Too many corporations proceed to skirt Regulation Greatest Curiosity necessities when recommending non-traded actual property funding trusts to purchasers, in keeping with a brand new evaluation from the North American Securities Directors Affiliation.
The report marked the most recent step within the group’s Coordinated Nationwide Regulation Greatest Curiosity Initiative, supposed to trace registrants’ adherence to the SEC’s rule that took impact in 2020 (the primary evaluation of exams came about in 2021).
The affiliation’s Dealer/Seller Part Committee analyzed outcomes from greater than 200 exams that questioned corporations on Reg BI compliance, with an emphasis on advanced merchandise like non-traded REITs and personal placements.
Generally, whereas examiners discovered some corporations relied closely on “suitability insurance policies” in place earlier than Reg BI, most corporations had up to date insurance policies to give attention to Reg BI obligations (although extra particular directions have been wanted).
When it got here to dangerous merchandise like personal placements and non-traded REITs, corporations have been largely imposing product-specific restrictions. Practically all examined corporations restricted non-traded REIT gross sales primarily based on one or a number of elements, together with a shopper’s age, their threat profile, want for liquidity and time-horizon (although corporations have been extra more likely to have limitations versus outright gross sales prohibitions).
Moreover, some corporations restricted gross sales to accredited traders, and most corporations disallowed greater than 10% of a shopper’s liquid internet value to be invested in such merchandise. However too many corporations didn’t suggest lower-cost or lower-risk merchandise for purchasers in lieu of REITs, together with particular person fairness purchases of an actual property firm, an actual estate-focused mutual fund or ETF, or a publicly-traded REIT.
“In contrast to the extra compelling explanations that corporations supplied for recommending non-traditional ETFs over lower-risk choices, corporations tended to supply obscure and generic explanations why nontraded REITs have been beneficial in lieu of lower-cost and lower-risk alternate options,” the report learn.
As with non-traded REITs, corporations sometimes had internet earnings and value requirements and focus limits in place for personal placement suggestions and gross sales, with all analyzed corporations adhering to federal legal guidelines proscribing personal placement gross sales to accredited traders.
Focus limits sometimes mirrored these for non-traded REITs, however like these merchandise, corporations tended to place limits on personal placement gross sales quite than outright bans, in keeping with NASAA. NASAA believed the boundaries have been important, with the regulators calling personal placements “a major supply” of buyer complaints and enforcement actions.
However like non-traded REITs, some corporations had no formal investing necessities past the accredited investor restrict, and plenty of corporations didn’t require brokers to think about or supply lower-cost or lower-risk alternate options to personal placements.
NASAA harassed that corporations making most of their cash from alts wanted to make sure they weren’t sticking with suitability varieties and questionnaires in place lengthy earlier than Reg BI, with out updating them. Too many corporations didn’t replace insurance policies or product approval varieties to remind registrants they’re required to “take into account moderately obtainable alternate options,” in keeping with the report.
Examiners on the federal degree are additionally targeted on excessive value and illiquid merchandise like non-traded REITs, in keeping with the SEC’s annual Examination Priorities report. Examiners particularly targeted on how gross sales and proposals of those sorts of merchandise violated Reg BI.
However advisors are warming to alts investments regardless of the scrutiny, in keeping with an annual report from the Monetary Planning Affiliation. As of this yr, greater than half of advisors’ allocation suggestions included funds investing in varied “various” methods, whereas one in 5 advisors have been making direct investments.
The variety of registrants utilizing non-traded REITs jumped from 13.2% to 16.8% between 2019 and 2023, though the report additionally discovered that individually traded REIT suggestions went down from 20.3% to 16.8%, in keeping with the FPA. The evaluation discovered that solely 3.1% of respondents count on to suggest them inside the subsequent yr.
