The financial services industry has been turned upside-down by the passage of a Department of Labor (DOL) regulation that was intended to assure that investment recommendations are given as fiduciary investment advice, or completely and unequivocally in your best interests. Coming from a firm which has operated in that fashion since our inception, we can’t help but wonder why you need a regulation to tell you that you should treat your clients honestly.
On April 6th, 2016 the U.S. Department of Labor (DOL) released the final conflict of interest rule (Final Rule), which amends the definition of fiduciary investment advice under the Employee Retirement Income Security Act of 1974 (ERISA). With this, the DOL is attempting to close an over 40-year-old loophole that allowed investment advisors to provide investment advice that did not have to be in their clients best interests; i.e., sell highly commissioned products, sell proprietary investment products, etc.
While the amendment sounds good in concept, the reality of its benefit to the end consumer is better in theory than in practice. A few of the issues are:
- The rule doesn’t take effect until January of 2018, which means there is over a year and a half of investment advisors not being required to put your interests first.
- The rule will only apply to investment accounts that fall under the ERISA regulations. For example, IRA and 401(k) accounts will be covered, but non-qualified investment accounts will not. Your advisor will have the ability to change the nature of their relationship with you based on which investment account you are discussing.
- By having you sign a Best Interest Contract Exemption (BICE), an advisor will be able to continue selling highly commissioned and proprietary products. In other words, the conflict of interest does not need to go away, as long as you are made aware of its existence and sign the appropriate paperwork.
At the end of the day, the DOL regulation has missed the mark. They have taken a straightforward and principled concept and watered it down to the point that it doesn’t provide much real benefit to you as an investor. As you contemplate your current relationship or the hiring a financial advisor for fiduciary investment advice, below are four questions that you should ask:
- How much do you charge, and what is it based on?
An advisor who is paid on a completely fee-only basis, and does not receive commissions, revenue sharing or other forms of compensation on investments utilized, is unlikely to have conflicts of interest.
- What, if any, other products do you sell besides investment advice?
Advisors can sell products, like insurance and annuities. If you choose to use one of those products, make sure that you understand how the advisor is compensated for selling that product and any potential conflicts of interest that can result.
- When you make recommendations to me, will they be in my absolute best interest or will they be considered a merely suitable alternative?
Remember that the DOL regulations do not become effective until January of 2018. Even then, the regulations do not apply to all accounts and the BICE provides advisors a fair amount of latitude. It is a good practice to know what is driving an advisor’s choices.
- Please provide me with a written estimate of the total investment costs that I will pay to you in my first year, and explain how they are calculated. Additionally, please also estimate for me what your firm will likely earn if I become a client. This question offers another way to find out what is driving an advisor’s recommendations.
Although the DOL started with the best of intentions, the mighty lobbying efforts of Wall Street have taken the teeth out of the regulation. You as the consumer will be left to make certain if you are receiving fiduciary investment advice and that your interests are protected. To make matters worse, there are now going to be financial advisors who will have the ability to tout their fiduciary standard, when it may not always exist.
When you evaluate the appropriateness of a product or service that is recommended to you, go back to the basics and ask: How is that advisor compensated? What other options are available that are not being recommended? Who stands to benefit the most from the recommendation?
Bradley R. Newman, CFP® is with Roof Advisory Group Inc., an independent investment management and financial advisory firm based in Harrisburg. The firm is a fee-only registered investment advisor providing portfolio management and financial planning services to individuals and institutional clientele. To read about the firm’s commitment to fiduciary investment advice, click the link.
Article From: The Patriot-News