Transformational Oversight, Part II:

Yup, the regulators picked enforcement.

Slowly at first, then all at once, as they say. After much anticipation, we are seeing the emergence of regulation in the pooled special needs trust industry. The Securities and Exchange Commission (SEC), has taken interest in a pooled special needs trust trustee and has filed litigation, announced in this press release (legal documents included).

This is consistent with the view we have held for some time, and which we expressed a year ago in our post “Could PSNT Industry Visibility Trigger Transformational Oversight? Not the most likely scenario.”

“PSNTs are attracting more attention. Could this new focus increase regulatory oversight or spur transformational rulemaking? We don’t think so. PSNTs already operate in a highly indirectly regulated environment. Regulatory entities govern all of the component parts of PSNTs including investments, banking, nonprofit status, fundraising, activities of the PSNT administrator, and disability and related benefits that impact beneficiaries. The more likely path is that an absence of widespread disclosure and consistent adherence to well-defined industry quality standards, plus growth, draws regulatory attention and enforcement.”

The way the SEC approached this enforcement action is interesting. While they may very well have looked at other organizations, this litigation focuses on two, one of whom is an investment advisor regulated by the SEC.  The other is a nonprofit FL pooled special needs trust provider, called Synergy Settlement Solutions.

For the SEC to enforce their regulations, they had to first had to find a way to pull Synergy into their regulatory tent. Their starting point is that the nonprofit is not actually operating as a nonprofit, and therefore as a private sector business involved in the investment industry, is in violation of SEC rules.

This approach is consistent with our view that there is quite a bit of existing regulation and that regulators will find a way to enforce it when they are aware of violations. Which is not to say there is no possibility of new rules, that may come. Generally, though, when regulators have an available, full toolkit of enforceable rules, they use them.

What Does This Mean for PSNTs?

For starters, it’s time to move past the “one bad apple could hurt the industry by attracting oversight” and “growth brings scrutiny” mantras and recognize the fact pattern that regulators show up when there is lack of clarity, insufficient disclosure, and/or behavior they judge to be bad.

It is also time to be honest about the fragility of many industry providers and the risks this poses. As an example, of the 104 PSNTs currently active in the business SNFSi is tracking, about half (54) have financial reserves sufficient to cover at least a year of operating expenses. Which means that the other half does not. For them, a capital markets drawdown (like we’re having now) or other business interruption could be mighty uncomfortable.

The next step is what is required of every well-run business:

  • A clear-eyed, dispassionate evaluation of each component of business operations relative to all applicable direct and indirect regulations, and
  • An equally rigorous evaluation of business requirements for PSNTs, including at a minimum financial stability, leadership & governance, disclosure, business relationships including potential conflicts of interest, and beneficiary fees is required.
  • Both efforts include identifying opportunities to improve/revise processes and policies as appropriate, and then actually improving and/or revising them.

The industry’s best and brightest are held back from achieving all they could – and helping the most people – because there are too few opportunities to differentiate themselves. As we’ve pointed out before, we believe that widespread disclosure of key PSNT metrics and consistent adherence to well-defined and oversight-friendly business standards (handling of retained funds, for example) would be a material step forward for the industry.

About the Special Needs Financial Services Institute (SNFSi)

SNFSi is an independent research organization launched in 2020 by Capital Motion LLC. Our mission is to expand the use of high-quality financial products and services by the nationally underserved market of 44+ million people who have a disability. SNFSi provides much-needed transparency and visibility into financial products for people with disabilities and the organizations that provide them. SNFSi’s services include market intelligence and pooled special needs trust provider profiles and ratings.

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