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Exclusive Interview: Barbara Roper Says Mere Disclosure Inadequate for Fiduciary Advice

Exclusive Interview: Barbara Roper Says Mere Disclosure Inadequate for Fiduciary Advice
October 17
00:03 2017

On September 27, 2017, the Institute for the Fiduciary Standard awarded the 2017 Frankel Fiduciary Prize to Barbara Roper, Director of Investor Protection for the Consumer Federation of America. Deborah A. DeMott, David F. Cavers Professor of Law, Duke Law and Chair of the Frankel Fiduciary Prize Selection Committee, said, “Barbara Roper exemplifies the values and commitments honored by the Frankel Fiduciary Prize. Her resourcefulness as an advocate has been significant on many issues, most recently in the long process leading to the fiduciary rule adopted by the Department of Labor. The Selection Committee applauds her.”

The Consumer Federation of America (CFA) is a national organization of more than 250 nonprofit consumer groups that was founded in 1968 to advance the consumer interest through research, advocacy, and education. In a release coinciding with the announcement of the award, the CFA stated: “Of the many investor protection issues on which Roper has had a significant impact, Roper is perhaps best known for leading a decades long fight to require all financial professionals who provide investment advice to abide by a fiduciary duty to their customers. Her research and advocacy was critical to making the Department of Labor’s Conflict of Interest Rule, one of the most pro-investor reforms in a generation, a reality. And she continues the fight as DOL rule opponents try to roll back these historic reforms.” welcomes Barbara Roper back as our subject for this month’s Exclusive Interview.

FN: Congratulations Barbara on your being named the 2017 winner of the Frankel Prize. It’s certainly an honor well deserved. Tell us the story of how you first found out you would be awarded this prize and what your initial reaction was.
Roper: I don’t really have a good story to tell about how I learned of this. I can say, however, that I am thrilled to receive this honor. There’s nothing for which I’d rather receive professional recognition than my work to advance the fiduciary standard. This has been the central focus of my work for decades. The fact that the award is named for someone I admire enormously, and the prestige of the previous recipients, only adds to the honor.

FN: Tamar Frankel has a long history of researching and commenting on all things fiduciary. What particularly impresses you about her.
Roper: When you deal with Tamar Frankel through her writings, the first thing that impresses you is her intellect and the extent of her expertise. She quite literally wrote the book on the topic, and I still refer to my copy of Fiduciary Law when I want to clarify some technical legal point. That, of course, adds to the genuine appreciation I feel in receiving this award – that it is named for someone of such intellectual eminence. But, having had the privilege of spending time with Tamar Frankel in person, other qualities dominate – her vitality, the range of her interests, her humor, and her charm. In addition to being a true giant in the field, she really is just the most remarkable, warm-hearted woman.

FN: The Consumer Federation of America (CFA) has been on the vanguard of promoting fiduciary standards. When did the CFA first get involved and what has it been doing recently to advance the idea that all advisers must act solely in the best interests of their clients.
Roper: I guess you could say CFA got involved in the fiduciary issue with the first study I wrote for the organization in 1986 on abuses in the financial planning industry, though I’m not sure what the word “fiduciary” meant when I started that research. In that study we identified self-dealing – recommending investments based on the financial planner’s own financial interests rather than the best interests of their customers – as one of the most common sources of investor harm. As a result, the first focus of our advocacy efforts was on getting financial planners to acknowledge a fiduciary duty to their customers throughout the planning process, including during implementation of their recommendations. It’s easy to forget today, when so many planners are on the front lines of advocating a fiduciary standard, that many fee-and-commission planners were as resistant to the fiduciary standard back in the 1980s and 1990s as brokers and insurance agents are today. That’s one area where we’ve really come a long way, with the major financial planning professional organizations all embracing the fiduciary standard as an essential hallmark of financial planning as a profession.

From that initial focus on financial planning, we expanded our efforts to include holding brokers to a fiduciary standard when they hold themselves out as advisers or as providing financial planning, which had become quite common by the 1990s. Ironically, while all our attention for years was focused on getting the SEC to act, adoption of the DOL Conflict of Interest Rule was the first real success in this area. The sad fact is that, for most of the years we’ve worked on this issue, the SEC actually made the problem worse, not better. They did that by giving broker-dealers essentially free rein to market themselves as advisers while being regulated as salespeople.

Currently, our efforts are focused on preserving as much as we can of the DOL rule, which continues to be under relentless attack by the broker-dealer, mutual fund, and insurance industry lobbyists, who are doing everything in their power to render the standard toothless. Part of how they are trying to do that is by working to get the SEC and state insurance regulators to adopt a watered down, disclosure-based standard that would allow them to claim to be subject to a best interest standard without making them legally accountable for acting in customers’ best interests and without forcing them to abandon practices that encourage and reward advice that is not in customers’ best interests. That would, of course, be a disaster for investors. So, we are doing what we can to oppose those efforts.

FN: Let’s talk a little bit about the DOL’s Conflict-of-Interest (a.k.a. “Fiduciary”) Rule. It appears to be a continuing work in progress. In the worst case, what should consumers be looking out for in terms of actions that might potentially dilute the effectiveness of the Rule?
Roper: We have been strong supporters of the DOL rule, which provides an excellent model of how to apply a fiduciary standard to a transaction-based business model. In our view, the most important provisions of the rule are those that require sales-based financial professionals – broker-dealers and insurance agents – to eliminate those practices that encourage and reward advice that is not in customers’ best interests. So, commissions are permitted, but paying vastly more to sell one investment product over another or setting sales quotas to encourage the sale of proprietary products are not. I hear a lot of complaints from the broker-dealer community about the complexity of the rule, but the real source of the complexity – the reason firms find it challenging to comply with these provisions – is the complexity of the conflicts of interest that pervade the broker-dealer and insurance business models. Ironically, if the rule is ever fully implemented, it has the potential to turn commission accounts into something with real value for investors, where investment products that compete based on quality and cost, rather than those that pay the highest compensation, are rewarded.

Unfortunately, the rule is being attacked from a variety of different directions by industry lobbyists intent on rolling back these pro-investor reforms – all in the name of protecting “small savers” of course. The first attack on the rule is underway at the DOL itself, where the rule is currently undergoing “reconsideration” in an Administration that has made no secret of its hostility. Key aspects of the rule that are being targeted are the contract requirement, which is the provision that makes the rule enforceable for IRA investors, and the requirement that firms avoid or mitigate, rather than simply disclose, conflicts of interest. These are, of course, the very provisions that give the rule its teeth and force industry to change practices that are harmful to investors. If industry lobbyists get their way and those provisions are rolled back, investors will have to be on their guard against firms that pretend to implement a best interest standard but, in reality, continue to encourage and reward advice that is not in customers’ best interest.

The good news there is that, in developing the rule, the DOL did a very good job of showing why these provisions of the rule were essential to ensure compliance. Before it can legally roll them back, the DOL will have to show why its previous findings were in error and how it can justify a less rigorous approach as being sufficiently protective of the interests of plans, plan participants, and IRA investors. In other words, the same Administrative Procedure Act requirements industry groups used to try to prevent rulemaking will make it harder for the DOL to weaken those rules as industry would like. And if, in advancing such a proposal, the Department engages in the kind of shoddy analysis on display in its most recent proposal to delay the rule’s implementation, it will be on very shaky legal ground and vulnerable to legal challenge.

The second threat to investors comes in the form of an attempted end-run around the DOL rule. SIFMA, ACLI, ICI and other industry lobbyists have gone to the SEC and the NAIC to try to get them to adopt a watered down, disclosure-based standard that would then satisfy compliance with the DOL rule. While these groups have attempted to justify this approach on the grounds that it would promote uniformity of standards across all accounts, they haven’t even proposed to create a uniform standard for all securities accounts. Instead, SIFMA and ICI continue to argue that brokers, as “sellers,” should be subject to a different standard than the standard for investment advisers under the ’40 Act. If their approach were adopted, investors would still be unable to distinguish “sellers” from advisers, and brokers as sellers would still be subject to a weaker standard despite having more severe conflicts of interest. Nothing confusing about that!

In fact, what these groups are advocating essentially amounts to rebranding the existing suitability standard as a best interest standard and adding a few boilerplate disclosures. That suggests that what they really object to is not lack of uniformity in the standard that applies, but true accountability for acting in customers’ best interests and restrictions on the conflicts that work to undermine that standard. If this industry-backed approach were adopted, investors would be worse off than they are now. They wouldn’t get any strengthened protections against harmful conflicts for non-retirement accounts. The strong protections of the DOL rule would be rendered meaningless, since they wouldn’t apply to the brokers and insurance agents with the greatest conflicts. And it would be harder than ever for investors to tell who is a real fiduciary and who is a “seller” masquerading as a fiduciary adviser.

Similar efforts are underway in Congress, where bills have been introduced that purport to create a best interest standard for all advice but really just add some meaningless disclosures to the suitability standard. That includes the bill from Rep. Ann Wagner that was just approved on a party-line vote in the House Financial Services Committee, as well as the Roskam-Roe bill, which deals specifically with the standard under ERISA and the tax code. What’s missing from the best interest standard they propose is any obligation to seek to do what is best for the customer, any legal accountability for compliance, or any obligation to avoid or mitigate conflicts. While sponsors like to talk about how they are trying to protect “small savers” from the harmful impact of the DOL rule, the only thing these bills protect is the ability of financial firms to profit unfairly at their customers’ expense.

FN: With exposure in the mass media, including traditional news outlets and comedy shows like John Oliver’s Last Week Tonight, tell us how the Rule has made consumers more aware of the importance of financial advisers acting in their best interests. For example, compare the level of consumer awareness today versus, say, five years ago.
Roper: Investors have long expressed a preference for working with an adviser who is legally required to act in their best interests. The problem was that they automatically assumed all financial professionals were held to that standard, and they couldn’t easily tell fiduciary advisers from non-fiduciaries offering sales recommendations dressed up as best interest advice. Investors certainly expected that someone who called themselves a “financial advisor” and advertised that they put customer interests first would be held accountable by regulators for meeting that standard. It was a reasonable expectation, but they were wrong.

If the media attention to the issue has changed things, it has made more investors aware that not all “advisors” are required to act in their customers’ best interests. I’m not sure how extensive the change is, to be honest, but I’ve seen anecdotal evidence that this is the case. For example, I’m hearing from more advisers who report getting questions from prospective customers about whether they are fiduciaries. But, despite the increased coverage, media attention hasn’t made it any easier for investors to tell true fiduciary advisers from non-fiduciary sellers.

The DOL rule attempts to solve that problem for retirement investors, by holding all those who provide retirement investment advice to the same standard. But that rule hasn’t taken full effect, and it isn’t currently being actively enforced. For those who invest outside retirement accounts, it is just as hard as ever to tell non-fiduciary “financial consultants” and “financial advisors” from fiduciary investment advisers.  We don’t know yet whether the SEC will act to address this issue or, if it does, whether it will do so in a way that solves this problem. Experience has taught us to be skeptical.

Basically, regulators have two possible approaches they could adopt to solve that problem. They could take the DOL’s approach, and hold all those who provide advice to a true fiduciary standard backed by real restrictions on conflicts of interest. Or they could require non-fiduciary sellers to be clearly labeled as such and prohibit them from marketing themselves as advisers. Industry opponents of the DOL rule have argued in Texas that they are just sellers, engaged in arm’s length commercial sales transactions, and thus not appropriately held to a fiduciary standard. If they win that case, and the court upholds that argument, it’s hard to see how the SEC could continue to let them go on deceiving investors by holding themselves out as advisers. That could finally be the impetus for the agency to rein in deceptive and misleading marketing practices that have gone unchecked for decades. If that were to happen, brokers could find themselves facing a regulatory solution they oppose even more strenuously than they oppose an enforceable best interest standard.

Absent appropriate regulatory actions, fiduciary advisers can do more to set themselves apart from non-fiduciary sellers, and we are prepared to support those efforts. It’s hard to develop effective investor education campaigns in the context of misleading titles and regulations that make no sense, but we’ll just have to get more creative in thinking about how to do that. If the CFP Board follows through and revises its standards, adopting a fiduciary standard for its certificants that applies to all financial recommendations to clients, that will make it easier to educate investors about who the true fiduciaries really are. Other efforts, like those to get advisers to sign the fiduciary oath or to commit to following fiduciary best practices, can also play a role.

FN: Although officially “implemented,” the Rule remains in hiatus as the DOL has delayed enforcement. How does this “deferred enforcement” period impact consumers? How might they still be able to hire independent private attorneys to pursue financial advisers who violate the Rule?
Roper: If approved as proposed, the delay of the second phase of the DOL rule’s implementation could have a very damaging effect on retirement savers, who have been led to expect best interest advice but may not receive it without the full protections of the rule. While the core requirements of the rule have taken effect – including the obligation for financial professionals to act in the best interests of investors without regard to their own financial interests – the provisions that make that obligation enforceable in the IRA market have not. The one exception, and it is an important one, relates to rollover recommendations. These recommendations are subject to ERISA, which does include a private right of action.

Meanwhile, regulators have indicated they won’t bring enforcement actions for violations where they see good faith efforts to comply with the rule. What we don’t know, however, is whether they will be willing to bring enforcement actions where there is no good faith effort at compliance. Given some recent survey results showing that a majority of brokerage firms have apparently made no changes in their compensation practices since the rule went into effect in June, some firms at least appear to be willing to take their chances that they can go on compensating their “advisers” in ways that encourage recommendations that are not in customers’ best interests without running afoul of the rule or the regulators. Where firms aren’t making good faith efforts to minimize conflicts – and I think there is a real difference among firms in how they are approaching this – investors would be better off sticking with those advisers who support, rather than resist, a strong, fully enforceable fiduciary standard.

FN: As you’ve said, the formal name of the DOL’s “Fiduciary” Rule is the “Conflict-of-Interest” Rule. Regulators and the industry have recently been proposing the introduction of a term called “clean” shares. These mutual funds shares are stripped of all conflicts-of-interest fees. Can you explain how these (sometimes hidden) fees (commissions, 12b-1 fees, and revenue sharing) can often harm consumers’ interests? Although the name “clean” may be new, the concept of funds without any conflict-of-interest fees is not new. Indeed, there are funds that exist today that would qualify as “clean” shares. How would consumers identify those funds?
Roper: The irony of the brokerage and insurance industry lobbyists’ vitriolic opposition to the DOL rule is that it would actually make their services far more attractive to investors than they otherwise would be without the rule’s best interest standard and restriction on conflicts. There’s a reason brokers almost universally market themselves as advisers. They know that’s the service investors want. If they marketed themselves to the public the way they describe themselves in court – as providing episodic sales recommendations with no legal obligation to avoid or appropriately manage conflicts and no ongoing duty to monitor the account – there would in my opinion be only a very limited market, if any, for their services. The DOL rule gives these firms a way to offer transaction-based advice that does have value for investors – because it is held to a legally enforceable best interest standard, and because incentives to act other than in the customer’s best interests are largely eliminated.

One of the developments that has been most important in this regard is the development of mutual fund “clean shares.” With clean shares, the investor pays the broker directly, rather than paying for the broker’s services indirectly through commissions and other fees set by the mutual fund. That makes the broker’s compensation more transparent, and it makes it possible to eliminate incentives to favor one product or product line over another. Investors would be able to better assess whether they are getting good value for their money, and brokers could set compensation levels to reflect the level of service they provide to different accounts. While clean shares may not seem like anything new for those who are familiar with the use of no-load funds by fee-only advisers, they are nothing short of revolutionary in their potential to change broker-dealer compensation practices.

I’ve heard people suggest that clean shares represent the wave of the future, regardless of what happens to the DOL rule. I wish I shared their optimism, but I’m skeptical. By making broker compensation transparent, clean shares subject that compensation to competitive market forces. Whenever this has happened in the past — when stock trading commissions were deregulated in the 1970s, for example — it has resulted in a dramatic reduction in costs to investors, squeezing profits for brokers.  That almost certainly largely explains the reluctance of most brokerage firms to commit to implementing the DOL rule through clean shares. While a few firms have forged ahead with plans based on clean shares or other similar approaches to reduce conflicts, reports suggest that implementation with clean shares has virtually ground to a halt since the DOL announced it was reconsidering its rule.

If, on the other hand, the DOL were to develop a streamlined exemption based on clean shares or the SEC were to follow the DOL’s lead in finally tackling conflicts related to differential compensation, we could see a boom in clean shares. I have no doubt they would be hugely popular with investors. Regardless, we are very grateful to the mutual fund companies – most notably American Funds – that led the way on this front. They have shown that it is in fact possible to develop a fiduciary business plan for brokerage firms that reins in the most troubling conflicts of interest associated with that business model, to the benefit of both investors and investment products prepared to compete based on cost and quality.

FN: Going back to something Ron Rhoades once told us about the confusion caused by the SEC allowing dual registration, how do you see this as a problem for consumers? What much of this issue of fiduciary be resolved more clearly if the SEC returned to the era when brokers could not also be registered investment advisers?
Roper: To me, the problem isn’t primarily that SEC allowed firms to be dual registrants. The problem is that the SEC allowed brokers to call themselves “financial advisors” and to market themselves as if product sales were solely incidental to their advisory activities, rather than the other way around. And that they did so without regulating them accordingly. That made it impossible for investors to distinguish between broker-dealers and investment advisers. You can solve that problem either by recreating a functional distinction between broker-dealers and investment advisers. For that to work, however, it’s not enough to change the titles brokers use – to make them call their sales representatives “salespeople” and call their services “sales recommendations” – you’d also have to completely change the way they market themselves so that their marketing messages are consistent with their regulatory status. The fact that brokerage firms and their reps are dually registered does make it considerably more difficult to redraw those lines.

More to the point, if you really made brokers describe their services to the public the way they describe them in court when they are trying to avoid being regulated as fiduciaries, I just don’t think there’d be much of a market for their services. This isn’t the 1930s. We don’t need licensed professionals to help us “effect transactions” in securities. We can do that for ourselves with a few clicks of the mouse. What investors want, when they seek out a “financial advisor” for “retirement planning” or “investment planning” services, is advice. If brokers had to register as investment advisers in order to be able to market themselves as advisers, I think the vast majority would do so, because marketing as advisers is so important to their business success. If that happened, it would be a step in the right direction, but the SEC would still need to beef up its enforcement of the Advisers Act. Its current approach, which relies almost exclusively on disclosure to address conflicts, isn’t remotely adequate to address the complex web of conflicts that pervade the broker-dealer business model.

FN: Regarding the SEC, how confident are you that it will be able to create a practical uniform investment standard? What advantages does the SEC have regarding this that the DOL doesn’t?
Roper: We have been urging the SEC to act on this issue for nearly 20 years. And every SEC Chairman since Chris Cox has identified it as a priority. So, I’d be lying if I said I was confident. I say that without intending any disrespect to Chairman Clayton. I believe he is sincere when he says this is a priority for him. And he’s obviously a smart, energetic, motivated guy who is used to getting things done. I’d feel better about that, frankly, if what I was hearing from Chairman Clayton was that he wants to extend the strong protections of the DOL rule to all investors. But when he talks about preserving investor choice, he sounds a lot like industry lobbyists, who really just want to preserve the status quo. We won’t know until we see what the Commission actually proposes whether he’s talking about preserving good choices, and promoting informed choice, in a pro-investor approach we can get behind.

The chief advantage the SEC has, if it is prepared to seize it, is that DOL has already demonstrated that it is possible to develop a fiduciary standard for the broker-dealer business model that permits transaction-based compensation but reduces the most toxic conflicts. Firms have already shown that they can comply with the rule, and do so in ways that preserve access to advice, improve products, and reduce toxic conflicts. The DOL has also already done the heavy lifting on the economic analysis that shows the harmful impact of those conflicts of interest. What it will need to overcome, if it is to succeed, is a kind of “can’t do” attitude that has developed over the years, which has made the agency timid about tackling any issue that is likely to prompt strong industry resistance and all too ready to accept unfounded industry claims about the likely impact of regulations.

FN: We’ve seen reports of the “death of the 401k.” Do you believe the 401k has been a failure? Why or why not? In what ways do you see we can improve the current model of the 401k? Of these, which idea is most likely to see the light of day in the near future?
Roper: I think it goes without saying that the 401k has failed to deliver on the promise of a secure and independent retirement for millions of Americans. It is based on the assumption that Americans can and will make sound decisions about retirement investments despite irrefutable evidence that most struggle with even basic financial concepts. They don’t know how much they need to save to fund a secure retirement. They don’t know how best to invest their savings. They don’t know how much they can afford to withdraw from their savings each year and expect those savings to last. They turn to financial professionals for advice, but they don’t know that most “financial advisors” are salespeople with no legal obligation to act in their best interest. The DOL rule seeks to ensure that those who are fortunate enough to have money saved for retirement can at least trust the advice they get about how to invest that money. It doesn’t begin to offer a comprehensive solution to the retirement preparedness crisis, but it is an important piece of the puzzle.

FN: Barbara, once again it’s been a pleasure speaking to you on the subject of fiduciary. You’ve played a very important role in advancing the knowledge and awareness of how critical serving a client’s best interest is. We can tell by your answers how deep your experience and we look forward to watch you add to that experience.  

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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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