InvestmentNews Editorials

DOL fiduciary rule should be improved, not scrapped

Biggest concern is threat of excessive litigation due to best-interest contract exemption.

Jun 3, 2017 @ 6:00 am

For better or worse, the Department of Labor's fiduciary rule goes into effect on Friday. Starting that day, any broker or financial adviser offering advice on retirement savings accounts must put the clients' interests first.

While we support the general principles of the DOL rule and believe it will be more beneficial to investors than not, there is room for improvement. It's our hope that the DOL, which has vowed to review the rule between now and Jan. 1, will turn its attention to enhancing the rule — and not scrapping it altogether.

Of particular concern is a provision that would open the door to class-action lawsuits against firms selling commission-based products in retirement accounts under the best-interest contract exemption, which is the binding agreement brokers and advisers must use when receiving compensation on individual investment recommendations.

The provision, which prohibits financial services firms from putting class-action exclusions into the BICE, is intended to serve as the rule's primary enforcement mechanism. As a result of the provision, the brokerage industry can expect to absorb between $70 million and $150 million in class-action litigation costs, according to February report from Morningstar Inc. That's on top of the $1.5 billion the rule will cost the industry annually, as estimated by the DOL's own regulatory and impact analysis.

To be sure, the threat of costly litigation will curtail some of the most egregious sales practices.

(More: Are brokers really ready to be fiduciaries?)

But it also opens the door to a wave of abusive litigation, or so-called strike suits, based on limited merits for the purpose of forcing a settlement. Those costs undoubtedly will be passed down to investors.

For that reason, the rule should be amended to provide strong protections and remedies for investors in the event of conflicted advice, without inviting unnecessary litigation.

Instead of using a private right of action as the rule's main enforcement mechanism, the DOL may want to consider a system that would allow it to collect uniform data on clients' portfolios and analyze that data to see whether the portfolios are aligned with a fiduciary standard of advice.

(More: As fiduciary debate slogs on, both sides will be dragged through the mud)

Using big data to audit — and score — every investor's retirement account would enable the DOL to identify portfolios that are outliers and take enforcement actions to remediate the situation.

Whether the rule is repealed or revised, the industry is moving toward a fiduciary standard. Firms and advisers who do not begin complying with the spirit of the law do so at their own peril.

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