“Best Interest” vs. Fiduciary Obligation – Know the Difference

The next time you shop around for financial advice, more investment professionals will be able to assure you that they’re acting in your “best interest.” But what’s really in your best interest is understanding precisely what that means.

A Securities and Exchange Commission rule that took effect on June 30 created a new standard for brokers to live up to: Those who sell financial products must act in their customers’ best interest. But consumer advocates say investors could be led to believe they’re getting more protections than the rule delivers.

And the new regulation could soon have even broader influence: A complementary proposal from the Labor Department would allow financial professionals to accept payments like commissions when providing advice on your retirement money as long as they met the best-interest standard. At the same time, more professionals may be able to skirt the rules altogether, consumer advocates said.

“This is the new wolves in sheep’s clothing,” said Jamie Hopkins, director of retirement research at Carson Group in Omaha.

The rule that recently took effect — called Regulation Best Interest— covers brokers, who often make commissions when they sell things like mutual funds or stocks and bonds to average investors.

“Main Street investors will be entitled to recommendations and advice in their best interest — the financial professional cannot put its interests ahead of the investor,” said Natalie Strom, a spokeswoman for the S.E.C.

But consumer advocates said that wasn’t the same thing as putting the client first.

“Notably, the rule does not say that best interest means that a broker must place the customer’s interests ahead of the broker’s, which is what most people would think a best-interest regulation would include,” said Benjamin Edwards, an associate professor of law at the University of Nevada, Las Vegas. That still allows brokers or their firms to consider their own pockets when making recommendations, he said.

The agency calls the rule an improvement over the old standard, which required brokers to recommend products that were “suitable,” based on factors such as the customer’s age, goals and risk tolerance. The new rule also aims to rein in certain sales contests, for example, and requires brokers to consider costs, among other things.

Consumer advocates fear that there will be confusion, though. The “best interest” rule sounds similar to the traditional gold-standard obligation that certain other financial professionals must meet: fiduciary duty, which typically means working solely in the interest of the client. The kinds of professionals held to that standard include registered investment advisers, who are often paid flat fees for the time they take to give you advice, or a percentage of assets managed.

The S.E.C.’s own investor advocate also voiced concerns about the potential for confusion. Customers will be harmed if the rule “is not enforced rigorously enough to demand behavior that matches customers’ expectations,” the advocate, Rick Fleming, said in a statement when the rule was proposed last year.

If you want to be certain you’re working with a financial professional who is truly putting your interests first, advocates suggest asking him or her a question: Are you acting as a fiduciary 100 percent of the time? Then ask for a signed oath saying as much. The broker should be able to fully explain how he or she is compensated.

The new best-interest rule could also have implications for your retirement money. In the complementary action, the Department of Labor proposed regulations concerning how financial professionals acting as fiduciaries must conduct themselves when handling their customers’ retirement accounts.

Under federal law, fiduciaries are generally prohibited from accepting payments that would pose conflicts of interest. The proposed rule would provide an exemption, allowing financial professionals to receive such payments, like commissions, as long as they adhere to a best-interest standard that generally aligns with the new S.E.C. rule.

The proposal tries to clear up any uncertainty created after a federal appeals court overturned, in 2018, an Obama-era rule that was challenged by a team of lawyers led by Eugene Scalia, the current labor secretary. The overturned rule had allowed fiduciaries to accept commissions and similar payments only if they entered an enforceable best-interest contract with the investor and eliminated or more significantly reduced conflicts of interest, legal experts said. The contract, along with other protections, would not be required under the newly proposed regulation.

Emily Weeks, a spokeswoman for the Labor Department, said any firms or financial professionals who relied on the exemption would still need to acknowledge that they were acting as a fiduciary “and adhere to these stringent fiduciary standards as well as other consumer-protective standards.”

But the proposal package also confirmed that fewer investment professionals are required to act as fiduciaries when handling their clients’ retirement money, according to retirement law attorneys.

Overturning the Obama-era rule restored a large part of the Employee Retirement Income Security Act of 1974, which governs when an investment professional must become a fiduciary while handling retirement money. Under that law, fiduciary duty is triggered when an investment professional meets five conditions, including providing individual advice on a regular basis.

But advocates say the rollback reopens loopholes that the overturned rule was meant to close.

As a result, it may be easier for financial professionals to avoid becoming fiduciaries, said Jason C. Roberts, chief executive officer of the Pension Resource Institute, a consulting firm for banks, brokerage and advisory firms. Brokers can skirt the fiduciary standard by structuring their interactions with clients as educational in nature, he explained, and stopping short of what might be considered advice.

“My clients, financial institutions, are going to be very pleased with this proposal, and the investor advocates are going to hate it,” said Mr. Roberts, who is also a managing partner of the Retirement Law Group. “It is not taking anything away — or raising the bar the same way the prior rule did.”

Barbara Roper, director of investor protection for the Consumer Federation of America, also said the new rule appeared to make it easier for a financial professional to avoid being a fiduciary when making certain kinds of recommendations on one-off transactions.

For example, there would be no fiduciary duty for an insurance agent who recommended rolling over the proceeds of a 401(k) plan into a fixed-index annuity product in a one-time sale, she said.

“The new D.O.L. advice rule simultaneously makes it easier for firms to evade their fiduciary obligations and weakened those obligations where they do apply,” Ms. Roper said.

Stakeholders can submit comments on the new proposal for 30 days, ending Aug. 6; the Labor Department will review those comments and evaluate what, if any, changes are needed.

But 21 advocacy and trade groups wrote a letter last week urging the department to provide more time to digest the proposal. “A 30-day comment period is an unreasonably short amount of time to provide thoughtful and comprehensive comments on this complex and highly technical proposal, which would affect our constituencies — including virtually all Americans struggling to save for retirement — in varied and far-reaching ways,” the groups wrote.