Firm Violated Custody Rule, Allowing Rogue Employee to Steal Client Funds
A private fund sponsor agreed to settle an enforcement proceeding alleging that its violations of the custody and compliance rules allowed a rogue employee to misappropriate client funds. According to the SEC, the adviser sponsored private funds investing in real estate that produced annual dividends to be paid to investors. One of the principals delegated to an “administrative and clerical” employee the task of preparing the dividend checks. The SEC alleges that the clerical employee wrote checks to himself, thereby misappropriating client funds. The SEC charges that the firm had custody of the funds’ assets but violated the compliance rule (206(4)-2) by failing to send quarterly account statements or an annual fund audit to clients. The SEC also charges the firm for failing to conduct an annual review of the firm’s compliance policies and procedures as required by the compliance rule (206(4)-7).
OUR TAKE: This is how technical violations of the Act and its rules can result in an enforcement action. In this case, a rogue employee engaged in bad behavior. Yet, the firm ended up in an enforcement action because it failed to implement the required controls that may have prevented the wrongdoing.