(Reuters) - One-third of the investment advisers who underwent government examinations had compliance problems with a key rule designed to protect clients from theft or misuse of their money, U.S. securities regulators said on Monday.
The Securities and Exchange Commission unveiled a summary of the exam findings in an investor risk alert, which outlined various types of deficiencies. Some of the problems, the SEC said, have since been referred to the agency’s enforcement division for investigation.
The SEC did not state when the examinations occurred, nor name the firms found be deficient.
“We take deficiencies in this area very seriously and want to put advisers on alert about the importance of complying with the custody rule,” said Carlo di Florio, the director of the SEC’s Office of Compliance, Inspections and Examinations. “It is a key component of our investment adviser examination program.”
The SEC’s exams sought to test for compliance with custody controls for advisers, which were beefed up by the SEC in December 2009 as a direct response to Bernard Madoff’s $65 billion Ponzi scheme.
Many advisers do not have physical custody of customer funds, and the assets are held by a third party such as a bank.
Madoff did have custody of his clients’ money, and managed to cover up his fraud by issuing false account statements.
The 2009 rules particularly targeted advisers with custody, or advisers who are affiliated with a third-party custodian, by requiring them to undergo an annual surprise audit by an independent auditor.
The rules also required entities that hold client assets to undergo annual reviews of their custody controls.
On Monday, the SEC said the government exams found evidence that in some cases, these surprise audits were not actually a “surprise” at all, and instead have been scheduled for the same day every year.
The SEC also said many advisers have failed to properly recognize they have custody of client funds at all, when in fact they can access funds through bill-paying services, check-writing authority or other means.
In addition, the SEC said it uncovered problems with the audits themselves.
In some cases, the auditor hired by the adviser was not registered with the Public Company Accounting Oversight Board, a non-profit corporation that inspects auditors.
The SEC also said it found cases where financial statement audits were not performed in accordance with U.S. accounting standards, or that the statements were not sent to investors on time.
In addition to referring some matters to enforcement and requiring some firms to remediate the problems, the SEC also on Monday issued an investor bulletin warning investors to do their own due diligence and make sure the adviser they hire is following the rules.
“Investors should always ask questions - including questions about the custody issues discussed in this Investor Bulletin - when considering an investment,” said Lori Schock, the director of the SEC’s Office of Investor Education and Advocacy.
“Asking questions and monitoring investments are key ways to protect yourself from investment fraud.”
Reporting by Sarah N. Lynch; Editing by Phil Berlowitz