to engage CPA’s as solicitors. Georgia, for example, exempts CPA’s from the definition of “solicitor”.
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