Regulatory Outlook | 10.16.19
Decade-Long Fiduciary Saga Drags on with More Plot Twists to Come
Broker-dealers rendering advice should be held to a fiduciary standard.
This sentiment found its way into a June 2009 white paper on post-financial-crisis reforms issued by the U.S. Department of the Treasury during the early months of the Obama administration.
Within about 24 hours, Mary Schapiro, then chairwoman of the Securities and Exchange Commission (SEC), flagged the fiduciary issue during a public speech.
The first shots had been fired. Ten years later, the battle over elevating conduct standards for brokers continues, on Capitol Hill and in court, with no apparent end in sight.
Brokers may have assumed the SEC's recently passed investment advice reform package, which included as its centerpiece Regulation Best Interest (Reg BI), finally provided clarity on what constitutes acceptable practices in dispending financial advice. However, Reg BI remains in a state of flux, and registered representatives are advised to stay on top of the twists and turns surrounding the new advice rules.
Seven state attorneys general have filed a lawsuit against the SEC, claiming by pushing ahead with Reg BI, it is flouting a Dodd-Frank mandate for it to create a uniform standard of broker conduct on par with the one that applies to Registered Investment Advisers (RIAs). Meanwhile, a separate but similar lawsuit was filed by XY Planning Network and Ford Financial Solutions. The SEC has not yet formally responded to these lawsuits, but the agency is expected to do so in the coming weeks.
The U.S. Department of Labor is working on a revised fiduciary rule that is expected to be released in December 2019. Former Labor Secretary Alexander Acosta has said in the past that the rule would be crafted to align with Reg BI. Acosta resigned from his cabinet position in July amidst renewed scrutiny of his handling of the Jeffrey Epstein case. Acosta's deputy, Patrick Pizzella, has since been named acting labor secretary, although the work of overhauling the Department of Labor rule is being led by Preston Rutledge, head of the Employee Benefits Security Administration. Rutledge has also said the rule would align with Reg BI. Pizzella is viewed as pro-business and as being more aligned with Trump's deregulation agenda, compared to Acosta.
Acting White House chief of staff Mick Mulvaney, the administration’s point man on the closely watched fiduciary issue, now has bigger fish to fry with a formal impeachment inquiry underway in the U.S. House of Representatives.
In July, the House passed an amendment to the Financial Services and General Government Appropriations bill that would “de-fund” it, prohibiting the SEC from implementing Reg BI, and at the very least, putting a cloud over the future of advice standards. Recently, the House Financial Services Committee expressed its displeasure about the rule, grilling SEC Chairman Jay Clayton, and some fellow commissioners, during a hearing on Sept. 24. SEC Commissioner Robert Jackson, the lone dissenter during the agency’s Reg BI vote in June, told lawmakers that the rule created a "muddled standard" as far as what constitutes putting investors first. To correct this, he added while under interrogation, the SEC should use its authority under Section 913G of the Dodd-Frank Act to set a strong uniform standard regarding investment advice.
When Rep. Al Green (D-Texas) asked whether investment advisers are true fiduciaries, Jackson responded by saying that he did not feel the final rule was clear enough on this question.
Critics: Rule Lets Brokers Police Themselves
For many decades, state and federal officials have voiced concerns over conflicted practices by brokers, such as churning accounts to generate commissions or pushing inappropriate, higher-fee products. Industry members are quick to describe such instances as outliers. Staunch critics of Reg BI say the rule is just a cleverly crafted head fake with phrasing that sets out a nebulous framework under which firms can tailor policies and procedures based on unique circumstances. “Broker-dealers are most capable of identifying and addressing the conflicts that may affect the obligations of their associated persons with respect to the recommendations they make,” according to the rule release (page 326).
“Who is regulating whom?” asked Knut Rostad, president of the Institute for the Fiduciary Standard. “Now the SEC says brokers are best able to write and interpret policies to identify and address conflicts.”
Rostad was a member of the Committee for the Fiduciary Standard, a group of investment professionals who helped lobby the Obama administration to bring brokers and advisers under the same fiduciary standard and harmonize regulation.
The lengthy June 2009 U.S. Department of the Treasury document outlining broad financial system reform included support of the fiduciary standard for brokers.
Right after that the white paper came out, Schapiro, speaking at the New York Financial Writers’ Association Annual Awards Dinner, zeroed in on a few particular areas of concern. One of them was fiduciary duties and the confusion surrounding the roles and responsibilities of broker-dealers versus investment advisers. Rather than growing farther apart, "the two industries are merging to the point of, in some cases, relative indistinguishability," Schapiro said, probably not realizing the long, heated saga about to unfold.
And so began a push to create more consistency in terms of regulatory regimes and conduct standards applied to brokers.
Under the Obama administration, the Department of Labor crafted a "fiduciary rule" that would have elevated care standard for brokers handling retirement assets. It was set to be phased in starting April 2017. Not long after winning the White House, President Trump requested a review of the rule, pushing the phase-in deadline to July 2019. Before the Department of Labor could change or scrap the rule, the 5th Circuit Court of Appeals struck it down in 2018. Reg BI was proposed later in 2018 and passed in June. The deadline for compliance is June 2020 and it now seems very likely that could be pushed off. The industry is going to be on its toes, preparing for the deadline while looking out for more curveballs. With an impeachment proceeding and an election looming, this is a saga that could yet provide more surprises. It is also possible that some key states push forward with initiatives, undercutting federal umbrella. Enforcement actions and court decisions will need to be watched closely.
The battle will likely extend well beyond the June 30 deadline for Reg BI implementation, according to Investment News, quoting Robert Lavigne, managing director at Bates Group.
"Firms need to push forward with their implementation plans and early in the first quarter need to be executing on those plans for the June deadline," Lavigne said.
For more on Reg BI, read our article, "With Compliance Deadline 12 Months Away, Industry Begins to Get Grip on New Advice Rules."