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Kelton Corcoran
Content marketing specialist
Kelton Corcoran is a content marketing specialist at Advicent, the financial planning technology provider of choice for nearly 100,000 financial professionals.
June 12, 2019 by Kelton Corcoran
about the author:
Kelton Corcoran is a content marketing specialist at Advicent, the financial planning technology provider of choice for nearly 100,000 financial professionals.
On June 5, 2019, the Securities and Exchange Commission (SEC) officially voted in the Regulation Best Interest (Reg BI) rule to bring a new set of standards to broker-dealers. The rule – which will go into effect June of 2020 – aims to strengthen the guidelines previously outlined by the suitability rule.
The new rule is also an attempt at closing the regulatory gap between broker-dealers and Registered Investment Advisors (RIAs), who have long been held to a higher measure of client care with the fiduciary standard. Rather than recommending investments that are simply “suitable” for a client, RIAs are beholden to recommend the best possible option for the client’s situation regardless of their own interests (commissions or other incentives).
Learn how to provide best interest advice with NaviPlan.
While the official SEC document comes in at a hefty 771 pages, here are some of the highlights that broker-dealers need to know about the new Reg BI rule.
The suitability rule under which broker-dealers currently operate requires that recommended investments are suitable for a client based on their demographics, characteristics, goals, and level of acceptable risk. The issue is that broker-dealers are not necessarily required to present the very best option for the client’s situation, instead just one that fits their needs in some way.
For example, consider that two investment options with similar risk are presented to a client: option A that has historically returned six percent and option B that has historically returned four percent. Say that option A carries a commission of one percent, but option B carries a commission of two percent. If both options A and B are suitable for a client, the broker is not required to present option A over option B and can lean towards the one that pays them a higher commission.
In addition to preventing broker-dealers from presenting options that favor their interests over that of their clients, the rule will ban firms from offering sales incentives such as free vacations or bonuses for selling certain products. Further, Reg BI restricts broker-dealers from using the title of ‘advisor’ or ‘adviser’ if they are not dually registered as an investment advisor.
The SEC breaks down the Regulation Best Interest rule into the following four main components:
In an interview on CNBC’s “Squawk Box,” SEC Chairman Jay Clayton said that “We’re raising the standard of conduct for broker-dealers – the obligations that they owe to their clients.” When asked about the previous suitability standard, Clayton said: “It wasn’t clear enough.”
To make the relationship between a client and RIA or broker-dealer clear from the jump, the Reg BI rule calls for the required use of a new document titled “Form CRS.” This document is meant to summarize information about a firm’s services, fees and costs, conflicts of interest, legal standard of conduct, and whether or not the firm and its financial professionals have disciplinary history. Both RIAs and broker-dealers will need to deliver this document to their clients at the start of the relationship.
Critics of the new rule say that although it is a step in the right direction, Reg BI is weak in comparison to the now-defunct DOL fiduciary rule that was rescinded on July 20, 2018. One area of contrast was the fiduciary rule’s requirement of a signed best interest contract with clients that could allow for litigation and class action lawsuits. This contract would have seriously bolstered the enforcement of the new standards but is not included in Reg BI.
Another is that there are now two sets of rules: a fiduciary rule for RIAs and Reg BI for broker-dealers. The fiduciary standard aimed to make a much larger portion of financial professionals – including financial advisors – legally obligated to always act in the best interest of the client. Not only did this hope to clarify the rules that govern financial professionals but also make it easier for clients to understand. Many believe that even with the improvements made with Reg BI, the regulations have only become more complicated for consumers.
Though Reg BI has already been voted through, expect more news surrounding the ruling to appear before it goes into effect next June.
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