House Committee Urges SEC to Withdraw Custody Proposal
Commentary by Steven Lofchie
House Financial Services Committee members urged the SEC to withdraw its proposed rule on "Safeguarding Advisory Client Assets." The legislators argued that the proposal (i) deviates from traditional custody practices, (ii) increases the cost of custodial services and (iii) lacks a comprehensive economic analysis.
As previously covered, the SEC proposed to significantly amend and redesignate Advisers Act Rule 206(4)-2 ("Custody of Funds or Securities of Clients by Investment Advisers"), expanding its requirements. The proposed changes are intended to require the safekeeping of virtually all client assets by "qualified custodians" - a term that generally includes U.S. financial institutions and certain foreign financial institutions - at all times (including during the trade settlement process).
In a letter addressed to SEC Secretary Vanessa A. Countryman and signed by House Financial Services Committee Chair Patrick McHenry (R-NC), Digital Assets, Financial Technology and Inclusion Subcommittee Chair French Hill (R-AR) and several other committee members, the legislators warned that the proposal would "fundamentally reshape" custody practices and impose insurance requirements for qualified custodians that would be "exorbitantly expensive." They argued that "like many of the agency’s other rulemakings," the proposal far exceeds the SEC’s statutory mandate by applying to all assets, rather than just those within its jurisdiction.
Further, the legislators expressed concern that the proposal would have an "outsized impact" on digital assets by (i) preventing smaller entrants from engaging in digital asset custody and (ii) creating disincentives for firms to offer custodial services for RIAs involved in digital assets.
Commentary
It would be a shame if the debate over the SEC's custody proposal became focused on the problems that it would create for the custody of digital assets. The problems with the proposal are far broader. Consider, for example, what happens when banks, including foreign banks, simply refuse to sign the types of agreements that the SEC would demand that U.S. advisers obtain? Are advisers going to be required to liquidate customer's assets? There are going to be a lot of unhappy investors.
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The SEC proposed to significantly amend and redesignate the Advisers Act "Custody Rule," expanding its requirements. The proposal also amends related recordkeeping and reporting obligations.
