The firm and its fund distributor will pay $40 million to settle claims in what the SEC says is 'first' in an ongoing series of investigations.
The Securities and Exchange Commission Monday charged an asset manager with improperly using mutual fund shareholder's assets to pay two unnamed brokerage firms to market and distribute its funds.
First Eagle Investment Management and FEF Distributors, the company's distribution arm, will pay $40 million to settle the SEC's charges, according to a statement by the regulators. The money will be used to repay affected fund shareholders.
The SEC said the settlement is the “first” action as part of an ongoing series of investigations being pursued by the regulator. It's unclear whether the investigations target just asset management firms or broker-dealers as well.
Mutual fund managers routinely pay money to broker-dealers and other financial intermediaries to get their funds on platforms, distributed through financial advisers, and in the accounts of everyday investors.
But those payments can only come out of the assets of a fund itself as part of a 12b-1 plan, in which those costs are disclosed to shareholders and fund boards. The SEC has been investigating whether funds are illegally being funneled to broker-dealers under the guise of being paid for accounting and other services.
Funds can pay additional expenses for services done by broker-dealers, often called sub-transfer agency payments. Those payments can come out of fund assets only if they are for services provided, and not, for instance, for access to a firm's clients.
The SEC said First Eagle and its distribution partner “unlawfully caused the First Eagle Funds to pay nearly $25 million for distribution-related services, rather than making the payments out of the firms' own assets.”
“Mutual fund advisers have a fiduciary duty to manage the conflict of interest associated with fund distribution, namely whether to use their own assets or to recommend to their fund's board to use the fund's assets to distribute shares,” said Julie M. Riewe, co-chief of the asset management enforcement unit at the SEC, in a statement. “First Eagle breached that fiduciary duty by using the funds' assets rather than its own money to pay for distribution and failed to provide accurate information to the funds' boards.”
The SEC said First Eagle “inaccurately” told the boards serving their funds that the fees they were paying were for those accounting services, not for distribution. And in its offering documents for the funds, the firm said it was paying distribution expenses itself, not via fund shareholders. The violations took place from January 2008 to March 2014, the SEC said.
“We are pleased to have reached an agreement with the SEC that will allow us to reimburse affected fund shareholders,” First Eagle said in a statement. “The SEC has acknowledged First Eagle's cooperation, noting that we acted promptly to remedy the issue and that we immediately offered to return the money paid from the funds' assets. We sincerely regret this matter and have taken steps to strengthen our policies and procedures.”
Broker-dealers became more involved in the recordkeeping of mutual funds in the 1990s, as fund distribution has exploded through third-party distributors, from the major wirehouses and other broker-dealers to the rise of what are known as fund supermarkets at discount brokers like Charles Schwab & Co. Inc. Lawyers who serve the fund industry say the rules around payments for distribution have been a gray zone in the years since broker-dealers took on greater responsibility for managing fund assets.
But the SEC is responding to concerns that higher fees generated by some of those broker-dealers is not actually for services but for access.
“The SEC is seeking to determine whether some mutual fund advisers are improperly using fund assets to pay for distribution by masking the payments as sub-transfer agency (sub-TA) payments,” the SEC said in a statement.
While the SEC did not name the broker-dealers, it described relationships First Eagle and its distributors had with two of them.
For instance, First Eagle funds paid $16 to $19 per account to one broker dealer as well as a one-time fee of $50,000 and a share of new sales and existing accounts. Those fees added up to $24.6 million over about six years. Those expenses came out of the fund's assets, not 12b-1 fees, but the SEC said they were generally used for “marketing and distribution” purposes.
