The Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA) have published initial guidance on compliance with Regulation Best Interest (Reg BI) and Form CRS, both of which have a June 30, 2020 compliance date. On September 9, the SEC published a Small Entity Compliance Guide for Regulation Best Interest with 11 Q&As about the new rule and a Small Entity Compliance Guide for the Form CRS Relationship Summary and Amendments to Form ADV with 13 Q&As about compliance requirements for these documents. The guides provide very brief summaries of the rule requirements and highlight certain key points from hundreds of pages of text in the relevant adopting releases.
On Tuesday this week, FINRA followed with an 11-page "Regulation Best Interest and Form CRS Checklist" (Checklist) with 20 items concerning Reg BI and eight items concerning Form CRS for its broker-dealer members. The Checklist aligns closely to the SEC's rules, adopting releases, and guides and notes that interpretive questions should be directed to the SEC, rather than to FINRA. Thus, while understandably it does not offer new information, the Checklist distills the rules and key points from the voluminous adopting releases into a concise framework and highlights key differences from existing FINRA rules. A few best practices that are not rule requirements are noted. FINRA has not yet proposed changes to its rules to harmonize them with Reg BI.
FINRA's 20 Reg BI Checklist items are:
- Having procedures and training in place to assess recommendations using a best interest standard
- Applying a best interest standard to recommendations of types of accounts
- Applying the best interest standard to both explicit and implicit hold recommendations if the firm agrees to provide account monitoring
- Considering the elements of care, skill, and costs when making recommendations to retail customers
- Guarding against excessive trading, irrespective of whether the broker-dealer or associated person (AP) "controls" the account
- Considering reasonably available alternatives to a recommendation
- Considering how to ensure that high-risk or complex products are in a retail customer's best interest (noted as a best practice, not a rule)
- Prior to or at the time of the recommendation, providing retail customers with full and fair written disclosure of all material facts relating to the scope and terms of the relationship with the retail customer (and noting as a best practice that APs are encouraged to discuss the basis for any particular recommendation with their retail customers and the associated risks, particularly when the recommendation is significant to the customer)
- At or prior to making a recommendation, making full and fair written disclosure of all material facts relating to conflicts of interest
- Using the term "advisor" or "adviser" only if the firm is a registered investment adviser, a registered municipal advisor, a registered commodity trading advisor, or an advisor to a special entity
- Having APs supplement written disclosures with subsequent oral disclosure (noting as a best practice following oral disclosures with timely, written disclosure summarizing the information conveyed orally)
- Having policies and procedures to identify and address the firm's conflicts of interest
- Having policies and procedures to identify and mitigate the AP's conflicts
- Having policies and procedures to identify and disclose material limitations on products recommended
- Having policies and procedures to prevent material limitations from causing the broker-dealer or AP to make recommendations that place their interest ahead of the retail customer;s interest
- Having policies and procedures to identify and eliminate sales contests, bonuses, non-cash compensation and quotas based on the sale of specific securities or specific types of securities within a limited time
- Updating policies and procedures to ensure compliance with Reg BI
- Updating policies and procedures and systems to ensure Reg BI's recordkeeping obligations are satisfied
- Implementing training to ensure that APs are aware of Reg BI's requirements and
- Aligning policies and procedures to the new definitions in Reg BI.
FINRA's eight Form CRS checklist items are:
- Developing the two-page Form CRS (four pages for dual broker-dealer/investment adviser registrants), with electronic and graphical formatting encouraged
- Including in the relationship summary an introduction to the firm; a description of services and advice provided; a description of the fees and costs, applicable standard of conduct, and examples of how the firm makes money and conflicts of interest; relevant disciplinary history; methods for obtaining additional information, and prescribed "conversation starters" as applicable
- Having a process in place to file Form CRS
- Having a process in place to update Form CRS
- Delivering Form CRS to each new or prospective customer who is a retail investor before or at the earliest of (a) a recommendation of an account type, a securities transaction, or an investment strategy involving securities; (b) placing an order for the retail customer; or (c) the opening of a retail brokerage account
- Having a process in place to deliver the relationship summary to existing retail customers
- Posting Form CRS on the firm's public website and
- Adjusting recordkeeping procedures to reflect Form CRS.
While not explicitly stated, firms should anticipate that future FINRA examination modules will likely be modelled on the Checklist framework and prepare accordingly. Most importantly, although the compliance dates for Reg BI and Form CRS are still nine months away, regulators have noted that firms' implementation of the rules will be a substantial undertaking and urged firms to begin their work immediately.
If you require further assistance with your firm's preparation for compliance with Regulation BI and Form CRS, please contact the authors. A more detailed analysis of the requirements of Reg BI and Form CRS also is available to DLA Piper's clients upon request.