SEC warns RIAs over cash-sweep disclosures amid lawsuits

The SEC’s Division of Examinations issued a risk alert on Tuesday instructing registered investment advisers to put clients first when handling cash-sweep programs, citing failures to disclose conflicts and to meet fiduciary duties as dozens of firms face litigation.

Examination staff reported advisers frequently did not fully and fairly disclose fees, expenses and conflicts tied to recommendations of cash management vehicles. The alert highlighted practices that reduce client returns, including routing uninvested cash to partner banks or outside custodians without clearly explaining the revenue the adviser received, and applying asset-management fees that lowered expected interest for clients.

The SEC said at least 35 brokerages have been named in private lawsuits over sweep arrangements. A complaint filed this week against Janney Montgomery Scott alleges the firm kept customer crediting rates low while increasing the share of interest it retained as market rates rose. Janney responded that it believes its program was appropriately designed and disclosed and plans to defend the claims.

Regulatory and private settlements have produced multi-million-dollar payments. Oppenheimer agreed to pay $70 million to resolve investor claims. Wells Fargo and Merrill paid a combined $60 million to the SEC in January to settle sweep-related allegations. Independent broker-dealer Osaic agreed to a $5.1 million settlement with FINRA.

The alert also cited failures to disclose revenue received for steering clients into specific mutual fund share classes and other products that generate payments to the firm. Examiners found instances where lower-cost share classes were available but not used because they would have reduced adviser revenue. The notice identified shortcomings in Form ADV annual disclosures and cases where firms charged fees inconsistent with their stated practices, including fees on inactive accounts that received no supervisory or management services.

A footnote in the alert states that disclosure and client consent do not automatically satisfy an adviser’s duty to act in the client’s best interest. Valerie Mirko, head of securities regulation and litigation at Armstrong Teasdale, noted the footnote invokes the duty of care, which requires advisers to make recommendations appropriate for individual clients.

Alan Rosca, a lawyer pursuing sweep claims, argued that advisers cannot meet best-interest duties by burying important information in lengthy disclosures and urged that swept cash be placed in products that benefit clients. Lori Weston, head of compliance at STP Investment Services, described the alert as a prompt for advisers to review cash sweep practices and select cash management vehicles without regard to revenue-sharing arrangements.

The SEC uses risk alerts to flag recurring compliance issues found during exams and to guide firms away from potential enforcement actions. The latest notice outlines areas where regulators will continue to scrutinize how advisers handle client cash and disclose related revenue.