Merrill Lynch gives insight to how firms may treat trail commissions post-DOL fiduciary rule

Following Merrill Lynch’s announcement last week that it would eliminate its commission IRA business when the Labor Department’s fiduciary rule goes into effect next year, observers may be wondering: What will happen to trailing commissions on already-established brokerage retirement accounts?
Merrill brokers will only be able to keep their trail commissions on grandfathered accounts, or those clients who remain in a Merrill IRA brokerage account existing before April 10 next year, the implementation date for the regulation, according to a company spokeswoman.

For current brokerage accounts transitioned onto Merrill One, the wirehouse’s investment advisory platform, or onto its self-directed brokerage or robo-advisory platform, the firm’s 14,000 advisers will lose any trail commissions.

That approach may pose a challenge for broker-dealers looking to follow a similar compliance route to Merrill Lynch by going all-in on advisory business, widely viewed as a less risky way to comply with the rules.

“When you have a lot of trails like that, I’ve known advisers where they’ve taken six-figure hits by dropping it,” Duane Thompson, senior policy analyst at fi360 Inc., a fiduciary consulting firm. “It can be big.”

While trail compensation is important to some advisers, and its loss will likely frustrate some, it’s impossible to generalize and forecast the effect Merrill’s transition to advisory business will have, especially because it’s one of the first firms to announce any concrete compliance plans, according to Danny Sarch, founder and owner of recruiting firm Leitner Sarch Consultants.
“Somewhere in Merrill, there’s someone who’s absolutely pissed off by this,” Mr. Sarch said. “They made their own decision, and it has consequences, but they don’t know yet what the consequences are.”
“Merrill Lynch is the pioneer. Sometimes the pioneers are the ones who find gold first, other times they’re the ones who end up with the arrows in their backs,” he added.
Of course, any advisers losing trail commissions when transitioning clients onto Merrill’s advisory platform wouldn’t be going from all to nothing, because they’d be earning an asset-based fee for that business. And Merrill seems to be instituting guidelines that could curb any negative side effects on the compensation side.
For one, Merrill is doing away with the practice of discount sharing for these transitioned accounts, Mr. Sarch said.
Discount sharing is a practice that lowers an adviser’s payout, by reducing an adviser’s split of an advisory fee and upping the broker-dealer’s share. It depends on the size of the fee charged as it relates to the size of the account, so largely comes into play for smaller advisory clients.
Doing away with the practice “probably mitigates some of the issues in terms of the cost to the adviser,” Mr. Sarch said.
Fred Reish, a partner at Drinker Biddle & Reath, said small hybrid firms — those with anywhere from 50 to 200 advisers with a broker-dealer and affiliated RIA — are “really shifting over to the RIA model.”
“They’ll grandfather brokerage accounts to the extent they can, and say anyone who wants ongoing advice move over to RIA,” Mr. Reish said.
Brokers on Merrill’s grandfathered accounts will only be able to provide a recommendation for clients to hold or sell securities. Those recommendations have to be in clients’ best interests. (So, brokers wouldn’t be able to recommend a client hold an investment just to keep their trail commissions.)
Advisers whose broker-dealers decide to keep their commission business intact likely wouldn’t face loss of trail compensation, Jason Roberts, chief executive at the Pension Resource Institute, a compliance consulting firm, said.
Most independent broker-dealers “aren’t looking to close down their brokerage IRAs,” he said, based on insight gleaned from client discussions. Indeed, some such as LPL Financial, the nation’s largest independent broker-dealer, have said as such.
However, advisers at firms keeping commissions and complying with the best-interest contract exemption (BICE), which allows for receipt of such variable compensation, will have to be able to justify why ongoing trail compensation is reasonable in light of the value of services provided to the client, Mr. Roberts said.
Trail compensation generally could be considered unreasonable if a broker doesn’t subsequently offer ongoing due diligence, monitoring or service after an initial recommendation, he added.