How Different Standards of Care Impact Investors

Having compared the proposed best interest standard of care for broker-dealers and investment advisors, Fred Reish now turns his attention to the recipients of that advice.

In his most recent “Interesting Angles on the DOL’s Fiduciary Rule,” Reish writes that the Securities and Exchange Commission’s Reg BI standard of care would only protect “retail customers,” defined as “A person or the legal representative of such person, who … [u]ses the recommendation primarily for personal, family, or household purposes.”

Reish, citing his own reading of the SEC proposal, and conversations with securities lawyers, determines that a “retail customer” includes individual investors, family and personal trusts, IRA owners, and plan participants – but concludes it does not include businesses, retirement plans, and tax-exempt organizations. “Unfortunately,” he notes, “the SEC did not explain why they excluded some of those investors, who may be relatively unsophisticated.” As an example he notes that if a small business owner has a 401(k) plan, advice about the business owner’s personal account would be protected by the best interest standard of care, though advice about the investments in the plan would not be, that advice to the owner about investing his participant account would be, but that advice about investing the corporate account would not be.

“It seems difficult to imagine that the small business owner – who has the same level of sophistication regardless of which account he or she is investing – would understand that the protections under the securities laws varied depending on which ‘hat’ the business owner was wearing,” he writes, going on to conclude that this “will, undoubtedly, lead to confusion.”

But in its RIA Interpretation, Reish writes that the SEC explains: “An investment adviser has a fiduciary duty to all of its clients, whether or not the client is a retail investor,” and “[t]his obligation to provide advice that is suitable and in the best interest applies not just to potential investments, but to all the investment advice provides to clients.”

“In other words,” Reish concludes, “the best interest duties of investment advisers are much broader than the proposed rule for broker-dealers.” In fact, Reish explains, “in addition to the material differences in the range of recommendations and recipients, an investment adviser also has a duty to monitor the investment recommendations,” while the broker-dealer’s best interest obligation ends when a recommendation is made; “that is,” Reish explains, “there isn’t an obligation to monitor.”

Reish concludes that readers need to conclude for themselves whether the benefits and burdens of the proposals favor one business model or the other – and reminds that, at the moment, Reg BI is just a proposal. On the other hand, while the RIA Interpretation is labeled as a proposal, it is a compilation, or interpretation, of the SEC’s position on the rules regulating investment advisers.

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