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Regulation and Compliance > Federal Regulation > SEC

Reg BI Compliance Race Is On

By Melanie Waddell

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With four months remaining until enforcement with the Securities and Exchange Commission’s Regulation Best Interest kicks in, broker-dealers and advisors are wondering if they “need to race to comply” with Reg BI, particularly if the rule is going to suffer the same fate as the now-defunct Labor Department fiduciary rule, according to Blaine Aikin, executive chairman at Fi360, a fiduciary education, training and technology company.

Despite legal challenges, advisors and BDs “don’t have much choice” but to comply with Reg BI’s June 30 compliance date, Aikin said during a recent Fi360 webinar.

Duane Thompson, Fi360’s senior policy analyst, agreed that as with the vacated Labor rule, “you have to assume the deadline will take effect when the agency said it would.”

Robert Levine, compliance practice leader of Bates Group LLC, stated in an interview with me in early February that “100% firms need to be ready to go live” on the June 30 compliance date.

Reg BI, he maintained, is “going to be here to stay.”

Like its Labor fiduciary rule predecessor, Reg BI is undergoing challenges in the courts and “most immediately from state initiatives that purport to offer state residents greater protection than Reg BI,” the Bates Group, a regulatory compliance and litigation consulting firm, stated in a recent paper. “Despite these challenges, the obligations Reg BI imposes on financial firms are real and immediate. They require considerable preparation, and the consequences for failure to comply are heavy.”

In fact, BDs have “a relatively short runway” to get into compliance and operationalize Reg BI, Levine added.

That being said, the Financial Industry Regulatory Authority, the enforcer of Reg BI, along with the SEC “have done very well in saying there won’t be a lot of ‘gotcha’ exams in the first year unless you’ve just done nothing,” Levine said.

While Levine sees “some additional runaway on the back end of June 30 that will allow some firms to tweak their [compliance] programs, … once June 30 comes around they can’t just sit back and say: ‘we’re done implementing this’ — it’s going to have to be constant review and tuning of the program to get it right.”

The SEC will expect “good-faith attempts” to comply with all four parts of Reg BI — care, disclosures, conflicts of interest and compliance, said Sandra Dawn Grannum, partner in Faegre Drinker’s Litigation Group, during the law firm’s early February Inside the Beltway webcast.

In other words: BDs must show they’ve taken measures to ensure actions are in the best interest of clients (care), disclosed situations where a conflict may arise, and “possibly even” mitigated conflicts. If a BD doesn’t “have written supervisory procedures (compliance) in place to ensure your measures are being carried out, … you have failed to comply with Reg BI,” Grannum said.

Pete Driscoll, director of the SEC’s Office of Compliance Inspections and Examinations, said that in January, as part of the agency’s regular BD exams, the agency began questioning firms about their implementation programs and fielded questions about Reg BI.

After the advice-standards package compliance dates, OCIE plans to assess firms’ implementation of Reg BI requirements as well as the content and delivery of the Customer Relationship Summary, or Form CRS.

New Form CRS Woes

Form CRS, part of the agency’s four-pronged advice-standards package along with Reg BI, requires BDs and investment advisors to provide the form to retail investors.

The form must include information on fees and costs, compensation structures, relationship models, types of services offered, differences between advisors and broker-dealers and conflicts of interest.

But at least one of Levine’s dual registrant clients has voiced concerns that Form CRS “may confuse [retail clients] and not clear up the difference between what a broker and investment advisor is, specifically the fees” the client is going to pay.

Unlike other firms, dual registrants can present a four-page Form CRS to clients — instead of two pages. Dual registrants can either give clients one four-page document or two, two-page documents, Levine said.

Dual registrants are “worried about confusing the client with the two different documents rather than alleviating it,” Levine said. “There’s going to have to be some good training to go along with [Form CRS] through the field so they know exactly what their talking points are, to make it very clear to the client what the differences really are” between and advisor and a broker.

Fiduciary Principles ‘No Small Thing’

Besides a heightened fiduciary exam focus from the SEC this year, “Reg BI does very, very significantly introduce fiduciary principles into the existing suitability standard for broker-dealers, and that’s no small thing,” said Fi360’s Aikin. “So it does raise the bar, albeit not to a true fiduciary level.”

Indeed, attorneys at Groom Law Group in Washington argued in a recent brief that the SEC’s FAQ guidance on Reg BI released in mid-January indicate that the rule “may raise the standard of care and compliance obligations for financial institutions more than some consumer groups had expected.”

In some ways, the attorneys write, the FAQs further clarify “the overlap” between Reg BI and the 2016 Labor rule.

For example, “the scope of the definition of ‘recommendation’ in each is meant to exclude actions that might stifle investment education or retirement savings,” the attorneys write.

However, the FAQs also point out areas “where disharmony could be perceived and accommodations may be necessary” from the Labor Department in its soon to be released fiduciary rule reboot, “such as in the area of representative compensation structures.”

The Groom attorneys are hopeful that the period of trying to read tea leaves about release of Labor’s upcoming fiduciary rule to align with Reg BI “will soon end.”

Labor, the attorneys state, “was tasked with reviewing its 2016 rule almost three years ago” through a Feb. 3, 2017 presidential memorandum “and we are optimistic that the DOL’s response will be released soon.”

A Labor rule had not been released by early February.

Levine, for his part, sees more investor confusion, however, once Labor’s rule to “align” with Reg BI comes out. “The whole intent of the regulatory bodies now is to decrease confusion and increase investor education. The more varying types of standards of care you put into place is only going to cause more confusion.”

Another SEC Focus in 2020

An ongoing SEC sweep of 403(b) sales to teachers is the “next area of focus” for the agency’s Retail Strategy Task Force, housed within the agency’s enforcement division, according to James Lundy, partner in Faegre Drinker Biddle & Reath’s Chicago office, on the firm’s recent Inside the Beltway webcast.

The 403(b) plan sales sweep is the “next phase” of the SEC’s focus on Main Street issues, after the agency resolving “some matters” under the Share Class Selection Disclosure Initiative (SCSD), Lundy said.

SEC Chairman Jay Clayton said last year that the agency-wide Teachers Initiative was to be led, in part, by the enforcement division’s Retail Strategy Task Force, which has an “increased incentive in trying to bring cases in particular areas that are priorities for the commission,” according to Lundy.

Co-enforcement chief Stephanie Avakian detailed in November the agency’s probing of the administration of teacher retirement plans, another area “where there may be undisclosed conflicts of interest,” particularly regarding fees and lower-fee alternatives.

The focus: compensation and sales practices of third-party administrators of 403(b) plans as well as the practices of their affiliated advisors and BDs, Avakian said. And digging into “how administrators and their affiliates choose and recommend investment options, how they are compensated.”

RIAs have been getting sweep letters from the SEC, and more will come, Lundy predicts. “More specifically, SEC enforcement will use the information that they obtain from the administrators in a similar way to how they leveraged information and data from clearing firms for the SCSD Initiative and certain follow-up efforts, including the revenue sharing sweep,” he said.

Melanie Waddell

@Think_MelanieW

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