From the May 2007 issue of Investment Advisor • Subscribe!

We Win, Sort Of

How the FPA can make the most out of its upset victory over the SEC

Okay, so the FPA's lawsuit against the SEC was a win/win from the start. But it wasn't just a win/win, it was a WIN/win, and FPA WON. Can you believe it? The Financial Planning Association took on the army of lawyers that is the SEC. It convinced a United States Court of Appeals that the Commission overstepped its authority when it expanded the Investment Advisers Act of 1940 to allow brokers to continue to masquerade as financial advisors even when they are charging fees for advice.

Had the FPA lost, it still would have "won" in the sense that it would have generated substantial publicity for the fact that stockbrokers are exempt from the duties and responsibilities of advisors, even when they are posing as advisors. This may seem obvious to you and me, but as far as I can tell, there isn't one financial consumer in 1,000 who understands this fact.

But, surprise, surprise, the FPA went and won the darned thing. In addition to the immediate result of reestablishing that brokers who charge a fee for advice have a fiduciary duty to their clients, the FPA's victory could have far-reaching consequences for the financial services industry and the role that financial planners play in it. Of course, that largely depends on how the FPA and others in the advisory community play their newly dealt trump card: call me skeptical, but that's not necessarily cause for unbridled optimism.

Even better than the ruling itself, the Court's reasoning was remarkably clear: The '40 Act exempted stock brokers from the fiduciary duty imposed on investment advisors as long as the advice they offered was incidental to their job of selling securities--provided they didn't receive any compensation for that advice. The SEC tried to argue that fee-based services such as wrap accounts and other management of assets still fell under the broker exemption from the duties and responsibilities as advisors. The Court found the opposite: that fee-compensated management services were exactly what Congress intended to regulate under the Act. Consequently, brokers all over the country who continue to charge clients a fee for managing their assets have suddenly become investment advisors, with all the disclosure, reporting, recordkeeping, and fiduciary duties that entails.

Fiduciary Duty Essential

One of the farther-reaching consequences of the decision could be a greater understanding of what the financial services industry is all about, and therefore, why a fiduciary duty is essential to the delivery of objective advice. At least, that is, for anyone who takes the time to actually read the Court's ruling.

In the majority opinion, Circuit Judge Judith Rogers wrote at length about why Congress deemed it necessary to pass the '40 Act, and by applying that same reasoning to the SEC's "Merrill Lynch Rule," implied that the situation still exists today. "The essential purpose of [the IAA] ... [was] to protect the public from the frauds and misrepresentations of unscrupulous tipsters and touts," the Judge wrote, "and to safeguard the honest investment adviser against the stigma of the activities of these individuals by making fraudulent practices by investment advisers unlawful."

In her majority opinion, Rogers explored the record on why the Act was written in the first place: "Investment advisers could not completely perform their basic function--furnishing to clients on a personal basis competent, unbiased, and continuous advice regarding the sound management of their investments--unless all conflicts of interest between the investment counsel and the client were removed." Pretty strong stuff, considering we're still debating the necessity of a fiduciary duty today.

So who's going to take the time to read all this? It's probably not fair to ask, nor likely, that more than a nerdy handful of the public will even glance at the Court's opinion. But I'd like to think my colleagues in the consumer financial press will spend some time perusing a ruling of this import, and come away with a much clearer understanding of the differences between financial salespeople and genuine advisors, and why that's essential to folks who need reliable advice. But alas, my experience with the financial fourth estate suggests that their workload doesn't always permit attending to such nitty-gritty details, especially when it takes time away from the coin-flipping necessary to determine which seven mutual funds to Buy Now!

Make the Most of It, FPA

As a long-time advocate of aggressive public relations, I'm going to suggest that the FPA maximize the impact of its victory by launching a major PR campaign designed around the responsibilities that professional financial advisors have to their clients, which other kinds of "advisors" don't have, and why that's important; supported by quotes and references from various sources, including the recent ruling. Full-page ads in USA Today, and 30 second spots during PGA tournaments might be a little pricy for the FPA (although this is exactly the kind of consumer education that the Foundation for Financial Planning and NEFE should be financing). But well-placed interviews and articles in the mainstream press can do wonders to educate the public. Remember NAPFA's success at promoting fee compensation on a shoestring.

Even though the FPA's win in the D.C. Circuit was the best thing to happen to independent advice since the formation of the CFP Board (that was a good thing, right?), don't think the Wall Street firms are going to take this lying down. While a few firms--including Piper Jaffray in Minneapolis--have already acknowledged that their brokers are investment advisors, it isn't likely that the major wirehouses will be as sanguine about their brokers shouldering a fiduciary duty to put their clients' interests ahead of their firms' agendas. If history is any guide, it won't be long before the world's most effective marketing machine will be making Snapple out of this lemon. Look for their counter-attack on two fronts.

First, I suspect the wirehouses will quietly reverse their opposition to reorganizing the current maze of securities regulation. That's because the Court's ruling in favor of the FPA did what no legislation is likely to do: It left no wiggle room for anyone who takes a fee for advice to avoid the responsibilities of an investment advisor. However, if the brokerage firms could convince Congress to rewrite the laws the governing securities sales and advice, there's at least an even chance their lawyers and lobbyists could effect an exemption at least as broad as the Merrill Lynch rule, but this time not be open to legal challenge.

While that may seem a bit of a reach (though I would still argue that it's entirely likely), it is no stretch at all to predict that Wall Street will also focus more time and attention on distinguishing when brokers are acting as advisors (and subject to those duties), and when they are merely selling securities, and therefore exempt, within each client relationship. Of course, it's ridiculous to think that any intelligent person would argue, let alone buy into, the notion that the same person could sometimes be an advisor, and at other times be a salesperson to the same client. Could that be any more confusing to a client? Sheer lunacy.

But wait a minute. Didn't I just see... I know it's around here, in this mess somewhere. Ah, yes, here it is: The Second Exposure Draft of Revisions to CFP Board's Standards of Professional Conduct. Seems the Task Force is suggesting replacing Rule 1.1(e), with new Rule 1.4 which reads. "...that when the certificant is providing financial planning or material elements of the financial planning process, the duty of care owed to clients is that of a fiduciary..."

Is it possible that the Board is suggesting that financial planners have a fiduciary duty when they're providing financial planning, but not when they are providing other services to the same client? Surely not. Yet, since their Standards apply only to Certified Financial Planners, who presumably provide financial planning services to all their clients, what else could they mean?

Back to the Future?

Yes, folks, given their track record, I'm pretty sure that's exactly what the Board means. They've scrapped their highly criticized proposal from the first Exposure Draft--that CFPs can decide whether they want to assume a fiduciary duty, as long as they inform their client of their decision. They have instead reverted back to the old standard "scope of the engagement," which means that when a CFP is acting as a financial planner for a client, then they have a fiduciary duty, but when they are acting as something else--a salesperson perhaps--then they don't. Sound familiar?

Ridiculous? Confusing? The furthest thing possible from the best interests of the already befuddled public? All of the above, to be sure. Even worse, if that's possible, if this Rule were to be adopted by the Board, it will align financial planners with Wall Street in arguing that this sort of "Which-hat-am-I-wearing-now?" obfuscation is somehow acceptable. Rather than differentiate professional planners from stockbrokers, it would serve to not only appear similar, but actually be similar. Great thinking, guys. Seems this spring, the profession of financial planning has taken one step forward, and one step back. Maybe for its next move, the FPA should sue the CFP Board for being chowderheads. Is that a valid cause of action?


Bob Clark, former editor of this magazine, surveys the advisory landscape from his home in Santa Fe, New Mexico. He can be reached at rclark7000@aol.com.
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