Political assaults in and around Congress on the Department of Labor’s rule to amend the definition of fiduciary on retirement accounts look all but certain to fail to stop the rule in its tracks. That’s prompted the industry — on both the broker-dealer and RIA side — to gear up to help advisors and registered reps navigate how to put the rule into practice.
“For advisors who are helping their clients with retirement, there’s no way around it: This rule will have broad implications for their business and their careers,” said Dale Brown, president and CEO of the Financial Services Institute, the independent broker-dealer advisory group.
Brown and other industry observers concede that it’s “way too early” to say with certainty what DOL’s rule will look like once it’s released, likely in the first half of this year. But the version released last year that underwent a lengthy comment period gives them some idea.
Advisors and brokers will have to assess what percentage of their business “is in retirement planning and therefore directly impacted by the rule, and how many of their clients are smaller account clients,” Brown noted. Ultimately, it’s the smaller investors “that are going to be harmed by this rule,” Brown argued, since a best interest standard “doesn’t do a small investor any good if they can’t find an advisor they can afford to work with.”
Without having seen the final rule, “it’s extremely difficult to make business decisions in that vacuum,” Brown continued. “But we are starting to have more conversations with our members” about the rule’s potential outcome, and FSI is working “to be a resource for compliance” and to help brokers and advisors “do business in a post-DOL world.”
FSI, he added, “will be a forum for our members to share ideas and best practices to figure that out.”
‘Tough to Be a Broker’
Indeed, once the DOL’s rule is released, it will be “decision time” for commission-based brokers who are providing recommendations to clients in the retail space, added Amy Lynch, president and founder of FrontLine Compliance, and a former SEC staff accountant.
Career-wise, it will be “tough to be a broker” once this DOL rule is put into place, Lynch said. After the DOL rule is implemented, “it’s going to be easier to operate as an investment advisor rep going forward than a broker rep. So there will be a shifting, but I think there’s a shift going on anyway — a move to a fee-based model — because of the ongoing revenue stream.”
FSI’s Brown added that while independent broker-dealers will adapt to the “new reality” brought about by DOL’s rule, he sees BDs and their reps moving to embrace a more holistic financial planning approach.
For Series 7 or Series 24 brokers, Lynch said, “I’d be thinking it’s getting too complicated. It’s simply becoming too hard to know which hat I’m wearing at what time, in each sale with a client. Am I under a fiduciary standard because of this conversation? Or wait, ‘I just referred this person to another firm that provides investment advice!’ Does that put me under a fiduciary umbrella just making the recommendation?”
That question becomes even more relevant if the rep has “a quid pro quo with the other firm, and he’s receiving indirect compensation for that,” Lynch added. If the rep gets “a referral fee for making that referral to another money manager, then he would fall under the DOL rule, because he receives compensation for that recommendation.”
Lynch sees brokers shifting to the fee-based RIA structure. If DOL’s rule “goes through the way it looks today, brokers would want to get away from this gray [area]. No one wants to be in the gray world, they want to be in the black-and-white world.”
(But RIAs shouldn’t ignore the possible impacts to their business model. See sidebar on page 10.)
Ambiguity and Cost Structures
Stressing the “ambiguity” of DOL’s rule as currently drafted, Lynch deciphers the rule as targeting the broker-dealer industry. DOL’s goal is “to create some sort of dividing line between when a registered rep at a broker-dealer is acting in a nonfiduciary capacity versus when they are acting in a fiduciary capacity when it comes to retirement advice.” However, the rule’s ambiguity, as well as the interagency conflicts between the SEC and DOL, “has scared the advisory industry, the investment advisory industry, because it’s not clear on which stance [the DOL is] trying to make their mark. Is it the BD or advisor world?”
Brown sees DOL’s rule “changing the cost structure” for commission-based accounts, which generally service the smaller investor.
If the broker or advisor and their client can get to a point of signing the best interest contract exemption, or BICE, the broker’s “liability costs are going to increase, [as is] their exposure to class-action lawsuits under state law,” Brown said. “In most cases, for those small investors with relatively small amounts in their IRAs it doesn’t make economic sense for them to be moved into a fee-based account where the fee is enough that the firm judges they can take the risk associated with the liability of that account.”
Fred Reish, head of the ERISA team at the law firm Drinker Biddle & Reath, said that if DOL “makes reasonable changes” to the BICE, “where the most changes are needed, then the regulation may become palatable” to the traditional broker-dealer sector. However, he added, “I don’t think it will ever be attractive, because any time the government tells a major business sector how they have to do business, it’s very expensive and disruptive.”
But Reish believes more of the costs will be on the front end, “the development of new systems, new training and education, new paperwork and new compliance procedures. I don’t think that high level of additional cost will be ongoing.”
Because DOL’s rule will be such a “big change,” Reish maintains, it will “lead to a lot of frustration and early retirements for those who are older and used to working under the old system.” For those coming into the industry now or with a few years under their belt, living under the rule “will be the only thing they ever knew.”
There’s no doubt, Reish continued, that DOL’s rule “favors people who have always operated with full transparency and always tried to make sure that the costs to their clients were held down. I think it clearly hurts people with more of a pure sales mentality.”
While there are a lot of good advisors who are compensated by fees and commissions, it’s going to take more work by the good people that are compensated by commissions because they are going to have to change disclosures they make and how they explain things.”
In the end, Reish said, the rule will be “easier for the more sophisticated advisors and harder for the less sophisticated ones because it takes a certain amount of experience to deal with the [rule’s] additional complexity.”
As for independent BDs, because the “model lends itself to being […] adaptable and flexible, for the vast majority of our members, I don’t think their business existence is threatened” by DOL’s rule, FSI’s Brown added, “but it will have broad impact.”
— Read “New Year Brings Regulatory Roulette for Advisors, BDs” on ThinkAdvisor.