The Fiduciary Standard: Clear As Mud?
Deborah Adeyanju, CFA, Associate Planner & Impact Strategist
As more and more clients and prospects ask about GRID’s fiduciary status, one thing that’s become clear to us is confusion around what the term means, why it’s important, and which advisors are fiduciaries. There is good reason for that confusion.
Muddying the waters regarding financial advisors’ responsibility to clients has long been a feature, not a bug, of some parts of the financial industry. But why exactly is conflict-free advice still up for debate?
What is a Fiduciary?
A fiduciary is someone who acts on someone else’s behalf. The relationship involves ethical and legal responsibilities. Examples of fiduciary relationships include client-attorney, beneficiary-estate trustee, and client-financial advisor.
Adhering to a fiduciary standard simply means acting in clients’ best interests and putting their interests ahead of yours. Congress established the fiduciary standard in its Investment Act of 1940, which set regulations for the investment industry. That legislation, which created the Securities and Exchange Commission, also stipulates that advisors registered with the SEC owe their clients a duty of care and loyalty and “must, at all times, serve the best interest of its client and not subordinate its client’s interest to its own.”
So far, so clear, right? Not exactly.
Aren’t all advisors held to a fiduciary standard by default?
Simply put, the answer is no. A longstanding problem is that broker-dealers and some participants in the investment advice business are not required to meet a fiduciary standard. Instead, the SEC holds them to a lower, less stringent, “suitability” standard. This standard requires only that a broker-dealer “must have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer.” It does not compel them to make sure investment advice they give is in the client’s best interest or prevent them from recommending more costly investment products that they personally benefit from when cheaper options would be in a client’s best interest.
On top of that, anyone is allowed to call themselves an “advisor,” sowing confusion in clients’ minds. And broker-dealers and others actively use the confusion to attract clients. In its 2017 report, “Financial Advisor or Investment Salesperson: Brokers and Insurers Want to Have It Both Ways,” the Consumer Federation of America outlined how “Brokerage and insurance firms are so eager to attract clients and increase sales, they create the expectation that they are providing fiduciary investment advice rather than non-fiduciary investment sales...They routinely refer to their financial professionals not as sales representatives or agents but as “financial advisors.”
The Obama administration’s Fiduciary Rule attempted to address the confusion by extending the fiduciary standard to a wider group of financial industry participants. Its proposed rule would have required advisors and broker/dealers who advise on retirement assets to adhere to a fiduciary standard. But a combination of intense lobbying and a new administration in the White House meant the rule never went into effect.
Why does it matter if your advisor is a fiduciary?
Not holding all advisors to a fiduciary standard results in real costs for investors, in higher fees (as advisors focused primarily on investment or insurance sales have an incentive to promote products for which they will earn higher commissions over less expensive ones) as well as poorer investment performance. Both of these eat into investment returns over time.
That’s not to mention the fact the investment products promoted may be poor fits with a given investor’s risk tolerance and overall financial goals.
Who’s looking out for individual investors’ best interests?
Fortunately, the clear need, and push for, clarity and reform is building. In the years since the Obama administration’s proposed rule was shelved, advisors and industry bodies have themselves begun to push harder for change. Whether it's advisor departures from Northwestern Mutual, Edward Jones’ settlement with regulators, or industry organizations like CFA institute pressing regulators to act, all highlight the shortcomings of the current state of play.
Where the industry needs to end up
We applaud these efforts. Bad actors place the entire industry in a negative light. We also believe that to best serve clients, the following needs to happen:
Clearer distinctions. The industry needs one clear standard for all who call themselves advisors. The SEC’s recently enacted Regulation Best Interest rule initially proposed restricting the use of “adviser.” Unfortunately the final rule did not include that provision.
Greater disclosure. Regulation Best Interest does require disclosure of the nature of broker-dealers’ relationships with clients, including conflicts of interests and mandates having procedures in place to manage them.
Higher stakes. Beyond the regulators, the Certified Financial Planner Board of Standards (CFP Board), the standard-setting organization and certifying organization for the financial planning industry, recently adopted a new Code of Conduct and Standards that requires advisors who hold the CFP® designation to make “a commitment to CFP Board to act as a fiduciary at all times when providing financial advice to a client.” That includes disclosing conflicts of interest and managing them so as to adhere to fiduciary standards regardless of where they work.
As CFP® and CFA professionals, we are fiduciaries, placing our clients’ interests ahead of our own when we recommend products and services. We always pair conflict-free advice with transparent fees. Additionally, we require each of our lead Financial Advisors to have the CFP® and/or CFA designations. Our CFP® certification encompasses being subject to annual background checks, continuing education requirements, and adherence to the CFP Board’s Code and Standards with respect to financial planning, while our CFA designation binds us to strict standards of professional conduct and ethical standards.
GRID 202 Partners is a holistic financial planning firm specializing in fee-based, comprehensive financial and investment planning for individuals, couples, businesses and institutions. We serve successful, ambitious professionals and business owners ready to take the next step in developing a budget, reducing debt and creating wealth for themselves and future generations.