More advisers simulating SEC exams to expose gaps before regulators come knocking

Advisers turn increasingly to mock exams to help evaluate compliance risks and indentify oversight gaps

Jun 29, 2015 @ 12:57 pm

By Liz Skinner

Additional regulatory scrutiny of investment advisers has led more advisory firms to conduct mock exams to root out any compliance problems before examiners show up.

About 52% of advisers have had internal staff or a third party run their firms through a simulated examination of the kind that the Securities and Exchange Commission conducts periodically of advisers, according to a survey by the Investment Adviser Association in April and May.

That's up from 41% of respondents to the IAA survey just two years ago.

Financial adviser Wade Chessman, with an eponymous firm in Dallas, had compliance experts National Regulatory Services conduct a mock exam after learning that the SEC is focusing efforts on inspecting advisory firms that it hasn't visited previously. Chessman Wealth Strategies, founded in 2004, has never been examined by the commission's staff.

“The test was helpful to get an idea of what the SEC is looking for,” he said. “We made a number of positive changes as a result, like locking files and desks at night, and reviewing our website and other marketing materials.”


Mr. Chessman said he'll have another mock exam conducted in two-to-three years if his firm isn't inspected by the SEC before then. He said the exam and a detailed report of the findings cost $5,000.

“It's a lot of money, but it's an important part of our business,” he said. “You want to make sure you're doing everything right, especially in this climate.”

Currently, the SEC examines about 10% of the approximately 11,500 registered investment advisers nationwide annually.

The commission said earlier this month that it will specifically examine the retirement-planning guidance provided by financial advisers, and in February it said it will scrutinize cybersecurity preparedness in the industry.

“The compliance atmosphere has gotten much more challenging and complex for advisers,” said Karen L. Barr, president and chief executive of the IAA. “The focus by the SEC on compliance program rules and chief compliance officers has certainly raised the level of anxiety for compliance personnel out there.”

Mock exams are a useful tool for advisory firms to make sure their policies and procedures are working as intended, she said.

About 34% of advisers use a third-party compliance consultant or legal counsel to conduct the exam, 15% had internal compliance staff run the test, and 3% used their parent company to handle the mock exam, the IAA survey found.

Todd Cipperman, principal at Cipperman Compliance Services, said that the simulated exams often expose conflicts of interest and documenting processes that fall short of best practices.

He added that advisers don't need to complete full mock exams every year — probably every other year is enough.


Ms. Barr said some firms pick high-risk areas for their business and conduct mock exams only in those areas.

In the recent IAA survey, firms reported increasing the amount of compliance testing in cybersecurity, advertising, personal trading, disaster-recovery planning and best execution.

Karen Bordonaro, an adviser and Demming Financial Services Corp.'s CCO, said that her firm hasn't conducted mock exams in the past, but probably will in the future.

The SEC examined the Aurora, Ohio-based firm for the first time in September, and it took two people five days, working up to 10 hours a day, to gather all the information that the inspectors asked for, she said.

The firm was not found to be deficient in any area, but it will look to make changes in some areas the SEC probed, such as disaster planning, she said.

The SEC examiners were incredibly comprehensive, Ms. Bordonaro said.

“They gave us a list of 18-to-20 areas that we had to supply information, and ours was a limited-scope audit,” she said.

(More: Regulatory burdens top adviser business concerns)


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