Another AI-washing case shows where SEC is headed

The SEC has brought another case against an investment advisor over alleged AI washing, on Thursday announcing charges against small California-based firm Rimar Capital and its owners.

That company is settling with the SEC for $310,000 in penalties, though it did not agree to admit or deny the SEC’s findings. Rimar and owners Itai Liptz and Clifford Boro allegedly made false or misleading statements about its purported use of AI around automated trading for clients while raising about $4 million among 45 investors, the SEC stated.

“Through entities he controlled, Liptz lured investors and clients with multiple fabrications, including with buzzwords about the latest AI technology,” said Andrew Dean, co-chief of the SEC’s asset management unit, in the announcement. “As AI becomes more popular in the investing space, we will continue to be vigilant and pursue those who lie about their firms’ technological capabilities and engage in ‘AI washing.'”

Additionally, the SEC found that the company and its owners “made misrepresentations about Rimar LLC’s assets under management and its investment returns … [and] obtained advisory clients using the misleading statements and that Liptz misappropriated company funds for personal expenses.”

The settlement includes a $250,000 civil penalty for Liptz and a $60,000 penalty for Boro. Liptz will also pay more than $213,000 in disgorgement and prejudgment interest and is barred from the industry for five years.

The SEC brought its first case concerning AI washing earlier this year, in March charging two companies: Delphia (USA) Inc. and Global Predictions, Inc., which settled the case for $400,000 in penalties. Then in June the regulator charged the owner and founder of a defunct AI recruitment startup, Joonko, alleging that the owner defrauded investors of $21 million by making false or misleading claims.

The SEC has also issued an investor alert focused on AI washing, and chair Gary Gensler has warned the financial services industry about it. In an Office Hours video posted last month, Gensler said that investment advisors and broker-dealers “should not mislead the public by saying they're using AI when they're not, nor say that they're using it in a particular way and not do so.” That could violate securities laws, he noted.

Although the handful of cases the SEC has filed so far appear to have been straightforward – a “layup” for the agency – it’s likely that enforcement will broaden out, said Dave Shargel, a partner at law firm Bracewell.

“There’s a good chance that enforcement actions will eventually move away from the black and white and into the gray areas, which raises questions about what does it mean to be using AI,” Shargel said. “There’s not singular definition of what AI is, and that can make it difficult for companies to describe it. And AI can be difficult to enforce.”

While many companies in different industries likely face risks around AI washing, the obvious way to address it is “don’t say you’re using AI when you’re just not,” Shargel said.

RIAs and broker-dealers should also be thoughtful in how they vet third-party AI providers whose services they plan to use, having a good understanding not only of what products are and can do but what they are not and cannot do, he said.

For context, observers should consider the enforcement the SEC has done around environmental, social, and governance claims – an area where the financial services industry has become extra careful when describing in public statements, he noted.

“This is just another indication that this [AI washing] is going to be part of the enforcement trend for the foreseeable future.”