SEC Regulation Best Interest an important step for our industry

Cracked concrete wall with rule word on and blue sky outside

The agency's approach allows firms to comply with new guidelines while while tailoring their practices to their own businesses and clients.

The Securities and Exchange Commission’s introduction in May of a proposed best-interest standard of care for all advisers — including those affiliated with broker-dealers and RIAs — was a watershed moment for the financial advice profession.

The Financial Services Institute has supported a uniform best-interest standard that would be crafted and enforced by the SEC as the appropriate jurisdictional agency since 2009, before Dodd-Frank became law. After years spent debating, preparing for and successfully litigating the Department of Labor’s unworkable fiduciary rule, the SEC’s leadership on this issue is a welcome development, one that places the key decisions on our industry’s regulatory framework in the hands of the agency that is best qualified to address them.

We believe the proposed best-interest framework (known as Regulation Best Interest, or Reg BI) represents a clear and important step in the right direction, and we were pleased to submit a comment letter this month outlining our support along with suggestions for improving the proposed rule.

Principles-Based Approach

We applaud the SEC’s approach in drafting Reg BI, which focuses on a common-sense application of certain core principles to the client relationship. This approach wisely enables firms to comply with the new guidelines while tailoring their practices to their own businesses and clients, thereby protecting access to objective professional financial advice for Main Street American clients.

Under the SEC’s proposal, broker-dealers would: 1) disclose key facts about the customer relationship, including material conflicts of interest; 2) exercise reasonable diligence, care and skill to ensure that recommended products are in the customer’s best interest; and 3) establish and enforce practices to identify, disclose, and mitigate or eliminate conflicts of interest.

By building upon existing suitability standards, the SEC’s proposal would strengthen and clarify the requirement that advisers work in the best interest of clients without creating a new and potentially unworkable regulatory framework.

We further commend the SEC for incorporating measures to reduce conflicts of interest that the vast majority of stakeholders in our industry can support. These include, for example, eliminating sales contests based on product sales (although we believe that product-agnostic performance awards should be permitted).

Providing Clarity for Investors

We also support the SEC’s approach to defining the scope and nature of the client relationship through a simplified, straightforward Customer Relationship Statement that would outline potential conflicts, compensation structures and other key elements of the client engagement. With this disclosure mechanism, Reg BI refrains from “tipping the scales” against models that involve transaction-based compensation or proprietary products.

FSI believes that a two-tier disclosure regime — starting with a concise point-of-sale document at the beginning of the client engagement, with links to more detailed disclosures on the firm’s website or elsewhere — has the greatest potential to facilitate productive conversations on key issues between clients and financial professionals. In our view, Form CRS has the potential to serve as the first element of such a system.

The SEC has also done an admirable job in this area of including elements that stakeholders on all sides of the industry can support. As an example, we agree that the term “adviser” or “advisor” should only be used byinvestment advisory representatives and dually registered individuals (as long as these terms can also be used by broker-dealers with a separate affiliated RIA and their associated persons).

Suggestions for Improvement

Our comment letter included constructive feedback to further strengthen Reg BI. As one example, we urged the SEC to provide specific guidance as to what constitutes a material conflict of interest and to clarify how firms can sufficiently mitigate conflicts that cannot be eliminated. In addition, we emphasized that more disclosure does not result in better disclosure, and encouraged the SEC to further simplify its CRS to a one- or two-page document with instructions (or hyperlinks if delivered electronically) directing clients who are interested to more robust disclosure information.

Regulatory Harmonization

The SEC also requested comments on harmonizing investor protections across both the investment adviser and broker-dealer sectors. Of most immediate relevance to Reg BI, we suggested that extending to investment advisers the duty to mitigate or eliminate material conflicts — rather than merely disclosing them — would improve our industry’s ability to provide a consistent and reliable standard of care to all investors.

Our letter also included suggestions to level the playing field in areas such as examination practices and frequency, licensing requirements, continuing education, and advertising oversight and review.

Conclusion

The SEC’s introduction of a proposed best-interest framework is a tremendously positive development for our industry. Reg BI would establish a uniform standard of care and create strong new disclosure and conflict mitigation requirements that reduce investor confusion and enhance investor protections.

FSI is pleased with the SEC’s progress on this effort, and we look forward to continuing our productive dialogue with the agency in order to move our industry’s regulatory framework even further in the right direction.

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Dale Brown is president and CEO of the Financial Services Institute.