How brokers can address potential revenue conflicts under DOL fiduciary rule

Common compensation streams may need to be treated differently under different regulatory structures

Apr 4, 2016 @ 12:27 pm

By Robert Cirrotti

While the Department of Labor is expected to announce its final Conflict of Interest Rule on Wednesday, questions about whether existing compensation models satisfy current standards are also intensifying. Regulators are scrutinizing current practices as they work to change fiduciary rules.

Firms who fully understand the current environment will be in the best position to respond to new regulation. This understanding will allow them to better assess the impact of necessary changes on their business model.


Broker-dealers are primarily compensated for selling and trading securities, not for their advice. They often receive 12b-1 fees as compensation for sales resulting from recommendations of mutual funds to clients. Regulatory scrutiny of the process involved in developing the recommendations that generate 12b-1 fee compensation is likely to intensify. In light of this reality, here are some action steps broker-dealers can take now:

• Prepare to explain the process used to determine which mutual funds have been approved for sale to clients.

• Be able to explain their due diligence process for product review and approval, and how the products approved for sale are anticipated to be used to meet particular client needs.

• Demonstrate the process for supervisory review of the funds that representatives have recommended to clients with a view to whether those recommendations are aligned to meet client interests.

A second practice that could present a conflict of interest for broker-dealers may occur if they receive revenue-sharing payments. This practice typically involves payments by the mutual fund's investment adviser or distributor from its own resources. Unlike 12b-1 fees, revenue-sharing payments are not directly derived from the fund itself. Generally, revenue-sharing payments are a percentage of broker-dealer client assets invested in a particular fund. While revenue-sharing arrangements are not unusual, broker-dealers need to carefully and thoughtfully decide to accept revenue-sharing payments by:

• Considering the purpose of the payments.

• If the arrangement is for purposes other than training and education, considering whether the arrangement presents an inappropriate conflict with client interests.

• Disclosing any revenue-sharing arrangement to clients and prospective clients.


The challenges are particularly acute for hybrid or dually registered firms and will likely be exacerbated by the forthcoming DOL regulation. Advisory account relationships established by hybrid firms typically also involve a brokerage account with the same firm. In such instances, the sources of revenue available to the broker-dealer in connection with the account's holdings may create a potential conflict of interest.

With respect to mutual fund investments, for example, any revenue-sharing arrangements the broker-dealer may have with particular funds could provide a financial incentive to the firm's advisory arm to recommend funds based on those revenue considerations. Under such circumstances, it is important that the adviser identify the conflict to his or her client and take steps to assure the client has consented to the advice arrangement with full knowledge of the conflict.

With respect to individual retirement accounts, hybrid firms act as fiduciaries when recommending investments or exercising discretionary management authority over account assets. Investing these assets in funds that generate 12b-1 fees or other payments to the brokerage arm of a firm generates a potential conflict of interest. Although full disclosure of these conflicts is required by the SEC, disclosure alone may not be enough for retirement accounts in light of the prohibited transaction rules which govern these accounts.

Common revenue streams may need to be treated differently under different regulatory structures.

In the meantime, a review of revenue streams and potential conflicts will serve firms well. For any firm, good compliance practices require firm-wide controls and procedures for addressing potential conflicts of interest. With preparation, broker-dealer and hybrid firms can be better positioned to make adjustments to be compliant under new rules.

Robert Cirrotti is a managing director at Pershing, a BNY Mellon company, where he is head of investment and retirement solutions.


What do you think?

View comments

Recommended for you

Upcoming Event

May 14


Retirement Income Summit

Join InvestmentNews at the 13th annual Retirement Income Summit—the industry’s premier retirement planning conference.Clients and investors continue to search for retirement income solutions and personalized investing advice. This... Learn more

Featured video


How are broker-dealers helping 401(k) advisers adapt to a changing market?

Bryan Hodgens, co-head of LPL Financial's Retirement Partners group, says the industry is getting much better at connecting advisers to wealth management opportunities and helping scale their businesses.

Latest news & opinion

IBDs with the most CFPs

How many of the more than 83,000 certified financial planners are employed by the big independent broker-dealers?

Richard Thaler wants to use 401(k)s to boost Social Security payments

The Nobel laureate wants to simplify drawing down retirement assets, which he thinks is 'way harder' than saving the money.

InvestmentNews announces 2019 Innovation Awards winners

Sheryl Garrett is this year's InvestmentNews Icon.

Morgan Stanley rides wealth management train to solid first quarter

Chairman and CEO James Gorman expresses excitement about expanding into workplace plans with purchase of Solium.

Fate of New Jersey fiduciary standard could come down to politics, court

With strong support from N.J. Gov. Phil Murphy, the proposal has momentum out of the gate.


Hi! Glad you're here and we hope you like all the great work we do here at InvestmentNews. But what we do is expensive and is funded in part by our sponsors. So won't you show our sponsors a little love by whitelisting investmentnews.com? It'll help us continue to serve you.

Yes, show me how to whitelist investmentnews.com

Ad blocker detected. Please whitelist us or give premium a try.


Subscribe and Save 60%

Premium Access
Print + Digital

Learn more
Subscribe to Print