Executive Summary
While the looming DoL fiduciary rule has heightened consumer awareness of the concept of fiduciary duty, the reality is that being a "fiduciary" (or not) isn't actually a singular concept. While conceptually, it's about acting in the interests of the client, and honoring the fiduciary duties of loyalty and care, not all regulators define (nor enforce) those terms consistently.
In this week’s #OfficeHours with @MichaelKitces, my Tuesday 1PM EST broadcast via Periscope, I explore four different types of financial advisor fiduciaries, including RIAs that are SEC fiduciaries, DoL fiduciaries serving retirement investors, CFP fiduciaries providing financial planning, and voluntary fiduciaries who decide to step up to honor private/third-party fiduciary standards.
One reason for varying fiduciary standards is the fact that different industry channels are regulated by different overseers – each of which defines fiduciary obligations in their own way. Registered Investment Advisers (RIAs) are overseen by the SEC and state regulators, which have both adopted a disclosure and transparency oriented approach to fiduciary duty, but only to investment advice and investment management. While the DoL fiduciary rule impacts anyone giving advice on retirement accounts (and not taxable investment accounts), but is more stringent in its limitations on conflict of interest. And the CFP Board requires that certificants often adhere to a fiduciary duty, but the requirement depends on specifically whether the certificant is actually doing "finanical planning" for a client.
And organizations with voluntary fiduciary standard for their advisor members - like NAPFA and the XY Planning Network - have their own definitions of when a fiduciary duty applies, and what conflicts are and aren't permitted. In addition, RIAs who are struggling to differentiate as fiduciaries - now that DoL fiduciary will apply the rule to more advisors in the future - are looking to even more stringent versions of voluntary fiduciary rules, such as the new Fiduciary Registry from the Institute for the Fiduciary Standard, or CEFEX certification.
The bottom line, though, is simply that there are many different definitions of fiduciary duties, and two advisors who are both "fiduciaries" might still have very different fiduciary obligations. And unfortunately, given the research showing that consumers struggle even to understand the difference between fiduciary and suitability standards, it's not likely most will grasp the nuances of the many different types of fiduciary duties anytime soon.
(Michael’s Note: The video below was recorded using Periscope, and announced via Twitter. If you want to participate in the next #OfficeHours live, please download the Periscope app on your mobile device, and follow @MichaelKitces on Twitter, so you get the announcement when the broadcast is starting, at/around 1PM EST every Tuesday! You can also submit your question in advance through our Contact page!)
#OfficeHours with @MichaelKitces Video Transcript
Welcome, everyone! Welcome to Office Hours with Michael Kitces!
With all eyes on the DoL fiduciary rule and its applicability date coming in April (though there are some lingering question about whether Congress is going to intervene to delay the rule or not), I want to talk today about just what it takes to call yourself a fiduciary.
Because the reality is, there are now actually several different kinds of fiduciary rules that can apply to financial advisors, and I think it's leading to a new form of consumer confusion, in trying to identify fiduciaries versus non-fiduciaries, or even different types of fiduciaries and what each means.
Today's question comes from Jeremy, who's actually a consumer that reads the Nerd's Eye View, but had a question about finding a financial advisor. Jeremy's question was this:
"I'm talking to two prospective advisors, the first works in an RIA and says he will be my fiduciary. The second works at a broker-dealer and says thanks to the Department of Labor, he's going to be my fiduciary too, going forward in April. I thought there were different rules that applied for RIAs versus broker-dealers. Are they all the same fiduciary now?"
Great question, Jeremy!
Requirements To Call Yourself A Fiduciary Financial Advisor [Time - 1:24]
At the most basic level, yes, both an RIA under the SEC and a broker under DoL can actually be fiduciaries in the future... but the reality is they're not quite the same kind of fiduciary. And as I said, I think this is going to create a lot of growing confusion in the future, because there really are different types of fiduciary rules.
This happens because as advisors, we're subject to different regulators within different channels – each of which has their own rules, and thoe fiduciary rules are not entirely identical.
This matters because there really is variability from one channel to the next with respect to the requirements to be a fiduciary, the consequences if you fail to live up to being a fiduciary, and even the scope of what fiduciary applies to!
At a high level, what we'll see in the coming years is that there are basically four different types of fiduciary financial advisors.
An SEC Fiduciary Under The Investment Advisers Act of 1940 [Time - 2:19]
The first type is a fiduciary with the SEC - a registered investment adviser (RIA), either under the SEC or as a state-registered investment adviser. For an RIA, fiduciary duty comes about under Section 206 of the Investment Adviser's Act of 1940.
Technically, the '40 act doesn't actually say that an RIA must be a fiduciary, but it does state that advisors cannot engage in any acts that would be fraudulent, deceptive, or manipulative when they hold out to consumers. But in SEC vs Capital Gains Research Bureau – a famous 1963 Supreme Court case – it was determined that this requirement that advisors can't be fraudulent, deceptive, or manipulative in how they hold out to consumers, effectively means that they have a fiduciary duty to their clients.
Now, the interesting effect of SEC fiduciary is that Section 206 of the Investment Adviser's Act is basically the advertising section of the regulation for investment advice – it's the section on how advisors can hold themselves out to the public. And because of that, the fiduciary nature of being an investment adviser is really focused heavily on being clear and transparent with clients about what you're doing, what you're charging, and any potential conflicts of interest. That's why anyone who's gone through the Registered Investment Adviser registration process has disclosed all of their outside business activities and potential conflicts of interest – all of which gets listed out in their Form ADV.
But the notable thing about being an SEC fiduciary is that the SEC rules don't actually prevent or stop you from engaging in a lot of those conflicts of interest, they simply require that all of them be disclosed and communicated transparently so that it's not deceptive, fraudulent, or manipulative. This means you can have RIAs that have related businesses offering insurance, real estate transactions, etc.
We highlighted this a couple of years ago when CNBC did a list of the top fee-only RIAs and 9 out of the top 10 actually had related businesses receiving insurance commissions. Now, those businesses and commissions had to be disclosed, and in fact, we could identify those "fee-only" firms getting commissions precisely because it was all clearly explained in their ADVs. From the SEC's perspective, the advisors disclosed those activities, so it was okay. But, it still ultimately meant the firms weren't actually fee-only fiduciaries – they were fiduciaries that also had related non-fiduciary (and commission-based) businesses.
In point of fact, it's conceivably even possible to get commissions as an RIA. It's not common, but there's technically nothing that outright forbids SEC fiduciaries from getting commissions... it's just the most common form of commission related to investments is for selling a securities product, and technically that goes through a broker-dealer and doesn't operate to the SEC standards. But there's actually nothing in the SEC rules for fiduciaries that explicitly says an RIA can't have commissions.
Notably, though, the scope of the Investment Advisers Act is really just for investment advice and investment management, and the compensation advisors receive for investment advice and investment management. It doesn't cover the sale of securities products, insurance products, financial planning, tax advice, estate planning advice, or retirement advice. Thus, the SEC's version of fiduciary has a fairly limited scope and focus, at least for the typical comprehensive financial planner. In essence, it has a particular "flavor" to it, being heavily focused on not being misleading in advertising... so it's a transparency disclosure-oriented fiduciary standard, and just applies to transparent disclosure of conflicts of interest around the investment advice.
A DoL Fiduciary For Retirement Investors [Time - 5:39]
Now we can contrast this with D0L fiduciary, because the D0L's fiduciary rule is different.
First and foremost, the scope is different. SEC fiduciary only applies to investment advice delivered as an RIA – either SEC registered or state registered. DoL fiduciary applies any time investment advice is given in an advice relationship to a retirement investor.
A "retirement investor" could be a 401k plan administrator, a plan participant (someone investing in the 401k plan), or an IRA owner, but it ultimately has to be tied to a retirement account. Which means, if someone works as a financial advisor with a client who has a taxable brokerage account and an IRA, the same advisor is only a DoL fiduciary for the IRA and not for the other account. Now, the brokerage account might be subject to the SEC fiduciary rule if the advisor is an IAR of an RIA, or it might not if the person actually works for a broker-dealer.
This highlights the limitations around DoL fiduciary regarding the scope. Though, when we look at how the fiduciary rule is applied in DoL, it's actually a more stringent version than the SEC.
SEC fiduciaries can actually have a relatively wide swath of conflicts, as long as they're disclosed in the ADV. But DoL fiduciaries are actually prohibited from many of those conflicts. DoL fiduciary limits advisor compensation if it would create undue influence. DoL fiduciary raises fiduciary concerns any time there's variable compensation. And it looks at the quality of the advice to see if it meets a best interest standard, and it looks at the reasonableness of the compensation... in addition to an SEC-style requirement not to make misleading statements.
Thus, the DoL fiduciary rule is really much more limiting to advisors (and arguably, more protective to consumer). And in fact, we see scenarios such as when an advisor has discretion, they can't even have variable compensation across the portfolio, which is a big difference from SEC requirements. This is even an issue for robo-advisors that partially use a proprietary product in the portfolio (i.e., where they make more if they shift the client into their proprietary product). With the SEC, RIAs must simply disclose this. With DoL fiduciary, it's banned. Likewise, even for those of you who are RIAs that have discretion managing stocks and bonds, and you charge more for the stocks than the bonds, that's permitted under SEC fiduciary, but that's banned under DoL fiduciary.
The key point is to recognize that DoL fiduciary prohibits some types of transactions presumed to be "too conflicted", while the SEC allows many of them and simply requires that they be disclosed (in Form ADV). But these fiduciary rules apply in different situations. DoL pertains to retirement accounts (not taxable investment accounts), but it applies to other types of investments in those accounts including annuities, which the SEC fiduciary rule doesn't cover at all.
Doing Financial Planning As A CFP Fiduciary [Time - 8:10]
A third type of fiduciary that can apply is someone who is serving as a fiduciary under CFP Board's Practice Standards.
This fiduciary rule is different yet again. First of all, it only applies to those who are CFP certificants, and not anyone else who holds out as a financial advisor. And even more significant, it only applies within the scope of financial planning. The CFP certificant actually has to be providing financial planning or what's called "material elements of financial planning" to be deemed a CFP fiduciary.
In other words, being a CFP doesn't make you a fiduciary, it's about what you are doing for the client. For instance, you can actually be a CFP non-fiduciary order-taker just executing client orders. Now, that's different from the SEC's version (where just being an RIA makes you a fiduciary), but similar to DoL (where once you're actually deemed to be giving the advice, the fiduciary rule will apply).
Now, the interesting note about CFP fiduciary as well is that it's much broader in scope in terms of what the fiduciary duty actually covers. You have to be doing financial planning, but once you are, it applies to all financial planning activities, including subsequent recommendations. Thus, arguably CFP fiduciary is actually the broadest fiduciary rule in scope, because it applies to your retirement advice, tax advice, insurance advice, investment advice, and everything else under that financial planning umbrella. Whereas DoL fiduciary is limited to retirement accounts and SEC fiduciary is limited to investment advice and investment management.
On the flip side, while the CFP's scope of fiduciary is the broadest, it's also the least enforceable. Because CFP Board is technically is not a regulator, it doesn't have the legal right to investigate, compel witnesses, and subpoena documents. It can ask you for information about a client complaint, and if you don't comply, they can take away your marks, but that's it. Consumers generally can't sue a financial advisor for breach of CFP conduct the way they can sue for a fiduciary breach under the SEC or DoL, because the CFP certificant doesn't actually sign a separate fiduciary contract with the client. At worst, CFP Board can privately admonish you, publicly admonish you, suspend your marks, or revoke your marks.
And while it's certainly embarrassing that you might be publicly admonished, suspended, or revoked – it's not a legal consequence. There's no potential damages to pay to clients. The CFP Board can't fine you. Nor can they sanction you beyond the "public humiliation" of taking the advisor's marks away. What that means is that, at the end of the day, even someone that commits drastic CFP fiduciary breaches can still keep on going as a financial advisor... they just won't be able to put "CFP" after their name.
Voluntary Fiduciary Standards – NAPFA, CEFEX, and The Registry Of The Institute For The Fiduciary Standard [Time - 10:50]
Now, a fourth type of fiduciary standard is one that applies to those who voluntarily state that they're going to act as one, and comply with those standards.
For example, those who take the fiduciary pledge under NAPFA or groups like XY Planning Network, where the organizations state as a requirement of membership in the group that the advisor has to pledge that to operate as a fiduciary with clients, are committing to be "voluntary" fiduciaries.
Notably, continuing the overlapping fiduciary confusion, even some of these organizations may have their own definitions of what constitutes appropriate fiduciary behavior, and the limitations on conflicts of interest. For instance, NAPFA and XYPN are both fee-only organizations, and their version of fiduciary requires no commissions to be paid at all, whereas the SEC does not actually bar commissions (it's rare but it's not prevented), the DoL fiduciary allows commissions (there's just going to be scrutiny of them, but they're not banned), and CFP Board's fiduciary standard allows commissions a well.
This is another type of scenario where we have yet a different version of a fiduciary standard, and we're seeing more and more organizations crop up that ask advisors to pledge themselves to sort of more stringent versions of self-imposed fiduciary standards.
Another example of this would be the new Fiduciary Registry that the Institute for the Fiduciary Standard is rolling out, which is trying to position itself as the most stringent fiduciary of fiduciary standards. Which basically means imposing the most requirements that advisors completely avoid conflicts of interest rather than disclosing them and then moving on. Another example would be getting voluntarily certified as a CEFEX fiduciary, which also boasts one of the most stringent (self-imposed) fiduciary standards (in addition to requiring an annual fiduciary audit).
Notably, these are still purely voluntary standards. Effectively, you declare you're going to follow them, and if you fail to do so, most of the time your worst-case scenario is they kick you out of the organization. Now, a few of these actually require that you, by virtue of being a member voluntarily committed to fiduciary, have to sign fiduciary contracts with your client... which means now you actually could be sued by the client for a fiduciary breach, since you opted yourself into a fiduciary contract with them. This is a big difference from CFP fiduciaries, since the CFP board doesn't separately require the CFP certificant to explicitly create a fiduciary contract with every client subject to their engagement... though in turn that might change going forward, as the CFP Board is updating its own practice standards, so maybe something like that will be added in the future.
The bottom line is simply to recognize that there are actually a lot of different types of fiduciary financial advisors out there. Just saying you're a fiduciary doesn't actually clarify what your obligations really are or not, nor does it clarify what you're allowed to do or not. Fiduciary obligations can vary. And even the scope of what advice is subject to fiduciary duty (or not) may vary. Simply saying you're a fiduciary financial advisor does not necessarily mean you're a fiduciary regarding all of the ways we may engage with clients.
Now, unfortunately, what we know from the consumer research that most consumers don't even understand the difference between fiduciary and suitability standards, much less SEC fiduciary versus DoL fiduciary versus CFP fiduciary versus voluntary fiduciary – so there is still room for fiduciary advisors to differentiate from the rest, but also a likely struggle to do so!
But this is also why lobbying around the fiduciary standard, and how these rules are defined, really matters. Because they're not all the same in terms of consequences for advisors, and protections for consumers. To just say, "Hey, now we got a fiduciary rule" or "My advisor is a fiduciary" isn't entirely accurate. Perhaps someday we'll adjust to a more uniform fiduciary standard that applies evenly across all advisors and all circumstances, although that has its challenges as well, so we'll have to cross that bridge when we come to it.
But again, the fundamental point is simply that not all types of "fiduciary" financial advisors are the same. This is likely going to be a battleground issue in the coming years.
In any event, I hope this helps provide a little food for thought around the four different types of fiduciary duty that can apply for financial advisors. This is Office Hours with Michael Kitces, 1 pm East Coast time on Tuesdays. Thanks for hanging out with us today, everyone! Have a great day!
So what do you think? Are consumers becoming confused about the various types of fiduciaries? Is one of the fiduciary standards better than the others? Will we ever see a unified fiduciary standard? Please share your thoughts in the comments below!
What is more simple than a fiduciary should act in their client’s best interests?
To view the issue through the prism of what you can get away with, depending on the regulatory body that administers you, is just incredibly cynical.
Other countries have done this, it is a simple solution: Investment advisers may not receive commissions on the products they recommend.
It is my opinion that this horse has left the barn, and that the new (political) administration will not (be able to) overturn it.
Keith,
The US is a country of laws. It’s not enough in the real world to just say “simply act in your client’s best interests”. That is a standard that must be defined, or there’s no way to actually enforce a law about it.
And a fiduciary standard is about *FAR* more than just “don’t allow commissions”. That is not, in any way, sufficient alone to dictate or ensure that a fiduciary standard is met. It not only understates other types of conflicts of interest, but completely ignores that a fiduciary owes a duty of care to the client, not merely a duty of loyalty to mitigate or avoid (compensation) conflicts of interest.
It’s not about “what can you get away with” depending on which fiduciary duty applies. But it is about knowing whether someone who says they’re a fiduciary is actually meeting the (legal) requirement. Especially since, for instance, there are many things that RIA fiduciaries have done for decades that would be completely illegal under other versions of fiduciary standards (and have NOTHING to do with commissions).
– Michael
Michael,
I agree. But, why does this have to be legislated or regulated, rather than simply be part of one’s code of ethics?
Accountability?
A code of ethics without consequences just invites the wolves to wear sheep’s clothing and ravage the herd.
The purpose of a fiduciary rule is not to legislate good people to do good things. It’s to have consequences for bad people who pretend to be good people and do bad things.
– Michael
Agreed. But, we should expect ethical behavior before needing legislative or criminal sanctions.
I think the DOL proposal is good, but it just adds another expense layer for already honest advisers to comply.
Keith
Where would you say a fiduciary in the Wealth Management area (bank trust dept.) regulated by the OCC falls amongst the four you mentioned?
Jesse, this is a great question to bring up. First, note that the “Wealth Management Area” of a bank may or may not be the trust department. 20 years ago those would likely be synonymous, but now it’s just as likely that the wealth management area is a brokerage firm owned by a bank. Or at best is a name applied across a variety of wholly owned subsidiaries, each regulated under their own regimes: SEC, OCC, FINRA, etc.
For The Trust Department:
12 CFR (Code of Federal Regulations) 9, often referred to as “Reg. 9” gives national banks the fiduciary powers they exercise in trust accounts. Differently than RIAs and registered reps operating under a brokers subsidiary RIA, national bank trust departments can have fiduciary responsibilities over both investing and spending. That is, corporate trustees can be charged with making discretionary distributions and spending the money in the accounts. So their fiduciary powers and responsibilities can be more broad. They are also more well delineated as can be seen by reading Reg 9 or doing a quick search. In fact, the standard for how to invest an account is laid-out, originally by the Prudent Man Rule, and then adopting MPT with the Prudent Investor Rule (1992, I think).
In my experience, the OCC is a much more active regulator as it comes to auditing fiduciary accounts than other regulators. This has an effect. The Reg. 9 standard is certainly one of action and behavior and not simply of transparency.
Michael,
One thing that might be missing from this piece and is highlighted by your colloquy with Keith.
The importance of whether a financial services provider is a fiduciary (or not) is mostly (if not entirely) related to the extent of the adviser’s LEGAL liability to the client in the event of a claim for “professional malpractice.” In the case of a registered representative of a broker dealer who is acting under the suitability standard (meaning they are not otherwise determined to be a common law or DOL fiduciary) liability cannot be established by virtue of the existence of a conflict of interest — assuming the product sold (or incidentally advised upon) is suitable.
In the case of an RIA (or RIA rep) even if a conflict of interest is properly disclosed, there can still be liability of the conflict caused harm to the client. This is the essence of the duty of loyalty. For example, if a BD is receiving revenue sharing and only offers its customers products from vendors who share revenue, as long as the product is suitable (whatever that really means) the BD is insulated from liability. On the other hand, if an RIA were receiving revenue sharing, that fact could be used against the RIA in a legal claim for violating the fiduciary duty of loyalty, if the client could prove that other products should have been utilized that would not have caused harm to the client.
Similarly, even if a BD utilizes a BICE and discloses a conflict. The establishment of the fiduciary duty by the DOL rule is going to open up the BD (and the rep) to professional liability despite the disclosure and even if the product was suitable.
Ron Rhoades explains this far more comprehensively here: http://www.advisorperspectives.com/articles/2017/01/09/b-i-c-e-financial-advisors-beware
A TRUE fiduciary faces TRUE CONSEQUENCES if they fail TRULY do right by their clients.
Who is required to do an ADV? I have a CFP who is a member of NAPFA as my fiduciary.
Gary,
Form ADV is required for any advisor who operates as a Registered Investment Adviser – which means any advisor who gives actual advice about investments for (fee) compensation.
– Michael
Thanks for the quick reply. Is there something similar I need to request from my financial advisor?
The ADV should have been provided to you in the process of becoming a client initially. You can also look up your advisor (and his/her ADV) directly with the SEC at https://adviserinfo.sec.gov/
– Michael
I am working with a Financial Advisor who says he is a Fiduciary, but he works for a specific firm and seems to only sell the products that his firm offers. I am wondering how he can act in my best interest if he is limited by one family of products. Also I am not sure where he fits in the categories you outlined above. Thanks
Ask him to sign the fiduciary oath on behalf of himself and his firm. http://www.thefiduciarystandard.org/fiduciary-oath/
Hey, thanks that’s helpful!
You broke down a complicated and dull topic into a concise, well written article that’s easy to understand. While I’m currently broke, this is helpful information to learn for my future.
Can non fiduciary CFPs be fined by misuse of service s?
A close friend won a law suit and the lawyer who says he is a fiduciary says he has to account for every penny he uses or gives to anyone else. He cannot use his money as he likes and also that once he dies the money is given to the State. None of this sounds right to me.