SEC Fiduciary Standard
As fiduciaries, investment advisers are required to act in the best interest of their clients and not place their own interests ahead of their clients. The IAA has consistently taken the position that all professionals in the business of providing investment advice about securities to clients should be subject to similar fiduciary principles.
New SEC Standards of Conduct Rules
After two decades of deliberation, the SEC on June 5 issued a Standards of Conduct rulemaking package. The package is intended to raise the standard of conduct for broker-dealers, reaffirm the fiduciary duty under the Investment Advisers Act, and reduce investor confusion as to the services offered by and standards applicable to financial professionals that serve retail investors.
The IAA actively engaged with the SEC and its staff on all aspects of this landmark rulemaking package and many of our recommendations are reflected in the final rules.
The four parts to the rulemaking include:
- Advisers Act Fiduciary Duty Interpretation for Investment Advisers
- Regulation Best Interest (Reg BI) for broker-dealers when they make recommendations to retail customers, intended to strengthen the broker-dealer standard of conduct
- Form CRS (Part 3 of Form ADV to be delivered to retail investors), required for investment advisers, broker-dealers, and dually-registered firms
- Solely Incidental Interpretation regarding the broker exclusion from the definition of investment adviser
Effective Dates. The Advisers Act fiduciary duty and “solely incidental” interpretations became effective on July 12, 2019, when they were published in the Federal Register. The Regulation Best Interest and Form CRS will be effective on September 10, 2019 and compliance will be required by June 30, 2020.
Investment Advisers’ Fiduciary Duty
The final interpretation reaffirms the special relationship of trust and confidence an adviser has with its clients. As fiduciaries, investment advisers have an overarching duty to act in clients’ best interests, as well as the affirmative duties of care and loyalty. Investment advisers must make full and fair disclosure of their conflicts of interest and ensure that their conflicts do not taint their advice. These standards – affirmed by the Commission -- have served investors, the capital markets, the economy, and our profession well for decades and will continue to do so.
The Commission specifically articulated the adviser’s fiduciary duty in the Interpretation as following:
An adviser’s fiduciary duty “[ ] means the adviser must, at all times, serve the best interest of its client and not subordinate its client’s interest to its own. In other words, the investment adviser cannot place its own interests ahead of the interests of its client. This combination of care and loyalty obligations has been characterized as requiring the investment adviser to act in the ‘best interest’ of its client at all times. In our view, an investment adviser’s obligation to act in the best interest of its client is an overarching principle that encompasses both the duty of care and the duty of loyalty.”
Regulation Best Interest
The centerpiece of the package, Regulation Best Interest, includes some improved investor protection measures for customers of broker-dealers. However, the extent to which these measures will in fact protect broker-dealer customers or alleviate investor confusion will depend on how the new standard is interpreted, implemented, and enforced.
Reg BI requires that brokers act in the best interest of their retail customer at the time of a recommendation, without placing the broker’s financial or other interest ahead of the interests of the customer. The new standard is satisfied if the broker satisfies specified disclosure, care, conflicts, and compliance obligations. Notably, the Reg BI standard applies only to the moment that a transaction is recommended, while the fiduciary duty applies throughout an adviser’s relationship with its clients. Because of this and other differences, it is critical that customers understand whether they are hiring an adviser or a broker and what that engagement entails. Investors should be careful to understand what services exactly are agreed to by the broker and what obligations the broker has when it recommends a security or investment strategy to a customer.
As part of Reg BI, the Commission has effectively prohibited standalone brokerage firms or their registered representatives from calling themselves “adviser” or “advisor.” Dually-registered firms may continue to use these titles, as may registered representatives who are supervised persons of an SEC-registered adviser. While the Commission did not go as far as the IAA had recommended, especially as to the marketing practices of brokers, it did emphasize that brokers should take care in their marketing materials not to hold themselves out in a misleading manner and the SEC committed to monitor the issue.
Form CRS – Relationship Summary Document
A key element of the rulemaking package is a new relationship summary – Form CRS – that, beginning in July 2020, advisers and broker-dealers will need to provide to retail investors. Because investment advisers already provide full and fair disclosure in Form ADV regarding their services, fees, compensation, conflicts of interest, and disciplinary history, we did not believe additional disclosure was necessary for advisers. That said, we are pleased that the Commission incorporated our principal concerns regarding its proposed summary document. The revised form is a significant improvement from the proposal and we will work with our members as they implement the requirement.
Interpretation of “Solely Incidental”
Brokers whose advice is “solely incidental” to their brokerage business and that do not receive “special compensation” for that advice are not subject to the Advisers Act. The fourth part of the Commission’s rulemaking package – unexpected because it had not been proposed – is an interpretation of the term “solely incidental.” The interpretation confirms the Commission’s earlier position that ongoing discretionary advice cannot be solely incidental to the business of a broker-dealer. However, it also indicates that the exercise of limited discretion and an agreement to monitor a customer’s account could be solely incidental if these advisory activities are “provided in connection with and reasonably related to the broker-dealer’s primary business of effecting securities transactions.” Brokers still may not receive “special compensation” for these activities. The interpretation declines to provide additional guidance on what constitutes special compensation.
In addition to the SEC rulemakings, we are monitoring for other regulatory developments, including at the Department of Labor and at the state level. Regarding state fiduciary regulations, we will engage with state regulators when they attempt to apply substantive rules to SEC-registered investment advisers.
The IAA is conducting member outreach and providing analysis and implementation guidance through webinars, committees, and working groups. We welcome feedback from members on interpretive and implementation questions, and we will to continue to engage fully with the Commission and its staff on these important rulemakings. A dedicated members only resource page is also available.
Please contact IAA Legal Staff if you have questions or comments on the rules or interpretations.