Still plenty of headaches for independent broker-dealers in the DOL fiduciary rule

Even though the Labor Department’s recent changes to how financial advisers can counsel clients on retirement assets isn’t the industry killer some had feared, independent broker-dealers will find plenty of unpleasant realities among the details of the final 1,023-page rule.

The Labor Department’s conflict-of-interest — or fiduciary — rule, which will begin to take effect in a year, will require all professionals to recommend what is in the best interests of clients when they offer advice on 401(k) plan assets, individual retirement accounts or other qualified monies saved for retirement.

Practically speaking, it will move brokers, who currently live under a less stringent suitability standard, to charge clients set fees rather than receiving pay from commissions on products sold to them in their retirement accounts. The alternative that the DOL provided advisers who still want to receive commissions on annuities, alternative investments and other products, is a “best interest contract exemption.” It’s a pledge that the adviser will act in the client’s best interest and earn reasonable compensation, or the client can sue in court. It also requires information on fees and potential conflicts of interest.

“This rule is going to force a bigger change than the industry expects,” said John Anderson, managing director of practice management solutions for the SEI Advisor Network.

(Related: The DOL rule covered from every angle)

AN ALTERED LANDSCAPE

The new regulation is likely to alter the independent broker-dealer landscape because only the largest IBDs will have the resources to build comprehensive compliance programs around the rule’s requirements, experts said.

The nation’s four large brokerages, at Wall Street investment banks Wells Fargo & Co., Bank of America Corp., Morgan Stanley and UBS Group AG, have the infrastructure and resources to comply with the rule. Over the past decade they also have been moving toward a fee-based model, which carries lower risks under the DOL rule.

LPL Financial, Ameriprise Financial Inc. and other large broker-dealers have said they are evaluating exactly what the rule issued on April 6 calls for and are figuring out how they will reform their platforms to meet it. Even before the rule came out, LPL officials said the firm would make it more efficient to move broker accounts to an advisory model, and it lowered the price on some of its model wealth portfolios.

The final rule is scheduled to be fully implemented by the start of 2018.

John Taft, chief executive of RBC Wealth Management, said it will require an “enormous investment from the industry in order to comply” and weeks, or even months, to understand all the details and develop plans to meet the deadlines.

He said the final rule appears to be “better than was feared.”

CHANGES FOR IBDs

Two of the most significant changes for IBDs were the elimination of a five-part test for determining fiduciary status and a requirement for extensive data disclosure, including one, five and 10-year expense projections for investment products covered under the BIC exemption.

It’s unclear how much the DOL changes will reduce the cost of compliance compared with the expense of meeting the originally proposed rule, which Cambridge Investment Research Inc. estimated would cost $15 million to $17 million in technology upgrades.

Technology changes are expected to be the key adaptations that make it possible for broker-dealers to adapt to the rule. This may include utilizing a digital adviser to handle clients with smaller accounts.

Under the final rule, one item that IBDs will need to either develop themselves or acquire from outside firms is benchmarking information that they can use to measure the “reasonableness” of the compensation of their advisers, according to Fred Reish, a securities lawyer with Drinker Biddle & Reath. The BIC exemption, similar to the Employee Retirement Income Security Act, requires providers receive no more than reasonable compensation.

‘WINNERS AND LOSERS’

While the monetary costs may be high for large IBDs, the impact on the nation’s hundreds of other broker-dealers may be even higher, relatively speaking.

The Equity Dealers of America, an industry group that represents midsize and regional securities dealers and investment banks, is supporting resolutions in both houses of Congress that would block the DOL measure.

“This rule confuses investors, interferes with individual investment decisions, and taxes the retirement dollars of hardworking Americans,” said Chris Iacovella, CEO of the group. The EDA also said it is considering legal action because the rule would impose a heavier burden on smaller firms, which have more transaction-based clients and lower-asset accounts.

The rule “picks winners and losers among financial firms,” Mr. Iacovella said.

Simply put, most small broker-dealers will not have the financial wherewithal to swallow the costs of compliance.

One possible path for them is to be bought by a larger firm that has enough resources. Even before the rule was finalized, a few firms sold their broker-dealers, including American International Group Inc.

Tom Corra, chief operating officer of Fidelity Clearing & Custody Solutions, said small broker-dealers also may look to buy others to scale their response to the DOL rule.

Others may use acquisitions to build skills they’ll need to operate after the rule goes into effect, such as a familiarity with ERISA, he said.

Some broker-dealers may choose another route.

“They may decide to shift many of their accounts to level fee advisory accounts,” Mr. Reish said.

Mr. Anderson of SEI Advisor Network said he doesn’t think advisers will ultimately want to use the BIC exemption because it will create a perception issue.

Increasingly the public is going to hear more “noise” from fee-only advisers, digital advisers and direct-to-consumer firms like Vanguard Group, he said. They will push investors to question why they should put up with professionals who aren’t acting in their best interest.

“The court of public opinion” may greatly reduce or eliminate commission products, Mr. Anderson said.