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Why the Fiduciary Standard Can’t Live in Harmony

August 28
00:03 2012

When fi360 issued its own letter to lawmakers pointing out the flaws in the congressional letter urging harmonization between the SEC and DOL efforts to establish a uniform fiduciary standard, they hoped they would inspire prompt action by the recipients. The fi360 letter, sent to 117 legislators and 10 regulators, including the 33 representatives who called on the agencies to coordinate and those serving on the Financial Services and Education and the Workforce Committees, stated fi360’s “view that an act of Congress is necessary to clear up conflicting areas of the two laws and to provide both agencies with sufficient guidance to proceed if rules harmonization were the primary objective (which, by the way, we believe is neither wise nor consistent with long-standing public policies in this area of law).”

The Pittsburgh organization, long an advocate of the adoption of a uniform fiduciary standard, is not alone in its concern that a call for “harmonization” may, in fact, unnecessarily delay the process of adopting such a standard. Knut Rostad, President of The Institute for the Fiduciary Standard, believes in the validity of the general principle – that two different sets of rules govern two different sets of laws. He told, “while the legal basis for harmonization without an act of Congress is not clear; the practical consequences for investors is very clear. Industry spokespersons have been very candid and forthright, as we saw in the March 2011 DOL hearings, in stating their preference for fiduciary rulemaking at DOL as the commercial sales standard. In this light, ‘harmonization,’ for industry lobby groups, is code for weakening fiduciary stringency, or removing fiduciary requirements entirely.”

Blaine Aikin, President and CEO of fi360, explains, “We were prompted to write the letter to help clarify the issues involved after reviewing the most recent congressional letter. We will continue to advocate the adoption of a single fiduciary standard for all parties in accordance with traditional fiduciary standards developed over centuries for persons acting (or perceived by the client to be acting) in a position of trust. It is also important to note that the harmonization issue raised in the congressional letter referred to rulemaking activities of the two agencies. The SEC standard (which is the product of years of court decisions and administrative findings) is intended to cover a broad range of client relationships; the DOL standard covers a narrow subset of that range—the relationship between an adviser and a pension fund. It is safe to say, however, that ERISA offers more robust and rigorous coverage of the fiduciary standard than the Investment Advisers Act; consequently, the laws governing retirement plans (regulated by the DOL) are closer to the fiduciary requirements of trust law.”

Many financial professionals see the merits of the fi360 proposal. Brian T. Parker, Partner at Hyde Park Wealth Management in Cincinnati, Ohio, says, “The consequences of harmonization without segregating rules for those investments requiring the fiduciary standard and those that do not would be to place too much burden on those who do not have the skills to meet the strict standard. Stock brokers do not advise, they merely sell investments to their customers. Investment advisers, on the other-hand, have the knowledge and skill necessary to act in the best interest of the client.”

Robert Richter, VP at SunGard and current president of ASPPA, says, “If there are indeed policy reasons to have a different standard depending on the client, then it might make sense to have the DOL issue regulations with respect to qualified retirement plans and have the SEC take the lead on the individual investor rules.”

Other practitioners, however, continue to demand a single standard. Elle Kaplan, CEO of Lexion Capital Management in New York City, says “There should be one standard. It needs to be a tough, uniform fiduciary standard that raises the level of responsibility for 401K plan sponsors. We need [a] higher and uniform standard that empowers plan participants and doesn’t line brokers’ pockets at the expense of workers that don’t have an alternative to whatever 401K plan is offered.”

Indeed, an academic currently researching a series of recently uncovered announcements from federal securities regulators dating from 1940 through June 30, 1947, believes these early documents may point to the idea regulators considered brokers to fall under the definition of fiduciary during the formative years following the adoption of the Securities Acts of 1933 and 1934 as well as the Investment Advisers Act of 1940 (“1940 Act”). This researcher shared several examples with, including this one from The Bulletin, (published by the National Association of Securities Dealers, Volume I, Number 2 June 22, 1940): “Essentially, a broker or agent is a fiduciary and he thus stands in a position of trust and confidence with respect to his customer or principal. He must at all times, therefore, think and act as a fiduciary. He owest his customer or principal complete obedience, complete loyalty, and the exercise of his unbiased interest. The law will not permit a broker or agent to put himself in a position where he can be influenced by any considerations other than those to the best interests of his customer or principal.”

When asked about this, Aikin told, “If the SEC adhered to a fiduciary standard for brokers beginning, then we wouldn’t be having that debate today. For brokers who are acting as a fiduciary by virtue of taking management discretion over their clients’ assets, then it is pretty clear that they were acting in a position of ‘trust,’ i.e., similar to a trustee making decisions on behalf of a beneficiary. Both RIAs and brokers holding discretion over an account are subject to a fiduciary standard under common law. The problem perceived by the brokerage industry is the extension of the fiduciary standard to non-discretionary advisory activities that have heretofore been construed to be advice “incidental” to trading recommendations.”

The 1940 Act does specifically allow the SEC to exempt firms who offer investment advice incidental from their primary service to the client, and this gets us back to fi360’s main point: the set of laws governing the SEC are not the same set of laws governing the DOL. To require harmonization would either dilute one set of laws (i.e., those governing the DOL) or place a burden beyond what’s currently required by the other set of laws (i.e., those governing the SEC).

Still, in the best of all possible worlds, even those who believe it might be better to avoid harmonization believe the higher standard would be in the best interests of all clients. Parker says, “If Congress were to go to a single fiduciary standard then the ERISA law should be used,” although he would make allowances to insure non-advisers (i.e., “stock brokers”) would not be subject to the fiduciary standard.

Aikin says, “We would be pleased if the SEC supported a uniform fiduciary standard that provided the same high level of protection to investors consistent with the treatment of trustees developed over centuries under common law. ERISA is much closer to this traditional standard than the Advisers Act.” But, he reiterates, “the point of our letter was not to suggest a compromise position on a standard, but to remind Congress that its own legislative history in enacting these laws imposes severe restrictions on the DOL’s ability to ‘harmonize’ its rules with the SEC’s.”

To date, save for “a couple acknowledgements,” fi360 has not received any responses from the century+ number of politicians who received their letter. This doesn’t concern Aikin, who is experienced with Congressional communications. He says, “It’s probably too early to see any responses. Often legislators and agencies will not formally respond to a letter but will take into account any information that they find useful.

As such, these efforts are likely to be underway and ongoing. Thus, we believe our letter can contribute to this process immediately.”

Interested in learning more about this and other important topics confronting 401k fiduciaries? Explore Mr. Carosa’s new book 401(k) Fiduciary Solutions and discover how to solve those hidden traps that often pop up in 401k plans.

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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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