IA Settles SEC Charges for "Materially Inconsistent Representations" on AML Practices
Commentary by Jeff Ziesman
An investment adviser settled SEC charges for misrepresentations made to investors as to its anti-money laundering ("AML") due diligence practices.
According to the Order, the firm: (i) failed to conduct AML due diligence on prospective and existing investors, contrary to representations in offering documents that it performed such reviews; (ii) did not verify the identities of beneficial owners or confirm sources of funds as required under its stated AML policies; and (iii) overlooked significant red flags, including public reports linking certain investors to potential money laundering activities.
The SEC found that the firm violated IAA Section 206(4) ("Prohibited transactions by investment advisers") and Rule 206(4)-7 ("Compliance procedures and practices") thereunder.
To settle the charges, the firm agreed to (i) cease and desist from further violations, (ii) a censure and (iii) pay a $150,000 civil penalty.
Commentary
It has long been fundamental in the investment management industry that participants must say what they do, and do what they say. In this matter, an SEC registered investment adviser ("RIA"), was an advisor to several pooled investment vehicles. The firm's private fund investors included a number of multiple foreign-based entities, some with certain opaque beneficial ownership and sources of wealth.
Because of its client base and business model, this RIA represented to clients that it had adopted a full-blown anti-money laundering ("AML") program, even though such requirements did not then apply to RIAs. In particular, the RIA represented that it conducted specific types of AML due diligence on prospective investors and conducted ongoing AML due diligence monitoring on existing investors. This was important because of (among other things) the nature of some of the RIA's private fund investors.
Nevertheless, according to the SEC Order, the RIA's AML due diligence practices were materially different from those represented in offering and other documents. The Order cited examples of the RIA's failure to obtain basic documents regarding beneficial ownership information for customer entities. In one instance, an "Investor B" made three different investments in a pooled investment vehicle, through a foreign entity. The SEC found that the RIA knew that Investor B indirectly owned the foreign entity. Most problematically, just one week before Investor B's first investment in the pooled investment vehicle, a major media outlet reported that Investor B may have had some connection to money laundering. The Order recounted that the RIA did not collect all required AML documentation for its files on Investor B until nearly four years later, when foreign authorities officially sanctioned Investor B and a foreign court imposed an asset freeze on Investor B.
This case is important for at least two reasons. First, it is a reminder that investment management firms must fully and reasonably comply with commitments that they make to prospective and existing investors. Second, and from a broader standpoint, most SEC RIAs and other SEC Exempt Reporting Advisers ("ERAs") will be required to have implemented risk-based AML programs by January 1, 2026. The SEC and FinCEN will have enforcement authority for these new AML requirements.
The facts here, read like a typical AML case—the kind that the SEC, FinCEN and/or FINRA have been bringing against a broker dealer for years. The references to "red flags" and due diligence regarding this RIA's client base are reminders that RIAs and ERAs will be required to obtain and understand basic information about their customers and their sources of funds. In short, expect more of this kind of enforcement action starting in 2026. Firms should be taking active steps to: (1) identify any gaps in their processes; (2) understand their overall AML risk, given their business model; and (3) because AML typically involves a cross-section of firm departments, start forming working groups to identify risks and sketching out the contours of an AML Program.