By expressing your gratitude in a tangible form, you run the risk of turning your client into a solicitor

March 26, 2012 — 5:50 AM UTC by Guest Columnist Les Abromovitz

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Registered investment advisers often rely on referrals from current clients to generate new business. Although advisers should certainly express their gratitude with a note or call, thanking clients for referrals with money, gifts or parties can turn them into solicitors who are bound by securities regulations. See: In their own words: Five top advisors’ secrets for creating stronger alliances to gain more referrals.

A solicitor is any person who, directly or indirectly, solicits clients for, or refers clients to, an investment advisor. There are a number of compliance requirements that must be satisfied before an RIA may pay a fee to a solicitor. For that reason, rewarding clients, friends and business associates for referring the RIA to others may create compliance obligations for the advisory firm.

Presto, chango. You’ve turned your client into a solicitor.

Beware bearing gifts

RIAs should be on the lookout for situations in which they are inadvertently creating a solicitor relationship. For example, some RIAs have considered offering existing clients a gift card every time they refer a new client. Although the Securities and Exchange Commission’s solicitor rule refers to cash payments for client solicitations, that term is broadly interpreted. A solicitor relationship can be created if clients receive compensation of any kind in exchange for referrals.

Generally, advisors may not offer clients — or anyone else for that matter — compensation of any kind that is predicated on referrals unless the referring party is registered as an investment advisor representative. IARs must usually satisfy the exam requirements that go hand-in-hand with registration. Furthermore, when a solicitor-advisor relationship exists, the RIA must satisfy a number of compliance requirements, including full disclosure on the firm’s Form ADV Part 2. See: Recent SEC enforcement actions make annual policies and procedures exams even more important.

State rules determine whether a solicitor falls within the definition of IAR. For example, Texas includes solicitors in the definition of IAR. The frequently asked questions section on the Texas State Securities Board website advises:

A third-party solicitor for an SEC-registered investment advisor (i.e., a solicitor who is not an employee of the adviser) is not a supervised person and, therefore, has to register with the Texas securities commissioner.

Texas also takes an expansive view of what constitutes compensation. Giving a gift card would certainly be viewed as compensation in Texas, as well as in other states. In fact, Texas securities regulators believe that even giving a nominal gift for referring new clients is compensation.

In California, an RIA may not pay solicitors unless they are registered as IARs or are independently licensed as investment advisors. In theory, an examiner could find fault with an RIA that sends gifts — such as concert or movie tickets — to clients, friends or business associates to thank them for referrals. Of course, now that Arnold Schwarzenegger is making movies again, only the pickiest of examiners would view those tickets as payment for referring clients. See: Lost in limbo: How and why compliance officers can seem to thwart RIA marketing efforts.

Rewards can be a risk

Since advisors communicate regularly with their clients, it is very common for RIAs to encourage them to refer their friends and relatives to the firm. The most meaningful referrals are those that come from clients who are thrilled with their advisory relationship and want their friends and family to achieve the same positive results.

The most significant compliance risks arise from structured programs that reward clients for each and every referral. There should be no expectation that a client will receive money or gifts for making referrals to the advisor. It would be an even more serious violation if an RIA allocated a limited investment opportunity, such as an initial public offering, to a client who made a lucrative referral.

Thanking clients for being a client should not be a problem. An RIA may stage an elaborate celebration to thank all clients. The firm may not, however,send invitations only to clients who have made referrals to the RIA. Similarly, the firm should not provide additional perks to clients who have referred friends and relatives to the advisor.

Advisors should also avoid compensating friends, acquaintances and business associates who refer clients. For example, an investment advisor may be in the habit of sending a gift to the golf pro at his club who sends clients to the firm. The advisor may have turned his golf pro into a solicitor, and that will be a big handicap when the RIA undergoes its next regulatory examination. See: One excuse the SEC doesn’t listen to: I was just following the crowd.

Les Abromovitz is a senior consultant withNational Compliance Services Inc. Les, an attorney, is the author of “Growing Within the Lines: The Investment Advisor’s Advertising and Marketing Compliance Guide.” His new book, “The Investment Advisor’s Compliance Guide,” will be published in 2012. Les can be reached at 561-330-7645, Ext. 213, or at LAbromovitz@ncsonline.com.


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