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SEC Reaches Settlements with Three Registered Investment Advisers on Share Class Selection Allegations

On April 6, 2018, the SEC announced that it had settled charges with three investment advisers in connection with alleged fiduciary duty breaches relating to share class selection. Summaries of the allegations and settlement terms are set forth below.

Securities America Advisors, Inc.

As described in the order relating to settlement with Securities America Advisors, Inc. (SAA), SAA, a registered investment adviser, is alleged to have invested advisory client assets in mutual fund share classes that charged 12b-1 fees even though those clients were eligible for less expensive, non-12b-1 share classes. This arrangement, which is alleged to have constituted a conflict of interest that was not adequately disclosed in SAA’s Form ADV, is alleged to have resulted in SAA’s affiliated broker-dealer receiving at least 12b-1 fees from advisory clients’ investments in higher fee funds, a portion of which were paid to the affiliated broker-dealer’s registered representatives who also acted as representatives of SAA for the relevant advisory client accounts, and to have been inconsistent with SAA’s duty to seek best execution. SAA is also alleged to have failed to adopt written policies and procedures reasonably designed to prevent violations of the Investment Advisers Act of 1940 (Advisers Act) and the rules thereunder in connection with its mutual fund share class selection practices. As a result, SAA is alleged to have violated Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act.

Without admitting or denying the foregoing allegations, in settlement of the allegations, SAA agreed to be censured; to cease and desist from violating Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act; and to pay disgorgement and prejudgment interest in an aggregate amount of over $5.0 million and a civil penalty of $775,000.

Geneos Wealth Management, Inc.

As described in the order relating to a settlement with Geneos Wealth Management, Inc. (Geneos), Geneos, a registered investment adviser and broker-dealer, is alleged to have invested advisory client assets in mutual fund share classes that charged 12b-1 fees even though those clients were eligible for less expensive, non-12b-1 share classes. This arrangement, which is alleged to have constituted a conflict of interest that was not adequately disclosed in Geneos’s Form ADV, is alleged to have resulted in Geneos receiving over $1 million in 12b-1 fees from its advisory clients’ investments in higher fee funds and to have been inconsistent with Geneos’s duty to seek best execution. Geneos is also alleged to have failed to disclose arrangements with two third-party broker-dealers in which the broker-dealers shared with Geneos revenues received from mutual funds in the broker-dealers’ no- transaction-fee mutual fund program, which arrangements resulted in approximately $386,000 in payments to Geneos. Finally, Geneos is alleged to have failed to adopt written policies and procedures reasonably designed to prevent violations of the Advisers Act and the rules thereunder in connection with its mutual fund share class selection practices and revenue sharing arrangements. As a result, Geneos is alleged to have violated Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act.

Without admitting or denying the foregoing allegations, in settlement of the allegations, Geneos agreed to be censured; to cease and desist from violating Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act; and to pay disgorgement and prejudgment interest in an aggregate amount of over $1.5 million and a civil penalty of $250,000.

PNC Investments LLC

As described in the order relating to a settlement with PNC Investments LLC (PNCI), PNCI, a registered investment adviser and broker-dealer, is alleged to have invested advisory client assets in mutual fund share classes that charged 12b-1 fees even though those clients were eligible for less expensive, non-12b-1 share classes. This arrangement, which is alleged to have constituted a conflict of interest that was not adequately disclosed in PNCI’s Form ADV, is alleged to have resulted in PNCI receiving over $5.1 million in 12b-1 fees from its advisory clients’ investments in higher fee funds and to have been inconsistent with PNCI’s duty to seek best execution. PNCI is also alleged to have received approximately $500,000 in marketing support payments from three mutual fund complexes, which payments would be made only when PNCI invested advisory clients’ assets in share classes that charged 12b-1 fees. This arrangement is also alleged to have created an undisclosed conflict of interest. Furthermore, PNCI is alleged to have improperly charged over $105,000 in advisory fees to orphaned accounts whose adviser representative had left the firm and for which PNCI had failed to assign a new representative within 30 days. Finally, PNCI is alleged to have failed to adopt written policies and procedures reasonably designed to prevent violations of the Advisers Act and the rules thereunder in connection with its mutual fund share class selection practices and treatment of orphaned accounts. As a result, PNCI is alleged to have violated Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act.

Without admitting or denying the foregoing allegations, in settlement of the allegations, PNCI agreed to be censured; to cease and desist from violating Sections 206(2), 206(4) and 207 of, and Rule 206(4)-7 under, the Advisers Act; and to pay disgorgement and prejudgment interest in an aggregate amount of over $6.4 million and a civil penalty of $900,000.

The order for SAA is available at: http://www.sec.gov/litigation/admin/2018/ia-4876.pdf

The order for Geneos is available at: http://www.sec.gov/litigation/admin/2018/34-83003.pdf

The order for PNCI is available at: http://www.sec.gov/litigation/admin/2018/34-83004.pdf

The SEC’s press release summarizing these three settlements is available at: https://www.sec.gov/news/press-release/2018-62

© 2018 Vedder Price

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Vedder Price P.C. attorneys provide a full range of services to a diverse financial services clientele. Attorneys practicing in the firm’s Investment Services Group are experienced in all aspects of investment company and investment adviser securities regulations, broker-dealer regulatory and compliance matters, derivatives and financial product matters, and ERISA and tax matters. Clients include mutual fund complexes, hedge and other private funds, money managers, broker-dealers, independent directors, and many other types of institutions such as banks, savings and loans,...

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