FEES PAYABLE TO INVESTMENT ADVISER

[Mr. M. GOVINDARAJAN]

Investment Adviser

Regulation 2(1)(m) of Securities and Exchange Board of India (Investment Advisors) Regulations, 2013 (‘Regulations’ for short) defines the expression ‘Investment Adviser’ as any person, who for consideration, is engaged in the business of providing investment advice to clients or other persons or group of persons and includes any person who holds out himself as an Investment Adviser, by whatever name called.

Investment advice

Regulation 2(1)(l) defines the expression ‘investment advice’ as advice relating to investing in, purchasing, selling or otherwise dealing in securities or investment products, and advice on investment portfolio containing securities or investment products, whether written, oral or through any other means of communication for the benefit of the client and shall include financial planning.  The investment advice given through newspaper, magazines, any electronic or broadcasting or telecommunications medium, which is widely available to the public, shall not be considered as investment advice for the purpose of these regulations.

Functions of Investment Adviser

The functions,   obligations,   duties   and responsibilities of the Investment Adviser (including principal officer and all persons associated with the investment advice), with specific provisions covering, inter alia-

• Terms  of  compliance  with  the Securities and Exchange Board of India (Investment Advisers) Regulations, 2013 and its amendments, rules, circulars  and notifications.
• Compliance with the eligibility criteria as specified under the Investment Adviser Regulations at all times.
• Risk  assessment  procedure  of  client  including  their  risk  capacity  and  risk aversion.
• Providing reports to clients on potential and current investments.
• Maintenance of records  i.e.,  client wise  KYC,  risk  assessment,  analysis reports of investment advice and suitability, terms and conditions document, related books of accounts and a register containing list of clients along with dated  investment  advice  and  its  rationale  in compliance  with  the Securities and Exchange Board of India (Investment Advisers) Regulations, 2013.
• Provisions regarding audit as per the Securities and Exchange Board of India (Investment Advisers) Regulations, 2013.
• Undertaking  to  abide  by  the  Code  of  Conduct  as  specified  in  the  Third Schedule  of  the Securities  and  Exchange  Board  of  India (Investment  Advisers) Regulations, 2013.

Fees

The Investment Adviser is entitled to receive fees from its clients for the services rendered by it to the clients.  The Code of Conduct meant for the Investment Adviser provides that an Investment Adviser advising a client may charge fees, subject to any ceiling as may be specified by the Board The adviser shall ensure that fees charged to the clients is fair and reasonable.

Regulation 15A was inserted by Securities and Exchange Board of India (Investment Advisers) (Amendment) Regulations, 2020 vide Notification No. SEBI/LAD-NRO/GN/2020/22, dated 03.07.2020 which came into effect from 03.07.2020. 

The newly inserted Regulation 15A provides that Investment Adviser shall be entitled to charge fees for providing investment advice from a client in the manner as specified by the Board.  In pursuance of this regulation SEBI issued a circular dated 23.09.2020 titled as ‘Guidelines for Investment Advisers’.   The circular provides for charging of fees by Investment Advisers from their clients in either of two modes which are set out as below-

• Asset under Advice (AUA) mode-

• The maximum fees that may be charged under this mode shall not exceed 2.5% of AUA per annum per client across all services offered by Investment Adviser.
• The Investment Adviser shall be required to demonstrate AUA with supporting documents like DEMAT statements, unit statements, etc., of the client.
• Any portion of AUA held by the client under any pre-existing distribution arrangement with any entity shall be deducted from AUA for the purpose of charge fee by Investment Adviser.

• Fixed fee mode – The maximum fees that may be charged under any pre-existing distribution arrangement with any entity shall be deducted from AUA for the purpose of charging fee by the Investment Adviser.

Conditions

The above said circular also prescribes general conditions applicable to both modes in the following terms-

• In case ‘family of client’ is reckoned as a single client, the fee as referred above shall be charged ‘family of client’.
• The Investment Adviser shall charge fees from a client under any one of the above two modes on an annual basis.  The change of mode shall be effected only after 12 months of on boarding/last change of mode.
• If agreed by the client, the Investment Adviser may charge fees in advance.  However such advance shall not exceed fees for 2 quarters.
• In the event of pre-mature termination of the Investment Adviser services in terms of agreement, the client shall be refunded the fees for unexpired period.  However the Investment Adviser may retain a maximum breakage fee of not greater than one quarter.

Challenge

The newly inserted regulation 15A and the circular dated 23.09.2020 in pursuance of regulation 15A have been challenged before Bombay High Court in PURNARTHA INVESTMENT ADVISERS PRIVATE LIMITED VERSUS SECURITIES AND EXCHANGE BOARD OF INDIA & ANR.[ 2021 (7) TMI 168 - BOMBAY HIGH COURT].

In the above case the petitioner is an Investment Advisor having a huge pan country reputation for its practice with about 7800 clients.  This petition challenges the constitutional validity and vires of regulation 15A and circular issued in pursuance thereof vide No. SEBI/HO/IMD/DFI/CIR/P/2020/182, dated 23.09.2020.  The petition contends that Section 15A and the alleged circular both breach the fundamental right of investment advisers to carry on a profession of their choice by enacting unreasonable restrictions.

The petitioner submitted the following before the High Court that a stipulation as to fees being in nature of a fiscal measure, a delegated authority can make such stipulation only if its delegation in that behalf is specific; there is no scope for an implied authority.  The petitioner relied on the following judgments-

• PETROLEUM AND NATURAL GAS REGULATORY BOARD VERSUS INDRAPRASTHA GAS LIMITED & ORS. [2015 (7) TMI 1130 - SUPREME COURT] in which the Supreme Court held that the Petroleum and Natural Gas Regulatory Board was not empowered to fix or regulate retail prices at which gas was to be sold by the entities.
• AHMEDABAD URBAN DEVELOPMENT AUTHORITY VERSUS SHARAD KUMAR JAYANTIKUMAR PASAWALLA AND OTHERS [1992 (5) TMI 175 - SUPREME COURT] in which the High Court held that the Authority was not vested under the Town Planning Act with the power to charge a ‘development fee’.  The High Court held that in a fiscal matter it will not be proper to hold that even in the absence of express provision, a delegated authority can impose tax or fee …. Such power of imposition of tax and/or fee by delegated authority must be very specific and there is no scope of implied authority for imposition of such for imposition of such tax or fee.
• THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA VERSUS K. BHAGVATHEESWARAN AND ORS. [2005 (3) TMI 816 - MADRAS HIGH COURT] in which the restrictions placed before the Chartered Accountants’ right to practice their professions.  The High Court held that a client must be free to choose his lawyer/Chartered Accountant, and conversely, the number of cases/audits can be accepted by the professional must be left to such professional.  As for capping of fees and making of any charge above it being made a professional misconduct, the Court was of the opinion that the restriction was arbitrary and violative of both Article 14 and Article 19(1)(g).  The fee was a matter to be decided by mutual consent of the client and the professional and parties ought to be left free to decide the same.

The petitioner further contended that the insertion of Section 15A is violative of Section 30(1) read with section 30(2)(d) of the SEBI Act.

The High Court framed the question to be decided in this matter as to whether the Securities and Exchange Board of India (‘SEBI’ for short) has the requisite authority under the  Securities and Exchange Board of India Act (‘Act’ for short) to make regulations concerning charging of fees by Investment Advisers from their clients.  The High Court analyzed the provisions of section 11 of the Act. Section 11 provides for powers and functions of the Board which include making of different measures with a view to protect the interests of investors in securities and promote the development of, and regulate the securities market.  These measures include regulating the working of various functionaries connected with the securities market including Investment Advisers.  These may include provisions for levying fees or other charges for carrying out the purposes of section 11.

The High Court relied on the judgment of Supreme Court in SAHARA INDIA REAL ESTATE CORPORATION LIMITED & ORS. VERSUS SECURITIES AND EXCHANGE BOARD OF INDIA & ANR. [2012 (9) TMI 559 - SUPREME COURT] the Supreme Court held that the extent of the nature and manner of measures which can be adopted by SEBI for giving effect to the functions assigned to SEBI have been left to the discretion and wisdom of SEBI.  The said power has not been curtailed or whittled down in any manner by any other provisions under the SEBI Act, as no provision has been given over-riding effect over section 11 of the Act.

SEBI has framed regulations for Investment Advisers.  The conditions imposed on the Investment Advisers under these regulations ought to have complied with.  The Code of Conduct inter alia, enjoins upon an Investment Adviser advising a client to charge fair and reasonable fees, subject to any ceiling as may be specified by the Board.  Though SEBI had the requisite powers to prescribe the manner for charging of fees by Investment Advisers, under the original regulations, the SEBI has framed Amendment Regulations, inter alia, inserting regulation 15A in the original regulation, which entities it to specify the manner for charging the fees by the Investment Advisers.  In pursuance of these regulations SEBI has issued its circular dated 23.09.2020, inter alia, providing for two permissible methods of fees to be charged by Investment Advisers with general conditions applicable to both modes.  The High Court held that there is ample authority with the SEBI, in the premises, to prescribe the modes of fees and general conditions applicable to such modes.

The High Court observed that section 30(1) read with section 30(2)(d) empowers the SEBI to make regulations consistent with the Act and rules made there under so as to carry out the purposes of the Act.  An illustrative measure, whilst exercising this power, the Board is authorized, under section 30(2)(d) to provide, inter alia, for conditions subject to which a certificate of registration under section 12 is to be issued and suspension and cancellation of such certificate.  The High Court held that SEBI possesses ample power to make regulations in matters not covered by the illustrative measures provided under section 30(2)(d) so long as such regulations are consistent with the Act and the rules and carry out the purposes of the Act. The impugned regulation 15A is clearly within the delegation made in favor of the Board under section 30(1) of the Act.

The High Court analyzed the judgments relied on by the petitioner.  The High Court observed that the law laid down in ‘Petroleum and Natural Gas’ (supra) has nothing to do with the facts of the present case.  In this case the Board not only has the general power to make measures so as to protect the interests of investors in securities, to promote the development of and regulate the securities market, it has the particular power to regulate the working of Investment Advisors.  Thus the Board has the requisite delegated authority for specifying appropriate measures concerning fees to be charged by Investment Advisors.

In respect of ‘Ahmadabad Urban Development Authority’ (supra) the High Court observed that the observations and law stated in this case law has no bearing on the controversies that are considered in the present case.  Specification of manner of charging fees by Investment Advisers and fixation of a ceiling of such fees by SEBI does not amount to imposition of tax or fee; it is simply a measure of regulation of the business Investment Advisers in the interest of investors and for healthy growth of the securities market.  The power to make such regulations is specifically delegated to SEBI by virtue of section 30 of the Act read with section 22 of the Act.

In regard to case law in ‘Chartered Accountants of India’ (supra) the High Court held that the petitioner cannot seek much assistance from this decision.  The SEBI Act makes particular provisions empowering SEBI to regulate the working of Investment Advisers.  The professional or business of Investment Advisor is not a traditional professional having its own customs and conventions.  It is a statutory duty of SEBI to protect the investors and develop and regulate that market, inter alia, by regulating the working of Investment Advisers.  If, for performing such duty, SEBI fixes the manner of charging of fees by Investment Advisers or the maximum permissible fees, such fixation per se cannot be faulted as being violative of Article 14 or Article 19(1)(g) of the Constitution.