Q4 – How do I logistically setup an RIA?

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How do I logistically setup an RIA?

In theory, anyone on their own can register a new Registered Investment Advisor (“RIA”) via the Investment Adviser Registration Depository (“IARD”) system.  In practice though, it would be short sighted to attempt to undertake such an important registration process on your own unless you already have significant experience with making such filings.  Instead, the common practice is to engage with an experienced compliance consulting firm that will work with you to perform this filing on your behalf.

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Full Transcript:

How do I logistically set up an RIA? That is today’s question on the Transition to RIA video series, it is question #4.

Today’s question is, how do I logistically go about setting up an RIA? So this assumes, you’ve already kind of worked through the steps. Do I want to set up and start my own RIA? What am I going to need to do from…..get an office space, what’s my team going to look like? So there’s a lot of variables involved. Again, that’s the sort of thing I help advisors with all the time is to think all these variables through.

But let’s assume you’ve gone through that exercise and you’re now at the point where, okay, I want to set up that RIA.  So logistically, how is an RIA actually legally set up? So that’s what we’re going to be talking about here.

Now, for starters, you could, in theory, do it yourself. Now, generally, no one does and I’ll explain why not.  I’ll explain how folks like your peers actually do go about setting it up with the help of compliance consultants. But in theory, there’s no rule that says you could not learn how to do it yourself and go in and actually do it.

So just initially here, I want to kind of go over, what the steps are of actually logistically setting up an RIA.  And even though you might not ultimately desire to do it yourself, just know, it is doable. Again, there’s no rule that says you have to have some kind of certification or be an attorney or anything like that to do this. So it’s at least good to know what the process is and then how and why you would utilize someone else to help you with this.

So the first thing to be aware of is something called the Investment Adviser Registration Depository or the IARD system.  You can actually Google that, IARD if you want to learn more about it. But it is the online platform where you would go to register your RIA, whether you’re SEC, or state-registered. And again, that varies based on, I’ll do a video on this as well, how much assets you have and why you might be SEC or state. So look for that video if you want to learn more about that.

But that is where you would register whether again SEC or state. Now, interesting enough, the IARD system is actually run by FINRA. Even though as an RIA, you will not be regulated by FINRA, it is technically FINRA that runs the IARD system. So if you were to look it up and see that then go, “I’m in the wrong place,” know it is FINRA that runs that platform but it is for, among other things, where you would register an RIA for again either SEC or state.

So in that system, that’s where you would do the initial filing to legally set up the RIA in the first place. And it is also the same system that’s used for the updates over time…..and the frequency and you have to do that varies, it’s generally a minimum of once annually, sometimes more frequently than annual if you have certain kinds of updates. But point being it’s not just the front end system that’s used, it’s also used on a going-forward basis as well.  Again, the IARD system.

Now with respect to what actually has to go into that initial filing, and there’s four main things to keep in mind here and this has actually grown, as you’ll see, and so you know what, one day maybe I’ll be talking about more than four things but, and for most of you, it will be three but I do want to cover all four here. So with that, I’ll name them and then we’ll go over each one but is the ADV Part 1, ADV Part 2, and now relatively new here, the ADV so-called Part 3, also known as Form CRS. Now, this is a new requirement that came out of Reg Best Interest, Reg BI that came out that now involves this ADV Part 3 or Form CRS. So we’ll talk about that.

And then the fourth thing is for those of you that might ultimately be state registered as opposed to SEC. In theory, each state, unfortunately, there’s not necessarily a uniform standard in everything they do from a registration standpoint. So depends on what state you’re in, there could be a few one-offs that you might, because you’re in the State of Wyoming, might have to file some additional information as well that maybe the SEC folks don’t or a state RIA that’s in Colorado might not have to.

So real quick to go through those four. ADV Part 1, now you’re probably somewhat rather familiar with ADV Part 2 because I’m sure you use it with your clients. Now if they have fee-based accounts, it’s probably the ADV Part 2 of the corporate RIA of the firm you’re currently affiliated with. But ADV Part 1 is mostly a kind of bullets and check the box thing. It has, I don’t know 100 plus kind of form fields that you either drop in specific data, or you check the box of a whole bunch of different data points.

It’s really a way for the regulators to kind of understand the main nuts and bolts of the RIA. So everything from, your asset level down to the administrative stuff like your address, the names of the principals involved, that is all part of the ADV Part 1. And it’s not really anything that can easily be printed out, it’s really a document you view online because it is multiple pages that are structured and you kind of click to move through it. So it’s not really a user-friendly document, but it is very data-intensive to regulators certain variables that they want to be aware of. So that’s Part 1.

Part 2 is again, what generally clients see because that’s what you’re required to share with clients.  You’re not required to share Part 1 with them. Although, and I’ll do a whole video on this, will be worthwhile doing, but Part 1 if you’re not aware can be accessed and viewed online by anyone on a public website. So Part 1 and Part 2 for that matter, most people don’t realize necessarily you can look at Part 1 as well.

But Part 2 is that more narrative piece.  Part 2 is not a check the box or fill in the bubble or select from this drop-down it’s really free form. Now, when I say that, there was a time were ADV Part 2s were, there wasn’t a whole lot of guidance given of okay, what needs to be covered in an ADV Part 2. And unfortunately, as a result, these ADV Part 2s became extremely unruly. You would work with compliance consultants or attorneys and so to kind of the proverbial cover every basis they would put in so many clauses and verbiage and it would be this voluminous document that wasn’t really all that helpful to clients because it covered arguably more material than was necessary.

And so a number of years ago, the regulators came out and said….“okay, it’s still going to be a free form document as opposed to a check the box but there is going to be certain things you have to address in a certain order.” So if you were to look at an ADV Part 2 of one RIA and compare to the next, you’ll see the table of contents is generally always the same and the order of those sections is always the same.  But then how each of those sections is answered in free form text, that’s what varies from one ADV to the next. And the idea is the regulators said “let’s make this as client-friendly as possible”.

So you need to, again, that’s why it’s not just check the boxes, its try to detail out to the client the necessary information that would help them decide whether they want to enter into that relationship with your RIA. So that’s Part 2.

Kind of worked off that essentially is now this Part 3.  This Form CRS and that came out of Reg BI and so that impacted both broker-dealers and RIA’s alike.

The ADV Part 3 is much shorter than an ADV Part 2. ADV Part 2 depends on the size of the RIA, it could be 20-plus pages. This ADV Part 3, the Form CRS, actually has a prescribed maximum number of pages. It’s in the single digits.  The regulators say you have to keep it concise. You have to answer these specific things and, you know, that was kind of entirely new for the broker-dealer world.

In the RIA world, it’s certainly a new document, that document didn’t exist before. But a lot of what this Form CRS covers was already addressed for the most part in ADV Part 2. A big part of being an RIA is you have to disclose conflicts of interest to your client. In a perfect world you eliminate them all, but there’s a lot that just simply can’t be eliminated. So it’s always been that you have to disclose those and so a lot of the information that’s in this Form CRS, the ADV Part 3, for a long time now RIAs have been already completed that in their ADV Part 2. Now it’s just, hey, let’s pull out a little of that information and put it in a real specific format over here in the Part 3 as well.

So that is part of the filing as well. And then last, like I talked about earlier, depends on the state you’re in. There might be some sort of one-off requirement that your particular state, again, only if your state-registered….if you’re above $100 million, you generally don’t have to worry about that…..but your state might have a one-off and to be honest, because every state is different, I can’t even tell you if Wyoming is different than Colorado, because I’m not a compliance consultant, I don’t do that all day long. But I do know that there are differences, or could be differences from one state to the next.

If you completed all these, if you’ve learned how to do it, and went through the steps, ADV Parts 1, 2, 3 and then maybe with your state (requirements). And on the IARD system, again, you could go in there and you essentially submit all of these.

Again, this is for your initial setup. Then the respective regulator, the SEC or state, will review it and ultimately come back to you and, you know, essentially say, okay, it is complete, you can begin acting as an RIA. They do not “approve” of your RIA, and that’s real specific. You could not under any circumstances, on your website, or in your marketing materials give any sort of impression that “oh, I’m an SEC-approved RIA”. That is absolutely not allowed. They basically are looking for have you met the minimum requirements to be able to hold yourself out as an RIA.

And part of it is a background look. They’ll look at an advisor’s CRD and there could be variables there that are of concern to them that either they want additional information on or could outright prevent them from saying…“okay, you can now become officially an RIA.” So just make sure you don’t use the word “approve” in your vernacular.

The point of all this is, in theory, you could on your own become an expert on the IARD system, you could become an expert on ADV Part 1, 2, and 3 and maybe figure out what your state may or may not require and you could do this all on your own.

The reality of course, is you probably do not want to do that and there’s a reason for that. First, because of the amount of work that goes into it and the fact that it is a very complicated process. Part 1, 100-plus variables, well, it might even be 200 plus, I haven’t done a count lately. But, if you forget to maybe check this box, down on page three, you also need to be filling something else in. And again, unless you do this day in and day out, you might very well miss that. So every advisor that starts up an RIA uses a compliance consultant, and I’ll do a whole video on these as well.

These are firms that this is their specialty. This is what they do day in and day out. You go to them, you hire them, they understand all of this. They are experts because they do it over and over for all different kinds of RIA. So they are the experts in the ADV 1, 2, and 3 and they are the experts in if Wyoming is different than Colorado at the state level.

And so for the same reason clients come to work with you….in theory, you could have a very smart client that is very capable of doing research online about how to manage their money, but there’s still a reason they come to you. It’s because you do this day in and day out, you have the experience of however many years working with, however many clients and they’ll just never be able to replicate that. And even for some reason if they could there’s oftentimes quite, if nothing else in their mind it’s just better to pay someone like you to do it for them. They don’t want to do it for themselves. And so, again, the same thing, in theory, you could, you just generally would never want to try to do this filing on your own.

So the main takeaway is understand the actual steps involved. You have to create all these documents and you have to do this initial filing of that, and then when you get (acceptance) back then you can move forward. But again, the process that every advisor I’ve ever worked with and certainly would suggest any advisor going forward as well, you absolutely work with these compliance consultants to help you with this process.

And then the last piece, not that there’s very many people having any doubt that hiring someone to do this for them is the right path, but it’s not just a matter of it would be easier for you. Yes, these compliance consultants cost money, I’ll do a video on that of what you could expect from a cost perspective. But also keep in mind if you attempted to try to do it yourself and down the line, during a routine exam of your RIA, say by the SEC if you’re SEC-registered, and they might take issue with something in your ADV.  If your answer is, “Oh I did it myself, I had never done it before so I guess I just didn’t know what I was doing,” that’s not going to fly with the regulators. They don’t want to see you try to avoid the right, you know, investment to do it right because you wanted to do it yourself.

So just because you hire a compliance consultant to do it not, for you, but with you, I mean, they’ll do the bulk of the work but it is in partnership. That’s not a get out of jail card with the regulators but clearly, if you can demonstrate, “Hey, I am out here, I’m trying to work with the best consultants there are, I’m willing to put the investment into it to do it right.” That’s going to go a long way with the regulators than you saying, “Oh, I did attempt to kind of learn this all myself.”

In future videos, again, to just kind of tie all this together, I will do a video on how long this process takes, and you think, “Isn’t that a simple answer?” But, from the time you file to the time it’s through there actually are a number of variables involved. So I’ll do a whole separate video on that. And then like I said, we’ll talk about the cost of these compliance firms and why that cost might vary. So take look for those videos as well.

With that, I’m Brad Wales with Transition To RIA. And what I do is I help advisors to understand everything there is to know about why and how to transition to the RIA model. So talking about things like on this video or any of my other videos that you can go and take a look at, that’s what I help advisors do, understand how does this work? How do the economics work? What would it look like for me as an advisor, my specific circumstances? That’s what I help advisors with.

If you’re not already there, head on over to TransitionToRIA.com. Lots more videos you can look at, whitepapers, etc. And then the easiest thing to do is right at the top is a contact link, jump on that. You can instantly schedule a one on one consultation with me and I can begin the whole conversation with you as you start to learn more about what this RIA model might mean for you.

So with that, I hope you found this video helpful and I’ll see you in the next one.

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