Tax advice or investment advice: where is the line?

• Author: Fohn, Dick

A lot has changed in the accounting profession since the Investment Advisers Act of 1940 (Advisers Act). In the pursuit to add wealthy (and aging) clients, many traditional accounting firms have broadened their practices to include additional advisory services. However, such expansion has increased the possibility of running afoul of the investment adviser rules. More importantly, many firms and practitioners may be unwittingly providing information that today could be considered investment advice.

An essential starting point in avoiding such problems is a fundamental understanding of the Advisers Act and the Securities and Exchange Commission's (SEC's) rules and interpretations. However, seeking an opinion from legal counsel still remains the best approach to determine whether a particular service mix includes "investment advice" subject to the Advisers Act.

This column is a primer for assisting CPAs to better understand their responsibilities as advisers. It also presents examples of situations in which CPAs may be inadvertently providing investment advice. Because the issues related to the investment adviser regulation are quite complex, they are not fully addressed here.

The Broad Framework of the Advisers Act

Generally, CPAs must register with the SEC as an investment adviser if they fail a two-part test by answering "yes" to the following questions:

1. Is the CPA an "investment adviser"?

2. Has the CPA lost the "accountant's exclusion"?

   These two questions are related; in failing the second, the CPA may be in violation of the first. However, it is important to realize that the test has two parts. This distinction is lost on many in their pursuit of providing superior client service.

   Who Is an "Investment Adviser"?

   The definition of "investment adviser" may surprise many CPAs. According to Section 202(a)(11) of the Advisers Act, an investment adviser is:

   Any person who, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing, or selling securities, or who, for compensation and as part of a regular business, issues or promulgates analyses or reports concerning securities.

   Traditionally, CPAs believe "investment advice" is limited to recommending a client take action on a specific, named security. An example would be, "I think you should buy X, because I think its P/E ratio is too low." Clearly, this is investment advice. However, the definition in the Advisers Act, as well as in the SEC's interpretations, is painted with a much broader brush.

   Under the SEC's interpretations, advice about the benefits or risks of investing in any type or class of securities is considered investment advice. For example, this would be the case if a CPA were to suggest to a client that some international exposure would serve as a hedge against domestic economic risk, or, alternatively, that a mix of small-, mid-and large-cap securities would be beneficial. According to the SEC's interpretations, investment advice would also include an analysis of a client's stock portfolio performance against a benchmark. Other probable investment advice is presented in the exhibit above.

   One area of special concern is whether certain estate planning advice is investment advice. Conceptually, is there a substantive difference between advising a client to transfer assets to a family limited partnership (FLP) as an estate tax minimization strategy versus advising a client to invest assets in a real estate investment trust? Could the CPA argue that...