SEC Staff Issues Risk Alert Regarding Examination Process for Registered Funds

Who may be interested: Registered Investment Companies; Advisers to Registered Investment Companies; Compliance Officers; Board of Directors

Quick Take: The SEC staff (Staff) published a risk alert (Alert) summarizing deficiencies observed in recent fund examinations and providing information about the examination process, including categories of inquiry and the types of documents and information typically requested by the Staff in an exam. The Alert addresses, among other things, the following: how the Staff selects registered investment companies for exams; areas for review during an exam; and Staff observations about weaknesses related to fund compliance programs, disclosures and filings, and governance practices.

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Examination Selection and Scope

The Staff provided insight into the selection and scoping process for fund exams. The Staff considers many factors, including:

• whether a fund’s investment strategy and/or portfolio holdings meet criteria relevant to the focus areas described in the Staff’s priorities;
• whether new regulatory requirements are applicable to the particular funds;
• a fund complex’s examination history or when it first commenced operations; and
• fund-specific and adviser-specific risk factors, stemming from business activities, conflicts of interest, and/or regulatory history.

The Staff said their risk assessment and scope of the exam is based on ownership structure, business models, affiliations, applicable business practices, conflicts, and higher-risk activities. Fund exams typically include three core areas, which are compliance programs, fund governance, and disclosure and regulatory filings.

The Staff highlighted some areas ripe for examination in funds:

• compliance policies and procedures around allocating expenses between the adviser and the fund(s), or among funds/advisory clients;
• whether boards request and receive information related to the funds’ fees, expenses, performance, conflicts of interest, or relevant risks; and
• the board’s advisory agreement approval process, including requests and responses, and fee comparisons to internal or external peer funds or other types of clients.

Staff Observations from Examinations 

The Alert describes deficiencies and weaknesses observed by the Staff over the most recent four-year period. The Staff noted that compliance program deficiencies covered a wide range of topics, including custody, fee billing, derivatives and liquidity risk management programs, valuation portfolio management, trade allocation and errors, distribution, affiliated transactions, and brokerage execution. Deficiencies included:

Fund Compliance Programs:

• funds did not exercise oversight or perform reviews required by policies and procedures, exemptive orders or specific rules, or did not assess the effectiveness of their compliance programs;
• funds did not adopt, implement, update, and/or enforce policies and procedures;
• policies and procedures were not tailored to a fund’s business model or were incomplete, inaccurate, or inconsistent with actual practices (notably, on derivatives risk management and redemption requests);
• the fund’s code of ethics was not adopted, implemented, followed, enforced, or was inadequate (resulting in trading in restricted securities or non-reporting); and
• CCOs did not provide requisite written annual compliance reports to fund boards.

Fund Disclosures and Filings:

• fund registration statements, fact sheets, annual reports, and semi-annual reports were incomplete, contained outdated information, were inconsistent with actual investment practices, or contained potentially misleading statements;
• sales literature, including websites, appeared to contain untrue statements or omissions of material fact; and
• fund regulatory filings were not made or were late.

Fund Governance Practices:

• board approvals of advisory agreements appeared to be inconsistent with the 1940 Act or the fund’s written compliance procedures, including lack of sub-advisory agreement reviews, failing to request or receive information about some topics (such as advisory fees and soft dollars) and failing to consider changes of control in the adviser;
• boards did not receive adequate information to effectively oversee fund practices, including concerning illiquid investment limit breaches and compliance program changes;
• boards did not perform required responsibilities, such as failing to make required finding about insurance programs, or failing to tailor policies and procedures to reflect actual fund operations; and
• board minutes did not fully document board actions and did not memorialize board approvals or accurately capture the board’s process and considerations in approving an advisory agreement.

Typical Information Request

Lastly, the Alert indicates what is typically included in the Staff’s initial request prior to conducting an examination, including:

• general information about a fund’s business and operations;
• information about the compliance risks to which the fund and its adviser are subject and the written policies and procedures that have been adopted and implemented to address each of those risks;
• information to assess board governance processes and the efficacy of board oversight of a fund’s compliance program; and
• information to facilitate the Staff’s testing for compliance in various areas.

For more detailed information, the published Alert can be found here. Additionally, a prior Seward and Kissel blog post on the 2025 SEC Examination Priorities can be found here.