Understanding Elements the SEC is Trying to Identify During an Examination

Undergoing a visit and/or an examination from the U.S. Securities and Exchange Commission (“SEC”) can be daunting, confusing, and draining. Firms throughout the industry are told that preparation is vital to successful SEC interactions, but how do you know what to prepare for? What steps do you need to take to minimize the chances of your firm not receiving a deficiency letter with a long list of infractions? 

While each examination and visit may be different and vary, a best practice for chief compliance officers (“CCOs”) is to stay updated on the rapidly evolving and increasingly complex regulations that govern financial markets. At Jacko Law Group, PC (“JLG”) we find that this is a great foundation for exam prep.

Policies & Procedures Manuals: Strength and Accuracy

Many compliance professionals can attest to the need to have your compliance manual, policies and procedures manual, written supervisory procedures (and similarly functioning documents) updated on a consistent and ongoing basis to keep up with recent regulatory developments and reflect any significant changes in the way your firm conducts its business. Failure to maintain your policies and procedures manual can complicate matters and unnecessarily raise employee stress levels, pending staff arrival.

One of the main focuses of any examinations is to ensure your firm is compliant with the policies and procedures you’ve set for your own business, as well as assessing their strength and adequacy for your business.

The SEC will want to review copies of your client-facing agreements and determine whether employees are comprehensively trained in compliance-related matters. Evaluating these items will further attest to the firm’s culture of compliance, including the “tone at the top” and effectiveness of a firm’s compliance program.

Other areas that the Staff frequently reviews during an examination include, but are not limited to…

  • firm e-mail communications to and from senior management team members,
  • the compliance program’s Annual Review report,
  •  lists of material and/or repeated minor violations unveiled by the firm during the examination period, and what actions, if any, were taken by the firm to address any violations.

At JLG we occasionally encounter firms that do not take such a proactive approach to their policies and procedures manual. But upon examination or visit, the SEC is going to review for accuracy and strength. They want to evaluate if your firm has designed sufficient policies and procedures to mitigate risk, as well as the strength of the overall program and execution. 

A preparation tip to consider is to ensure reviews, actions, and, basically, everything is documented. Having a record of when the last actions, reviews, transactions- anything and everything – took place will provide an example and record of the strength and accuracy of your firm’s compliance program.

For example, if your manual says your firm will review transaction and account history every three days, you will need to make certain your employees or those responsible are, in fact, reviewing every three days. Financial professionals tend to underestimate the SEC’s interest in a firm’s policies and procedures manual, which is understandable in today’s fluid market and evolving client demands. But it is not just about the adequacy of the program, again,  the second component is to assess whether those policies and procedures have been religiously followed and executed. 

Team Evaluation: Training and Comprehension

As regulations and expectations of service in the market and industry change so should the education and training of your employees evolve. Your firm’s evolution of development and training is integral to supporting the importance of Compliance within the culture at your firm.

In addition to processes, policies, and procedures, SEC examiners will review personnel records and attestations to ensure that you’ve not only trained your employees and educated everyone on their regulatory obligations and requirements but also that your team has acknowledged they have been trained and understand their roles’ expectations regarding compliance at the firm, as well as their responsibilities as fiduciaries.

A critical part of Staff assessment is the interviews, key employees should be prepared for and understand the examination process. They should be knowledgeable and be able to speak to the firm’s policies and procedures, as well as areas they oversee and are held accountable for.

Examiners will ask to speak to specific employees responsible for business risk areas, such as trading, portfolio management, operations, and finance – in addition to legal and compliance. Before meeting with the SEC, ensure that the designated employee is the most appropriate and knowledgeable person to speak to the applicable policies, procedures, and the documentation, reports, and tests used as internal controls for that area.

A few questions to consider when preparing your team for SEC interviews are…

  • Do your employees have the requisite licensing for duties they perform? 
  • Have all employees been told to report outside business activities (OBAs) to compliance and followed through? Have all necessary documents been signed?
  • Have you conducted periodic compliance training sessions to keep pace since regulations are constantly in flux?

There are plenty of other inquiries and follow-up questions to consider, but it’s advisable to address those questions now before the SEC does. At JLG, we encourage clients to conduct “practice” interviews to help employees prepare for the examiners’ questions and to always be honest and forthcoming with the SEC. Allowing this additional preparation, will help employees ease their tension, get comfortable, and be able to speak toward Staff inquiries effectively. 

The Best Way to Prepare for a Regulatory Examination

SEC examiners want to determine how your firm prepares for and handles compliance risk. With that in mind, here’s one way you can get that valuable head start. Prepare your employees by conducting a mock SEC exam.

Mock exams are very effective at helping employees refresh their memories regarding key policies and regulatory procedures under a stress test consisting of pertinent questions. It also builds employee confidence and lowers stress levels with the knowledge they have a good idea of what an exam is like before the fact.

JLG’s experienced securities legal staff specializes in minimizing risk for your firm and employees during an SEC exam which, in turn, minimizes your fiduciary risk when helping clients. To discuss your firm’s strategy and preparation for an upcoming SEC examination, contact us today to discuss your plan with our regulatory quick response team.

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