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Rumors Build of Imminent Reg BI Release, Here's What Broker-Dealers Want

By Rita Raagas De Ramos May 21, 2019

The SEC’s pending Regulation Best Interest was a hot topic at last week’s Finra annual conference, with discussions revolving around when the final rule would be released and how close to the draft proposals the final rule would look.

At a compliance and legal trends session at the conference, Finra chief legal officer Robert Colby noted there are press reports that the SEC’s Reg BI will be released a week after Memorial Day. The reports are unconfirmed and sources at the SEC have declined to comment on the timing of the release of the pending rule.

Barbara Roper, director of investor protection at the Consumer Federation of America, notes that rumors of an earlier than initially expected release of Reg BI have been circling the industry. But as a member of the SEC’s Investor Advisory Council, which advises the SEC on regulatory priorities and other issues, she tells FA-IQ that they don’t receive a heads-up on the timing on any rule announcement.

The talk of an imminent release of Reg BI prompted Finra’s Colby to ask at the conference in Washington D.C. what broker-dealers will be looking out for the moment the new rule is released. Colby described the release of the pending Reg BI as “an epical moment, a critical time for the regulation of broker-dealers.”

Evan Charles, associate general counsel at Bank of America, said the first thing he will be looking for is whether or not the SEC decided to use the word fiduciary after all.

Charles noted that the SEC received many comments that they should use the word fiduciary or attempt to harmonize Reg BI with the Investment Advisers Act of 1940.

“That would be an obvious important thing to look for right away,” he said. “Do you see the word fiduciary in the Regulation Best Interest Standard now?”

After searching for the presence or absence of the word fiduciary, Charles said “the most basic part of what we’ll be looking for is ‘Did they keep the framework the same?” or “are they taking away or adding obligations?”

Charles was referring to the three specific obligations the proposed rule requires brokers to discharge their best interest duty:

  • Disclosure obligation: Disclose to the retail customer the key facts about the relationship, including material conflicts of interest.
  • Care obligation: Exercise reasonable diligence, care, skill and prudence, to understand the product; have a reasonable basis to believe that the product is in the retail customer’s best interest; and have a reasonable basis to believe a series of transactions is in the retail customer’s best interest.
  • Conflict of interest obligation: Establish, maintain and enforce policies and procedures reasonably designed to identify — and then, at a minimum, to disclose and mitigate, or eliminate — material conflicts of interest arising from financial incentives. Other material conflicts of interest must be at least disclosed.

Lastly, Charles said he would look to see if the SEC adapted any of the comments and suggestions it received since unveiling the proposed rules in April last year.

“Reg BI is a fundamental change to the broker-dealer model in terms of standard of care,” Charles said. “The SEC has publicly stated that it’s a higher level of standard of care than the fiduciary rule. The SEC has stated that the best interest standard is informed by fiduciary principles and those principles have shown up in Reg BI.”

Under the proposed rule, brokers must act in their client’s best interest — above the broker’s own interest, the firm’s interest or any affiliate’s interest.

The only thing missing — “which would clearly make it a fiduciary standard” — is if the SEC adds a duty of loyalty, Charles said.

(Getty)

Norm Ashkenas, chief compliance officer at Fidelity Brokerage Services, echoed Charles’ checklist and added that he would also check to see if the final rule distinguishes disclosure requirements between brokers and advisors, examine how the new rule would impact Finra’s suitability rules, and confirm if the new rule does indeed preserve the broker-dealer buy-and-hold investor model.

For its part the CFA — a staunch critic of the proposed Reg BI — will be looking for the following items, according to Roper:

  • Whether the SEC has defined best interest to mean something more than suitability, which is currently not the case.
  • Whether the SEC has included the prohibition on placing the broker’s interests ahead of the client’s interests in the operational provisions of the rule, without which that prohibition is unenforceable.
  • Whether the SEC has beefed up the obligation to mitigate conflicts by making clear that disclosure alone would not satisfy the obligation and that firms are prohibited from artificially creating conflicts of interest that they would then need to mitigate.
  • Whether the SEC will retain its arbitrary limit on brokers’ duty to customers to the point of transaction, even in ongoing relationships that involve periodic or ongoing advice, or whether it will adopt an approach that turns on the nature of the relationship as it does for advisors.
  • Whether the SEC has done anything to make clear that the Advisers Act fiduciary duty is not satisfied through disclosure alone.