SEC v. CAPWEALTH ADVISORS, LLC; TIMOTHY J. PAGLIARA; and TIMOTHY R. MURPHY, No. 3:20-cv-01064, Middle District of Tennessee (Dec. 15, 2020) — Complaint

UNITED STATES DISTRICT COURT
FOR THE MIDDLE DISTRICT OF TENNESSEE
NASHVILLE DIVISION

SECURITIES AND EXCHANGE
COMMISSION,

Plaintiff,

v.

Case No.

CAPWEALTH ADVISORS, LLC,
TIMOTHY J. PAGLIARA, AND
TIMOTHY R. MURPHY,

Defendants.

JURY TRIAL
DEMANDED

COMPLAINT
Plaintiff, Securities and Exchange Commission (the “Commission”), files its
complaint and alleges that:
SUMMARY
1. From June 2015 through June 2018 (the “Relevant Period”) and for a
number of years preceding the Relevant Period, Defendants CapWealth Advisors,
LLC (“CapWealth”), Timothy J. Pagliara (“Pagliara”) and Timothy R. Murphy
(“Murphy”) (collectively “Defendants”) purchased, recommended, or held for
advisory clients mutual fund share classes that charged fees pursuant to Rule 12b-1

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under the Investment Company Act of 1940 (“12b-1 fees”), even though lower-
cost share classes of the same funds were available.
2. CapWealth’s affiliated broker-dealer received 12b-1 fees from these
investments and shared portions of the fees with Pagliara and Murphy, who were
registered representatives of the broker-dealer.
3. Pagliara instructed the broker-dealer to send the 12b-1 fees from his
clients’ accounts to CapWealth’s holding company, of which Pagliara was the
majority owner and through which he received compensation from his advisory
and brokerage roles.
4. Separately, Murphy received 12b-1 fees from his clients’ mutual fund
investments as a portion of the compensation he received.
5. During the Relevant Period and for a number of years preceding the
Relevant Period, Defendants failed to disclose adequately the material conflicts of
interests with respect to the 12b-1 fees Pagliara and Murphy received, through
CapWealth’s affiliated broker-dealer, from their advisory clients’ investments in
mutual funds.  Defendants’ failure to disclose adequately these material conflicts
of interests prevented their advisory clients from the opportunity to provide
informed consent to these conflicts.
6. As an investment adviser, CapWealth owed
 its advisory clients a
fiduciary duty to act in their best interests and to fully disclose all material facts

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about the advisory relationship, including disclosing any conflicts of interest that
might cause CapWealth to put its own interests before those of its clients.
7. CapWealth failed to disclose adequately the conflicts of interests with
respect to 12b-1 fees.  Its Forms ADV Part 2A brochures disclosed only that firm
“principals” may receive 12b-1 fees, making no mention of the financial benefits to
Murphy, who was not a firm principal, and not otherwise disclosing that
CapWealth was indeed investing advisory clients in 12b-1 fee paying share classes
when lower-cost share classes were available, or the conflicts of interest associated
therewith.
8. As an investment adviser representative (“IAR”), Pagliara owed
 his
advisory clients a fiduciary duty to act in their best interests and to fully disclose
all material facts about the advisory relationship, including disclosing any conflicts
of interest that might cause Pagliara to put his own interests before those of his
clients.
9. Pagliara failed to disclose adequately the conflicts of interests to his
advisory clients.  For example, Pagliara’s individual Forms ADV Part 2B Brochure
Supplements made no mention of him receiving 12b-1 fees, nor did the
management agreement governing his relationship with his advisory clients.
10. As an IAR, Murphy owed
 his advisory clients a fiduciary duty to act
in their best interests and to fully disclose all material facts about the advisory

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relationship, including disclosing any conflicts of interest that might cause Murphy
to put his own interests before those of his clients.
11. Murphy failed to disclose adequately the conflicts of interests to his
advisory clients.  For example, Murphy’s individual Forms ADV Part 2B Brochure
Supplements made no mention of him receiving 12b-1 fees, nor did the
management agreement governing his relationship with his advisory clients.
Moreover, Murphy made misleading statements to advisory clients regarding the
availability of lower-cost share classes.
12. In addition, the Defendants breached their duty to seek best execution
for their clients by investing them in share classes with 12b-1 fees rather than
lower-cost share classes of the same funds.
13. Finally, CapWealth failed to adopt and implement written compliance
policies and procedures reasonably designed to prevent violations of the
Investment Advisers Act of 1940 (“Advisers Act”) and the rules thereunder in
connection with its mutual fund share class selection practices.
14. By the conduct detailed in this Complaint, Defendants violated
Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)] and CapWealth violated
Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] and Rule 206(4)-7
thereunder [17 C.F.R. § 275.206(4)-7].

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JURISDICTION AND VENUE
15. The Commission brings this action pursuant to Section 214(a) of the
Advisers Act [15 U.S.C. § 80b-14(a)] to enjoin Defendants from engaging in the
transactions, acts, practices, and courses of business alleged in this Complaint, and
transactions, acts, practices, and courses of business of similar purport and object,
for civil penalties, and for other equitable relief.
16. This Court has jurisdiction over this action pursuant to Section 214(a)
of the Advisers Act [15 U.S.C. § 80b-14(a)].
17. Defendants, directly and indirectly, have made use of the mails, the
means and instruments of transportation and communication in interstate
commerce, and the means and instrumentalities of interstate commerce in
connection with the transactions, acts, practices, and courses of business alleged in
the Complaint.
18. Venue is proper because certain of the transactions, acts, practices,
and courses of business constituting violations of federal securities laws occurred
in the Middle District of Tennessee, Pagliara and Murphy reside in the District and
resided in this District at the time of the events alleged herein, and CapWealth has
its principal place of business in this District.
19. Defendants, unless restrained and enjoined by this Court, will
continue to engage in the transactions, acts, practices, and courses of business

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alleged in this Complaint, and in transactions, acts, practices, and courses of
business of similar purport and object.
DEFENDANTS
20. CapWealth is    a Tennessee limited liability company based in
Franklin, Tennessee that has been registered with the Commission as an
investment adviser since 2009.  On its Form ADV dated March 30, 2020,
CapWealth reported that it had approximately $1.1 billion in regulatory assets
under management.  CapWealth is a wholly-owned subsidiary of CapWealth
Group, LLC (“CapWealth Group”).
21. Pagliara, aged 63, is a resident of Franklin, Tennessee and is
CapWealth’s founder and chairman, chief investment officer, and an IAR of the
firm.  During the Relevant Period, Pagliara also was a registered representative of
CapWealth’s affiliated broker-dealer, CapWealth Investment Services, LLC
(“CWIS”), which operated as a Commission-registered broker-dealer from 2009
until June 2018.  Pagliara is the majority owner of CapWealth Group which wholly
owned CWIS when it operated as a broker-dealer.  Instead of directly receiving
12b-1 fee compensation earned through his role as a CWIS registered
representative, Pagliara instructed that his personal share of 12b-1 fees generated
by his advisory clients’ accounts be sent to CapWealth Group, which then paid him
firm profits, after expenses, based on his ownership stake.

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22. Murphy, aged 61, is a resident of Franklin, Tennessee and is a
CapWealth IAR, and was a registered representative of CWIS during the Relevant
Period.  Murphy also serves as CapWealth’s Managing Director of Wealth
Management.  Murphy, as a CWIS representative, received as compensation
portions of the 12b-1 fees incurred by his advisory clients’ accounts.

STATEMENT OF FACTS
A. Background regarding mutual fund share classes
23. Mutual funds are common investments for individuals.  A mutual
fund pools money from many investors and invests the money in securities or other
assets.
24. A mutual fund frequently offers investors different “share classes.”
Each class represents an interest in the same “pool” (or investment portfolio) of
securities and other assets, and a mutual fund’s investment objective does not vary
among classes.
25. A single mutual fund will often have share classes with different
expense ratios, with the share classes that have higher total annual fund operating
expenses generally having lower returns than share classes with lower total annual
fund operating expenses.
26. For example, some share classes have higher expenses because they
pay brokers more for selling or servicing that particular share class.

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27. In contrast, other share classes of the same fund may have lower
expenses because they do not pay brokers this additional compensation.
28. In other words, an individual investor may pay more, or less, for
precisely the same mutual fund investment, depending on the share class.
29. Fe  es and expenses are an important consideration in selecting a
mutual fund share class because these charges lower an investor’s returns.
30. Some mutual fund share classes offered to retail investment clients
charge fees pursuant to Rule 12b-1 under the Investment Company Act of 1940 to
cover fund distribution and sometimes certain shareholder services (“Retail Class
shares”).  The 12b-1 fees are charged throughout the life of the mutual fund
investment and are deducted on an ongoing basis from the mutual fund’s assets.
Mutual funds pay these fees to the fund’s distributor or principal underwriter,
which generally remits the 12b-1 fees to the broker-dealer that distributes or sells
the shares.  If the shares are subsequently transferred to another broker-dealer, then
the distributor will pay the 12b-1 fees to the new broker-dealer holding the shares.
31. CapWealth’s affiliate, CWIS, received 12b-1 fees through such an
arrangement.  A portion of the 12b-1 fees were paid to Murphy as compensation,
while Pagliara, in turn, received certain 12b-1 fees that he earned as a CWIS
registered representative as net profits after expenses were paid through his
ownership stake in CapWealth Group.

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32. Many mutual funds also offer other share classes that do not charge
12b-1 fees and that go by a variety of names (e.g., “Class F2,” “Class Y,” “Class
Z,” “Advisory” or “Institutional” class shares (collectively, “Class I shares”)).
Over approximately the last fifteen years, mutual funds have increasingly made
Class I shares available to advisory clients through (among other things) the
creation of new adviser and institutional share classes or the utilization of existing
institutional share classes, all with either waived or reduced minimums in line with
Retail Class minimums.
33. Class I shares are, overall, lower-cost than Retail Class shares of the
same fund.  An investor who holds Class I shares of a mutual fund will usually pay
lower total annual fund operating expenses – and, thus, will almost always earn
higher returns over time – than one who holds Retail Class shares of the same
fund.
34. Therefore, if a mutual fund offers a Class I share, and an investor is
eligible to own it, it is often better for the investor to purchase or hold the Class I
share because her returns will be higher, and the adviser is required to disclose its
conflict of interest if it does not recommend or select that class for the client.  In
many cases, advisory clients who hold shares in classes charging 12b-1 fees may
convert those shares to Class I shares without cost or tax consequences to the
clients.

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B. CapWealth Invested Clients in Share Classes That Charged 12b-1 Fees
When Lower-Cost Share Classes Were Available
35. During the Relevant Period, CapWealth offered asset management
services to its advisory clients.  As part of these services, CapWealth invested
many clients in a selection of mutual funds, chiefly using funds offered by Capital
Group’s American Funds.
36. During the same period, CapWealth represented to clients that it
performed periodic account reviews to determine if the investments in client
ac  counts remained consistent with the client’s specified investment criteria and the
client’s financial goals and objectives.
37. Advisory clients signed an Investment Management Agreement
(“IMA”) with CapWealth when they engaged Defendants to provide asset
management services.  Those IMAs contained a schedule of management fees to
be charged.  The fee schedule stated that the client would be charged a
management fee equal to a percentage of the total of the client’s assets under
management, with the percentage decreasing the larger the amount of assets under
management.  Nothing in the IMAs disclosed or discussed the receipt of 12b-1
funds by CWIS, nor the portions of such fees that were passed on to Pagliara and
Murphy.
38. CWIS, CapWealth’s affiliated broker-dealer, acted as the introducing
broker-dealer on the mutual fund transactions in CapWealth’s advisory programs.

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39. CWIS accepted payments of ongoing 12b-1 fees for mutual fund
investments bought and held in clients’ advisory accounts well before the Relevant
Period.  Over time, many mutual funds began offering share classes to investors,
including investors in fee-paying advisory accounts that did not charge 12b-1 fees.
These share classes typically had lower costs to investors than 12b-1 share classes
of the same funds because, among other things, they did not pay broker-dealers
12b-1 fees.  The availability of these lower-cost share classes meant that
CapWealth’s advisory clients could often hold the same mutual fund’s pool of
securities and other assets, but pay less for precisely the same investment.

40. During the Relevant Period, the Defendants invested, recommended
or held advisory clients’ assets in mutual fund share classes that charged 12b-1
fees, even though clients were eligible to invest in or convert to share classes of the
same funds without 12b-1 fees
41. As a result, CapWealth’s broker-dealer affiliate, CWIS, received 12b-
1 fees that were later passed on to Pagliara and Murphy.
42. Between June 2015 and June 2018, the advisory clients of Pagliara
incurred a collective total of more than $228,000 in avoidable 12b-1 fees.
43. Between June 2015 and June 2018, the advisory clients of Murphy
incurred more than $223,000 in avoidable 12b-1 fees.

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44. Both Pagliara and Murphy served on the firm’s Investment
Committee, which, among other functions, reviewed and discussed the mutual
funds share classes that would be included on the firm’s model portfolio from
which IARs would select investments for clients.
45. Mutual funds published the availability of the lower-cost share classes
in publicly available prospectuses.  Defendants thus knew or should have known,
and could have disclosed to their clients, that clients had an opportunity to obtain
lower-cost shares of the mutual funds they held or purchased, and Defendants
could have undertaken efforts to secure such shares for their clients whose
accounts they managed or advised.

46. During the Relevant Period, Pagliara and Murphy understood that
advisory clients, as a general matter, could avoid 12b-1 fees by investing in Class I
shares and other lower-cost share classes of a fund, when such a share class was
available to their clients.
47. Both Pagliara and Murphy, respectively, sent or received emails
concerning the availability of the lower-cost share classes during the Relevant
Period and, on occasion, did convert certain, but not all, client positions to those
cheaper shares.
48. For example, Murphy sent an email on June 21, 2016 instructing
CapWealth’s trading staff to have the firm’s clearing broker-dealer “convert the

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following F1 shares to F2 shares” for two client accounts.  However, other clients
were not converted at that time to the lower-cost F2 shares that were available for
the funds listed by Murphy in his email.
49. Additionally, a portion of CapWealth’s clients were converted to
lower-cost share classes in 2015 as part of a trial effort to custody certain clients’
assets at a   new clearing broker-dealer.
50. The clients that were migrated in 2015 to the new clearing broker-
dealer and placed in lower-cost shares classes were mostly the higher net worth
clients and the clients with whom the Defendants had their best relationships.
51. After these client assets were moved to the new clearing broker-
dealer, Pagliara asked CapWealth staff to calculate how much 12b-1 fee revenue
had declined as a result.  Pagliara received an email on May 13, 2015, explaining
that the migration of clients to the new broker resulted in a $45,000 decline in 12b-
1 fee revenue so far.
52. Despite the ability during the Relevant Period to convert client assets
remaining at CapWealth’s old clearing broker-dealer to the same lower-cost share
classes being used for clients who were migrated to the new clearing broker-dealer,
Pagliara and Murphy did not convert all of their clients to the lower-cost
alternatives until those clients’ assets were moved to another, unaffiliated broker-
dealer in late 2017 and the first half of 2018 and CWIS was closed.

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53. Instead, between 2015 and June 2018, Pagliara and Murphy regularly
placed or held many of their advisory clients in higher-cost share classes with 12b-
1 fees that could have been avoided through investment in lower-cost share classes
of the same funds.  These avoidable 12b-1 fees continued flowing to CWIS on a
recurring basis, and then on to Pagliara and Murphy, as compensation.
54. These investments were made without giving clients full and fair
disclosures concerning the conflicts of interest stemming from CapWealth’s,
Pagliara’s and Murphy’s share class selection practices for clients.
55. Pagliara admitted that he did not disclose any conflict of interest
arising from his share class selection practices because he did not believe that there
was a conflict of interest.
56. After the transition to the new broker-dealer in 2018, Murphy made
misleading statements to certain clients who inquired about the reason for the
conversions.
57. For example, one client inquired in an email on August 16, 2018:
“What prompted the recent trades?”  Murphy responded that the client was
“recently converted” to a “new” share class “symbol,” adding: “same fund just
lower expenses.”
58. Murphy’s statement was misleading as it suggested the share class
itself was new (as opposed to new for the client), when it had been available since

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at least March 2012, and Murphy had, as far back as 2015, individually converted a
handful of other clients to the same lower-cost share class without 12b-1 fees,
while leaving the client who emailed in 2018 in the higher-cost share classes.
59. Similarly, another client reached out to Murphy about the conversions
and noted via email on March 17, 2019, that he was “still confused over exact
same funds having different expense ratios.  That is a BIG difference compounded
over years ... Why didn’t we do this years ago if its [sic] so good? It sure looks
good.”    Murphy responded on March 25, 2019, writing: “...the industry continues
to evolve and as lower cost share classes become available we transition to them.”
60. Murphy’s written statement to the client was inaccurate and
misleading, as CapWealth had failed for years to transition all clients to available
lower-cost share classes without 12b-1 fees.
61. Despite the availability of lower-cost share classes, for years Pagliara
and Murphy collected 12b-1 fees and left their clients uniformed about the
Defendants’ conflicts of interest.  In doing so, Defendants failed to disclose the
economic incentive underlying their share class selections for clients such that the
clients could decide whether or not to consent to a conflict that would result in
them paying more for their mutual fund investments.
62. Moreover, CapWealth did not adopt and implement any policies and
procedures designed to ensure that the costs associated with different available

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share classes of a fund would be evaluated when it made purchases for all clients,
or policies and procedures requiring the firm to seek the share class that offered the
most favorable value for each client.
C. CapWealth’s Mutual Fund Share Class Disclosure Failures
63. As investment advisers, Defendants are fiduciaries for their advisory
clients.
  As such, Defendants owe their clients an affirmative duty of utmost good
faith, are obligated to provide full and fair disclosure of all material facts, and have
an affirmative obligation to employ reasonable care to avoid misleading their
clients.

64. Defendants’ duty to disclose all material facts includes a duty to tell
clients about all actual or potential conflicts of interest that might incline
CapWealth and its representatives to render investment advice that is not
disinterested, and how those conflicts could affect the advice provided to
Defendants’ advisory clients.

65. Defendants were required to provide their advisory clients with
disclosure sufficiently specific for the clients to understand the conflicts of interest
concerning Defendants’ advice about their investments in different classes of
mutual funds and to have an informed basis for consenting to or rejecting conflicts
of interest.

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66. Defendants failed to adequately disclose these conflicts of interest in
any of the disclosure documents provided to advisory clients, including
CapWealth’s Forms ADV or the IMAs provided to clients.

67. The Securities and Exchange Commission (the “Commission”)
mandates disclosure forms for certain investment advisers.  These forms are known
as Form ADV, and more specifically Form ADV Part 2A.  The Form ADV Part 2A
is commonly referred to as an investment adviser’s brochure.

68. Investment advisers like CapWealth must file the brochure with the
Commission and update it at least annually, and must provide their current
brochure to advisory clients, including prospective clients, prior to or concurrent
with the execution of an advisory agreement.

69. Brochures must include required disclosures about an investment
adviser’s business, including how the adviser is compensated, and advisers are
required, per the Brochure instructions, to disclose compensation they, or their
supervised persons, accept, “including asset-based sales charges or service fees
from the sale of mutual funds,” and they are required to “[e]xplain that this practice
presents a conflict of interest and gives you or your supervised persons an
incentive to recommend investment products based on the compensation received,
rather than on a client’s needs.”

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70. CapWealth knew or should have known that it was required by law to
disclose conflicts of interest to its advisory clients in its brochure because, among
other reasons, the instructions to Form ADV provided such guidance.

71. Throughout the Relevant Period, CapWealth disclosed to advisory
clients in the firm’s Form ADV Part 2A brochure that:
[m]ost  of  the  investment  professionals  of  CapWealth  are  also
registered  with  CWIS.  It  is  not  mandatory  that  clients  open  an
account  with  CWIS.  Compensation  may  be  received  by  the
principals  of  CapWealth  when  certain  portfolio  transactions  are
effected on behalf of investment advisory clients. Therefore, the
principals of CapWealth may receive compensation as a result of
acting  in  one  or  both  capacities,  including  the  receipt  of  12b-1
distribution payments from certain funds.

72. The disclosure remained unchanged from at least July 2014 until
client assets were moved to an unaffiliated broker-dealer in 2018.
73. When compared to the Defendants’ mutual fund selection practices
for clients, these disclosures were deficient.
74. Fi  rst, the disclosures indicate that CapWealth’s principals “may
receive” such compensation when Pagliara was in fact receiving that
compensation.
75. Second, there is no disclosure that non-principals such as Murphy,
who had no ownership stake in the firm, would receive 12b-1 fees.
76. Third, CapWealth’s brochure did not disclose facts to explain that the
firm and certain IARs had a conflict of interest in selecting a fund’s 12b-1 fee

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paying share class when a lower-cost share class of the same fund without 12b-1
fees was available, and that they would and did regularly select share classes
paying 12b-1 fees when less-expensive share classes for the same fund were
available to their advisory clients.
77. Fourth, CapWealth failed to disclose to clients a significant aspect of
the financial conflict:  that investing, or remaining invested, in share classes that
paid 12b-1 fees would generally reduce the overall return of such investments to
the clients in comparison to lower-cost share classes of the same mutual funds.

78. A reasonable reader could infer that the possible receipt of 12b-1 fees
described in the CapWealth brochure related only to recommending a   certain
mutual fund over other mutual funds as   an investment vehicle, as opposed to the
selection of a   particular share class of a specific fund.

79. Separately, both Pagliara and Murphy provided their respective clients
with Forms ADV Part 2B Brochure Supplements, for which each IAR provided
approval of his own Supplement for distribution to clients after reviewing a draft
prepared by firm personnel.
80. The instructions for the Supplements state in pertinent part: “If the
supervised person receives commissions, bonuses or other compensation based on
the sale of securities or other investment products, including as a broker-dealer or

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registered representative, and including distribution or service (“trail”) fees from
the sale of mutual funds, disclose this fact.”
81. Pagliara’s Supplements contained no disclosure at all about the 12b-1
fees, commonly known in the securities industry as “trails,” that Pagliara received
through his ownership stake in CapWealth Group.
82. Murphy’s Supplements contained no disclosures at all about the 12b-1
fees that Murphy received as compensation as a CWIS registered representative.
83. Similarly, the CapWealth IMA stated that clients’ investments in
mutual funds “will also be subject to additional advisory and other fees and
expenses, as set forth in the prospectuses of those funds...” without providing any
more specificity about such fees and without identifying the conflict of interest
with respect to the 12b-1 fees received by CWIS and passed on to Pagliara and
Murphy.
84. Additionally, the IMAs did not explain that the vast majority of the
12b-1 fees generated by CapWealth client investments were entirely avoidable by
using lower-cost share classes of the same funds selected for clients.
85. The disclosure failures are significant because the CapWealth
brochure also stated: “CapWealth representatives must adhere to their fiduciary
duty.  All representatives have to act in the best interests of its clients and make

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full and fair disclosure of all material facts.  This is especially of concern where
conflicts of interest arise.”
86. Defendants did not provide full and fair disclosure to advisory clients
concerning their mutual fund share class selection practices and the resulting
material conflicts of interest.
D. CapWealth’s Best Execution Failures
87. During the Relevant Period, CapWealth’s Form ADV Part 2A
brochure also stated:
It  is  CapWealth’s  policy  to  obtain  the  “best  execution”  of  its
customers’ securities transactions on a best efforts basis since the
firm  does  not  control  trade  execution.  CapWealth,  through  the
trading department at [CapWealth’s clearing broker-dealer] or any
other   custodian   will   cause   each   customer’   [sic]   securities
transactions to be executed in such a manner that the customer’s
total  cost  or  proceeds  in  each  transaction  is  the  most  favorable
under the circumstances.

88. However, CapWealth routinely invested its clients in mutual fund
share classes that charged 12b-1 fees when share classes of the same funds that
presented a more favorable value to the clients, under the particular circumstances
in place at the time of the transactions, were available to the clients.
89. CapWealth did not adopt and implement any procedures designed so
that the costs associated with different share classes of a fund would be evaluated
when it made purchases for each client, or otherwise seek the share class that

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offered the most favorable value for each client.  CapWealth therefore failed to
seek best execution for these transactions.
90. For example, since January 2016, CapWealth invested certain
advisory clients in the American Funds Fundamental Investors Class F1 shares
(ticker: AFIFX), which had a 12b-1 fee of 25 basis points, when clients could have
been placed in a lower-cost share class of the same fund.  Clients could have been
placed in the fund’s Class F2 (ticker: FINFX), which had no 12b-1 fee, a lower-
expense ratio, and the same associated ticket charges.
91. Nevertheless, Pagliara and Murphy generated more than $3,500 in
12b-1 fee revenue by placing more than 50 client accounts into higher-cost Class
F1 shares of the fund in 2016, 2017 and the first half of 2018.
92. Similarly, since January 2016, CapWealth invested certain advisory
clients in the American Funds New Perspective Class F1 shares (ticker: NPFFX),
which had a 12b-1 fee of 25 basis points, when clients could have been placed in a
lower-cost share class of the same fund.  Clients could have been placed in the
fund’s Class F2 shares (ticker: ANWFX), which had no 12b-1 fee, a lower-expense
ratio, and the same associated ticket charges.
93. Nevertheless, Pagliara and Murphy generated more than $3,300 in
12b-1 fee revenue by placing more than 45 client accounts into the higher-cost
Class F1 shares of the fund in 2016, 2017 and the first half of 2018.

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E. CapWealth’s Compliance Deficiencies Regarding Mutual Fund Share Class
Selection
94. During the Relevant Period, CapWealth failed to adopt and implement
written policies and procedures reasonably designed to prevent violations of the
Advisers Act and the rules thereunder arising from the firm’s mutual fund share
class selection practices.
95. While the firm had some general written policies concerning conflict
disclosures, it did not apply those policies to its share class selection practices.
Specifically, the firm’s “Policies and Procedures Manual” from June 2016 stated:
CapWealth  must  disclose  any  possible  conflicts  of  interest  to
clients  in  Part  2A  of  Form  ADV  and  the  Firm’s  Disclosure
Brochure.  The  specific  information  regarding  any  current  or
potential   conflicts   of   interests   must   be   described   clearly.
Generally, conflicts of interest may be defined as any existing or
prospective   business   relationship   in   which   the   Firm   or   its
Investment Advisor Representatives may have actual or potential
incentives  to  place  their  interests  above  those  of  the  client,  and
thereby violate Cap Wealths’ [sic] fiduciary responsibilities to the
client.

96. The firm never implemented this policy concerning the disclosure of
conflicts of interest in the context of mutual fund share class selection and 12b-1
fees.  The firm had the same deficient disclosures about 12b-1 fees from at least
July 2014 until June 2018.
97. CapWealth also failed to adopt and implement a reasonably designed
process for regularly reviewing fund prospectus materials to assess whether a client

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had become eligible for conversion to a lower-cost share class without 12b-1 fees.
98. Similarly, during the Relevant Period, CapWealth had a “best
execution” policy which stated: “The Firm, through the trading department at
[CapWealth’s clearing broker-dealer] or any other custodian will cause each
customer’s securities transactions to be executed in such a manner that the
customer’s total costs or proceeds in each transaction is the most favorable under
the circumstances.”
99. CapWealth failed to implement this policy with respect to mutual fund
share class selections for clients’ new purchases during the Relevant Period.
F. Defendants Agreed to Toll the Statute of Limitations
100. Defendants agreed to toll any statute of limitations applicable to the
claims alleged herein during the period from May 15, 2020 through November 16,
2020.
COUNT I – FRAUD
Violations of Section 206(2) of the Advisers Act
[15 U.S.C. § 80b-6(2)]

101. Paragraphs 1 through 100 are hereby re-alleged and are incorporated
herein by reference.
102. Defendants, acting as investment advisers, by use of the mails or
means or instrumentalities of interstate commerce, directly and indirectly engaged
in transactions, practices, and courses of business which operated as a fraud and

25
deceit upon clients and prospective clients, all as more particularly described
above.
103. By reason thereof, Defendants violated and, unless enjoined, will
continue to violate Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)].
COUNT II – FRAUD
Violations of Section 206(4) of the Advisers Act and Rule 206(4)-7 thereunder
[15 U.S.C. § 80b-6(4) and 17 C.F.R. § 275.206(4)-7 ]

104. Paragraphs 1 through 100 are hereby re-alleged and are incorporated
herein by reference.
105. Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] provides
that it is unlawful for an investment adviser to engage in an act, practice or course
of business which is fraudulent, deceptive or manipulative.  It further states that the
Commission shall issue rules to define and prescribe measures to prevent such
misconduct.  Rule 206(4)-7 under the Advisers Act [17 C.F.R. § 275.206(4)-7]
requires, among other things, that investment advisers registered with the
Commission adopt and implement written policies and procedures reasonably
designed to prevent violations, by the investment adviser and its supervised
persons, of the Advisers Act and its rules.  Such investment advisers must also
review the adequacy of those policies and procedures and the effectiveness of their
implementation, at least annually.
106. CapWealth failed to adopt and implement written policies and

26
procedures reasonably designed to prevent Defendants’ inadequate conflicts
disclosures and failure to seek best execution arising from their mutual fund share
class selection practices.
107. By reason thereof, CapWealth violated and, unless enjoined, will
continue to violate Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] and
Rule 206(4)-7  [17 C.F.R. § 275.206(4)-7] thereunder.
PRAYER FOR RELIEF
 WHEREFORE, the Commission respectfully prays for:
I.
 Findings of fact and conclusions of law pursuant to Rule 52 of the Federal
Rules of Civil Procedure, finding that the Defendants named herein committed the
violations alleged herein.
II.
 Permanent injunctions enjoining Defendants from violating, directly or
indirectly, Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)].
III.
 A permanent injunction enjoining Defendant CapWealth from violating,
directly or indirectly, Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)]
and Rule 206(4)-7 thereunder [17 C.F.R. § 275.206(4)-7 ].

27
IV.
 Disgorgement by Pagliara and Murphy of all ill-gotten gains or unjust
enrichment with prejudgment interest, to effect the remedial purposes of the
federal securities laws.
V.
 An order pursuant to
 Section 209(e) of the Advisers Act [15 U.S.C. § 80b-
9(e)] imposing civil penalties against Defendants.

VI.
 Such other and further relief as this Court may deem just, equitable, and
appropriate in connection with the enforcement of the federal securities laws and
for the protection of investors.
JURY TRIAL DEMAND
 Pursuant to Rule 38 of the Federal Rules of Civil Procedure, the
Commission demands trial by jury in this action of all issues so triable.

Dated this 11th  day of December, 2020.

Respectfully submitted,

/s/ Kristin W. Murnahan
M. Graham Loomis
Regional Trial Counsel
Georgia Bar No. 457868
Tel: (404) 842-7622
Email: [email protected]

28

Kristin W. Murnahan
Senior Trial Counsel
Georgia Bar No. 759054
Tel: (404) 842-7655
Email: [email protected]

COUNSEL FOR PLAINTIFF
Securities and Exchange Commission
Atlanta Regional Office
950 East Paces Ferry Road, N.E., Suite 900
Atlanta, GA  30326-1382
Tel (main): (404) 842-7600
Fax: (703) 813-9364

UNITED STATES DISTRICT COURT 
FOR THE MIDDLE DISTRICT OF TENNESSEE 

NASHVILLE DIVISION 
 
  

SECURITIES AND EXCHANGE 
COMMISSION, 

 

  
Plaintiff,  

  
v. 
 

Case No. 
 

CAPWEALTH ADVISORS, LLC, 
TIMOTHY J. PAGLIARA, AND 
TIMOTHY R. MURPHY, 
 

Defendants. 

 
JURY TRIAL 
DEMANDED 

  
  

 
COMPLAINT 

Plaintiff, Securities and Exchange Commission (the “Commission”), files its 

complaint and alleges that: 

SUMMARY 

1. From June 2015 through June 2018 (the “Relevant Period”) and for a 

number of years preceding the Relevant Period, Defendants CapWealth Advisors, 

LLC (“CapWealth”), Timothy J. Pagliara (“Pagliara”) and Timothy R. Murphy 

(“Murphy”) (collectively “Defendants”) purchased, recommended, or held for 

advisory clients mutual fund share classes that charged fees pursuant to Rule 12b-1 

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2 

under the Investment Company Act of 1940 (“12b-1 fees”), even though lower-

cost share classes of the same funds were available. 

2. CapWealth’s affiliated broker-dealer received 12b-1 fees from these 

investments and shared portions of the fees with Pagliara and Murphy, who were 

registered representatives of the broker-dealer. 

3. Pagliara instructed the broker-dealer to send the 12b-1 fees from his 

clients’ accounts to CapWealth’s holding company, of which Pagliara was the 

majority owner and through which he received compensation from his advisory 

and brokerage roles. 

4. Separately, Murphy received 12b-1 fees from his clients’ mutual fund 

investments as a portion of the compensation he received. 

5. During the Relevant Period and for a number of years preceding the 

Relevant Period, Defendants failed to disclose adequately the material conflicts of 

interests with respect to the 12b-1 fees Pagliara and Murphy received, through 

CapWealth’s affiliated broker-dealer, from their advisory clients’ investments in 

mutual funds.  Defendants’ failure to disclose adequately these material conflicts 

of interests prevented their advisory clients from the opportunity to provide 

informed consent to these conflicts. 

6. As an investment adviser, CapWealth owed its advisory clients a 

fiduciary duty to act in their best interests and to fully disclose all material facts 

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3 

about the advisory relationship, including disclosing any conflicts of interest that 

might cause CapWealth to put its own interests before those of its clients.  

7. CapWealth failed to disclose adequately the conflicts of interests with 

respect to 12b-1 fees.  Its Forms ADV Part 2A brochures disclosed only that firm 

“principals” may receive 12b-1 fees, making no mention of the financial benefits to 

Murphy, who was not a firm principal, and not otherwise disclosing that 

CapWealth was indeed investing advisory clients in 12b-1 fee paying share classes 

when lower-cost share classes were available, or the conflicts of interest associated 

therewith. 

8. As an investment adviser representative (“IAR”), Pagliara owed his 

advisory clients a fiduciary duty to act in their best interests and to fully disclose 

all material facts about the advisory relationship, including disclosing any conflicts 

of interest that might cause Pagliara to put his own interests before those of his 

clients. 

9. Pagliara failed to disclose adequately the conflicts of interests to his 

advisory clients.  For example, Pagliara’s individual Forms ADV Part 2B Brochure 

Supplements made no mention of him receiving 12b-1 fees, nor did the 

management agreement governing his relationship with his advisory clients. 

10. As an IAR, Murphy owed his advisory clients a fiduciary duty to act 

in their best interests and to fully disclose all material facts about the advisory 

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4 

relationship, including disclosing any conflicts of interest that might cause Murphy 

to put his own interests before those of his clients. 

11. Murphy failed to disclose adequately the conflicts of interests to his 

advisory clients.  For example, Murphy’s individual Forms ADV Part 2B Brochure 

Supplements made no mention of him receiving 12b-1 fees, nor did the 

management agreement governing his relationship with his advisory clients.  

Moreover, Murphy made misleading statements to advisory clients regarding the 

availability of lower-cost share classes. 

12. In addition, the Defendants breached their duty to seek best execution 

for their clients by investing them in share classes with 12b-1 fees rather than 

lower-cost share classes of the same funds. 

13. Finally, CapWealth failed to adopt and implement written compliance 

policies and procedures reasonably designed to prevent violations of the 

Investment Advisers Act of 1940 (“Advisers Act”) and the rules thereunder in 

connection with its mutual fund share class selection practices. 

14. By the conduct detailed in this Complaint, Defendants violated 

Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)] and CapWealth violated 

Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] and Rule 206(4)-7 

thereunder [17 C.F.R. § 275.206(4)-7]. 

 

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JURISDICTION AND VENUE 

15. The Commission brings this action pursuant to Section 214(a) of the 

Advisers Act [15 U.S.C. § 80b-14(a)] to enjoin Defendants from engaging in the 

transactions, acts, practices, and courses of business alleged in this Complaint, and 

transactions, acts, practices, and courses of business of similar purport and object, 

for civil penalties, and for other equitable relief. 

16. This Court has jurisdiction over this action pursuant to Section 214(a) 

of the Advisers Act [15 U.S.C. § 80b-14(a)]. 

17. Defendants, directly and indirectly, have made use of the mails, the 

means and instruments of transportation and communication in interstate 

commerce, and the means and instrumentalities of interstate commerce in 

connection with the transactions, acts, practices, and courses of business alleged in 

the Complaint. 

18. Venue is proper because certain of the transactions, acts, practices, 

and courses of business constituting violations of federal securities laws occurred 

in the Middle District of Tennessee, Pagliara and Murphy reside in the District and 

resided in this District at the time of the events alleged herein, and CapWealth has 

its principal place of business in this District. 

19. Defendants, unless restrained and enjoined by this Court, will 

continue to engage in the transactions, acts, practices, and courses of business 

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6 

alleged in this Complaint, and in transactions, acts, practices, and courses of 

business of similar purport and object. 

DEFENDANTS 

20. CapWealth is a Tennessee limited liability company based in 

Franklin, Tennessee that has been registered with the Commission as an 

investment adviser since 2009.  On its Form ADV dated March 30, 2020, 

CapWealth reported that it had approximately $1.1 billion in regulatory assets 

under management.  CapWealth is a wholly-owned subsidiary of CapWealth 

Group, LLC (“CapWealth Group”).   

21. Pagliara, aged 63, is a resident of Franklin, Tennessee and is 

CapWealth’s founder and chairman, chief investment officer, and an IAR of the 

firm.  During the Relevant Period, Pagliara also was a registered representative of 

CapWealth’s affiliated broker-dealer, CapWealth Investment Services, LLC 

(“CWIS”), which operated as a Commission-registered broker-dealer from 2009 

until June 2018.  Pagliara is the majority owner of CapWealth Group which wholly 

owned CWIS when it operated as a broker-dealer.  Instead of directly receiving 

12b-1 fee compensation earned through his role as a CWIS registered 

representative, Pagliara instructed that his personal share of 12b-1 fees generated 

by his advisory clients’ accounts be sent to CapWealth Group, which then paid him 

firm profits, after expenses, based on his ownership stake. 

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22. Murphy, aged 61, is a resident of Franklin, Tennessee and is a 

CapWealth IAR, and was a registered representative of CWIS during the Relevant 

Period.  Murphy also serves as CapWealth’s Managing Director of Wealth 

Management.  Murphy, as a CWIS representative, received as compensation 

portions of the 12b-1 fees incurred by his advisory clients’ accounts. 

STATEMENT OF FACTS 

A. Background regarding mutual fund share classes 

23. Mutual funds are common investments for individuals.  A mutual 

fund pools money from many investors and invests the money in securities or other 

assets. 

24. A mutual fund frequently offers investors different “share classes.”  

Each class represents an interest in the same “pool” (or investment portfolio) of 

securities and other assets, and a mutual fund’s investment objective does not vary 

among classes.  

25. A single mutual fund will often have share classes with different 

expense ratios, with the share classes that have higher total annual fund operating 

expenses generally having lower returns than share classes with lower total annual 

fund operating expenses. 

26. For example, some share classes have higher expenses because they 

pay brokers more for selling or servicing that particular share class. 

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27. In contrast, other share classes of the same fund may have lower 

expenses because they do not pay brokers this additional compensation. 

28. In other words, an individual investor may pay more, or less, for 

precisely the same mutual fund investment, depending on the share class. 

29. Fees and expenses are an important consideration in selecting a 

mutual fund share class because these charges lower an investor’s returns. 

30. Some mutual fund share classes offered to retail investment clients 

charge fees pursuant to Rule 12b-1 under the Investment Company Act of 1940 to 

cover fund distribution and sometimes certain shareholder services (“Retail Class 

shares”).  The 12b-1 fees are charged throughout the life of the mutual fund 

investment and are deducted on an ongoing basis from the mutual fund’s assets.  

Mutual funds pay these fees to the fund’s distributor or principal underwriter, 

which generally remits the 12b-1 fees to the broker-dealer that distributes or sells 

the shares.  If the shares are subsequently transferred to another broker-dealer, then 

the distributor will pay the 12b-1 fees to the new broker-dealer holding the shares. 

31. CapWealth’s affiliate, CWIS, received 12b-1 fees through such an 

arrangement.  A portion of the 12b-1 fees were paid to Murphy as compensation, 

while Pagliara, in turn, received certain 12b-1 fees that he earned as a CWIS 

registered representative as net profits after expenses were paid through his 

ownership stake in CapWealth Group. 

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32. Many mutual funds also offer other share classes that do not charge 

12b-1 fees and that go by a variety of names (e.g., “Class F2,” “Class Y,” “Class 

Z,” “Advisory” or “Institutional” class shares (collectively, “Class I shares”)).  

Over approximately the last fifteen years, mutual funds have increasingly made 

Class I shares available to advisory clients through (among other things) the 

creation of new adviser and institutional share classes or the utilization of existing 

institutional share classes, all with either waived or reduced minimums in line with 

Retail Class minimums. 

33. Class I shares are, overall, lower-cost than Retail Class shares of the 

same fund.  An investor who holds Class I shares of a mutual fund will usually pay 

lower total annual fund operating expenses – and, thus, will almost always earn 

higher returns over time – than one who holds Retail Class shares of the same 

fund.   

34. Therefore, if a mutual fund offers a Class I share, and an investor is 

eligible to own it, it is often better for the investor to purchase or hold the Class I 

share because her returns will be higher, and the adviser is required to disclose its 

conflict of interest if it does not recommend or select that class for the client.  In 

many cases, advisory clients who hold shares in classes charging 12b-1 fees may 

convert those shares to Class I shares without cost or tax consequences to the 

clients. 

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B. CapWealth Invested Clients in Share Classes That Charged 12b-1 Fees 
When Lower-Cost Share Classes Were Available  
35. During the Relevant Period, CapWealth offered asset management 

services to its advisory clients.  As part of these services, CapWealth invested 

many clients in a selection of mutual funds, chiefly using funds offered by Capital 

Group’s American Funds. 

36. During the same period, CapWealth represented to clients that it 

performed periodic account reviews to determine if the investments in client 

accounts remained consistent with the client’s specified investment criteria and the 

client’s financial goals and objectives. 

37. Advisory clients signed an Investment Management Agreement 

(“IMA”) with CapWealth when they engaged Defendants to provide asset 

management services.  Those IMAs contained a schedule of management fees to 

be charged.  The fee schedule stated that the client would be charged a 

management fee equal to a percentage of the total of the client’s assets under 

management, with the percentage decreasing the larger the amount of assets under 

management.  Nothing in the IMAs disclosed or discussed the receipt of 12b-1 

funds by CWIS, nor the portions of such fees that were passed on to Pagliara and 

Murphy. 

38. CWIS, CapWealth’s affiliated broker-dealer, acted as the introducing 

broker-dealer on the mutual fund transactions in CapWealth’s advisory programs. 

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11 

39. CWIS accepted payments of ongoing 12b-1 fees for mutual fund 

investments bought and held in clients’ advisory accounts well before the Relevant 

Period.  Over time, many mutual funds began offering share classes to investors, 

including investors in fee-paying advisory accounts that did not charge 12b-1 fees.  

These share classes typically had lower costs to investors than 12b-1 share classes 

of the same funds because, among other things, they did not pay broker-dealers 

12b-1 fees.  The availability of these lower-cost share classes meant that 

CapWealth’s advisory clients could often hold the same mutual fund’s pool of 

securities and other assets, but pay less for precisely the same investment.  

40. During the Relevant Period, the Defendants invested, recommended 

or held advisory clients’ assets in mutual fund share classes that charged 12b-1 

fees, even though clients were eligible to invest in or convert to share classes of the 

same funds without 12b-1 fees 

41. As a result, CapWealth’s broker-dealer affiliate, CWIS, received 12b-

1 fees that were later passed on to Pagliara and Murphy. 

42. Between June 2015 and June 2018, the advisory clients of Pagliara 

incurred a collective total of more than $228,000 in avoidable 12b-1 fees. 

43. Between June 2015 and June 2018, the advisory clients of Murphy 

incurred more than $223,000 in avoidable 12b-1 fees. 

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12 

44. Both Pagliara and Murphy served on the firm’s Investment 

Committee, which, among other functions, reviewed and discussed the mutual 

funds share classes that would be included on the firm’s model portfolio from 

which IARs would select investments for clients. 

45. Mutual funds published the availability of the lower-cost share classes 

in publicly available prospectuses.  Defendants thus knew or should have known, 

and could have disclosed to their clients, that clients had an opportunity to obtain 

lower-cost shares of the mutual funds they held or purchased, and Defendants 

could have undertaken efforts to secure such shares for their clients whose 

accounts they managed or advised. 

46. During the Relevant Period, Pagliara and Murphy understood that 

advisory clients, as a general matter, could avoid 12b-1 fees by investing in Class I 

shares and other lower-cost share classes of a fund, when such a share class was 

available to their clients. 

47. Both Pagliara and Murphy, respectively, sent or received emails 

concerning the availability of the lower-cost share classes during the Relevant 

Period and, on occasion, did convert certain, but not all, client positions to those 

cheaper shares. 

48. For example, Murphy sent an email on June 21, 2016 instructing 

CapWealth’s trading staff to have the firm’s clearing broker-dealer “convert the 

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following F1 shares to F2 shares” for two client accounts.  However, other clients 

were not converted at that time to the lower-cost F2 shares that were available for 

the funds listed by Murphy in his email. 

49. Additionally, a portion of CapWealth’s clients were converted to 

lower-cost share classes in 2015 as part of a trial effort to custody certain clients’ 

assets at a new clearing broker-dealer. 

50. The clients that were migrated in 2015 to the new clearing broker-

dealer and placed in lower-cost shares classes were mostly the higher net worth 

clients and the clients with whom the Defendants had their best relationships.   

51. After these client assets were moved to the new clearing broker-

dealer, Pagliara asked CapWealth staff to calculate how much 12b-1 fee revenue 

had declined as a result.  Pagliara received an email on May 13, 2015, explaining 

that the migration of clients to the new broker resulted in a $45,000 decline in 12b-

1 fee revenue so far. 

52. Despite the ability during the Relevant Period to convert client assets 

remaining at CapWealth’s old clearing broker-dealer to the same lower-cost share 

classes being used for clients who were migrated to the new clearing broker-dealer, 

Pagliara and Murphy did not convert all of their clients to the lower-cost 

alternatives until those clients’ assets were moved to another, unaffiliated broker-

dealer in late 2017 and the first half of 2018 and CWIS was closed. 

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53. Instead, between 2015 and June 2018, Pagliara and Murphy regularly 

placed or held many of their advisory clients in higher-cost share classes with 12b-

1 fees that could have been avoided through investment in lower-cost share classes 

of the same funds.  These avoidable 12b-1 fees continued flowing to CWIS on a 

recurring basis, and then on to Pagliara and Murphy, as compensation. 

54. These investments were made without giving clients full and fair 

disclosures concerning the conflicts of interest stemming from CapWealth’s, 

Pagliara’s and Murphy’s share class selection practices for clients.   

55. Pagliara admitted that he did not disclose any conflict of interest 

arising from his share class selection practices because he did not believe that there 

was a conflict of interest. 

56. After the transition to the new broker-dealer in 2018, Murphy made 

misleading statements to certain clients who inquired about the reason for the 

conversions. 

57. For example, one client inquired in an email on August 16, 2018: 

“What prompted the recent trades?”  Murphy responded that the client was 

“recently converted” to a “new” share class “symbol,” adding: “same fund just 

lower expenses.” 

58. Murphy’s statement was misleading as it suggested the share class 

itself was new (as opposed to new for the client), when it had been available since 

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15 

at least March 2012, and Murphy had, as far back as 2015, individually converted a 

handful of other clients to the same lower-cost share class without 12b-1 fees, 

while leaving the client who emailed in 2018 in the higher-cost share classes. 

59. Similarly, another client reached out to Murphy about the conversions 

and noted via email on March 17, 2019, that he was “still confused over exact 

same funds having different expense ratios.  That is a BIG difference compounded 

over years … Why didn’t we do this years ago if its [sic] so good? It sure looks 

good.”  Murphy responded on March 25, 2019, writing: “…the industry continues 

to evolve and as lower cost share classes become available we transition to them.” 

60. Murphy’s written statement to the client was inaccurate and 

misleading, as CapWealth had failed for years to transition all clients to available 

lower-cost share classes without 12b-1 fees.   

61. Despite the availability of lower-cost share classes, for years Pagliara 

and Murphy collected 12b-1 fees and left their clients uniformed about the 

Defendants’ conflicts of interest.  In doing so, Defendants failed to disclose the 

economic incentive underlying their share class selections for clients such that the 

clients could decide whether or not to consent to a conflict that would result in 

them paying more for their mutual fund investments.  

62. Moreover, CapWealth did not adopt and implement any policies and 

procedures designed to ensure that the costs associated with different available 

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16 

share classes of a fund would be evaluated when it made purchases for all clients, 

or policies and procedures requiring the firm to seek the share class that offered the 

most favorable value for each client. 

C. CapWealth’s Mutual Fund Share Class Disclosure Failures 

63. As investment advisers, Defendants are fiduciaries for their advisory 

clients.  As such, Defendants owe their clients an affirmative duty of utmost good 

faith, are obligated to provide full and fair disclosure of all material facts, and have 

an affirmative obligation to employ reasonable care to avoid misleading their 

clients. 

64. Defendants’ duty to disclose all material facts includes a duty to tell 

clients about all actual or potential conflicts of interest that might incline 

CapWealth and its representatives to render investment advice that is not 

disinterested, and how those conflicts could affect the advice provided to 

Defendants’ advisory clients. 

65. Defendants were required to provide their advisory clients with 

disclosure sufficiently specific for the clients to understand the conflicts of interest 

concerning Defendants’ advice about their investments in different classes of 

mutual funds and to have an informed basis for consenting to or rejecting conflicts 

of interest. 

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66. Defendants failed to adequately disclose these conflicts of interest in 

any of the disclosure documents provided to advisory clients, including 

CapWealth’s Forms ADV or the IMAs provided to clients. 

67. The Securities and Exchange Commission (the “Commission”) 

mandates disclosure forms for certain investment advisers.  These forms are known 

as Form ADV, and more specifically Form ADV Part 2A.  The Form ADV Part 2A 

is commonly referred to as an investment adviser’s brochure. 

68. Investment advisers like CapWealth must file the brochure with the 

Commission and update it at least annually, and must provide their current 

brochure to advisory clients, including prospective clients, prior to or concurrent 

with the execution of an advisory agreement. 

69. Brochures must include required disclosures about an investment 

adviser’s business, including how the adviser is compensated, and advisers are 

required, per the Brochure instructions, to disclose compensation they, or their 

supervised persons, accept, “including asset-based sales charges or service fees 

from the sale of mutual funds,” and they are required to “[e]xplain that this practice 

presents a conflict of interest and gives you or your supervised persons an 

incentive to recommend investment products based on the compensation received, 

rather than on a client’s needs.” 

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70. CapWealth knew or should have known that it was required by law to 

disclose conflicts of interest to its advisory clients in its brochure because, among 

other reasons, the instructions to Form ADV provided such guidance.  
71. Throughout the Relevant Period, CapWealth disclosed to advisory 

clients in the firm’s Form ADV Part 2A brochure that:  

[m]ost of the investment professionals of CapWealth are also 
registered with CWIS. It is not mandatory that clients open an 
account with CWIS. Compensation may be received by the 
principals of CapWealth when certain portfolio transactions are 
effected on behalf of investment advisory clients. Therefore, the 
principals of CapWealth may receive compensation as a result of 
acting in one or both capacities, including the receipt of 12b-1 
distribution payments from certain funds.   
 

72. The disclosure remained unchanged from at least July 2014 until 

client assets were moved to an unaffiliated broker-dealer in 2018. 

73. When compared to the Defendants’ mutual fund selection practices 

for clients, these disclosures were deficient. 

74. First, the disclosures indicate that CapWealth’s principals “may 

receive” such compensation when Pagliara was in fact receiving that 

compensation. 

75. Second, there is no disclosure that non-principals such as Murphy, 

who had no ownership stake in the firm, would receive 12b-1 fees. 

76. Third, CapWealth’s brochure did not disclose facts to explain that the 

firm and certain IARs had a conflict of interest in selecting a fund’s 12b-1 fee 

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paying share class when a lower-cost share class of the same fund without 12b-1 

fees was available, and that they would and did regularly select share classes 

paying 12b-1 fees when less-expensive share classes for the same fund were 

available to their advisory clients. 

77. Fourth, CapWealth failed to disclose to clients a significant aspect of 

the financial conflict:  that investing, or remaining invested, in share classes that 

paid 12b-1 fees would generally reduce the overall return of such investments to 

the clients in comparison to lower-cost share classes of the same mutual funds. 

78. A reasonable reader could infer that the possible receipt of 12b-1 fees 

described in the CapWealth brochure related only to recommending a certain 

mutual fund over other mutual funds as an investment vehicle, as opposed to the 

selection of a particular share class of a specific fund.   

79. Separately, both Pagliara and Murphy provided their respective clients 

with Forms ADV Part 2B Brochure Supplements, for which each IAR provided 

approval of his own Supplement for distribution to clients after reviewing a draft 

prepared by firm personnel. 

80. The instructions for the Supplements state in pertinent part: “If the 

supervised person receives commissions, bonuses or other compensation based on 

the sale of securities or other investment products, including as a broker-dealer or 

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registered representative, and including distribution or service (“trail”) fees from 

the sale of mutual funds, disclose this fact.” 

81. Pagliara’s Supplements contained no disclosure at all about the 12b-1 

fees, commonly known in the securities industry as “trails,” that Pagliara received 

through his ownership stake in CapWealth Group. 

82. Murphy’s Supplements contained no disclosures at all about the 12b-1 

fees that Murphy received as compensation as a CWIS registered representative. 

83. Similarly, the CapWealth IMA stated that clients’ investments in 

mutual funds “will also be subject to additional advisory and other fees and 

expenses, as set forth in the prospectuses of those funds…” without providing any 

more specificity about such fees and without identifying the conflict of interest 

with respect to the 12b-1 fees received by CWIS and passed on to Pagliara and 

Murphy. 

84. Additionally, the IMAs did not explain that the vast majority of the 

12b-1 fees generated by CapWealth client investments were entirely avoidable by 

using lower-cost share classes of the same funds selected for clients. 

85. The disclosure failures are significant because the CapWealth 

brochure also stated: “CapWealth representatives must adhere to their fiduciary 

duty.  All representatives have to act in the best interests of its clients and make 

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full and fair disclosure of all material facts.  This is especially of concern where 

conflicts of interest arise.” 

86. Defendants did not provide full and fair disclosure to advisory clients 

concerning their mutual fund share class selection practices and the resulting 

material conflicts of interest. 

D. CapWealth’s Best Execution Failures  
87. During the Relevant Period, CapWealth’s Form ADV Part 2A 

brochure also stated:  

It is CapWealth’s policy to obtain the “best execution” of its 
customers’ securities transactions on a best efforts basis since the 
firm does not control trade execution. CapWealth, through the 
trading department at [CapWealth’s clearing broker-dealer] or any 
other custodian will cause each customer’ [sic] securities 
transactions to be executed in such a manner that the customer’s 
total cost or proceeds in each transaction is the most favorable 
under the circumstances. 
 

88. However, CapWealth routinely invested its clients in mutual fund 

share classes that charged 12b-1 fees when share classes of the same funds that 

presented a more favorable value to the clients, under the particular circumstances 

in place at the time of the transactions, were available to the clients. 

89. CapWealth did not adopt and implement any procedures designed so 

that the costs associated with different share classes of a fund would be evaluated 

when it made purchases for each client, or otherwise seek the share class that 

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offered the most favorable value for each client.  CapWealth therefore failed to 

seek best execution for these transactions. 

90. For example, since January 2016, CapWealth invested certain 

advisory clients in the American Funds Fundamental Investors Class F1 shares 

(ticker: AFIFX), which had a 12b-1 fee of 25 basis points, when clients could have 

been placed in a lower-cost share class of the same fund.  Clients could have been 

placed in the fund’s Class F2 (ticker: FINFX), which had no 12b-1 fee, a lower-

expense ratio, and the same associated ticket charges. 

91. Nevertheless, Pagliara and Murphy generated more than $3,500 in 

12b-1 fee revenue by placing more than 50 client accounts into higher-cost Class 

F1 shares of the fund in 2016, 2017 and the first half of 2018. 

92. Similarly, since January 2016, CapWealth invested certain advisory 

clients in the American Funds New Perspective Class F1 shares (ticker: NPFFX), 

which had a 12b-1 fee of 25 basis points, when clients could have been placed in a 

lower-cost share class of the same fund.  Clients could have been placed in the 

fund’s Class F2 shares (ticker: ANWFX), which had no 12b-1 fee, a lower-expense 

ratio, and the same associated ticket charges. 

93. Nevertheless, Pagliara and Murphy generated more than $3,300 in 

12b-1 fee revenue by placing more than 45 client accounts into the higher-cost 

Class F1 shares of the fund in 2016, 2017 and the first half of 2018. 

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E. CapWealth’s Compliance Deficiencies Regarding Mutual Fund Share Class 
Selection  
94. During the Relevant Period, CapWealth failed to adopt and implement 

written policies and procedures reasonably designed to prevent violations of the 

Advisers Act and the rules thereunder arising from the firm’s mutual fund share 

class selection practices. 

95. While the firm had some general written policies concerning conflict 

disclosures, it did not apply those policies to its share class selection practices.  

Specifically, the firm’s “Policies and Procedures Manual” from June 2016 stated: 

CapWealth must disclose any possible conflicts of interest to 
clients in Part 2A of Form ADV and the Firm’s Disclosure 
Brochure. The specific information regarding any current or 
potential conflicts of interests must be described clearly. 
Generally, conflicts of interest may be defined as any existing or 
prospective business relationship in which the Firm or its 
Investment Advisor Representatives may have actual or potential 
incentives to place their interests above those of the client, and 
thereby violate Cap Wealths’ [sic] fiduciary responsibilities to the 
client. 
 

96. The firm never implemented this policy concerning the disclosure of 

conflicts of interest in the context of mutual fund share class selection and 12b-1 

fees.  The firm had the same deficient disclosures about 12b-1 fees from at least 

July 2014 until June 2018. 

97. CapWealth also failed to adopt and implement a reasonably designed 

process for regularly reviewing fund prospectus materials to assess whether a client 

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had become eligible for conversion to a lower-cost share class without 12b-1 fees. 

98. Similarly, during the Relevant Period, CapWealth had a “best 

execution” policy which stated: “The Firm, through the trading department at 

[CapWealth’s clearing broker-dealer] or any other custodian will cause each 

customer’s securities transactions to be executed in such a manner that the 

customer’s total costs or proceeds in each transaction is the most favorable under 

the circumstances.” 

99. CapWealth failed to implement this policy with respect to mutual fund 

share class selections for clients’ new purchases during the Relevant Period. 

F. Defendants Agreed to Toll the Statute of Limitations 

100. Defendants agreed to toll any statute of limitations applicable to the 

claims alleged herein during the period from May 15, 2020 through November 16, 

2020. 

COUNT I – FRAUD 

Violations of Section 206(2) of the Advisers Act 
[15 U.S.C. § 80b-6(2)] 

 
101. Paragraphs 1 through 100 are hereby re-alleged and are incorporated 

herein by reference. 

102. Defendants, acting as investment advisers, by use of the mails or 

means or instrumentalities of interstate commerce, directly and indirectly engaged 

in transactions, practices, and courses of business which operated as a fraud and 

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deceit upon clients and prospective clients, all as more particularly described 

above. 

103. By reason thereof, Defendants violated and, unless enjoined, will 

continue to violate Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)]. 

COUNT II – FRAUD 

Violations of Section 206(4) of the Advisers Act and Rule 206(4)-7 thereunder 
[15 U.S.C. § 80b-6(4) and 17 C.F.R. § 275.206(4)-7]  

 
104. Paragraphs 1 through 100 are hereby re-alleged and are incorporated 

herein by reference. 

105. Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] provides 

that it is unlawful for an investment adviser to engage in an act, practice or course 

of business which is fraudulent, deceptive or manipulative.  It further states that the 

Commission shall issue rules to define and prescribe measures to prevent such 

misconduct.  Rule 206(4)-7 under the Advisers Act [17 C.F.R. § 275.206(4)-7] 

requires, among other things, that investment advisers registered with the 

Commission adopt and implement written policies and procedures reasonably 

designed to prevent violations, by the investment adviser and its supervised 

persons, of the Advisers Act and its rules.  Such investment advisers must also 

review the adequacy of those policies and procedures and the effectiveness of their 

implementation, at least annually.  

106. CapWealth failed to adopt and implement written policies and 

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procedures reasonably designed to prevent Defendants’ inadequate conflicts 

disclosures and failure to seek best execution arising from their mutual fund share 

class selection practices.   

107. By reason thereof, CapWealth violated and, unless enjoined, will 

continue to violate Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] and 

Rule 206(4)-7 [17 C.F.R. § 275.206(4)-7] thereunder. 

PRAYER FOR RELIEF 

 WHEREFORE, the Commission respectfully prays for: 

I. 

 Findings of fact and conclusions of law pursuant to Rule 52 of the Federal 

Rules of Civil Procedure, finding that the Defendants named herein committed the 

violations alleged herein. 

II. 

 Permanent injunctions enjoining Defendants from violating, directly or 

indirectly, Section 206(2) of the Advisers Act [15 U.S.C. § 80b-6(2)]. 

III. 

 A permanent injunction enjoining Defendant CapWealth from violating, 

directly or indirectly, Section 206(4) of the Advisers Act [15 U.S.C. § 80b-6(4)] 

and Rule 206(4)-7 thereunder [17 C.F.R. § 275.206(4)-7]. 

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IV. 

 Disgorgement by Pagliara and Murphy of all ill-gotten gains or unjust 

enrichment with prejudgment interest, to effect the remedial purposes of the 

federal securities laws. 

V. 

 An order pursuant to Section 209(e) of the Advisers Act [15 U.S.C. § 80b-

9(e)] imposing civil penalties against Defendants.  

VI. 

 Such other and further relief as this Court may deem just, equitable, and 

appropriate in connection with the enforcement of the federal securities laws and 

for the protection of investors. 

JURY TRIAL DEMAND 

 Pursuant to Rule 38 of the Federal Rules of Civil Procedure, the 

Commission demands trial by jury in this action of all issues so triable. 

 
Dated this 11th day of December, 2020. 

 
Respectfully submitted, 

 
/s/ Kristin W. Murnahan  
M. Graham Loomis 
Regional Trial Counsel 
Georgia Bar No. 457868 
Tel: (404) 842-7622 
Email: [email protected] 
 

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Kristin W. Murnahan 
Senior Trial Counsel 
Georgia Bar No. 759054 
Tel: (404) 842-7655 
Email: [email protected] 
 

 
COUNSEL FOR PLAINTIFF 
Securities and Exchange Commission 
Atlanta Regional Office 
950 East Paces Ferry Road, N.E., Suite 900 
Atlanta, GA  30326-1382 
Tel (main): (404) 842-7600 
Fax: (703) 813-9364 

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	20. CapWealth is a Tennessee limited liability company based in Franklin, Tennessee that has been registered with the Commission as an investment adviser since 2009.  On its Form ADV dated March 30, 2020, CapWealth reported that it had approximately $...
	21. Pagliara, aged 63, is a resident of Franklin, Tennessee and is CapWealth’s founder and chairman, chief investment officer, and an IAR of the firm.  During the Relevant Period, Pagliara also was a registered representative of CapWealth’s affiliated...
	22. Murphy, aged 61, is a resident of Franklin, Tennessee and is a CapWealth IAR, and was a registered representative of CWIS during the Relevant Period.  Murphy also serves as CapWealth’s Managing Director of Wealth Management.  Murphy, as a CWIS rep...