Galvin asserts that Regulation BI fails to establish a strong and uniform fiduciary standard, in part because it does not define the term “best interest” and therefore, according to Galvin, it is unclear “whether some of the most problematic practices in the securities industry would be prohibited under the new rule.” The Division cited to a report (Investor and industry perspectives on investment advisers and broker-dealers / Angela K. Hung ... [et al.]. "Rand Report" (2008)) that found that investors are fundamentally confused about the differences between broker-dealers and investments advisers. According to the report, most investors are under the impression that all intermediaries, regardless of whether they are a broker-dealer or an investment adviser, are acting in the investor’s best interest. In its release, the Division also notes that over the past several years, it has penalized firms for the damage suffered by investors due to conflicts that purportedly would have been avoided if the firms and individuals had acted in accordance with a uniform fiduciary standard.
Regulation BI is not a uniform rule that addresses this concern. It is clear that Regulation BI does not apply the same standard to both broker-dealers and investment advisers, and in the adopting release the Commission specifically confirmed that a dual-registrant is an investment adviser, with associated fiduciary duties, solely with respect to those accounts for which a dual-registrant provides investment advice or receives compensation that subjects it to the Advisers Act.4 In contrast, the Massachusetts proposal would apply the same standard to advice given by Investment Professionals, whether broker-dealers or investment advisers. The proposed fiduciary duty would require an Investment Professional to satisfy both a duty of care and a duty of loyalty. Unlike the current fiduciary standards for investment advisers, as well as the new Regulation BI, the proposal provides an affirmative duty to avoid conflicts of interest and specifically provides that the disclosure of a conflict of interest will not on its own satisfy a duty of loyalty. The proposal would also require Investment Professionals to provide “the best of the reasonably available options” for clients, whether recommending investment strategies, opening or transferring assets to accounts or in the purchase, sale or exchange of securities. This requirement would be stricter than obligations under the current broker-dealer (Regulation BI) or investment adviser framework, requiring full and fair disclosure of limited product or advisory offerings.
Secretary of the Commonwealth Galvin is not the only government official to express disappointment with the new best-interest standard. On July 26, the U.S. House of Representatives passed a routine appropriations bill that blocked funding for Regulation BI, based on an amendment by Rep. Maxine Waters, D-Calif., to prohibit the SEC from using any of its spending authority from Congress to “implement, administer, enforce or publicize” the package of recent regulatory changes including Regulation BI.5 Rep. Waters is reportedly seeking to block Regulation BI because she thinks that it will “lower the standard that investment advisers currently abide by and mislead investors into thinking that brokers who comply with this new rule are putting their clients’ interests first.” The amendment was voted through the House on June 26 and now heads to the Senate for a vote, where it is less likely to pass.
While Regulation BI controversy swirls on a federal level, Massachusetts and other states are taking action. The Nevada legislature has already passed legislation establishing a fiduciary duty for broker-dealers, and this bill is now awaiting implementing regulations. In January, the Nevada Securities Division proposed draft regulations and requested public comment. As of this date, the Nevada Securities Division has not yet finalized the proposed regulations. Similarly, New Jersey has proposed implementing a fiduciary rule on any person who provides investment advice, including brokers. New Jersey extended the comment period for its proposed rule and plans to hold a public hearing at the Division of Consumer Affairs on July 17. Analogous proposals have been considered by Maryland and are reportedly under consideration in Illinois. Other states are taking a different angle, focusing on proposals to require financial professionals to clearly disclose the standard applicable to their business dealings. The various state proposals have seen a number of comments, both positive and negative, from industry participants. In particular, critics have noted that such regulations could be preempted by federal securities laws and that a patchwork of state standards would create a significant administrative and operational burden on firms. It could lead to the absurd result of financial advisers wearing not just “two hats” but many more depending on the number of states an adviser works in. Under the Massachusetts proposal, a dual registrant would continue to wear two hats federally under Regulation BI, but while registered and operating in Massachusetts, the adviser would just have one hat, subject to a fiduciary duty standard.
1 http://www.sec.state.ma.us/sct/sctfiduciaryconductstandard/Regulations-as-amended-redline.pdf
3 https://www.sec.gov/rules/final/2019/34-86031.pdf.
4 https://www.sec.gov/rules/final/2019/34-86031.pdf at pages 124-129.
5 https://rules.house.gov/sites/democrats.rules.house.gov/files/Rule_HR2722HR3351.pdf
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