Companies in the growing “wealthtech” space often face novel regulatory and legal issues under the federal securities laws. Wealthtech companies blend traditional asset management and brokerage services with new technologies: among others, algorithmic modeling, including but not limited to artificial intelligence (AI); social media tools that allow investors to interact with one another; sophisticated communication protocols that facilitate more efficient trading; and data scraping to generate new sources of information about the economy, investments, and particular investors. Some wealthtech companies are registered broker-dealers or investment advisers; some provide services to these registered entities but are themselves unregistered.
An increasingly prominent slice of the fintech sector, wealthtech companies have caught the attention of the U.S. Securities and Exchange Commission (SEC), which has highlighted emerging technologies as an examination priority, issued guidance on their use, and announced proposed rules relevant to the industry.1
Especially in light of this SEC scrutiny, a few key issues for wealthtech companies to consider include the following:
- Investment advisers, broker-dealers, and their lawyers need to know technology. Complex technologies (such as AI) can be difficult to understand, predict, and monitor, even for engineers. The challenges are even greater for non-engineering employees of the advisers and brokers that investors trust with their money.
Regulators are generally not sympathetic, however, to the idea that investment professionals (or their general counsels) do not understand technology. Instead, regulators insist that anyone entrusted with making investment recommendations or trading for clients understand how technology works and what its risks are. They also demand ongoing supervision of what technology may be doing.
As a result, the legal and compliance staff of wealthtechs using sophisticated technology should ensure they fully understand that tech and its shortcomings, and carefully consider whether and how its use is consistent with a wealthtech’s regulatory obligations to clients, including those that derive from an investment adviser’s fiduciary duties or a broker’s duty to act in a customer’s best interest.
- Sophisticated wealth management technology can create registration obligations for developers, even when users generally operate them on their own. Complex and innovative technology products that help investors allocate investments, provide trading signals, connect investors to facilitate trades (including via defi protocols), or otherwise help users engage in investing activities may be subject to regulation even if their products are sold as a type of software, “calculator,” or similar tool. Wealthtech companies should therefore consider whether their innovative offerings subject them to regulation as an investment adviser, broker, exchange, or other intermediary.
Starting decades ago, for example, the SEC and its staff insisted that technologies used to provide information about potential investing decisions can subject developers to regulation under the Investment Advisers Act of 1940 (Advisers Act), depending on factors such as how sophisticated and proprietary an algorithm is, the public availability of the data used, how much control users have in tailoring a service using bespoke inputs, how sophisticated users are, and others.2 In general, the more novel and complex a service is, and the less sophisticated users are, the more likely the service is to constitute advice the SEC deems subject to regulation.
Based on this guidance, recent developments in AI and other sophisticated technologies raise the very real possibility that providing access to these tools for investment purposes will subject developers to Advisers Act regulation, due to the sophisticated nature of the tech. Developers should not assume that structuring their investment-related products as subscription software services or using similar product models will eliminate the need to comply with regulation—it is very possible that strategy will not be successful.
- Marketing using social media is still marketing. Many companies in the wealthtech sector use social media outlets and influencers to market their products. These arrangements may not always allow a company to dictate message as much as it would like: YouTubers and others in the space may insist on creative control. The company placing an ad or buying airtime will ultimately be responsible, however, for what is said in a marketing campaign it pays for, under applicable regulation.
To the extent an adviser or broker uses these outlets, it should negotiate guardrails for content and as much review and approval as possible. If a marketing outlet does not allow these types of restraints, the company may need to walk away—this is a situation when not all publicity is good publicity.
- Social media tools can also raise regulatory risk for wealthtechs based on investor activity. The use of social media technologies on investment platforms can be attractive to investors, who are able to identify trends, track economic developments, and vet ideas using those tools. These interactions can, however, raise insider trading or other fraud-based concerns if a user divulges nonpublic information or seeks to manipulate market pricing through posts. In addition, when investors interact they can cross a line into providing regulated investment advice—particularly when they know something about the investment objectives of those they are interacting with and have the opportunity to benefit from providing that advice such that they receive “compensation.”3 And if a wealthtech allows investors to interact using social media, it could be held responsible for aiding and abetting or causing any investor activities as illegally unregistered investment advisers.
Wealthtechs that provide social media tools to investors should ensure they have rules governing the use of those tools so that investors are not providing regulated investment advice to one another or engaging in fraud—for example, by prohibiting payments from one investor to another, forbidding investment professionals from using the platform to recruit clients, and restricting postings if an investor has insider information or could otherwise personally benefit from trading based on what they post.
- Partnering with regulated service providers can help but is not necessarily free from securities law regulation. In some cases, wealthtech companies partner with registered investment advisers or broker-dealers to provide their services to investors, so that the regulated entity takes responsibility for compliance. This often occurs in “brokerage-as-a-service,” “advice-as-a-service,” or similar models for providing wealth management tools to investors. These models only protect an unregistered wealthtech company so far, however.
If an unregistered wealthtech is providing regulated services, it can still be held responsible for failing to register and comply independently. In addition, the wealthtech may be contractually on the hook for a regulated entity’s compliance obligations. Finally, the SEC has proposed rules that would impose specific diligence and monitoring requirements on investment advisers when they use third-party service providers, which will inevitably mean that fintech service providers have additional obligations in their partnerships with advisers. Those rules may be adopted in fall of 2024.4
Unregistered wealthtechs that partner with registered advisers and brokers should be deliberate about what they commit to and consider whether the scope of their activities brings them into direct regulation, depending on factors such as the services provided; whom they provide those services to, either directly or indirectly; and how they are paid.
[1] See, e.g., Office of Information and Regulatory Affairs, Agency Rule List – Spring 2024 – Securities and Exchange Commission (agenda including rules on use of predictive data analytics such as artificial intelligence (AI); safeguarding assets, including digital assets; outsourcing by investment advisers to third parties, including financial technology companies; and others); SEC Division of Examinations, 2023 Examination Priorities, at 14 (noting the division’s focus on examinations of investment advisers and broker-dealers offering new products or services or incorporating new technologies); SEC, Further Definition of “As a Part of a Regular Business” in the Definition of Dealer and Government Securities Dealer in Connection with Certain Liquidity Providers (adopting release) (Feb. 6, 2024) (stating that emerging technologies such as defi platforms that provide liquidity and market making services can be regulated as dealers); SEC, Conflicts of Interest Associated with the Use of Predictive Data Analytics by Broker-Dealers and Investment Advisers (Proposing Release) (July 26, 2023) (proposing rules governing the use of AI and other data analytics by broker-dealers and investment advisers); SEC, Outsourcing by Investment Advisers (Proposing Release) (Oct. 26, 2022) (proposing rules governing relationship with service providers, including financial technology companies).
[2] See, e.g., Datastream International, Inc., SEC Staff No-Action Letter (Mar. 15, 1993); EJV Partners, L.P., SEC Staff No-Action letter (Dec 7, 1992).
[3] See, e.g., Lowe v. SEC, 472 U.S. 181 (1985) at 207–08 (stating the Investment Advisers Act of 1940 (Advisers Act) was designed regulate those who provide personalized advice); see also Advisers Act Section 202(a)(11) (defining an investment adviser as a person who provides investment advice for compensation). Historically, the SEC has taken an expansive view of what constitutes compensation. See, e.g., SEC v. Ahmed, 308 F. Supp. 3d 628, 653 (D. Conn.) (“There is no requirement that an investment adviser be compensated in any particular way”) 343 F. Supp. 3d 16 (D. Conn. 2018); Family Life Ins. Co., SEC Staff No-Action Letter. (Apr. 2, 1974) (potential for new business in the form of insurance contracts sufficient “compensation”).
[4] See Outsourcing by Investment Advisers; Agency Rule List.
