Investment Adviser Alert - Changes in New York Regulatory Scheme

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Rule changes adopted by the New York Attorney General on January 29, 2003 substantially amended state regulations covering investment advisers. Based on the new rules, new registration and filing requirements will go into effect on March 31, 2003 for investment advisers with more than five New York clients. The new regulations:

reduce from 41 to six the number of clients that will trigger the requirement for an investment adviser to register in New York State,
coordinate the filing of New York investment adviser registrations with federal registration through the Investment Adviser Registration Depository (IARD) system run by the NASD,
require investment advisers and representatives of investment advisers to meet examination requirements, and
require investment advisers to:

file specified financial and other information with the Attorney General and
make specified records and maintain them for up to five years.

Significance of the New Rules

Persons Who Act as Financial Planners or Give Investment Advice

Financial planners include persons who act in many capacities, such as financial advisers, money managers, credit consultants, real estate agents, insurance agents, and accountants. Although financial planners are not specifically regulated under U.S. or New York State securities laws, to the extent that their activities include acting as investment advisers, they are subject to regulation.

In general, New York law provides that a person is an investment adviser and is subject to regulation if the person engages in the business of advising members of the public, within or from New York, as to the value of securities or as to the advisability of purchasing, selling, or holding securities. Since the concepts of “engaging in the business of advising” and “members of the public” are very broadly interpreted, that definition includes many persons who consider themselves to be financial planners.

Until now, many financial planners in New York who would otherwise be considered investment advisers under New York law have not been subject to regulation because they have fit within a statutory exemption for persons who do not sell investment advisery services to more than 40 persons within the state. Under the new rules, all persons who have more than five investment advisery clients in New York (exclusive of financial institutions and institutional buyers) must register with the state as investment advisers. The rules provide that the application for registration must be filed not later than 10 days prior to the date when the person commences providing investment advisery services in New York.

Thus, many persons who were previously unregulated will now have to register with New York State as investment advisers, and they will be subject to New York’s regulatory scheme for investment advisers.

Persons Who are Already Registered as Investment Advisers in New York

Persons who are already registered as investment advisers in New York will also be significantly impacted. Historically, New York-registered investment advisers have been subject to relatively little substantive regulation beyond the requirement to register. Now, New York registered investment advisers are required to:

file their registrations on Form ADV using the federal IARD system maintained by the NASD, and file Part II and Schedule F of Form ADV and other required paper filings with the NYS Department of Law, 120 Broadway, 23rd Floor, New York, N.Y. 10271;
take and pass either (1) the Uniform Investment Adviser Law Examination (Series 65 exam), or (2) the General Securities Representative Examination (Series 7 exam) and the Uniform Combined State Law Examination (Series 66 exam);
preserve and maintain a wide range of business, account, and financial records for at least five years (for the first two years at the adviser’s office); and
file specified balance sheet and income statement information with the state within 90 days after the end of each fiscal year.

The new regulations require both registration for 2003 under the new system and amendments under the new system for existing registrations on or before March 31, 2003.

The new regulations provide that persons acting as investment advisers must take and pass the required examinations by June 30, 2003.

The regulations contain a number of exemptions from the examination requirements for persons who hold certain professional designations in good standing, such as Certified Financial Planner (CFP), awarded by the Certified Financial Planner Board of Standards, Inc.; Personal Financial Specialist (PFS), awarded by the American Institute of Certified Public Accountants; and Chartered Financial Analyst (CFA), awarded by the Association for Investment Management Research.

Federally Registered Investment Advisers Who Have Clients in New York

Federally Registered Investment Advisers (RIAs) are generally exempted by federal law from state regulation. Nevertheless, the federal Investment Advisers Act specifically permits any state to require notice filings of federal registration materials, and it permits states to require registration or qualification of any investment adviser representative of an RIA who has a place of business within the state.

New York will now require notice filings of federal registrations by any RIA who has more than five New York clients. Notice filing is effected by adding New York as a notice filing state on Form ADVs filed on the IARD system and submitting a paper copy of Part II, Schedule F, and any other part of the ADV that is not on the IARD system to the NYS Department of Law, 120 Broadway, 23rd Floor, New York, N.Y. 10271. Persons who are employed by and represent RIAs within New York State will be exempt from the new examination requirements.

Ward B. Hinkle concentrates his practice in the area of federal and state securities law, including the representation of investment advisers and private investment companies (hedge funds). He is available to assist you in meeting your compliance requirements.

Mr. Hinkle can be reached at 716.848.1281 or whinkle@hodgsonruss.com, or contact another senior member of the Hodgson Russ Corporate and Securities Practice Group: Kenneth P. Friedman, Robert B. Fleming, Pamela D. Heilman, Robert J. Olivieri, Paul J. Vallone, or John J. Zak.