Regulation Best Interest: What Now? Part two
During our last column we wrote about Regulation Best Interest (Reg. BI) and what should be included as part of your post-implementation analysis. Then, we recommended to follow a three-step process: Calibrate, Adjust and Learn. Now, we would like to focus the attention in an area of Reg. BI that is getting regulatory attention and that we believe will continue to be subject of much discussion: The Client Relationship Summary or Form CRS.
Form CRS1 is a one of the two (2) disclosure requirements created under Reg. BI’s Disclosure Obligation.
The document is designed to provide, in a simple, plain, and succinct manner, information about the types of relationships and services, broker dealer or investment advisor can offer to retail clients. Items such as fees, standard of conduct, conflict of interests and how to obtain additional information about the firm, need to be included. The idea being that retail clients can use the information therein not only to understand the basic relationship standards when entering into a relationship with the broker dealer or investment advisor, but they can now compare different service providers they may be considering.
Broker Dealers and SEC Registered Investment Advisors have very little flexibility on what information to include in Form CRS. This is because the SEC established instructions regarding specific format and content. The SEC goes as far as establishing questions that must be included and answered to serve as conversation starters, its maximum length (2 pages and 4 pages, if dually registered), and the overall content standard.
On July 27, the US Securities and Exchange Commission’s Standards of Conduct Implementation Committee (SEC) provided a statement on Reg. BI Implementation and Form CRS. The SEC performed a review of Form CRS’ that had already been filed and specifically assessed how broker dealers have implemented Form CRS and the quality of the disclosures contained therein2. While it found good examples of Form CRS it also identified examples which could be improved. Its overall conclusion was that the Forms CRS sampled “generally reflect effort by firms to meet the content and format standard requirements” and that “Particular firms may need to consider ways to improve their overall relationship summaries and determine whether any specific amendments or broader change in their overall approach, would be appropriate”. As a result, the SEC will contact firms to provide guidance, conduct round table and provide additional resources for firms to better understand what is expected of them.
This statement is not optimistic, but it is not totally pessimistic either, at best, is lukewarm in my opinion. So why is their conclusion should be a cause of concern? a few reasons. Form CRS was the only component of Reg BI which was objective in nature and left very little space for discretion. It was the only Reg. BI requirement that came with its own SEC release3, specific instructions on how to complete it and its own specific guidance5. Therefore, it would have been reasonable to think that the majority of the industry would have been successful in the implementation of Form CRS. However, judging by the SEC’s
1. The name Form CRS is a misnomer as it is not a Form, but a document that needs to be created by both broker dealers and investment advisors.
2. Please see: https://www.sec.gov/news/public-statement/staff-form-crs-2020-07-27
3. Please see: Securities Exchange Act Release No.34-86032.
4. https://www.sec.gov/rules/final/2019/34-86032-appendix-b.pdf
5. https://www.sec.gov/investment/form-crs-faq
Statements it is clearly not the case (i.e. making a good effort is not a sign of meeting the standards or regulatory expectations on the Disclosure Obligation). The good news is that all is not lost. As we stated in our previous column, now is the time to revise your work.
In order to review and improve the disclosures on your Form CRS, we recommend to first clearly understand the purpose of the disclosure. Form CRS is not intended to be your regular legal disclosure document, it is intended to be a service comparison tool for retail investors. It is designed to be read and understood by a retail client who may not be sophisticated on investment matters. It is, in essence, a tool for comparing and contrasting the service offering between the different broker dealers and investment advisors. Thus, the goal should be to create a document that is simple to read, easy to understand, comprehensive and transparent in nature. This is why the rules and instructions are strict. The SEC intended to create a homogenous industry document that could be used to highlight the uniqueness of each entity, with the hope that it would give retail investors a better understanding of the different services provided and of what to expect when entering into an investment relationship.
Therefore, when reviewing Form CRS try not to look at it as you would a regular disclosure document but, try to see it in the readers eyes. You may even, as a suggestion, think try to frame Form CRS as a sales tool... and why not? If it is to be used to compare your services against your competitors; why not transform it into a marketing tool for the firm? In other words, take the opportunity and draft it in such a way that you entice the reader. Use visual aids, keep it simple, be concise, be transparent. Pay attention to the look and feel of the document, which you still have control of. Do not be afraid to reference other sources of information, so that the retail client can research your firm further. More importantly, observe content standards, make sure you include all questions and factual statements the SEC requires.
Finally, please remember to update your policies and procedures to reflect this new perspective on Form CRS and be on the lookout for new regulatory guidance and resources on Form CRS.
