Fla. Admin. Code Ann. R. 69W-600.0132 - Custody Requirements for Investment Advisers

Current through Reg. 47, No. 188; September 28, 2021

(1) Definitions. For purposes of this rule:
(a) "Custody" means holding directly or indirectly, client funds or securities, or having any authority to obtain possession of them or has the ability to appropriate them. The investment adviser has custody if a related person holds, directly or indirectly, client funds or securities, or has any authority to obtain possession of them, in connection with advisory services the investment adviser provides to clients.
1. Custody includes:
a. Possession of client funds or securities unless the investment adviser receives them inadvertently and returns them to the sender promptly, but in any case within three business days of receiving them,
b. Any arrangement (including a general power of attorney) under which the investment adviser is authorized or permitted to withdraw client funds or securities maintained with a custodian upon the investment adviser's instruction to the custodian; and,
c. Any capacity (such as general partner of a limited partnership, managing member of a limited liability company or a comparable position for another type of pooled investment vehicle, or trustee of a trust) that gives the investment adviser or the investment adviser's supervised person legal ownership of or access to client funds or securities.
2. Receipt of checks drawn by clients and made payable to third parties will not meet the definition of custody if forwarded to the third party within 24 hours of receipt and the adviser maintains the records required under subsection 69W-600.014(8), F.A.C.,
(b) "Independent certified public accountant" means a certified public accountant authorized to provide public accounting services in the State of Florida that meets the standards of independence described in Rule 2-01(b) and (c) of Regulation S-X (17 CFR 210.2-01(b) and (c)), which is incorporated by reference in Rule 69W-200.002, F.A.C.
(c) "Independent representative" means a person who:
1. Acts as agent for an advisory client, including in the case of a pooled investment vehicle, for limited partners of a limited partnership, members of a limited liability company, or other beneficial owners of another type of pooled investment vehicle and by law or contract is obliged to act in the best interest of the advisory client or the limited partners (or members, or other beneficial owners),
2. Does not control, is not controlled by, and is not under common control with the investment adviser; and,
3. Does not have, and has not had within the past two years, a material business relationship with the investment adviser.
(d) "Qualified custodian" means the following:
1. A bank or savings association that has deposits insured by the Federal Deposit Insurance Corporation under the Federal Deposit Insurance Act;
2. A broker-dealer registered in Florida and with the United States Securities and Exchange Commission holding the client assets in customer accounts;
3. A registered futures commission merchant registered under Section 4f(a) of the Commodity Exchange Act (7 U.S.C. § 6f), which is incorporated by reference in Rule 69W-200.002, F.A.C., holding the client assets in customer accounts, but only with respect to clients' funds and security futures, or other securities incidental to transactions in contracts for the purchase or sale of a commodity for future delivery and options thereon; and,
4. A foreign financial institution that customarily holds financial assets for its customers, provided that the foreign financial institution keeps the advisory clients' assets in customer accounts segregated from its proprietary assets.
(e) "Related person" means any person, directly or indirectly, controlling or controlled by the investment adviser, and any person that is under common control with the investment adviser.
(2) Safekeeping required. If the investment adviser is registered or required to be registered, it is unlawful for the investment adviser to have custody of client funds or securities unless the following requirements in paragraphs (2)(a)-(i) are met:
(a) Notice to Office. The investment adviser notifies the Office of Financial Regulation (Office) within thirty (30) days in writing that the investment adviser has or may have custody. Such notification is required to be given on Form ADV, Uniform Application for Investment Adviser Registration (09-19), which is hereby incorporated by reference and available at http://www.flrules.org/Gateway/reference.asp?No=Ref-12568.
(b) Qualified Custodian. A qualified custodian maintains those funds and securities:
1. In a separate account for each client under that client's name; or
2. In accounts that contain only the investment adviser's clients' funds and securities, under the investment adviser's name as agent or trustee for the clients, or, in the case of a pooled investment vehicle that the investment adviser manages, in the name of the pooled investment vehicle.
(c) Notice to Clients. If the investment adviser opens an account with a qualified custodian on its client's behalf, under the client's name, under the name of the investment adviser as agent, or under the name of a pooled investment vehicle, the investment adviser must notify the client in writing of the qualified custodian's name, address, and the manner in which the funds or securities are maintained, promptly when the account is opened and following any changes to this information.
(d) Account Statements. The investment adviser must have an agreement with the qualified custodian for the qualified custodian to send an account statement, at least quarterly, to each client for which it maintains funds or securities, identifying the amount of funds and of each security in the account at the end of the period and setting forth all transactions in the account during that period.
(e) Special rule for limited partnerships and limited liability companies. If the investment adviser or a related person is a general partner of a limited partnership (or managing member of a limited liability company, or holds a comparable position for another type of pooled investment vehicle), the investment adviser must direct the qualified custodian to send the account statements required under paragraph (2)(d) of this rule, to each limited partner (or member or other beneficial owner).
(f) Independent Verification. The client funds and securities of which the investment adviser has custody are verified by actual examination at least once during each calendar year, by an independent certified public accountant, pursuant to a written agreement between the investment adviser and the independent certified public accountant, at a time that is chosen by the independent certified public accountant without prior notice or announcement to the investment adviser and that is irregular from year to year. The written agreement must provide for the first examination to occur within six months of becoming subject to this paragraph, except that, if the investment adviser maintains client funds or securities pursuant to this rule as a qualified custodian, the agreement must provide for the first examination to occur no later than six months after obtaining the internal control report. The written agreement must require the independent certified public accountant to:
1. File a certificate on Form ADV-E electronically through the Investment Adviser Registration Depository (IARD) of the Financial Industry Regulatory Authority (FINRA) with the Office within 120 days of the time chosen by the independent certified public accountant in paragraph (2)(f) of this rule, stating that it has examined the funds and securities and describing the nature and extent of the examination. Form ADV-E (01-13) is hereby incorporated by reference and a sample form is accessible at http://www.flrules.org/Gateway/reference.asp?No=Ref-05357 or http://www.flofr.com/StaticPages/DivisionOfSecurities.htm.
2. Notify the Office in writing within one business day of the finding of any material discrepancies during the course of the examination; and,
3. File within four business days of the resignation or dismissal from, or other termination of, the engagement, or removing itself or being removed from consideration for being reappointed, Form ADV-E accompanied by a statement that includes:
a. The date of such resignation, dismissal, removal, or other termination, and the name, address, and contact information of the independent certified public accountant; and,
b. An explanation of any problems relating to examination scope or procedure that contributed to such resignation, dismissal, removal, or other termination.
(g) Investment advisers acting as qualified custodians. If the investment adviser maintains, or if the investment adviser has custody because a related person maintains client funds or securities pursuant to this rule as a qualified custodian in connection with advisory services the investment adviser provides to clients:
1. The independent certified public accountant the investment adviser retains to perform the independent verification required by paragraph (2)(f) of this rule, must be registered with, and subject to regular inspection as of the commencement of the professional engagement period, and as of each calendar year-end, by, the Public Company Accounting Oversight Board in accordance with its rules; and,
2. The investment adviser must obtain, or receive from its related person, within six months of becoming subject to this rule and thereafter no less frequently than once each calendar year, a written internal control report prepared by an independent certified public accountant:
a. The internal control report must include an opinion of an independent certified public accountant as to whether controls have been placed in operation as of a specific date, and are suitably designed and are operating effectively to meet control objectives relating to custodial services, including the safeguarding of funds and securities held by either the investment adviser or a related person on behalf of the investment adviser's clients, during the year;
b. The independent certified public accountant must verify that the funds and securities are reconciled to a custodian other than the investment adviser or the investment adviser's related person; and,
c. The independent certified public accountant must be registered with, and subject to regular inspection as of the commencement of the professional engagement period, and as of each calendar year-end, by the Public Company Accounting Oversight Board in accordance with its rules.
(h) Independent Representative. A client may designate an independent representative to receive, on his behalf, notices and account statements as required under paragraphs (2)(c) and (2)(d) of this rule.
(i) Direct Fee Deduction. An investment adviser who has custody as defined in sub-subparagraph (1)(a)1.b. of this rule, as a consequence of its authority to make withdrawals from client accounts to pay its advisory fee must also provide the following safeguards:
1. The adviser must have written authorization from the client to deduct advisory fees from the account held with the qualified custodian;
2. Each time a fee is directly deducted from a client account, the adviser must concurrently:
a. Send the qualified custodian an invoice of the amount of the fee to be deducted from the client's account; and,
b. Send the client an invoice itemizing the fee. Itemization includes the formula used to calculate the fee, the amount of assets under managements the fee is based on, and the time period covered by the fee; and,
3. The investment adviser must notify the Office in writing that the investment adviser intends to use the safeguards provided above. Such notification is required to be given on Form ADV, Uniform Application for Investment Adviser Registration (09-19), which is hereby incorporated by reference and available at http://www.flrules.org/Gateway/reference.asp?No=Ref-12568.
(3) Exceptions to certain safekeeping requirements.
(a) Shares of mutual funds. With respect to shares of an "open-end company" as defined in Section 5(a)(1) of the Investment Company Act of 1940, (15 U.S.C. § 80a-5(a)(1)), ("mutual fund"), which is incorporated by reference in Rule 69W-200.002, F.A.C., the investment adviser may use the mutual fund's transfer agent in lieu of a qualified custodian for purposes of complying with subsection (2) of this rule;
(b) Certain privately offered securities.
1. The investment adviser is not required to comply with paragraph (2)(b) of this rule, with respect to securities that are:
a. Acquired from the issuer in a transaction or chain of transactions not involving any public offering;
b. Uncertificated, and ownership thereof is recorded only on books of the issuer or its transfer agent in the name of the client; and,
c. Transferable only with prior consent of the issuer or holders of the outstanding securities of the issuer.
2. Notwithstanding subparagraph (3)(b)1. of this rule, the provisions of paragraph (3)(b) of this rule are available with respect to securities held for the account of a limited partnership (or limited liability company, or other type of pooled investment vehicle) only if the limited partnership is audited, the audited financial statements are distributed, as described in paragraph (3)(d) of this rule, and the investment adviser notifies the Office in writing that the investment adviser intends to provide audited financial statements, as described above. Such notification is required to be given on Form ADV, Uniform Application for Investment Adviser Registration (09-19), which is hereby incorporated by reference and available at http://www.flrules.org/Gateway/reference.asp?No=Ref-12568.
(c) Direct Fee Deduction. An investment adviser is not required to obtain an independent verification of client funds and securities maintained by a qualified custodian under paragraph (2)(f) of this rule, if the investment adviser has custody solely as a consequence of its authority to make withdrawals from client accounts to pay its advisory fee and has written authorization from the client to deduct advisory fees from the account held with the qualified custodian.
(d) Limited partnerships subject to annual audit. An investment adviser is not required to comply with paragraphs (2)(c) and (2)(d), and shall be deemed to have complied with paragraph (2)(f) of this rule, with respect to the account of a limited partnership (or limited liability company, or any other type of pooled investment vehicle) if each of the following conditions in subparagraphs 1. through 6. are met:
1. The adviser sends to all limited partners (or members or other beneficial owners) at least quarterly, a statement showing:
a. The total amount of all additions to and withdrawals from the fund as a whole as well as the opening and closing value of the fund at the end of the quarter based on the custodian's records;
b. A listing of all long and short positions on the closing date of the statement in accordance with FASB Rule ASC 946-210-50, which is incorporated by reference in Rule 69W-200.002, F.A.C.;
c. The total amount of additions to and withdrawals from the fund by the investor as well as the total value of the investor's interest in the fund at the end of the quarter;
2. At least annually the fund is subject to an audit and distributes its audited financial statements prepared in accordance with generally accepted accounting principles to all limited partners (or members or other beneficial owners) within 120 days of the end of its fiscal year;
3. The audit is performed by an independent certified public accountant that is registered with, and subject to regular inspection as of the commencement of the professional engagement period, and as of each calendar year-end, by the Public Company Accounting Oversight Board in accordance with its rules;
4. Upon liquidation, the adviser distributes the fund's final audited financial statements prepared in accordance with generally accepted accounting principles to all limited partners (or members or other beneficial owners) and the Office promptly after the completion of such audit;
5. The written agreement with the independent certified public accountant must require the independent certified public accountant to, upon resignation or dismissal from, or other termination of, the engagement, or upon removing itself or being removed from consideration for being reappointed, notify the Office within four business days accompanied by a statement that includes:
a. The date of such resignation, dismissal, removal, or other termination, and the name, address, and contact information of the independent certified public accountant; and,
b. An explanation of any problems relating to audit scope or procedure that contributed to such resignation, dismissal, removal, or other termination; and,
6. The investment adviser must also notify the Office in writing that the investment adviser intends to employ the use of the statement delivery and audit safeguards described above. Such notification is required to be given on Form ADV, Uniform Application for Investment Adviser Registration (09-19), which is hereby incorporated by reference and available at http://www.flrules.org/Gateway/reference.asp?No=Ref-12568.
7. An investment adviser that meets the conditions of subparagraphs 1. through 6., above, shall only be required to meet the net capital requirements of paragraph 69W-600.0161(1)(b), F.A.C., and the financial reporting requirements of paragraph 69W-600.0161(2)(b), F.A.C.
(e) Investment Adviser as Trustee. When a trust retains an investment adviser, associated person of an investment adviser or employee, director or owner of an investment adviser as trustee and the investment adviser acts as the investment adviser to that trust, an investment adviser is not required to obtain an independent verification of client funds and securities maintained by a qualified custodian under paragraph (2)(f) of this rule, if the investment adviser instructs the qualified custodian of the trust as follows in subparagraphs 1. through 3.:
1. Payment of fees. The qualified custodian will not deliver trust securities to the investment adviser, any associated person of the investment adviser or employee, director or owner of the investment adviser, nor will the investment adviser instruct the qualified custodian to transmit any funds to the investment adviser, any associated person of the investment adviser or employee, director or owner of the investment adviser, except that the qualified custodian may pay trustees' fees to the trustee and investment management or advisory fees to investment adviser, provided that:
a. The grantor of the trust or attorneys for the trust, if it is a testamentary trust, the co-trustee (other than the investment adviser, associated person of the investment adviser or employee, director or owner of the investment adviser), or a defined beneficiary of the trust has authorized the qualified custodian in writing to pay those fees,
b. The statements for those fees show the amount of the fees for the trustee and, in the case of statements for investment management or advisory fees, show the value of the trust assets on which the fee is based and the manner in which the fee was calculated; and,
c. The qualified custodian agrees to send to the grantor of the trust, the attorneys for a testamentary trust, the co-trustee (other than the investment adviser, associated person of the investment adviser or employee, director or owner of the investment adviser), or a defined beneficiary of the trust, at least quarterly, a statement of all disbursements from the account of the trust, including the amount of investment management fees paid to the investment adviser and the amount of trustees' fees paid to the trustee.
2. Distribution of Assets. Except as otherwise set forth in sub-subparagraph a. below, the qualified custodian may transfer funds or securities, or both, of the trust only upon the direction of the trustee. The grantor of the trust or attorneys for the trust, if it is a testamentary trust, the co-trustee (other than the investment adviser, associated person of the investment adviser or employee, director or owner of the investment adviser), or a defined beneficiary of the trust, must designate the authorized signatory for management of the trust. The direction to transfer funds or securities, or both, can only be made to the following:
a. To a trust company, bank trust department or brokerage firm independent of the investment adviser for the account of the trust to which the assets relate;
b. To the named grantors or to the named beneficiaries of the trust;
c. To a third person independent of the investment adviser in payment of the fees or charges of the third person including, but not limited to: Attorney's, accountant's, or custodian's fees for the trust; and taxes, interest, maintenance or other expenses, if there is property other than securities or cash owned by the trust;
d. To third persons independent of the investment adviser for any other purpose associated with the management of the trust; or
e. To a dealer in the normal course of portfolio purchases and sales, provided that the transfer is made on payment against delivery basis or payment against trust receipt; and,
3. Statements. If the qualified custodian agrees to these instructions and is authorized to pay the fees, the investment adviser will send to the grantor of the trust, the attorney of the trust if it is a testamentary trust, the co-trustee (other than the investment adviser, associated person of the investment adviser or employee, director or owner of the investment adviser), or a defined beneficiary of the trust, at the same time that it sends any statement to the qualified custodian, a statement showing the amount of the trustees' fees or investment management or advisory fee, the value of the assets on which the fees were based, and the specific manner in which the fees were calculated.
4. An investment adviser that meets the conditions of subparagraphs 1. through 3., above, shall only be required to meet the net capital requirements of paragraph 69W-600.0161(1)(b), F.A.C., and the financial reporting requirements of paragraph 69W-600.0161(2)(b), F.A.C.
(f) Beneficial Trusts. The investment adviser is not required to comply with safekeeping requirements of subsection (2) of this rule, if the investment adviser has custody solely because the investment adviser, associated person of the investment adviser or employee, director or owner of the investment adviser is the trustee for a beneficial trust, and if all of the following conditions in subparagraphs 1. and 2., are met for each trust:
1. The beneficial owner of the trust is a parent, a grandparent, a spouse, a sibling, a child or a grandchild of the trustee. These relationships shall include "step" relationships; and,
2. For each account under subparagraph 1. the investment adviser complies with the following:
a. Provide a written statement to each beneficial owner of the account setting forth a description of the requirements of subsection (2) of this rule, and the reasons why the investment adviser will not be complying with those requirements;
b. Obtain from each beneficial owner a signed and dated statement acknowledging the receipt of the written statement required under sub-subparagraph a., above;
c. Maintain a copy of both documents described in sub-subparagraphs a. and b., above, until the account is closed or the investment adviser is no longer trustee.
3. An investment adviser that meets the conditions of subparagraphs 1. and 2., above, shall only be required to meet the net capital requirements of paragraph 69W-600.0161(1)(b), F.A.C., and the financial reporting requirements of paragraph 69W-600.0161(2)(b), F.A.C.
(g) Registered investment companies. The investment adviser is not required to comply with this rule with respect to the account of an investment company registered under the Investment Company Act of 1940 (15 U.S.C. § 80a-1 through 80a-64), which is incorporated by reference in Rule 69W-200.002, F.A.C.
(4) Delivery to Related Persons. Sending an account statement under paragraph (2)(e) of this rule, or distributing audited financial statements under paragraph (3)(d) of this rule, shall not satisfy the requirements of this rule if such account statements or financial statements are sent solely to limited partners (or members or other beneficial owners) that themselves are limited partnerships (or limited liability companies, or another type of pooled investment vehicle) and are related persons of the investment adviser.

Notes

Fla. Admin. Code Ann. R. 69W-600.0132

Rulemaking Authority 517.03(1), 517.1215 FS. Law Implemented 517.1215 FS.

New 10-23-06, Amended 11-22-10, Amended by Florida Register Volume 40, Number 175, September 9, 2014 effective 9-22-14, Amended by Florida Register Volume 41, Number 077, April 21, 2015 effective 5-6-15, Amended by Florida Register Volume 45, Number 221, November 13, 2019 effective 11-26-19, Amended by Florida Register Volume 47, Number 002, January 5, 2021 effective 1-18-21.

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