Fee Deduction

An adviser that deducts its fees directly from client accounts is deemed to have custody unless it:

1. A.Does nothing specialDoing nothing is what triggers full custody treatment, with its added examination and reporting burdens. The safeguards are the way to avoid that result.
2. B.Guarantees returnsGuaranteeing returns is itself a prohibited practice for an adviser, and it has no bearing on whether fee deduction constitutes custody.
3. C.Hides the feesConcealing fees is the opposite of what is required. The safeguards center on transparency, including itemized fee billing and use of a qualified custodian.
4. D.Meets the prescribed custody safeguardsCorrect - safeguards can limit custody treatment.

Why: Direct fee deduction is custody unless the adviser follows the prescribed safeguards.

A state-registered adviser will directly deduct its advisory fees from client accounts held at a qualified custodian. To avoid being deemed to have full custody triggering the more burdensome custody safeguards, the adviser should:

1. A.Follow the fee-deduction safe harbor: obtain written client authorization, ensure the qualified custodian sends account statements to clients, and send the custodian an invoiceCorrect - these steps satisfy the fee-deduction safe harbor.
2. B.Take physical possession of client securities to document the deductionIncorrect - possession creates full custody, the opposite of the goal.
3. C.Commingle client funds with the adviser operating account for efficiencyIncorrect - commingling is a prohibited practice.
4. D.Avoid any written authorization so the deduction appears routineIncorrect - written authorization is required, not to be avoided.

Why: Direct fee deduction is a limited form of custody; states provide a safe harbor when the adviser has written client authorization, the qualified custodian sends account statements to clients, and fees are billed via invoice. Possession or commingling would create full custody or violations.