Advisers Drafted by FinCEN for AML Duty, More Fines for E-Comm Retention Failures and a September Miracle, SEC Falls Back on Broken Windows Strategy, and a Refusal to Give Up on Private Fund Rules

FinCEN added to advisers’ compliance burden this month by imposing new anti-money laundering policies and procedures for January 1, 2026. The SEC also ended its fiscal year with more heart attack-inducing fines against 11 broker-dealers, investment advisers and a dual registrant for “widespread and longstanding failures” for using unapproved electronic communications methods, known as “off-channel communications.” In a surprise move, the Commission announced the first settlement where an adviser received no penalty for its record-keeping failures, presumably because of its self-reporting and selflessness by helping the SEC build a case against another firm. The SEC also continued its “broken windows” regulatory approach by announcing settlements with 11 investment managers for failing to file Form 13F and 13H with civil penalties exceeding $3.4 million. We wrap up with a case showing that the SEC has not given up on its assault on private funds, charging a firm with fraud for singling out some of its investors for preferential treatment.

New AML Rules: the Fourth Time’s the Charm

The U.S. Treasury Department’s Financial Crimes Enforcement Network (“FinCEN”) has finally imposed an anti-money-laundering rule ("the AML Rule) on SEC-registered and exempt reporting investment advisers (ERAs). FinCEN made similar proposals in 2002, 2003 and 2015 that it never finalized. The AML Rule becomes effective on January 1, 2026. Firms that already maintain an AML program will need to update their processes to include filing Suspicious Activity Reports (SARs) and Currency Transaction Reports (CTRs), responding to FinCEN requests for information about specific investors or clients, conducting independent testing, and keeping records regarding transmittals of funds.

Who Does the Rule Apply to?

According to FinCEN’s Fact Sheet, the AML rule applies to "investment advisers," including SEC-registered investment advisers and exempt reporting advisers (ERAs), except for:

• Mid-sized advisers,
• Multi-state advisers,
• Pension consultants, and
• Investment advisers that do not report any assets under management on Form ADV.

Non-U.S. investment advisers registered with the SEC are only required to comply with the AML Rule for their advisory activities in the U.S. or for advisory services provided to U.S. persons, or a foreign-located fund with an investor that is a U.S. person.

There are no exclusions for advisers that are dually registered as broker-dealers, banks, or bank subsidiaries.

What is Required under the AML Rule?

Firms subject to the AML Rule will be required to establish policies and procedures to prevent money laundering and terrorism financing. The program must:

• Implement a risk-based approach to design a program reasonably designed to prevent the firm from being used to facilitate money laundering or terrorist financing.
• Be approved by the firm’s board of directors or, if not applicable, its sole proprietor, general partner, trustee or persons with similar functions.
• Designate one or more AML compliance officers knowledgeable and competent regarding FinCEN's regulatory requirements and the firm's business and money laundering risks.
• Provide ongoing AML training for personnel.
• Include independent testing by a qualified third party or an internal function not involved in the operation and oversight of the program.
• Include procedures for conducting customer due diligence “to develop [a] baseline against which customer activity [can be] assessed for suspicious activity reporting.”
• Require filing suspicious activity reports (SARs) for any suspicious transaction or pattern of transactions involving at least $5,000 in funds.
• Require filing currency transaction reports (CTRs) with FinCEN for certain transactions in currency of more than $10,000. (Advisers are already required to report transactions in currency over $10,000 on Form 8300, which a CTR will replace.)
• Create and retain records relating to transmittals of funds (such as fund transfers) and ensure that certain information about the transmittal travels to the next financial institution in the payment chain.

Special Considerations for Private Funds

Advisers to private funds also have some obligation to investigate their underlying investors. As noted in the AML Rule's Final Release, “FinCEN expects an investment adviser that is the primary adviser to a private fund or other unregistered pooled investment vehicle to make a risk-based assessment of the money laundering, terrorist financing, and illicit finance activity risks presented by the investors in such investment vehicles by considering the same types of relevant factors, as appropriate, as the adviser would consider for customers for whom the adviser manages assets directly.” To make the assessment, FinCEN recommends that private fund advisers consider the minimum subscription amount, limits on investor types, restrictions on redemptions or withdrawals, and any currency transactions conducted with investors for each of its funds.

The Final Rule does not require investment advisers to verify the beneficial ownership of legal entity investors. FinCEN and the SEC have proposed a new rule that would require SEC-registered investment advisers and exempt reporting advisers to implement reasonable procedures to verify the identity of their customers.

Delegation Allowed

The AML Rule allows investment advisers to delegate their responsibilities under their AML programs to a third party. Advisers who delegate remain fully responsible and legally liable for compliance with the rule. FinCEN expects firms to perform continuing due diligence on their service providers to confirm that they meet their obligations. As noted in the Final Release, “it would not be sufficient to simply obtain a certification from a service provider that the service provider ‘has a satisfactory anti-money laundering program.’ However, an investment adviser could take into account such a certification as part of the investment adviser's periodic oversight of the service provider's operations with respect to the delegated obligations.”

Our Advice

Although firms have until 2026 to get ready, this new rule will require substantial time and money to comply. If recent exam trends continue, the SEC could examine firms on their AML programs shortly after the AML Rule goes into effect. We recommend that firms review the new rule and develop a road map for compliance. The first steps should include reviewing the requirements of the AML Rule and discussing the best approach to meet these new obligations.

More Fines for E-Comms Retention Failures and a Miracle – A Case Where Self-Reporting Resulted in No Civil Penalty

SEC continues beating up firms for failing to capture "off- channel" communications, recently announcing settlements with credit rating agencies, municipal advisers, broker-dealers and investment advisers. In early September, the SEC announced that six credit rating agencies agreed to pay more than $49 million in civil penalties for failing to maintain records of communications by their employees discussing their credit rating business. Two weeks later, the Commission announced charges against 12 municipal advisers for failing to maintain and preserve certain electronic communications, penalizing them with about $1.3 million in penalties. More recently, the SEC announced settlements with 12 firms, including broker-dealers, investment advisers, and a dual registrant, for similar record-keeping failures, extracting more than $88 million in combined civil penalties.

With the SEC’s fiscal year coming up on September 30, it’s no surprise that the Commission continues to return to the well to beef up its enforcement and civil penalties statistics for 2024. But in a shocking move, the SEC finally announced a settlement with an investment adviser for failing to capture off-channel communications with no civil penalties imposed! In this case, while responding to an SEC subpoena, the investment adviser discovered that it had failed to preserve off-channel communications related to recommendations and advice to buy or sell securities. According to the settlement order, the adviser conducted an internal review to identify the scope of the problem and then made changes to its compliance program “to prevent future non-compliance with its record-keeping obligations, including providing firm-wide in-person training by outside counsel.”

Based on the facts, the adviser received the subpoena in connection with the SEC’s investigation of another entity. The adviser, however, apparently went above and beyond the requests by undertaking “efforts to retrieve, analyze, and organize trading data to match orders directed by the other entity to execution data.” The adviser’s “cooperation helped conserve resources, enabling Commission staff to focus on other areas of the investigation.”

In the slew of off-channel communications settlements discussed in our August Regulatory Roundup, the SEC noted that three of the 26 firms cited had self-reported and received lesser penalties. Those self-reporters, however, still paid fines of $5.5 million and had to comply with the same conditions as the other firms, including hiring an independent consultant to review their e-communications retention policies and procedures.

Despite the SEC's insistence that self-reporting and cooperation with the Staff will result in lesser penalties, this recent case is the first time that an adviser was not fined for its record-keeping failures or required to hire an independent consultant. However, it appears that the adviser's willingness to help the Enforcement Division build a case against another firm may have been the driving force behind the SEC's largesse.

Back To Broken Windows - SEC Settles with Advisers over Form 13F Filing Failures

The SEC settled actions with 11 institutional investment managers for failing to file Form 13F. For the uninitiated, Form 13F is a quarterly report that institutional investment managers must file with at least $100 million in assets under management. Section 13(f) of the Securities Exchange Act of 1934 (the "Exchange Act") mandates the filing, which must be made within 45 days after the end of each calendar quarter. The report requires asset managers to disclose holdings of "Section 13(f) securities" over which they have discretion. Generally, 13(f) securities are U.S. publicly traded securities. The list is updated quarterly and available on the SEC’s website at http://www.sec.gov/divisions/investment/13flists.htm.

This requirement has been around since 1975 and applies to institutional investment managers with investment discretion, defined as the power to determine what securities or other assets to purchase or sell on behalf of an account. In addition to many registered investment advisers, investment companies, hedge funds, pension funds, trust companies and insurance companies are considered institutional investment managers.

Two firms (here and here) escaped fines by self-reporting the violations and cooperating with SEC staff. Interestingly, these two firms were foreign advisers and not registered with the Commission. The other firms paid fines ranging from $175,000 to $725,000, for a total of $3.4 million in combined penalties. Two firms (here and here) were also charged with failing to file Form 13H, a form declaring Large Trader Status. Section 13(h) of the Exchange Act and Rule 13h-1 require firms that, directly or indirectly, exercise investment discretion and effect transactions in National Market Securities (“NMS”) securities (generally U.S. publicly traded equities) exceeding certain levels.

In many cases, it appears the firms were unaware of their obligation to make Form 13F filings until early 2024. They may have been alerted by an SEC settlement in September 2023 with an investment adviser for failing to make Form 13F filings for seven years. Additionally, in January 2024, Regulatory Watch reported that the SEC was conducting a sweep exam targeting Form 13F filing compliance. According to the settlement orders, many of the firms named in the settlements made numerous Form 13F filings going back to 2019 to remedy their prior filing failures.

For the SEC, these cases are slam dunks. The rules are fairly clear, and compliance is easy to check. Firms should be aware of the Form 13F filing obligation and be monitoring how close they are to exceeding the $100 million threshold. Firms exceeding that threshold should ensure they have a process to make the required quarterly filings.

The Spirit of Vacated Private Fund Rules Lives On!

Although the private fund rules were vacated in June 2024, the SEC continues to use existing regulations to enforce some of their requirements. For example, the SEC settled a case with an adviser who allowed certain investors in its private fund to redeem their interests with less than five days’ notice, while other investors had to provide 30 days’ written notice. The SEC concluded that the firm’s practice of selective disclosure of its early redemption policy essentially misled the other investors, violating Advisers Act Section 206(4) and Rule 206(4)-8.

The bigger headline in this case was the SEC’s finding that the firm held its private fund crypto assets with non-qualified custodians, violating Advisers Act Rule 206(4)-2, a/k/a the Custody Rule. The firm maintained the fund’s digital assets at FTX Trading Ltd., losing half of its assets when FTX collapsed. This violation resulted in a civil penalty of $225,000 to be distributed to the harmed investors.

Photo by Daiga Ellaby on Unsplash