More On Legal & Compliancefrom The Advisor's Professional Library
- The Few and the Proud: Chief Compliance Officers CCOs make significant contributions to success of an RIA, designing and implementing compliance programs that prevent, detect and correct securities law violations. When major compliance problems occur at firms, CCOs will likely receive regulatory consequences.
- Privacy Policies and Rules Whether an RIA is SEC or state-registered, the firm must have policies and procedures in effect to protect clients privacy. Policies and procedures should explicitly require an RIA to send out its privacy notice each year.
FINRA’s new suitability rules, which took effect July 9, brought considerable criticism from broker-dealers—despite the fact that the brokerage industry SRO gave member firms nearly two years to prepare for their implementation. As usual, some of the BDs’ concerns are revealing, especially considering how far short the new standard falls from the Dodd-Frank mandated fiduciary standard.
"One of our concerns is that FINRA makes it clear in its rule that the term 'investment strategies' is to be interpreted broadly," David Bellaire, FSI's general counsel and director of government affairs was quoted as saying at Financial-Planning.com. "That goes far afield from the business that our members are engaged in of selling securities and monitoring the suitability of those securities.”
Even a cursory look at the new suitability rules reveals that Bellaire is right: they do go “far afield” from the selling of securities. But what his and other brokerage industry comments fail to acknowledge is that in today’s securities industry, many brokers themselves go “far afield” from the business of selling securities. FINRA’s new rules appear to be an attempt to bring its regulatory efforts more in line with this new reality: that the majority of brokers today are in fact offering investment advice far beyond what any rational observer would categorize as “usual and incidental” to the sale of securities.
To better protect investors in this “financial advisor” world, FINRA now requires brokers to know their clients better; in addition to a client’s financial status, tax status, other holdings and investment objectives information, brokers are now required to know the client’s age, investment experience, liquidity needs, and risk tolerance. What’s more, recommendations now have to be not only suitable for the customer in question, but also for similar investors—and all the recommendations for each customer have to be suitable in their aggregate. Kinda like they would be in a financial plan, for instance.
But that’s not all. As Bellaire mentioned, FINRA has also expanded the notion of an “investment strategy” to include “hold” recommendations (as opposed to “buy” or “sell”), as well as the suitability of any non-security holdings that might be part of an overall recommendation. As reported in an AdvisorOne interview with Brian Rubin of Sutherland, FINRA also expanded these suitability requirements to include potential customers as well.
While this may seem a little aggressive even for FINRA, I suspect it’s a perfectly reasonable closing of a loophole currently used by many brokers: recommending a multi-asset financial plan or strategy that includes the purchase of a security to a prospective customer, but only taking responsibility for the suitability of the purchased security.
Finally, FINRA now requires that broker recommendation have to be in the “best interest” of the customer. Sound familiar? Taken together, the new rules reflect the reality that many brokers today are acting like comprehensive financial planners and/or portfolio-creating investment advisors. In fairness, FINRA’s new standard does increase investor protections. Unfortunately, it’s still far short of the investment advisor fiduciary standard, which is supposed to be expanded to include brokers under Dodd-Frank.
Here’s how fiduciary watchdog Fi360 summed up the new suitability standard in its July 9 blog: “…while these new obligations do elevate sales practices, they only apply to sales practices and not professional advisory relationships. Some of the key components to a fiduciary standard of care that are reserved for advisory relationships include the singular duty of loyalty to the client, due care obligations of a professional competence, full disclosure and avoidance of conflicts of interest.”
It’s a good first step, but the question still remains whether FINRA will continue to fulfill the other half of the Dodd-Frank mandate to bring broker oversight into parity with that of RIAs.