Investment Advisors Act of 1940

Cite this article as:"Investment Advisors Act of 1940," in The Business Professor, updated November 26, 2019, last accessed October 23, 2020,


Investment Advisers Act of 1940 Definition

The Investment Advisers Act of 1940 is a U.S. federal law that was drafted 11 years after the stock market crashed in 1929, and around the season of the Great Depression. This law describes the roles and responsibilities of investment advisors and advisers. This act came to light after the Securities and Exchange Commission (SEC) prepared a report on investment firms and trusts for Congress in 1935. The report contained warnings from the SEC about the irregularities in the investment industry and the inappropriate advice given to clients by some investment advisors. It suggested the regulation of persons who provided investment advice and warned of the dangers associated with the suggestions given by some investment counselors. The Investment Advisers Act of 1940 was later born from the recommendations by the SEC, as the members of Congress worked to resolve the problems associated with the investment industry.

A Little More About the Investment Advisers Act of 1940

The SEC makes use of the Investment Advisers Act of 1940 to decide and provide legal groundworks for those who act as advisors in the investment industry. It also makes use of the Act as a source of regulating the activities of those who provide advice on pension funds, to individuals, and to institutional bodies. This Act describes the nature of the advice that can be offered by an investment advisor, who can advise, and also reveals who is required to register with state and federal investment regulators. A preview of the Act is available in the Public Holding Act of 1935, which gives the SEC the authority to examine and investigate investment trusts. That decision led to the passage of the Investment Company Act of 1940 and the Investment Adviser Act of 1940, which allowed further scrutiny of investment firms and trusts which acted on behalf of clients. The investigations by the SEC uncovered abusive practices and unreflective fees in the industry.

Criteria for Investment Advisors

The Investment Act of 1940 provided three criteria for categorizing who qualifies and who doesn’t qualify as an investment adviser. The three criteria are based on the (i) the type of advice that is offered, (ii) the means through which the investment manager is paid for his services, (iii) and finally, whether or not the investment advisor receives a large part of his or her income from providing investment advice or from other professions. Simply put criteria number three is focused on whether or not the advisor takes providing investment advice as his or her primary job and professional function. Also, according to the Act, any adviser who leads a client or potential investor into believing that he is an investment adviser via means of advertisement or other methods of networking can be considered an advisor.

According to the act, any individual that provides advice on securities or make investment recommendations on the buying and selling of assets inside a risky (either high or low risk) financial market is considered an investment advisor. Although the acts stated above, it also exempted individuals whose jobs are to promote securities inside their line of business, thus removing any requirements of investment advisers from them. An example would be a marketer who recommends an investment firm to a client. He or she wouldn’t serve the status of an investment adviser if the client were to invest in such a firm. Also, financial advisers and certified financial planners can be exempt from the status of investment advisers in some cases. In other cases, they can also be called investment advisors.

The framework of the Investment Advisers Act of 1940

The guidelines for the investment advisers act can be found in Title 15 Section 80b-1 of the U.S. Code. Here are the guidelines:

  1. Their advice, counsel, publications, releases, writings, securities analyses, and reports are furnished and distributed, and their contracts, agreements, subscription terms, and any other arrangements between them and their clients are negotiated and executed via mails and means of interstate commerce.
  2. Their advice, counsel, publications, releases, writings, securities analyses, and reports primarily relates to the purchase and the sales of securities traded on national securities exchanges and in over-the-counter markets in various states, securities offered by firmed engaged in business activities in interstate commerce, and securities offered and issued by national banks and subsidiaries as well as banks associated with the Federal Reserve System, and
  3. Foregoing transactions occur in volumes that substantially affect interstate commerce, national exchanges, and other financial securities markets, the national banking system, and the economy of the nation.

The Investment Advisers Act of 1940 and Registration

In 2010, the Dodd-Frank Wall Street Reform Act suggested that investment advisory firms or individual entities with over $110 million in assets under management (AUM) would be required to register themselves with the Securities and Exchange Commission. This stipulation was an amendment to the Investment Advisers Act of 1940 on who was required to register under the SEC and under state regulators. Although there are some exceptions, on a general note, all advisers (both firms and individuals) with approximately $100 million on a minimum are required to register with the SEC or their state regulators. For investment advisors with less than $25 million AUM, they are required to register only with their state regulators and not with the Securities and Exchange Commission. The Investment Advisers Act also provides a detailed guideline on the liabilities which an investment firm can have as well as how much they can charge clients as fees, as well as the commissions which they can collect.

References for “Investment Advisers Act of 1940 › Financial Advisor › FA Relevant

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