With the increasingly competitive environment to attract new clients – especially those with sizable portfolios available to manage – more and more advisory firms are beginning to spend money on their business development efforts. Either to engage in outbound marketing and advertising, to run “client appreciation events” that encourage existing clients to bring a friend to refer, developing relationships with centers of influence who can provide referrals… or just outright paying for referrals with upfront cash or ongoing revenue-sharing agreements.
The challenge, however, is that paying for referrals can potentially work too well – creating a conflict of interest for the referrer themselves, that may cause them to recommend the advisor regardless of how appropriate the fit is for the person being referred, or even the quality (or lack thereof) of the advisor themselves. Accordingly, the SEC instituted Rule 206(4)-3, which places relatively stringent regulatory requirements on solicitor relationships, from the disclosures that must be provided to potential clients, and the fact that solicitors themselves often must become "registered persons" as well.
In this guest post, compliance attorney Chris Stanley provides an in-depth look at the evolution of the SEC’s Solicitor Rule, the exact requirements for someone to qualify as a solicitor, what must be disclosed to prospective clients (and when, and how) when there is a solicitor arrangement, and the patchwork of state rules for determining when the solicitor themselves must also become registered as an Investment Adviser Representative (IAR).
The starting point is simply to understand that the Solicitor Rule may apply anytime someone is paid for a referral and applies even if the person being referred doesn’t actually become a client (i.e., is only ever a prospect). In order to be a referrer, the individual must not already have a problematic regulatory history (e.g., no felonies or misdemeanors involving investments), and the arrangement itself must be commemorated into a written agreement (though the exact requirements vary depending on whether the solicitor is only for a newsletter or other “impersonal” advisory service, is an “in-house” solicitor of the firm, or is a third-party solicitor). In the case of third-party solicitors, in particular, substantial disclosure requirements also apply, in addition to providing the RIA’s Form ADV Part 2, at the time the solicitation occurs.
In the meantime, most states will also require that the solicitor themselves become registered as an IAR, potentially necessitating a Series 65 exam, though notably, even for SEC-registered investment advisers, it’s ultimately a state determination of whether the solicitor must become registered. Which means even for the same RIA, solicitors in some states may have to be registered, while solicitors in other states do not. The rules also sometimes vary depending on the type of solicitor, and some other professionals – e.g., attorneys and accountants – may have additional requirements (or prohibitions) for soliciting based on their own professional standards of conduct as well. In addition, state-registered investment advisers must also look to their individual states for guidance, as the entire framework of the Solicitor Rule 206(4)-3 itself is a federal rule for SEC RIAs, and doesn’t actually apply to state RIAs that must follow their own state’s rules instead.
Of course, the caveat to this all is that revenue-sharing agreements for referrals can actually be a very “expensive” way to market for new clients in the first place. Nonetheless, for those who want to engage in the practice, it is permitted for RIAs to pay solicitors to refer clients… but there are a number of specific rules that apply and additional disclosures that must be provided. And with a recent SEC Risk Alert highlighting the SEC’s concern that RIAs are not fully complying with the disclosure requirements, in particular, it’s especially important for firms that are using (or are considering the use of) solicitors to comply with the rules.