Estimated study time: 60 minutes
Content:
Laws and Regulations constitute 45% of the Series 66 — nearly half the exam. Investment advisers and their representatives are governed by a dual federal/state regulatory framework, and understanding where each layer applies is critical.
The Investment Advisers Act of 1940 is the primary federal law governing investment advisers. It defines an investment adviser as any person who, for compensation, (1) provides advice about securities, (2) as part of a regular business, and (3) to others. All three elements must be present to meet the definition. Exceptions include broker-dealers whose advisory services are incidental to their brokerage business and do not charge a separate fee, publishers of general financial publications, and certain professionals (lawyers, accountants, teachers) whose investment advice is incidental to their profession.
Investment Adviser registration thresholds under the federal Advisers Act: those with $110 million or more in AUM must register with the SEC; those with less than $100 million register with state regulators. The band between $100M and $110M allows either registration. Small advisers (generally under $25M AUM) that register only with their home state are sometimes called "state-registered advisers." Advisers exempt from registration include those with fewer than 15 clients, no public offices, and no SBIC financing (the "private adviser exemption" — though this was substantially modified by Dodd-Frank).
The Uniform Securities Act (USA) is the model state securities law promulgated by NASAA (North American Securities Administrators Association). The Series 66 is examined by FINRA on behalf of NASAA and tests state law — primarily based on the USA. Under the USA, investment advisers must: register with state securities authorities, provide clients with disclosure brochures, maintain required books and records, and comply with anti-fraud provisions.
Investment Adviser Representatives (IARs) are individuals employed by or associated with investment advisers who provide advisory services to clients. IARs generally register at the state level, even if their employer is a federally registered adviser. Registration requires: (1) passing the required examinations (Series 65 or Series 66 + Series 7), (2) filing Form U4 through the Central Registration Depository (CRD), and (3) meeting state-specific requirements.
Advisory contracts under the Investment Advisers Act must be in writing, must not grant the adviser an assignment right without client consent, must disclose all fees, and must include a prohibition on charging performance fees to non-qualified clients. Under the USA, advisory contracts must also include: a description of services, the term of the contract, the advisory fee or formula for calculating it, and how the contract can be terminated.
Form ADV is the uniform registration document for investment advisers. Part 1 contains business and ownership information. Part 2A is the "firm brochure" providing disclosure about the firm's services, fees, and conflicts. Part 2B covers the individual adviser representative. Clients must receive Part 2A at or before the execution of the advisory contract, and annually thereafter if there are material changes.
Key Terms:
Quiz Questions:
Q1. Which of the following individuals is MOST likely required to register as an investment adviser with state regulators?
A) A lawyer who occasionally recommends that clients invest in municipal bonds as part of estate planning B) A stockbroker who provides investment advice incidental to brokerage services without charging a separate fee C) A financial planner who charges clients $2,000/year to manage their $200,000 investment portfolios as a regular business D) A journalist who writes a weekly financial column with general market commentary
Answer: C — The financial planner meets all three prongs of the investment adviser definition: (1) provides advice about securities, (2) as part of a regular business, and (3) for compensation. The lawyer (A), broker (B), and journalist (D) each qualify for specific exclusions from the adviser definition — the professional exclusion, the broker-dealer exclusion, and the publisher exclusion, respectively.
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Q2. A state-registered investment adviser with $65 million in AUM signs a new client. The adviser must provide the client with Form ADV Part 2A (the firm brochure):
A) Within 48 hours of establishing the account B) At the time of or before entering into the advisory contract C) Within 90 days of the client's fiscal year-end D) Only upon the client's specific written request
Answer: B — Both the Investment Advisers Act of 1940 and NASAA model rules require that the adviser provide clients with the disclosure brochure (Form ADV Part 2A) at the time of entering into the advisory contract, or no later than the time of signing. The client must have an opportunity to review it before committing. Advisers must also deliver an updated brochure (or a summary of material changes) annually within 120 days of the firm's fiscal year-end.
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