What is Know Your Customer (KYC)?

B is correct. Thomas violated his fundamental Know Your Customer obligation by failing to gather essential client information before making recommendations. Without knowing Lisa's time horizon (6 months, not long-term), liquidity needs (home down payment), risk tolerance, age, or financial situation, Thomas could not determine if small-cap growth stocks and emerging market funds were suitable. The recommendation was unsuitable because the 6-month time horizon and immediate liquidity need make volatile investments inappropriate, but the root violation is inadequate KYC.

A is a disclosure issue but not the primary violation; even with disclosure, recommending volatile investments to someone needing money in 6 months violates suitability. C addresses portfolio construction but misses that without adequate KYC, Thomas had no basis for any recommendation. D concerns ongoing monitoring but the initial recommendation was already unsuitable due to inadequate KYC.

B is correct. The primary purpose of Know Your Customer requirements is to gather essential client information that enables investment professionals to meet customer-specific suitability obligations (making appropriate recommendations based on the client's investment profile) and, for broker-dealers, comply with Anti-Money Laundering requirements (detecting suspicious activity and verifying identity). The Financial Crimes Enforcement Network rule extending AML programs to most SEC-registered investment advisers and to exempt reporting advisers is scheduled to take effect January 1, 2028. KYC is the foundation for both regulatory compliance areas.

A is incorrect because KYC serves regulatory compliance purposes, not marketing. Using KYC information for marketing without client consent could violate privacy regulations and fiduciary duty. C is incorrect because accredited investor qualification is a separate determination based on income or net worth thresholds, though KYC information may be used in that assessment. D is incorrect because minimum account balances are firm policies, not the regulatory purpose of KYC requirements.

A is correct. The adviser has gathered several investment profile factors: age (55), financial situation ($180,000 income, $400,000 savings), investment objectives (steady income with some growth), risk tolerance (moderately risk-averse), and time horizon (15 years until retirement). Still missing are: (1) tax status (tax bracket affects suitability of municipal bonds vs. taxable bonds), (2) liquidity needs (emergency fund requirements, planned large expenses), and (3) investment experience (understanding of investment products and risk). FINRA Rule 2111 and, for a retail customer, Regulation Best Interest name these among the investment profile factors a broker-dealer and its associated persons must use reasonable diligence to ascertain; an investment adviser's suitability duty likewise rests on a reasonable inquiry into the client's investment objectives, financial situation and needs.

B lists information that may be useful for financial planning but are not among the investment profile factors FINRA Rule 2111 names. Employment history and mortgage balance contribute to financial situation but are not separate required factors; credit score is not a suitability factor. C lists factors that may inform recommendations but are not required KYC elements. Political affiliation is never a required factor. D is incorrect because three required factors are missing.

C is correct (the exception). Educational background and degrees earned are not required elements of Know Your Customer information for suitability purposes under FINRA Rule 2111 or Regulation Best Interest. While education may correlate with investment sophistication, the required factor is "investment experience" (knowledge of securities and investing), not general educational credentials.

A is required: Time horizon determines the appropriate investment types based on when the client needs the funds. Short time horizons require less volatile investments; long time horizons can accommodate more volatility. B is required: Tax status affects the suitability of tax-advantaged investments like municipal bonds, tax-deferred accounts, and tax-loss harvesting strategies. D is required: Liquidity needs determine how much of the portfolio must remain accessible for emergency funds, planned large purchases, or ongoing income needs.

A is correct. Only statements 2 and 3 represent material changes requiring KYC updates.

Statement 1 is false: While turning 59½ affects penalty-free IRA access, this does not necessarily represent a material change in the client's financial situation, investment objectives, or time horizon unless the client's circumstances or goals change. Age alone reaching a regulatory threshold does not automatically trigger KYC updates if the client's profile remains unchanged.

Statement 2 is true: A $2 million inheritance materially changes the client's financial situation (net worth and assets available for investment), which may affect suitable asset allocation, risk capacity, and investment objectives. The adviser must update KYC to reflect this significant change and reassess suitability.

Statement 3 is true: A change in risk tolerance from aggressive to risk-averse is a material change in a core suitability factor. Risk tolerance directly determines appropriate investment types and portfolio volatility levels. The adviser must update KYC and adjust recommendations accordingly.

Statement 4 is false: An ordinary change in account value, with no change in the client's income, objectives, plans, or other profile factors, is not a material change in circumstances and does not call for a KYC update.