RIAs & Fiduciary Duty

** Please see a note at the end of this article regarding the DOL Fiduciary Rule


Investment service representatives go by many different names these days like “wealth managers,”  “investment consultants,” or the ubiquitous “financial advisors.”  While the name changing can be confusing, there are important differences people must understand to ensure they use the right representatives for their needs.  In this article, we look at one of the most important differences – fiduciary duty.

 

Fiduciary defined

 
To clarify, a “fiduciary” is a person or entity that has been entrusted with the responsibility of managing property and/or finances for another party, known as a “principal.”  Fiduciaries are legally required to operate with prudence, honesty, and good faith when managing such affairs.  They have a legal duty to place the interests of principals before their own at all times.  A fiduciary duty is among the highest standards of care recognized by law.  As such a fiduciary is held in a position of tremendous trust and confidence and is expected to be extremely loyal to the principal who he/she/it owes the duty.   
 

The RIA difference

 

The reality is most investment representatives (“financial advisors” or otherwise) do not have a fiduciary duty to their clients.   Most representatives work in the brokerage business as brokers who are paid commissions to sell financial products.   For example, mutual fund companies pay brokerage firms to distribute their mutual fund products.  In other words, brokers are paid to represent the interests of third parties like mutual fund companies.  They are not paid or required to represent client/investor interests.  

A registered investment adviser ("RIA"), on the other hand, does have a fiduciary duty to clients.  RIAs do not work in the brokerage business and are not paid to sell products.   RIAs are in the business of providing investment advice.  That advice is commonly provided through investment management or financial planning services. Whatever the service, the point is RIAs are hired by clients to represent client interests. 
 

Different laws and duties


The difference is subtle but significant because RIAs and brokers are actually regulated by different laws.  Federally regulated RIAs are subject to the Investment Adviser’s Act of 1940.  Under these laws, RIAs have a legal obligation to place client interests before their own. They have an explicit fiduciary duty to clients.  Brokers are not held to the same standard.  Brokers are subject to the Securities Exchange Act of 1934.  Under these laws, brokers are not required to place client interests before their own and they are not held to a fiduciary duty.

 

 


 

RIAs are subject to a higher standard of care because clients pay RIAs specifically to provide investment advice. That places the RIA in a position of explicit trust, and thus the RIA is required by law to uphold a fiduciary duty to the client. Brokers, on the other hand, are paid to sell products, not to provide advice. Therefore, they are not legally required to maintain a fiduciary duty to clients and the old adage “buyer beware” applies.

 

Beware the juggling act

 

Something to keep in mind is some representatives may play different roles as RIAs, brokers, insurance agents, bankers, and others all at the same time. This is common at large financial conglomerates that juggle multiple businesses and services. While this may offer convenience, it also complicates the relationship. For example, how does the client know when their interests are being represented or not? Does it depend on which “invisible hat” the representative is wearing?  Can we trust the representative to clearly disclose “I am not currently acting in your best interests?”  This lack of transparency can be lucrative for firms, but expensive for clients. 

If you are uncertain of whether your "advisor" is a broker, you can use the Financial Industry Regulatory Authority’s (FINRA) “BrokerCheck” online tool to find out.   The tool not only reports if a representative is currently actively registered as a broker, but also provides background and disciplinary information on the individual.  Similar information can be found on insurance agents (who are paid to sell insurance products) through your State’s Department of Insurance website. In California, you can use the CA DOI’s “Check License Status” online tool.

 

The bottom line

 

Investing is complicated enough as it is, investors should not need to second guess which side of the table their "advisors" are sitting on. BCM is a 100% fee-only, registered investment adviser-only firm. BCM does not engage in any other businesses like brokerage, banking, or insurance.  That means BCM maintains a fiduciary duty to clients 100% of the time. For additional information about how to properly evaluate and choose an advisor, please request BCM’s white paper “Questions for Your Advisor.”


The purpose of this article is not to imply that all RIAs are good and that all others are bad. It is to clarify RIAs provide different services and have different duties to their clients versus other “advisors.” Ultimately, what type of advisor is appropriate to use depends on an individual’s needs and objectives.  See the diagrams below for a summary of the different relationships reviewed in this paper.   If you have any questions or needs regarding your investments please feel free to contact BCM.

 

 

 

 

 

Copyright   |   2017   |   Bellwether Capital Management LLC   |   All Rights Reserved

 

**Note on the DOL Fiduciary Rule

 

 

In April 2016 The U.S. Department of Labor (DOL) issued a final ruling on its “investment advice fiduciary” definition for retirement accounts covered by the Employee Retirement Income Security Act of 1974 (ERISA).  Essentially the DOL’s ruling would require financial intermediaries who were previously not required to be treated as fiduciaries to become treated as such with respect to qualified retirement accounts. Other key elements included modification of exemptions to the ruling and some clarification of the DOL’s definitions of fiduciary versus non-fiduciary activities.  Details of the ruling can be found at the DOL’s website.  So how would this affect BCM, and what would it mean for investors?


BCM has always maintained a fiduciary duty to clients, even prior to the DOL’s decision.  Furthermore, BCM upholds a fiduciary duty to all clients 100% of the time, regardless of the type of account in question (ERISA qualified or otherwise). Ultimately this ruling reinforced the core belief that BCM has always stood for – doing what’s best for the client. As such BCM clients can expect the same high standard of care that they have always experienced.


For investors, in general, the DOL ruling was a step in the right direction. However, the ruling was also far from being a complete solution to the underlying issue. While the ruling addressed qualified retirement accounts, it did not address non-retirement accounts.  As such a financial intermediary may act in a fiduciary capacity in some instances, but not in others. Meanwhile, those in the financial services industry positioned to lose profits will continue to fight the ruling.

Lastly, since the DOL ruling was separate from other rules governing such matters, like those from the Securities and Exchange Commission (SEC) and state laws, it creates regulatory complexity that could potentially hurt investors.  Not only by the passing through of increased compliance costs, but also by creating more confusing circumstances for investors  (things were confusing enough before the additional rules).

To further complicate matters, as of June 2018, the U.S. Fifth Circuit Court confirmed a decision to end the Department of Labor's fiduciary ruling.  The court concluded the DOL "overreached" its mission with the ruling and also found the DOL's definition of "financial advice" too broad and thus "unreasonable" for purposes of implementation. 

So, for now, the ruling is not even in effect, but the debate and confusion are likely to continue into the future. All things considered, the DOL ruling would have been incrementally positive for investors.  But it would have been far from perfect, and much more change would b needed before we can say client interests will always be placed first throughout the financial services industry. 

Please feel free to contact BCM with any questions.

 

 

 

Copyright   |   2018   |   Bellwether Capital Management LLC   |   All Rights Reserved