SEC Marketing Rule Compliance: Essential Tips For RIAs

Marketing reviews for registered investment advisers are not a one-size-fits-all approach. The SEC’s marketing rule (17 CFR § 275.206(4)-1), effective May 4, 2021, ushered in a new era of regulations for marketing communications and third-party compensation.

This rule significantly broadened the definition of “advertisement,” to encompass any communication, direct or indirect, that:

• offers investment advisory services to potential clients or private fund investors; or
• promotes new services to existing clients or investors.

One-on-one interactions with existing clients are generally excluded, with the rule focusing on communications targeting prospects or multiple clients. Testimonials and endorsements, paid or unpaid, now fall under the advertisement umbrella, rendering the old cash solicitation rule obsolete.

Navigating Testimonials Under The Marketing Rule

Published testimonials can be tricky. According to the SEC’s final rule:

“In order to be clear and prominent, the disclosures must be at least as prominent as the testimonial or endorsement. In other words, we believe that the “clear and prominent” standard requires that the disclosures be included within the testimonial or endorsement, or in the case of an oral testimonial or endorsement, provided at the same time” (17 CFR Part 275 and 279).

These disclosures must clearly explain:

• whether the person providing the testimonial is a client or non-client;
• whether they received cash or non-cash compensation; and
• any material conflict of interest (when compensation was involved).

The Peril Of Hypothetical Performance

The SEC has intensified its scrutiny of hypothetical performance data under the Marketing Rule, with recent enforcement actions highlighting the importance of compliance. In 2023, nine advisors were charged for violating the rule by advertising hypothetical performance without proper procedures, resulting in penalties of up to $175,000. This year, an additional five firms were charged for similar violations, emphasizing the SEC’s commitment to protecting investors from misleading advertising. The SEC’s crackdown continued with a $430,000 fine against The Pacific Financial Group for advertising hypothetical performance without ensuring its relevance to the intended audience’s financial situation and investment objectives.

When presenting hypothetical performance, your target audience is crucial. The SEC requires advisors to have policies ensuring that performance data is relevant to the intended audience’s financial situation and investment objectives (Rule 206(4)-1(d)(6)(i)).

This makes publicly-available hypothetical performance on websites or mobile applications a clear violation.

Investor Sophistication Matters

Some advertising may include “backtested performance,” which the SEC considers hypothetical. The SEC further states that backtested performance is “more likely to be misleading” for audiences lacking the resources to assess its presentation (17 CFR Part 275 and 279).

Therefore, backtested performance is generally unsuitable for retail investors and should be reserved for institutional investors.

Key Takeaways: Compliance For The Modern Advisor

• Testimonials are permitted but require clear and prominent disclosures about potential conflicts of interest.
• Hypothetical performance in mass communications is largely prohibited.
• While the marketing rule allows some performance advertising, the compliance burden is significant.
• Disclosures are critical, but clarity and prominence are essential — avoid obscuring the intent of the disclosure.

Investing in compliance with the marketing rule is an investment in your firm’s reputation and future. By staying informed and tailoring your marketing practices, you can effectively reach your target audience while staying within regulatory boundaries.

AdvisorLaw: Your Compliance Partner

In this challenging environment, AdvisorLaw is your trusted partner in SEC compliance. Our team of experts offers comprehensive support:

• Policy Development: We help you establish policies and procedures tailored to the new rule, focusing on accurate, relevant, and compliant marketing materials.
• Continuous Monitoring: We stay vigilant, keeping you informed of regulatory changes and guiding you through adjustments to your marketing practices.
• Education & Training: We equip your team with the knowledge and confidence to navigate compliance requirements effectively.
• Risk Mitigation: We proactively identify and address potential issues, minimizing the risk of violations and safeguarding your reputation.

Compliance with the SEC’s marketing and advertising rule is paramount for registered investment advisors. By partnering with AdvisorLaw, RIAs can enhance their compliance efforts, reduce risks, and ultimately focus on what they do best — providing sound financial advice to their clients. In today’s regulatory climate, staying compliant isn’t just a legal requirement, it’s a key component of building trust and success in the financial advisory industry.

Contact AdvisorLaw today to learn more about our compliance services and how we can help your firm.