The 90-year old widow, Mary, a client of my estate planning law firm, was upset. Not at me. Nor at her family. Rather, she was upset at her broker.
The week before she went to her broker. The broker suggested that she annuitize a significant portion of her investment portfolio. The client was already substantially invested in a variable annuity, sold by the same broker to that client eight years before. The existing variable annuity, if it had been annualized over life with a ten-year certain as provided under the terms of the contract, would have yielded a nice monthly check for my client.
But the broker suggested something different. Rather than annuitize the existing annuity, which would have resulted in little or no compensation to the broker, the broker suggested a tax-free exchange into a new, immediate annuity. Again a life annuity with a 10-year certain. He described it as "better product" to the client. Trouble was, the monthly check was significantly less. In fact, the rate of return over the 10-year guarantee period was only 1%. Of course, the client could live longer, past age 100, but the client's family history and current health indicated that such a possibility was very unlikely.
The client had come to me for a review of the transaction. She thought something might be wrong, but she was uncertain.
As I delved into the details, I could find no good reason for the tax-free exchange from the existing annuity into a new annuity. Both insurance companies were highly rated. The annuitization of the existing variable annuity had no downside, and would have resulted in a better return to the client - and a larger monthly check.
The only reason for the new annuity was the fact that the broker would receive compensation - which was substantial. Hence, the lower rate of return to the client.
I wrote to the brokerage firm on behalf of the client, relaying the results of my investigation, and requesting that they undo the transaction. The reply was a one-page letter from their legal department stating that the transaction was "suitable" for the client and that the broker acted "in accord with the law."
The securities litigation firm I had consulted on behalf of the client indicated that pursuit of the claim through arbitration was unlikely to lead to a ruling in favor of the client. If the client pursued a claim in arbitration, the client would not only have to pay fees for her own attorney but could be liable for fees of the brokerage firm's attorney.
As is the case with many elderly clients, my client did not want to pursue the matter further. No complaint would be filed with the state insurance commission. No submission of the matter to arbitration. I didn't blame her.
What my client never could grasp was that her broker was a salesperson, nothing more. While she told me she "trusted" her broker, she was unaware that she could not rely upon his advice. No fiduciary duty existed to provide good advice. As a result, the elderly widow was subject to the broker's whims. Even after the broker had done this to her, she described him as a "nice young man" who "should be forgiven for his mistake."
A few years after this incident the client died. She could have lived those last few years with a bit more financial security, and with the ability to visit her family more often. But this was denied to her, due to the inappropriate and self-serving "advice" provided to her by her broker.
The reality is that "suitability" is a doctrine that was designed to alleviate liability for executing transactions in individual stocks. Under the suitability doctrine, the duty of due care of the broker is abrogated to a significant degree. While perhaps appropriate for transaction-only services, the doctrine has been extended in recent decades to the advice given by brokers with regard to the selection of pooled investment vehicles, such as variable annuity sub-accounts and mutual funds. With no duty of due care, brokers are free to recommend bad (and expensive) investment products. With conflicts of interest persisting in the brokerage industry, brokers possess substantial incentives to behave poorly. The temptation of additional or greater commissions (or other forms of compensation) is simply too great for most to resist.
Brokers hide behind this suitability veil. It permits them to give poor advice to their customers, in ways that permit conflicts of interest to be ignored and, as a result, harm to result to their customers, over and over again.
As study after study has shown, customers believe brokers act in the customer's best interests. They are led to this conclusion through a confusing array of titles ("financial consultant," "wealth manager," etc.), designations ("Chartered Financial Consultant," etc.), and broker-dealer advertising that creates reasonable expectations that the advice provided will be objective. Sadly, in most instances, customers do not receive the trusted advice they desire, need, and reasonably expect to receive.
It's time for the fiduciary standard. For all providers of financial and investment advice. Our fellow citizens - from 90-year old widow Mary attempting to manage their nest eggs, to newly married couples beginning to save for their future financial needs - deserve no less.
Ron A. Rhoades, JD, CFP(r) is the Program Director for the Financial Planning Program at Alfred State College, Alfred, NY. He also serves as 2014 Chair of the Steering Group of the Committee for the Fiduciary Standard, a group of volunteer leaders of the financial planning profession dedicated to the proposition that all Americans deserve to be provided investment and financial advice under a bona fide fiduciary standard of conduct. Ron may be reached by e-mail at: RhoadeRA@alfredstate.edu.