Posted on May 15, 2024 by Kamden Crawford

This week, the Securities and Exchange Commission (“SEC“) and the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (“FinCEN“) jointly proposed new legislation requiring exempt reporting advisers and registered investment advisers to adopt written customer identification programs (“Proposed Rule“). Complimenting the February FinCEN proposal to designate advisers as “financial institutions” under the Bank Secrecy Act, and similar to the new rule requiring beneficial ownership information reports from almost all small companies, the Proposed Rule serves as another attempt to combat potential money laundering and the financing of terrorism.

 Who does the Proposed Rule apply to?
  • Exempt reporting advisers (“ERAs”): ERAs are advisors exempt from registration with the SEC such as advisers of private funds or exempt securities offerings.
  • Registered investment advisers (“RIAs”): RIAs are advisors required to register with state securities regulators or the SEC. Generally, this applies to advisors with $100 million or more in regulatory assets under management.
  • Customers: Customers are those “who open a new account with an investment adviser”, likely encompassing most investors in private funds and private offerings. 
If passed, what will the Proposed Rule require from ERAs and RIAs?

 If the Proposed Rule passes, both ERAs and RIAs will need establish, document, and maintain written customer identification programs (“CIPs“). The proposed CIPs are intended to align with requirements applicable to other financial institutions such as mutual funds and brokers or dealers. 

What will ERAs and RIAs need to do to establish a compliant CIP?

 ERAs and RIAs will need to develop, establish, and implement the following within the CIP: 

  • Risk based procedures to verify customer identities within a reasonable time of opening the customer’s account.
  • Information collection procedures to gather each investor’s name, date of birth or entity formation, address, and identification number
  • Information verification procedures verifying investor data 
  • Response procedures for failed verification of customer information that describes: 
      1. When the investment adviser should not open account
      2. When the investment adviser may provide advisory services while attempting to verify identification
      3. When the investment adviser should close an account after failed verification attempts
      4. When the investment adviser should file a suspicious activity report with federal law enforcement agencies
  • Recordkeeping procedures for investor information including descriptions of documents relied on 
  • Record retention policy of at least 5 years
  • Terrorism check procedures to determine whether investors appear on any suspected terrorist or terrorist organization lists 
  • Notice procedures of identity verification methods
 What does this mean going forward?

 The Proposed Rule demonstrates another effort by the SEC and FinCEN to expand its regulation over small and/or private companies and investment channels. If passed, this will increase the administrative and financial burden placed on investment advisers. Similar to other recent new and proposed rules we’ve seen this year, such as with BOI reporting, regulators are seeking to crack down on money laundering and foreign terrorism funds. Moving forward, we anticipate continued regulatory efforts over small and/or private companies and pushback from business groups. Until the Proposed Rule is passed and becomes effective, advisers should review current practices and be aware of regulator’s increasing scrutiny. 

 We will continue to monitor new legislation applicable to investment advisers. In the event you have any questions or are considering updating your business practices, please feel free to reach out.