Brokers Owe a Fiduciary Duty to Their Clients for Retirement Advice!


On June 9, 2017, the U.S. Department of Labor’s rule requiring financial advisors to act as fiduciaries by putting their clients’ best interest before their own when offering investment advice went into partial effect.  Americans lose about $17 billion a year to conflicts of interest with these advisors.  Under the new rule, advisors must disclose more information to their clients about the compensation they receive, including enhanced compensation for the sale of investment products issued by the brokerage firm.


The New Rule

The new rule specifies that all broker dealers, registered representatives, and insurance company agents earning commission based compensation for giving investment advice on 401(k)s and IRAs owe their clients a fiduciary duty.  An advisor becomes a fiduciary even if advice is given to a client on a one-time basis.  Also, the client need only to receive the advice– not act on it.  And, if the advisor claims to be a “fiduciary,” the advisor becomes a fiduciary even if that would not otherwise be true.

The new rule is centered on the Best Interest Contract Exemption (BIC), a disclosure that applies to any product recommended for purchase after June 9, 2017.  There are 4 types of BIC disclosures: Full, Disclosure, Streamlined, and Transition.  The level of required disclosure depends on the product sold and the type of financial advisor.  For example, a full BIC disclosure is required for the sale of commissioned products for IRA and non-ERISA accounts.  A Transition BIC disclosure can only be used until January 1, 2018, when the rule takes full effect.

A BIC disclosure must state the advice is in the best interest of the client, charges no more than reasonable compensation, and makes no misleading statements about transactions, compensation, or other conflicts of interest.  Reasonable compensation means that it is not considered excessive according to the market value and nature of the particular service or benefit.  Interestingly, the lowest priced option may not comply with the rule, if it is not in best interest of client.  A good advisor will document his or her file with the benchmark, and frequency of client meetings or frequency of advice given online.

What is referred to as fee levelization can be used instead of a BIC disclosure for advisor sales of commission products, except for proprietary products, 12b-1 fees, commissions, revenue sharing or other payments or gifts or awards.  But three types of advisor recommendations are per se fiduciary and not exempt from BIC disclosure through fee levelization—

  • A recommendation to take a distribution and roll it over into an IRA.
  • A recommendation to transfer a client’s IRA to the advisor for management.
  • A recommendation to move from a transaction-based account to a fee-based account.

In a nutshell, the rule requires the advisor to compare the services, fees, and expenses, and the range of investments that are available to the client under different products, so that the client can make an informed investment decision.


Why the Rule is Necessary

The new rule will change the way advisors handle retirement accounts.  While there are continued challenges to the rule both in Congress and in the courts, the rule represents a much needed change to the way advisors handle retirement money.  In recent years, there has been a shift from employee retirement assets being held primarily in professionally managed pension plans to individually managed 401(k)s and IRAs. With this shift, individuals increasingly look to their own investment advisors for advice on retirement planning.

Traditionally, fiduciary duties are imposed on people who manage other people’s money, in a relationship based on trust and confidence.  In the cases of investment fraud handled by our firm, we analogize the duty of a fiduciary to a client as being like the Secret Service. It is the fiduciary’s duty to put the client’s interest above his or her own interest, just as a Secret Service agent is supposed to take a bullet for the boss.

For years, we have handled cases for investors who did not receive meaningful disclosure that the investment products they were buying cost more in fees and commissions than similar products they could buy on their own. Claims for breach of fiduciary duty were asserted in these cases.

While the brokerage industry acknowledges that appropriate duties of disclosure are owed by investment advisors to their clients, they don’t want to call it a fiduciary duty.   Perhaps the reluctance of the industry can be explained by the fiduciary duty definition that might be submitted to a jury or arbitration panel from the pattern jury charge:

“Because a relationship of trust and confidence existed between them, as Paul Payne’s attorney, Don Davis owed Paul Payne a fiduciary duty. To prove he complied with his duty, Don Davis must show-

  1. the transaction(s) in question was fair and equitable to Paul Payne; and
  2. Don Davis made reasonable use of the confidence that Paul Payne placed in him; and
  3. Don Davis acted in the utmost good faith and exercised the most scrupulous honesty toward Paul Payne; and
  4. Don Davis placed the interest of Paul Payne before his own, did not use the advantage of his position to gain any benefit for himself at the expense of Paul Payne, and did not place himself in any position where his self interest might conflict with his obligations as a fiduciary; and
  5. Don Davis fully and fairly disclosed all important information to Paul Payne concerning the transaction(s).” PJC 104.2.

With some research, most people could handle their own investments in a conservative fashion and do as well as a professional advisor.  Some people, though, either can’t or won’t do that research and need a professional advisor.  These folks need reasonable protection.

Some critics of the rule believe calling this protection a fiduciary duty will price small investors out of the market.  Actually, the rule will probably lead to more discount brokerages, and index and exchange-traded product providers.

Common sense would tell you that wherever there is money for investment, there are means to get it done. The last chapter on this issue is yet to be written.

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