Articles Posted in Client Relations

As part of its June 5th landmark issuance of multiple final rules and interpretive releases dealing with broker and advisory standards-of-conduct—which included the long-awaited Regulation Best Interest (or “Reg BI”) for broker/dealers—the SEC also published a detailed interpretive release clarifying and interpreting an investment adviser’s fiduciary duty (the “Fiduciary Release”). While this blog has already provided an analysis of the high-level contours of the SEC’s entire package of rules and releases, we now write to give readers a closer look at the Fiduciary Release, which should be of particular interest to the advisory community.

The Fiduciary Release is the culmination of a regulatory process begun on April 18, 2018, with the SEC’s publication of a draft release on advisory fiduciary duties. The SEC also published draft releases of Reg BI and the Form CRS Relationship Summary (“Form CRS”)(a new disclosure document for advisers and brokers) on that date as well. However, we note at the outset that, unlike the final Reg BI and Form CRS rules—which will not be implemented until June 30, 2020—the Fiduciary Release is effective upon formal publication in the Federal Register. Since that formal publication has already occurred, the Fiduciary Release is now effective. Additionally, we note that the Fiduciary Release is legally applicable to not only SEC-registered investment advisers, but also to state-registered advisers and other investment advisers that are exempt from registration under the federal Advisers Act.

The SEC’s stated objective in issuing the Fiduciary Release is to “reaffirm” and “clarify” the longstanding fiduciary duty of an investment adviser as expressed in section 206 of the Advisers Act. Recognizing that this fiduciary standard has been developed over decades via case law in the form of judicial opinions as well as through SEC enforcement proceedings and no-action letters, the SEC notes that the Fiduciary Release is not intended to be the “exclusive resource” for articulating the fiduciary standard. Importantly, the Fiduciary Release does not explicitly declare any revisions to the advisory standard of conduct (as does Reg BI vis-à-vis broker/dealers).

On October 18, 2016, Parker MacIntyre hosted a seminar addressing legal issues that registered investment advisers (“RIAs”) often face, including developing cybersecurity guidance and implications of the new Department of Labor Fiduciary Rule.  The attendees consisted of sixteen individuals representing thirteen RIAs registered from around the southeast.  Both SEC-registered and state-registered RIAs were represented among the attendees.

Parker MacIntyre was pleased to welcome Noula Zaharis, the Director of the Securities and Charities Division of the Secretary of State of Georgia, as a guest speaker.  She began the seminar with a presentation on how the Georgia Secretary of State registers and regulates investment advisers and common deficiencies encountered by the Georgia regulators.  Highlights from another presentation, entitled “Common Deficiencies, Exam Priorities, and Regulatory Initiatives,” included common deficiencies found in RIA examinations, exam priorities that RIAs should ideally be aware of, and the Secretary of State’s regulatory initiatives. Continue reading

Increased focus on cybersecurity by the Security Exchange Commission’s (“SEC”) continues as it recently issued charges against Morgan Stanley Smith Barney (“Morgan Stanley”) for failing to adopt written policies and procedures reasonably designed to protect confidential client information. These charges stemmed from a cybersecurity breach which began in 2011 and continued until 2014, resulting in the misappropriation of confidential client information in over 730,000 client accounts.

Broker-dealers and investment advisers are required pursuant to Regulation S-P and comparable regulation of the Federal Trade Commission to adopt written policies and procedures reasonably designed to protect client records and information. These policies and procedures must address the administrative, technical, and physical safeguards in place, and must be reasonably designed to insure the security and confidentiality of client records and information, protect against unanticipated threats, and prevent unauthorized access.

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As the Department of Labor’s (“DOL’s”) proposed fiduciary rule awaits final adoption, market participants are starting to predict how it will affect retirement investment advice given that financial advisers such as broker-dealers, investment advisers, insurance companies, and other financial institutions, as well as their representatives, may soon be subjected to heightened fiduciary standards. Specifically, the sale of annuity products is predicted to face a large amount of change given its commission-based nature.

Currently, under the Employee Retirement Income Security Act of 1974 (“ERISA”) and the Internal Revenue Code of 1986 (“Code”), financial advisers are generally only fiduciaries if they provide investment advice or recommendations for compensation to employee benefit plans or participants and such advice is given on a regular basis and pursuant to a mutual understanding that the advice will serve as the primary basis for investment decisions and will be individualized to the particular needs of the plan. While investment advisers already have fiduciary duties under the Investment Advisers Act of 1940, the current narrow definition of fiduciary under ERISA and the Code generally does not encompass broker-dealers.

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The Investment Advisers Act of 1940 requires that investment advisers exercise a fiduciary responsibility toward clients. Traditionally, this duty extends to protecting clients against fraud and abuse. But how does this fiduciary duty change when faced with an aging population? It’s no secret: the average age of the American population is increasing. Baby Boomers dominate the world of investment management. In 2008 the SEC staff reported Boomers hold 50% of total U.S. household investment assets. This poses special duties and challenges on today’s registered investment advisers and broker-dealers.

NASAA (the North American Securities Administrators Association) has as of September 29th 2015, proposed a new model law that incorporates best broker-dealer and investment adviser practices for dealing with suspected financial exploitation of seniors and diminished capacity investors. That proposal is available here.
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One year ago, the Securities and Exchange Commission (SEC) staff recommended that a uniform fiduciary standard be applied to both broker-dealers and investment advisers. Recently, however, the SEC postponed a corresponding rule proposal for a second time.

In January, SEC Chairman Mary Schapiro sent a letter to Congressman Scott Garrett, Chairman of the House Capital Markets Subcommittee, stating that it needs to gather additional information for an economic analysis of the impact of a standard of care regulation. Although the SEC had previously set it for action in 2011, that time frame has now been changed to “date to be determined.” The SEC has already designated specific time frames for 51 other rules and reports required by the Dodd-Frank Act.

In the letter to Rep. Garrett, Chairman Schapiro wrote, “SEC staff are drafting a public request for information to obtain data specific to the provision of retail financial advice and the regulatory alternatives. In this request, it is our hope commentators will provide information that will allow commission staff to continue to analyze the various components of the market for retail financial advice.”
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The latest financial debacle has done more than drain retirement accounts, it has caused investors to lose faith and trust in their financial advisers.

Investors are encouraged to plan for the future. Common wisdom dictates that someone who knows the business, an “expert,” is the best one to turn to for advice. During the 1990s when times were good investors could not lose with the market climbing ever higher. Then came, in succession, 9/11, the housing bubble, the crash of 2008 and the resulting financial scandals in brokerages large and small.

This was apparently a real wake up call to investors. A recent survey reveals that, as a result, over one-half of all investors fear that their financial advisers are taking unfair advantage of them!
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