If there was such a thing as placing a bet on whether or not there will be a fiduciary duty rule from the Department of Labor, the odds keep changing.
In April 2016, the Labor Department finalized a new rule that creates a fiduciary duty for brokers and registered investment advisers who offer retirement advice. They are held to a higher standard of customer care, one with best practices and prohibitions on conflict of interest.
The rule, to put it mildly, is under attack. Recently passed House legislation, if agreed to by the Senate, would kill the rule. There is also bad news for its prospects with a stay of implementation ordered by a Minnesota judge this month. Thrivent Financial for Lutherans, a large non-profit, demonstrated that it would face irreparable harm by the rule’s encouragement of class-action lawsuits to settle investor grievances.
Then again, lawsuits demanding the Fiduciary rule’s reinstatement are also working their way through the courts. There are also candid admissions by Labor Department officials that simply tearing it all is hardly as easy, or forthcoming, as critics (including President Trump) would like.
Watching, not so quietly from the sidelines, is the Securities and Exchange Commission.
On the surface, one might think that Chairman Jay Clayton was hedging his bets on whether the SEC might take up the challenge of issuing its own rule to fulfill the Dodd-Frank Act mandate. He recently referred to such a plan as a “herculean task.”
Speaking before members of the Securities Industry and Financial Markets Association, Clayton stressed that he was “respectful” of the Department of Labor’s efforts. It was widely seen as an act of diplomacy and an olive branch passed between agencies that have perpetually bickered about the rule and on whose terms it should be issued.
It might, at this juncture, be noted, that diplomatic outreach often takes place before going to war.
On June 1, Clayton set the stage for the SEC developing its own rule, cheered on by those who see it as the proper agency to do so. He opened a public comment period to solicit advice and guidance.
“The Department of Labor’s Fiduciary rule may have significant effects on retail investors and entities regulated by the SEC,” Clayton wrote. “It also may have broader effects on our capital markets. Many of these matters fall within the SEC’s mission.”
“I welcome the Department of Labor’s invitation to engage constructively as the Commission moves forward with its examination of the standards of conduct applicable to investment advisers and broker-dealers and related matters,” he added. “I believe clarity and consistency—and, in areas overseen by more than one regulatory body, coordination—are key elements of effective oversight and regulation. We should have these elements in mind as we strive to best serve the interests of our nation’s retail investors in this important area.”
“The numerous titles and designations that financial services providers use vary greatly in the expertise, training, and standard of care that they represent, but consumers may not be able to distinguish among them.”
Patricia Houlihan, Chair, Steering Group of the Committee, Fiduciary Standard
Since then, comments and ideas have been pouring in. We took a look at some of the missives received during the past two months.
Among those sharing a viewpoint was the Steering Group of The Committee for the Fiduciary Standard. Consisting of more than 1,000 fiduciary practitioners and financial and investment experts, the group holds that a consistently high standard of conduct benefits the public at large.
“We are concerned that the request for information could signal a move towards a redefined fiduciary standard that is less stringent than what currently applies to investment advisers under the Investment Advisers Act of 1940,” the group wrote. “The complexity of investing does not lend itself to an environment in which investors can quickly and easily evaluate an adviser's competence and prudence.”
Consumers must increasingly place a high degree of reliance on financial advice, “but they are unclear about when an adviser is required to serve their best interest, particularly when the same person provides them with multiple services associated with different standards of care,” the letter adds.
The Committee for the Fiduciary Standard advocated that all financial and investment advice be rendered as fiduciary advice and meet five core fiduciary principles: Put the client’s best interests first; act with the skill, care, diligence, and good judgment of a professional; do not mislead clients and provide conspicuous, full and fair disclosure of all important facts; avoid conflicts of interest; fully disclose and fairly manage, in the client’s favor, unavoidable conflicts.
Disclosure alone is not enough, the letter says.
“Transparency via disclosure is one of the many necessary elements that should be included in the principles of the fiduciary standard of care,” it says. “However, disclosing a conflict and then harming an investor does not meet the fiduciary standard of care and is not in the public interest.”
The group added that the rules-based approach for broker-dealers does not provide appropriate oversight of the investment advisory profession, whereas a principles-based approach, does.
Misleading marketing and titles were also identified as a concern. “The numerous titles and designations that financial services providers use vary greatly in the expertise, training, and standard of care that they represent, but consumers may not be able to distinguish among them,” added Patricia Houlihan, chair of the Steering Group of the Committee for the Fiduciary Standard the letter says. “To avoid consumer confusion, any person or firm representing themselves as an investment advisor, or its equivalent, should be required to register under the Advisers Act and be required to act in the client’s best interest as a fiduciary at all times.”
Weighing in was the Financial Planning Coalition, comprised of the CFP Board, the Financial Planning Association, and the National Association of Personal Financial Advisors. They summed up the inherent problem that led to the controversial rulemaking under discussion.
Investment advisers traditionally have had to register under the Advisers Act and are subject to a fiduciary standard, it wrote. “However, the Advisers Act exempts broker- dealers from this standard so long as any advice the broker-dealer gives to clients is “solely incidental” to its broker-dealer business; and the broker-dealer does not receive any “special compensation” for rendering such advice. Over the years, this exemptive relief has become much broader to the point where the range and scope of what is considered “solely incidental has been stretched to the breaking point.”
“SEC action to properly apply a fiduciary standard to all personalized investment advice is long overdue,” the letter says. “Any SEC rulemaking on standards of conduct for broker-dealers providing personalized investment advice to retail investors should not serve as a replacement of the Labor Department’s 2016 Fiduciary rule but rather as a complement to it.”
The National Association of Personal Financial Advisors cited confusion over the various titles that industry professionals use. “We envision any action on ‘truth in titling’ or ‘holding out’ as a complement to, rather than a substitute for, SEC fiduciary rulemaking,” it wrote.
“As increasing numbers of American consumers are exposed to misleading titles, designations, and marketing materials, the need for a true fiduciary standard becomes ever more critical,” it added. “The SEC should act promptly to extend the fiduciary standard to broker-dealers who offer personalized investment advice to retail investors.”
Dale Brown, president and CEO of the Financial Services Institute, is a longtime proponent of a uniform standard of care for all types of financial advice.
In his view, acting in a client’s “best interest,” incorporates duties of care, loyalty, and other similar standards applicable under federal securities laws, to: place the interests of their client before their own; avoid material conflicts of interest when possible or obtain informed client consent to act when such conflicts cannot be reasonably avoided; and provide advice and service with skill, care, and diligence based upon what they know about their client’s investment objectives, risk tolerance, financial situation, and needs.
“Where such conflicts cannot be avoided, a two-tiered disclosure regime consisting of a concise disclosure document to be supplemented with more detailed disclosures posted to the financial institution’s Website, he added. “Any uniform best interest standard created by the SEC should build upon and, fit seamlessly within, the existing and longstanding securities regulatory regime for broker-dealers and investment advisors.”
Nationwide, a Fortune 75 insurance and financial services company said it is “firmly committed to supporting a new best interest standard of care for broker-dealers that focuses on increased transparency and mitigation of conflicts, while at the same time protecting consumers’ access to advice, choice, and affordable products.”
Nationwide wrote that any SEC action must adhere to and recognize key principles:
A new best interest standard for broker-dealers developed and implemented by the SEC, as the primary regulator of the securities industry, best serves America’s retail investors.
A new best interest standard should be implemented through a disclosure-based regime.
A new best interest standard must be developed in coordination with other federal and state regulators.
A new best interest standard must anticipate and mitigate the potential for harmful consequences.
“A new SEC best interest standard would benefit a significantly broader group of retail investors than is possible under other regulatory initiatives such as the DoL’s Fiduciary rule. The SEC standard would apply across both qualified and non-qualified accounts,” Nationwide wrote. “The ability to implement a standard that would apply across retirement and non-retirement accounts would alleviate retail customer confusion when interacting with broker-dealers who service multiple account types for a single customer.”
A new SEC best-interest standard for broker-dealers would be subject to an established and robust regulatory enforcement paradigm.
“The Financial Industry Regulatory Authority already has a well-established body of rules that govern broker-dealer conduct, together with an effective enforcement framework, which could be leveraged by the SEC,” the company suggests.
The new best interest standard should be supplemented by principles-based rules on disclosure and compensation to the extent necessary or appropriate. “For example, principles- based rules regarding the receipt of compensation should focus on transparency, but should not outright prohibit or strongly discourage the ability to offer Commission-based products,” the letter says. “Along the same line, the rules should make clear that broker-dealers may continue to offer proprietary investment products, subject to adequate disclosure, transparent compensation, and the customers’ best interest.”
Mandatory disclosures are already an important part of the current regulatory framework that governs broker-dealers. “The SEC should build on this strong foundation by leveraging existing, or creating new, client-facing disclosures in a manner that facilitates clear communications and achieves a best interest standard of care,” Nationwide suggests, adding that the SEC adopt a set of principles to guide the development of new disclosure requirements.
These principles should include the dual goals of working within existing disclosure regimes as much as possible, while leveraging opportunities to reimagine and replace disclosures that have proven to be ineffective. Other areas of focus, the company says, should include determining: the scope of information truly relevant to the retail customer; the best format for required disclosures (prescribed forms/templates vs. free form); and, the appropriate timing and method of disclosure delivery.
“Additionally, the amount of increased disclosure should be weighed against its cost and effectiveness,” the letter says. “Disclosures should be improved with a focus on timely delivery of relevant information to the customer, and should avoid the imposition of subjective disclosure requirements that are unnecessarily difficult or expensive to operationalize with little resulting actual value to the customer.”
It encouraged the SEC to use the existing Form ADV as a reference point in evaluating and setting new disclosure requirements. It provides investment advisory customers with information about an investment advisor’s business, including compensation and conflicts of interest.
The Form ADV is provided to customers either before or at the time investment advice is provided, and is updated annually for any material changes.
What the company doesn’t want: onerous and/or unworkable disclosure requirements; the promotion of class-action litigation as a primary enforcement mechanism; a suggested or actual bias against the receipt of commission; the lack of clarity as to activities that qualify as advice; a suggested or actual bias against annuities and lifetime income guarantees; or a framework that could eliminate established distribution models.