May 15, 2009
On May 14, 2009, the U.S. Securities and Exchange Commission held an open meeting to consider proposed amendments to rule 206(4)-2 under the Investment Advisers Act of 1940. According to Andrew J. Donohue, Director of the SEC’s Division of Investment Management, the proposed amendments “would significantly strengthen controls over client assets held by registered investment advisers — especially when those assets are held directly by the adviser itself or a related person of the adviser.” The SEC’s action is specifically aimed at preventing future potential Ponzi schemes and related activities. Several Commissioners noted that the proposals discussed in the open meeting are simply one part of a larger package of reforms (and a potential overhaul of the entire Advisers Act).
The proposed the amendments would expand the definition of “custody” under rule 206(4)-2 to include any registered investment adviser who has the ability to deduct fees directly from its clients’ accounts. As proposed, rule 206(4)-2 would require that an investment adviser who has custody of its clients’ funds and securities obtain a surprise examination by an independent public accountant on an annual basis. The proposed amendments would also:
Under current law the funds or securities of an investment adviser’s client may be maintained by a custodian who is an affiliate of the adviser. Where such a relationship exists, the proposed rule would require that an accountant perform an annual custody control examination and that the accountant be registered with, and subject to inspection by, the Public Company Accounting Oversight Board. The SEC intends for this proposed requirement to accomplish two goals: (1) the exam will help ensure that an investment adviser with an affiliated custodian has proper custody control protections, and (2) the administrative and financial burden of the annual examination will encourage investment advisers to retain independent custodians for their clients’ accounts.
The current rule applies only to registered investment advisers. The proposed amendments do not change the application of the rule so investment advisers, including managers of private equity and hedge funds, who are not registered (or required to be registered) under the Advisers Act will not be effected by the proposed amendments.
We expect the Commission to publish its release and proposed rule text shortly. Comments will be due 60 days after the release is published in the Federal Register.
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