The Securities and Exchange Commission (SEC) released its third and final staff bulletin in a series on Regulation Best Interest guidance on Thursday.
The bulletin, presented in a Q&A format, expands on the responsibilities of brokers and advisors and its standard of conduct, seeking to inform professionals on current regulation. The bulletin focuses primarily on the Care Obligation with Reg BI and the duty of care under the Investment Advisers Act of 1940.
“Both Reg BI for broker-dealers and the IA fiduciary standard for investment advisers are drawn from key fiduciary principles that include an obligation to act in the retail investor’s best interest and not to place their own interests ahead of the investor’s interest,” the SEC wrote in its bulletin. “Complying with their care obligations is an important aspect of how firms and financial professionals form a reasonable belief that their investment advice and recommendations are in the retail investor’s best interest.”
Components under duty of care
The SEC goes on to explain the three components under its care obligation, stating that broker-dealers must grasp the “potential risks, rewards, and costs associated with a product, investment strategy, account type, or series of transactions.”
Broker-dealers must also have a “reasonable understanding of the specific retail investor’s investment profile,” including the “retail investor’s financial situation (including current income) and needs; investments; assets and debts; marital status; tax status; age; investment time horizon; liquidity needs; risk tolerance; investment experience; investment objectives and financial goals; and any other information the retail investor may disclose in connection with the recommendation or advice,” stated the SEC.
An integral aspect under the duty of care includes considering “reasonably available alternatives,” that verify the recommendation or advice is in the investor’s best interest, added the SEC. Those alternatives could depend on the facts and circumstances of the recommendation or advice, as well as the investment profile of the retail investor at the time the recommendation is made or when the advice is provided.
However, the SEC makes a note that certain alternatives, such as offering multiple share classes of one fund, would not satisfy the duty of care obligation. Instead, a financial professional should consider other investments and investment types that are reasonably available to investors and could achieve objectives, while assessing these alternatives, said the SEC.
Ultimately, the SEC concluded that broker-dealers and investment advisers are responsible for offering reasonably available alternatives that are consistent with the retail investor’s investment profile.
“When adopting and implementing reasonably designed policies and procedures regarding their care obligations, broker-dealers and investment advisers should tailor those policies and procedures, taking into consideration their particular business models and relationships with retail investors,” the agency stated.
Rumors of Reg BI changes
The latest guidance comes just a few days after Rep. Byron Donalds released a note accusing—and discouraging—the SEC of considering amending or rewriting the Reg BI.
The letter, addressed to SEC Chairman Gary Gensler, said “there is no credible evidence to date that Reg BI is not working as intended, or that investor protections have been weakened as a result of Reg BI being in place.” Donalds then criticized the former Conflict of Interest rule, (otherwise known as the “fiduciary rule”) proposed by the Department of Labor (DOL) in 2016, expressing that the rule was an “anti-investor approach taken by the [DOL].” He claimed that advocates of the former rule are “now calling on the SEC to amend Reg BI.”
“Under the DOL rule, it was estimated that nearly 7 million individual retirement account (IRA) owners would have lost access to investment advice, while over two-thirds of financial advisors stated they would have to stop providing advice to accounts under $25,000 due to the cost restrictions of the rule,” Donalds said in his note.
The DOL’s fiduciary rule died back in 2018 during former President Donald Trump’s administration, when the Fifth Circuit Court of Appeals vacated it after it spurred fierce debates questioning its impact on financial advisors and broker-dealers.
In his letter, Donalds added that the SEC should “reject these calls and instead focus on ensuring robust oversight of the principles set forth in Reg BI as written.” He also discouraged the agency from rewriting the rule through “guidance, ‘FAQs’, or other methods that likely violate the Administrative Procedure Act (APA).”
Donalds has since requested for Gensler to respond to a list of questions and requests within the next 14 days, including estimates of the total number of staff hours and costs incurred by the SEC in connection with proposing, finalizing, and overseeing implementation of Reg BI since 2017; an estimate of costs borne by the broker-dealer industry to comply with Reg BI; a list of meetings that involved matters related to Reg BI; and other demands.
During his testimony on Tuesday before the House Financial Services Committee, Gensler responded to questions on whether the SEC is considering a rewrite of Reg BI, noting that an amendment isn’t on the SEC’s agenda.
Yet, later in the hearing, Gensler hinted on the possibility of a Reg BI modification, as long as it met the upmost interests of retail investors.
“I think that it’s important that this rule live up to its potential, that best interest really does mean best interest,” he said.
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