Most Nevada Financial Planners Become Fiduciaries Per State Law on 7/1/2017

ALL POSTS PRIOR TO 2021 HAVE NOT BEEN REVIEWED NOR APPROVED BY ANY FIRM OR INSTITUTION, AND REFLECT ONLY THE PERSONAL VIEWS OF THE AUTHOR.

Overview. On July 1, 2017, nearly all of those providing financial planning services, or holding out as financial planners, to clients located in Nevada, or those investment advisers and registered representatives who are located in Nevada, become subject to fiduciary duties as defined by Nevada state law.

 The definition of "financial planner" is quite broad, as it applies both to:
    (1) those who advise others upon the investment of money or upon provision for income to be needed in the future;
    (2) any individual who holds himself or herself out as qualified to perform either of these functions.

However, as set forth below, insurance agents who provide "incidental" advice, and attorneys and CPAs, remain excluded from the definition of "financial planner."

This Law Will Spread to Additional States. This new law in Nevada is likely to be copied by several other states in the next few years. In the legislatures of several states, concerns exist regarding the Trump Administration's efforts to reverse the U.S. Department of Labor rule-making as to fiduciary, as well as the inaction of the SEC (since they were authorized in 2010 by the Dodd Frank Act) on the fiduciary issue.

Interaction with Federal Law. This is an additional obligation imposed upon broker dealers, RIA firms, and their representatives (registered representatives and investment adviser representatives). ERISA preempts state law, but only as to the duties applicable to ERISA-covered retirement plans. The DOL's rules as to IRA accounts do not provide for preemption, nor do the federal securities acts preempt Nevada state law.

"Financial Planner" Now Includes Broker-Dealers/Registered Representatives and Investment Advisers/Representatives. Since 1993 Nevada law defined a “financial planner” as "a person who for compensation advises others upon the investment of money or upon provision for income to be needed in the future, or who holds himself or herself out as qualified to perform either of these functions." However, under prior law, the definition of "financial planner" excluded broker-dealers, sales representatives (i.e., registered representatives), and investment advisers. The 2017 legislation, now signed into law, eliminates these exemptions and thereby makes such persons subject to the provisions of existing law governing financial planners.

The Exclusions: Attorney, CPA, Insurance Agents Whose Advice is "Incidental." Still excluded from the definition of financial planners are attorneys and producers. Also excluded is "a producer of insurance licensed pursuant to chapter 683A of NRS or an insurance consultant licensed pursuant to chapter 683C of NRS, whose advice upon investment or provision of future income is incidental to the practice of his or her profession or business."

The Fiduciary Duty, Disclosure of Compensation, Duty to Know Client. The prior section of the statute describing the duties of a financial planner was not amended, and it provides: A financial planner has the duty of a fiduciary toward a client. A financial planner shall disclose to a client, at the time advice is given, any gain the financial planner may receive, such as profit or commission, if the advice is followed. A financial planner shall make diligent inquiry of each client to ascertain initially, and keep currently informed concerning, the client’s financial circumstances and obligations and the client’s present and anticipated obligations to and goals for his or her family.

Enforcement by the Securities Administrator. The new legislation enacts a provision to enable the Nevada Administrator of Securities "to enforce the fiduciary duty imposed on broker-dealers, sales representatives, investment advisers and representatives of investment advisers."

Enforcement by Private Right of Action. The section of the law providing for a civil remedy for clients was not changed, and provides: "Liability of financial planner.
      1. If loss results from following a financial planner’s advice under any of the circumstances listed in subsection 2, the client may recover from the financial planner in a civil action the amount of the economic loss and all costs of litigation and attorney’s fees.
      2. The circumstances giving rise to liability of a financial planner are that the financial planner:
         (a) Violated any element of his or her fiduciary duty;
         (b) Was grossly negligent in selecting the course of action advised, in the light of all the client’s circumstances known to the financial planner; or
         (c) Violated any law of this State in recommending the investment or service."

Rulemaking on Fiduciary Duty Authorized and Will be Closely Watched. The Nevada law also authorizes the Administrator of Securities "to adopt regulations defining or excluding acts, practices or courses of business as violations of that fiduciary duty and prescribing means to prevent violations of that fiduciary duty."

It is one thing to state that one is a fiduciary. It is another to then define the parameters of the fiduciary obligation. The rule making by the Administrator of Securities will be crucial in order to preserve a bona fide fiduciary standard upon financial planners in Nevada.

Other issues exist as to coverage of who is a "financial planner" under the statute. For example, is the term "Certified Financial Planner(tm)" or the acronym "CFP(r)" "holding out" as a financial planner. One could easily conclude that this is "holding out," under the plain language of the statute. Similarly, other designations and certifications using the terms "financial consultant" or similar terms might trigger application of the statute. There is increased interest in regulation of the use of titles. Hence, Nevada's rules in this area will be closely watched.

8 Thoughts and 4 Questions on the DOL Fiduciary Rule and Its Impacts

ALL POSTS PRIOR TO 2021 HAVE NOT BEEN REVIEWED NOR APPROVED BY ANY FIRM OR INSTITUTION, AND REFLECT ONLY THE PERSONAL VIEWS OF THE AUTHOR.

As I write this on Tues., 6/13, the fourth day of adherence to the DOL's fiduciary rules (i.e., its "Conflict of Interest Rule" and related prohibited transaction class exemptions) has been completed. And the world of financial services continues to revolve.

Over the past few weeks I've had a number of thoughts about the rule:

1. Who do you represent? It seems to me that most of the problems exist when a person tries to wear two hats. In the end, you either represent the manufacturer of a product well (in an arms-length relationship, typically), or you represent the client well (as a fiduciary). You can't do both - successfully.

Here's a rule designed to keep you out of trouble ... If you represent the client, get paid only by the client. If you represent the product manufacturer, and you distribute products, get paid from the product. Don't mix the two.

2. The impartial conduct standards, with their application of the prudent investor rule, are tough in their application of the investment adviser's duty of due care. 

Advisers of all ranks need to step up their due diligence. To me, there have always been two key inquiries: investment strategy; and investment security or product due diligence.

     A) Investment Strategy Due Diligence. You have the duty to minimize idiosyncratic risk, under the prudent investor rule. This is more than just minimizing a portfolio's standard deviation. It also involves not suffering a permanent long-term underperformance of the portfolio.

Perhaps one way to address this issue is by asking this question ... "If you deviate from a "total stock market" / "total bond market" / "total universe of publicly traded REITs" portfolio, what solid reasons do you have for doing so?"

There are many solid reasons for deviating from such a portfolio. But which ones are supported by strong evidence? Can you back up your asset class selection, and your means of mixing those asset classes (i.e., through strategic or tactical asset allocation), via proper evidence, or is what you are doing more akin to speculation?

If your investment strategy is challenged, you are likely to possess the burden of proof. (Generally speaking, those who claim the use of a prohibited transaction exemption bear the burdens of demonstrating their allegiance to their conditions.) Accordingly, can you prove that your investment strategy is defensible? Specifically, can you prove your investment strategy makes sense by the support of expert testimony, and is not just based upon speculation? Will your expert's testimony even be admissible?

Note that to have your expert's testimony admitted in a judicial proceeding, Rule 702 of the Federal Rules of Evidence incorporates the Daubert standard, which is also followed by more than half of the state courts:

RULE 702. TESTIMONY BY EXPERT WITNESSES

A witness who is qualified as an expert by knowledge, skill, experience, training, or education may testify in the form of an opinion or otherwise if:

(a) The expert’s scientific, technical, or other specialized knowledge will help the trier of fact to understand the evidence or to determine a fact in issue;

(b) The testimony is based on sufficient facts or data;

(c) The testimony is the product of reliable principles and methods; and

(d) The expert has reliably applied the principles and methods to the facts of the case.

(Emphasis added.)

Very generally, your expert's opinion must be based either on strong academic evidence, extensive back-testing, or some other robust and reliable analysis.

Ultimately, the judge is the gatekeeper, ruling upon whether an expert's testimony is reliable (and hence relevant to the matter at hand), and therefore admissible.

    B) Is Your Investment Product Due Diligence Up to Par?

Under the prudent investor rule, you possess the duty to not waste the client's assets. In the world of pooled investment vehicles, such as mutual funds, this means paying close attention to fees and costs. A huge amount of academic research supports the conclusion that higher investment product fees and costs lead to lower returns, especially over the long term.

While mutual funds and ETFs provide a means of diversification among individual securities, the fees and costs of such funds deserve intense scrutiny. In essence, as seen in many cases brought against plan sponsors over the past decade, if you have the ability to recommend a lower-fee-and-cost mutual fund or ETF versus a higher-cost mutual fund or ETF, all other things being equal, do so!

It's time to up your game, when you undertake due diligence. Do the factors you apply in selecting investment products (to implement your strategy) flow from either common sense or do they possess academic support? Are you examining all of the fees and costs of the fund at hand? Are you comparing the product to all others in the marketplace?

If you are using alternative investments, then the degree of due diligence required only increases. Intense due diligence is required. Do you possess the expertise to undertake such due diligence? Have you throughly documented your due diligence efforts?

3. The impartial conduct standards impose a strict fiduciary duty of loyalty.

The impartial conduct standards override every other consideration in the DOL's rules.

Want to offer proprietary products? - Beware. Very, very difficult to justify, in my view.

Want to recommend products that pay your firm additional compensation? - Beware. You are probably wasting the client's assets.

Want to use B.I.C.E. to accept product-related compensation, including 12b-1 fees, payment for shelf space, soft dollar compensation, etc.? You are walking into a minefield.

Smart individual advisers will avoid using B.I.C.E.

The problem is not with the impartial conduct standard's "no more than reasonable compensation" requirement. If you are providing services which are difficult to quantify or compare (such as financial planning which is goals-based, and especially life planning services), you won't need to be concerned much about challenges to your fees. It is very, very difficult to "benchmark" professional counseling fees against other fees. In fact, courts resist interfering in fee disputes, unless the fees are clearly outrageous for the services provided.

But, if part of your fees are derived from the products, those fees come from somewhere. For example, payment for shelf space is derived from higher fund management fees. And 12b-1 fees that provide little or no benefit to fund shareholders. It is very, very difficult to justify higher product costs, especially when they increase your compensation. That's why it is important to levelize compensation (at the firm level), such as by crediting third-party compensation received against advisory fees.

Of course, it is far simpler - and less costly from a systems and technology standpoint - to just adopt an approach where all compensation is received from the client, directly, and product-related compensation is eschewed.

4. American business owners (i.e., plan sponsors) should rejoice.

Plan sponsors run businesses. They are not investment experts. So they turn to retirement plan consultants to assist them in fulfilling the plan sponsor's fiduciary duty. Plan sponsors rely upon the recommendations these consultants make.

But, as so often seen in the class action cases brought against plan sponsors to date, in nearly every instance the "retirement plan consultant" (broker-dealer) is dismissed from the case. Why? Because the consultant, under the DOL's prior definition of fiduciary, was not a fiduciary and did not possess a duty of care. They only possessed something less - the vague duty of suitability.

Now, plan sponsors will be able to hold their consultants responsible. And, as a result, consultants will give (collectively) much better recommendations on which funds to include in 401(k) and other ERISA-covered plan accounts.

The result is a shifting of costs (relating to potential liability for inappropriately choosing products) away from American business owners and onto the retirement plan consultants. As it should be - for when advice is provided by retirement plan consultants, they should be held accountable for that advice.

5. The American economy's future is brighter.

As consumers continue to possess savings from less fees and costs, their retirement account balances will grow larger over time.

These accumulated assets, in turn, provide the fuel for the American economy. As greater savings and larger investment balances take place, over time, greater capital is available. This lower the cost of capital for American business. It will provide the fuel to transform innovation into new products and services that benefit us all.

It is difficult to quantify the amount of increased capital accumulation, here in the United States, as a result of the new DOL rules. In part because the DOL's quantitative analysis focused on IRA accounts, and the often-cited "$17 billion a year in savings for retirement investors" does not include the additional savings likely in 401k and other ERISA-covered qualified retirement plans. Nor do the savings include the spillover likely to result as non-qualified assets are increasingly likely to be managed under a fiduciary standard.

Still, it might be speculated that the pool of capital available to American business owners, as a result of the DOL's fiduciary rule alone - should the rule continue - will be 10% greater in 15-20 years (and perhaps much, much greater). And, the effect is compounding, spurring on U.S. economic growth for generations to come.

6. Changes in law and regulation creates winners and losers; competition is enhanced.

ERISA, and the old DOL regulations, created winners and losers. For example, plan sponsors incurred liability to employees, while brokers (upon whom they relied) usually possessed none. This shifted costs from Wall Street and the insurance companies (the product manufacturers and their distributors) to American business owners (plan sponsors). In essence, the old DOL regulation, adopted in 1975 and much out-dated, prevented (through ERISA's preemption) the application of state common law fiduciary duties on those providing advice to sponsors of ERISA-covered retirement plans.

The changes in the law and regulation create winners and losers as well. There are many in American business that stand to benefit. First and foremost are plan sponsors - business owners that strive to do the right thing for their employees, by providing retirement security for them.

Of course, those who stand to lose under the changed regulations have, and continue to, scream the loudest. As seen in the media, they profess that they embrace acting in their customers' "best interests." But they resist real accountability for the advice they provide.

The fact of the matter is - when investment and insurance products are forced to compete on their merits - and not on the basis of how much revenue-sharing or other payments they provide - true competition among product providers results. And isn't true competition in the marketplace what we desire to promote?

7. Insurance companies and asset managers will continue to fight hard.

When you create true competition in the marketplace, the strong will survive. As it should be.

Some insurers stand to lose billions and billions of dollars a year from the changes in the proposed regulation. Even more than the DOL predicts, in my view, as a "tipping point" may have been reached in the marketplace. Not only IRA accounts and ERISA-covered retirement plans are affected, but the application of fiduciary principles will increasingly occur to other accounts, as well.

Low-cost investments will win out. (This includes many but not all passively managed investments, and some low-cost actively managed investments.)

But high-cost active management is on its way out the door (at least, substantially). Most high-cost variable annuities, hedge funds, and non-publicly traded REITs cannot be recommended under the prudent investment rule, once you undertake an independent, objective cost-benefit analysis of the product involved.

And recommendations to purchase immediate fixed annuities, or equity index annuities (also called fixed index annuities) - from insurance companies that are not highly rated as to their financial strength - are also problematic. (In Australia, when a similar standard was imposed, financial advisors largely discontinued recommending immediate lifetime annuities from insurers with low financial strength ratings). Fortunately, some good low-cost VAs, and immediate annuities from strong insurers exist. [And I hope that financial advisers will increasingly suggest for their retired clients annuitization of a portion of the retirement nest egg over the client's lifetime, given the robust academic support for this approach.]

The underlying investment concept of EIAs is a good one, from the standpoint that they could form a portion of a client's overall portfolio (generally, as part of a fixed income allocation, although other approaches to how EIAs are incorporated into an investment portfolio are possible). But the control by the insurance company of its own profits, the lack of transparency in the products, their complexity, and their high embedded costs create an opportunity for some company to come along and provide a much better EIA from a highly rated insurer.

Cash value life insurance sold as a retirement planning vehicle? Just say no. (The explanation of the tax trap that awaits, the the fees/costs incurred versus the benefits achieved, could occupy a dozen or more pages.) (However, there are instances, such as for asset protection purposes for clients engaged in high-risk professions, that the limited use of such tools can make sense.)

With so much money at stake, the insurance lobby's fight over the DOL rule's continuation, after 1/1/2018, will be brutal. In particular, the insurance lobby has always been among the most powerful in Washington, D.C. But, hopefully, common sense will prevail. But only if we continue to educate policy makers that the imposition of bona fide fiduciary obligations:

• Creates true competition in the marketplace;
• Aids American business;
• Will spur on U.S. economic growth, especially over the long run; and
• Provides increased retirement security to our fellow Americans.

8. We possess an inflection point that accelerates the trend toward fiduciary advice and away from product sales.

The transition from a product seller (paid from products) to a fiduciary adviser (paid by the client) can be a tough one. Especially so when credits must be provided against future advisory fees, due to commissions recently paid. Adviser's compensation may be depressed, at least for a period of time.

Yet, when the transition is made, it is readily apparent that:

   - Clients are happier; they have greater trust in their adviser; and

   - Advisers are happier; they prefer being on the same side of the table as the client.

Advisers who have transitioned from commission-based compensation (product sales) to fee-based compensation (advisory fees, in a fiduciary relationship) report that they enjoy going to work every day. Free from the need to undertake transactions to make a living, they can focus more on the objectives of the client. They tend to increase their own personal counseling abilities.

One can easily question the "value proposition" of many broker-dealer firms today. Especially from the fiduciary adviser's standpoint. Many RIA firms utilize discount brokerage firms as custodians (such as TD Ameritrade, Schwab, Fidelity, and several others). These discount brokerage firms compete to provide their services, to RIAs. The result is often far less costs incurred by clients.

So many registered representatives have left to form, or to join, fiduciary RIA firms in recent years. Yet, one hardly ever hears of advisers that move from RIA firms to broker-dealer firms (or from a fiduciary relationship with their clients to a non-fiduciary one).

The DOL fiduciary rules, even if only effective for 7 months or so, will accelerate the long-observed trend away from commission-based compensation,and toward fee-based accounts.

Questions Remain. In the months ahead, perhaps we will have answers.

    A. How enforceable are the impartial conduct standards today, via private action? Do they, as I have previously written about, constitute implied terms of express contracts? (Even though the DOL does not require during this transition period that the warranties to act in the client's best interests be expressly included in client agreements). If so, then these standards apply to existing IRA accounts that are not grandfathered. And that is a huge event - as the standards would be enforceable by private legal action (judicial actions or, much more commonly, individual arbitration proceedings).

(It is clear that the impartial conduct standards now apply to plans and accounts governed by ERISA, and also now apply during the IRA rollover decision-making process. But I continue to hear varied opinions as to whether the impartial conduct standards can be enforced as to IRA accounts where no IRA rollover takes place, and grandfathering of the account has not taken place.)

    B. Is commission-based compensation for mutual fund sales, such as Class A mutual fund share sales, incompatible with Modern Portfolio Theory (which, in turn, is incorporated into aspects of the prudent investor rule)? Given that asset classes need to be rebalanced - whether you are undertaking either strategic or tactical asset allocation - and that previous funds purchased on a commission basis would need to be sold (at least in part) within what, in some market situations, is a relatively short time, how can the payment of commissions not be deemed a waste of client assets?

   C. Will registered representatives see their U-4s dinged to a very large degree? One of the many things I don't like about B.I.C.E. is that firms can receive additional product-related compensation, but advisers' compensation arrangements must generally be level. That means that the economic incentives of broker-dealer firms and their advisers are different, and distinct.

And this creates, in turn, a terrible risk for advisers. Should clients file complaints and/or sue (or compel arbitration), firms may see the resulting liability simply as a "cost of doing business." Brokerage firms' reputational risks are generally minimal, as such firms can overcome bad publicity by extensive advertising, by blaming occurrences on "rogue brokers," or even by preventing publicity at all (in settlement agreements). But advisers have their U-4 at risk - and the adviser's reputation is everything.

I am concerned that advisers who practice in firms that use B.I.C.E. to receive additional compensation (paid to the firm) are putting themselves at risk. I suggest advisers insist on not using B.I.C.E. (except its requirements, under BICE Lite, for IRA rollovers). And ... no proprietary products. No principal trades. No products that pay 12b-1 fees or other forms of revenue sharing to the firm. And no substantial limits placed upon the adviser's ability to survey the universe of investment products and to recommend the best ones out there.

Again, keep your compensation received from the client completely separate from products fees and costs. When you mix them, bad results will occur.

    D. Will the DOL Rules Be Robustly Enforced in FINRA arbitrations?

I'll leave this question there ... otherwise I'll write 20 pages about FINRA.

These and many other questions exist. Including ... what will the future hold, as to the DOL rule's modification and/or continuation?

Until next time. - Ron

On June 9th Strict Fiduciary Obligations to Arise for Advisors to Most ERISA, IRA Accounts: Are You Ready?

ALL POSTS PRIOR TO 2021 HAVE NOT BEEN REVIEWED NOR APPROVED BY ANY FIRM OR INSTITUTION, AND REFLECT ONLY THE PERSONAL VIEWS OF THE AUTHOR.

April 13, 2017, REVISED June 2, 2017

THE ADOPTION OF THE DoL's "DEFINITION OF FIDUCIARY" AND "IMPARTIAL CONDUCT STANDARDS" - NOW EFFECTIVE JUNE 9, 2017 - WILL HAVE LARGER IMPACTS ON FINANCIAL SERVICES THAN MANY MIGHT IMAGINE.

It was a somewhat surprising, and yet brilliant, move, the U.S. Department of Labor ("DoL") last week announced its 60-day delay of the applicability date of its "Conflict of Interest Rule" and related prohibited transaction exemptions (PTEs). The DoL delayed until Jan. 1, 2018 the many specific disclosure and certain other requirements of the rule and PTEs. However, and most importantly, the DoL stated that the new "definition of fiduciary" rule would go into effect, along with the Impartial Conduct Standards, on June 9, 2017.

In other words, fiduciary duties will apply, starting June 9, 2017, to nearly all ERISA-covered qualified plan accounts [401(k) accounts, and others], as well as to IRAs (of all types) and HSAs.

Note that this is a fairly strict fiduciary standard. The Impartial Conduct Standards impose, through elegant language, a "best interests" fiduciary standard of conduct. And it's a bona fide standard. No waivers permitted of core fiduciary duties. Conflicts of interest (at the firm level, not the adviser level) might exist, but the client cannot be harmed by the presence of such a conflict.

Moreover, the Impartial Conduct Standards incorporate the prudent investor rule (PIR). And the PIR has two tough requirements (among others):

     (1) that fiduciaries avoid idiosyncratic risk (i.e., diversifiable risk); and

     (2) that fiduciaries not waste client assets (i.e., if a mutual fund or ETF has a higher fee than a similar fund or ETF, then you need to justify it.

As I've explained previously, the Impartial Conduct Standards are so tough, you need to avoid gray areas. And that means avoiding the receipt of additional compensation received when recommending one product over another, unless fee offsets occur.

Lastly, despite the delay of the more specific rules requiring acknowledgment of fiduciary status in the contract, along with disclosure requirements and other provisions, as I've written previously the Impartial Contract Terms become implied terms of every contract between a fiduciary and a plan sponsor, plan participant or IRA owner, effective June 9, 2017. (That is, unless the account is, and remains, grandfathered.) In other words, the Impartial Conduct Standards are effective on June 9th, and they "mean business"! (Note, this is not an "implied contract"; rather, it is an implied term in an express contract. Just to be clear.)

There is an exception, however. For "level-fee fiduciaries" the Impartial Conduct Standards only appear to apply during the IRA rollover process, but not thereafter. The IRA rollover process logically includes implementation of the new portfolio, as to the strategic asset  allocation and products set forth in the analysis that was undertaken prior to the IRA rollover. However, precisely when non-rollover activities begin, is uncertain at the present time. Still, due diligence is required (by everyone, regardless of whether they are a level-fee fiduciary) during the IRA rollover process, and the tough Impartial Conduct Standards apply.

WHAT ABOUT ALL OF THOSE OTHER SPECIFIC RULES THAT ARE DELAYED UNTIL JANUARY 1, 2018?

First, firms may comply with them. For example, firms could choose to comply with BICE, or they may use 84-24 for fixed annuities (and, at least until Jan. 1, 2018) fixed indexed annuities.

Second, firms don't have to use these exemptions. They don't have to have all of the compliance procedures in place, the disclosures done in contracts and web sites and otherwise, and possess various express contract language.

But - here's the key - the imposition of fiduciary status, with the Impartial Conduct Standards, carries with it the duty to avoid conflicts of interest. And unavoided conflicts of interest must be properly managed. Not only must the conflict of interest be affirmatively disclosed, but the adviser bears the burden of ensuring client understanding of both the conflict of interest and its implications. Thereafter the informed consent of the client must be received by the adviser. (And, here's the rub - no client is ever likely to provide informed consent to be harmed. And since the academic research is compelling that higher product fees lead to lower returns, all other things being equal, avoiding higher cost products becomes paramount.) Even then, the transaction must be substantively fair to the client.

So, any conflict of interest will trigger the need to undertake disclosures and proper management of the conflict, anyway. In other words, if a firm chooses not to utilize BICE, a firm will find that it still has to come up with disclosures and processes to effectively manage conflicts of interest. So, in essence, not much has changed.

Wow.

At its core, fiduciary duties are principles-based standards. And these principles are eloquently stated in the 237 words that comprise the Impartial Conduct Standards. And, these principles are imposed upon advisers effective June 9, 2017, as they become implied terms of existing contracts (except as grandfathered) and all new contracts between firms and the clients.

What about all of those other provisions - contract terms, disclosures, etc. I submit that most of these specific requirements found in BICE, PTE 84-24, or the other PTEs, don't really matter all that much. Any specific rules adopted just illuminate the fiduciary principles that already exist. Even in the absence of specific disclosure and contractual requirements, the fiduciary standard as applied by the principles-based approach (as set forth in the Impartial Conduct Standards) is extremely strong. In fact, it may even be stronger.

Quite frankly, I hope that BICE is not adopted, nor the new PTE 84-24. Instead, just adopt this principles-based approach, as exemplified in the Impartial Conduct Standards. (A few specific rules may need to be adopted, but nothing like the extensive requirements set forth in BICE.)

WILL THE RULE ACTUALLY BECOME EFFECTIVE ON JUNE 9TH?

There are some eight weeks left, at the time of this writing, until June 9th.

It is possible that the DoL will gain new leadership, and under that leadership that the DoL will seek a new delay (for the definition of fiduciary, and the impartial conduct standards) past June 9th. However, to do so would violate the Administrative Procedures Act. It is just not possible to do a thorough economic analysis (which needs to counter the prior economic analysis undertaken) by June 9th. And, without such occurring, any attempt to substantially delay or to rescind the DOL fiduciary rule would likely be met by a challenge in court.

Also, as others have observed, judges don't like government agencies that do 180-degree turns in their rule-making, simply because a new Administration takes office. (Still, a delay past June 9th is possible, and no doubt broker-dealer and insurance company lobbyists are hard at work to make that happen.)

I've been saying, ever since Trump was elected President, that the DOL Rule was likely dead. Yet, here we are in mid-April, and its core provisions remain eight weeks away from becoming effective. I don't mind, as I would love it if my earlier prognostications are proved wrong.

Other challenges remain. New legislation is being introduced in Congress to stop the DoL. While certain to pass the U.S. House of Representatives, passage in the U.S. Senate is unlikely - provided the Democratic Senators continue to unite together. (Not always a certain thing, especially when Wall Street's money and influence are brought to bear.)

WHAT SHOULD FIRMS AND ADVISERS DO NOW?

First, all firms (whether level-fee or not) should adopt policies and procedures regarding rollovers from ERISA-covered qualified retirement plans and IRAs. Again, please refer to my prior post for insights into what is required. Even if the DoL changes course, other regulators (SEC, states) are stepping up their scrutiny in this area.

Second, broker-dealer firms and insurance marketing organizations should go ahead and implement all of their compliance policies and procedures and plans. If you are going to utilize BICE, or PTE 84-24, or another PTE, by all means go ahead and implement, by June 9th. (You could design new policies and procedures to just apply the Impartial Conduct Standards, without complying with all of the specific, delayed-until-1/1/18 requirements of the PTEs. But then you would likely just be re-doing your procedures again, less than 7 months later.)

Of course, you could wait awhile. To see if the DoL under new leadership (likely to be confirmed by the Senate within the next few weeks) changes course prior to June 9th. Or you might wait to see if the U.S. Congress is able to pass legislation that stops "fiduciary" in its track. How long you can wait depends on how long it takes to implement policies and procedures, implement the systems you require, education your staff, etc. For most firms, they can't wait much longer.

Third, advisers whose firms choose to utilize BICE should be wary, and they may desire to consider a move to a firm that embraces a truer fiduciary environment. Advisers in firms that choose to use the PTEs will likely be placed in a situation where their economic interests are not aligned with those of their firm. Firms may see the additional revenue streams that come from conflicts of interest as too tempting; any claims brought (and they will be brought, at least by some fraction of clients) will just be subjected to negotiation, arbitration and some losses to the firms. But, absent the availability of class-action claims, compensation provided to those individual clients who actually pursue claims will just be a "cost of doing business." Any damage to a firm's reputation is easily fixed.

Because of this (and for other reasons), some large firms (e.g., Merrill Lynch) are choosing to not utilize BICE, and instead will move to adopt level-fee compensation for IRA accounts; this is not only good for consumers, but also good for the long-term health of the firm and of its advisers.

When combined with the use of low-cost mutual funds or ETFs, structured by experienced portfolio managers following evidence-based investing practices, it is likely that this approach will lead to far less claims by clients against their advisers and firms. In other words, much less liability, and much less reputational risk for the adviser. Advisers' reputations are not easily fixed, and marks on the advisers U-4 are likely to stay there for decades to come.

Quite frankly, if I were in a broker-dealer firm that wanted to use BICE, I would find another firm.

There is just too much risk to you (the individual adviser), and to your reputation, in using BICE. Proper adherence to BICE does not really provide any real benefit to you (compared to just providing level fee advice) - but it can cause you a lot of headaches.

I predict that a shakeout will occur. Advisers who don't desire to fully embrace the fiduciary standard will shift to firms that use BICE, and they will choose to assume the reputational and fiscal risks that accompany such a choice.

But the most excellent, ethical advisers will (more slowly) move away from firms that use BICE. For these advisers will realize that old writ, "A man cannot serve two masters," has a lot of truth to it.

When (such as under BICE) firms can receive greater compensation if their advisers recommend one product over another (even though the adviser receives no greater compensation as a result), over time such firms will ask their advisers to venture into the "gray." And, as a result, individual advisers will be brought into arbitrations, and have their U-4 dinged. Not fun. No conducive to having a long-term and successful career as a financial adviser.

RAMIFICATIONS OF THIS NEW FIDUCIARY ERA.

Absent another change of direction by the DoL prior to June 9, 2017, a new era is upon us.

At least for IRA accounts, salespeople will become fiduciaries. Instead of pushing products, they will be required to step into the shoes of the client, with all the required expertise expected, and to select the best products in the marketplace for their clients.

• Some will be able to make this transition. Others, stuck in a "sales mentality," will not. The latter will eventually leave firms that seek a proper transition away from the sell-side and to the buy-side.

Broker-dealer firms will continue to diverge in their approaches to the rule.

• Some with weak leadership and poor foresight will chose to use the PTEs (including BICE), as they continue to seek revenue-sharing and other arrangements. But, the harsh reality is that additional third-party compensation, to recommend one product over another, will just result in liability.
• Firms with strong leadership will realize that the fiduciary tide has turned, and they will choose to work to adopt level-fee compensation and a true fiduciary culture. It will take massive efforts to do this correctly.

Advisers will increasingly shift from one firm to another. Many of the older advisers, who want to try to remain as salespeople and who don't want to become true fiduciaries, will migrate to firms that will utilize BICE and the other PTEs. Those firms will welcome such advisers. But it's a devil's bargain - for both the firm and the adviser. It will trigger an inevitable decline in morale at the firms, as claims begin to be asserted for improper management of conflicts of interest. Even journalists in the consumer space will take note - and begin telling their readers to avoid firms that utilize BICE and the other PTEs.

Then, new advisers in firms that request the advisers to use BICE and the other PTEs, rather than level compensation, will eventually wise up and depart for a purer fiduciary pasture. They will move to broker-dealer firms (dual registrants, such as Merrill Lynch) that adopt level-fee compensation. Such firms are protecting their own good will, and the reputations of their advisers. In other instances, advisers will join RIA firms, eschewing the historical "sales culture" of wirehouses altogether in favor of a more client-centric, true fiduciary business model.

• Independent B/Ds that don't adopt a true fiduciary culture will also see an exodus.
• BDs affiliated with insurance companies will likely see the first major exodus. Fiduciaries don't want to be pressured to sell expensive products (including cash value life insurance that most consumers don't need).

Asset managers (i.e., product manufacturers) will undergo massive changes. Fees will fall (as indeed they already have, though more in coming). Advisers will scrutinize more intensely the apparent low-cost index funds and ETFs for "hidden fees" - such as diversion of securities lending revenue, higher-than-appropriate payments to affiliated service providers, and payment of soft dollars. This will lead to another shakeout among asset managers. Only those asset managers that quickly and truly lower their "total fees and costs" and, in the process, gain market share, will survive.

LOSERS.

Every broker-dealer firm and dual registrant that does not adopt a level-fee approach, eschewing the use of BICE and the other PTEs. Over time, since the economic interests of the fir and the adviser are not aligned, the good advisers will flee such firms.

Advisers who don't move to become true fiduciaries. Their days are numbered. Sure, they'll hang around for a dozen or so years. But eventually they will be out of the business.

Insurance companies. Most won't have the products that fiduciaries are able to recommend. (A few will thrive, but just a few low-cost providers.) Time to sell stock in many of these companies!

• Want to sell high-cost variable annuities, whose 3% to 4% total annual fees and costs make the "guarantees" offered somewhat illusory? Fiduciaries know that the cost-benefit analysis leads, 99% of the time, to a "just say no" answer. High-cost VAs will disappear.
• Want to sell fixed indexed annuities, and fixed annuities, from low-rated insurance companies (in terms of their financial strength)? Fiduciaries can't do this. Fixed annuities from low-rated insurance companies will see their sales decline. (See further discussion of EIAs, below.)
• Want to recommend cash value life insurance as an "income tax free" vehicle for retirement savings? Fiduciaries can't do this (except when asset protection reasons exist, and there is no better alternative to meet the asset protection need). Cash value life insurance sales, which have already declined by 50% over the past decade, will continue to decline.

Higher-cost mutual fund complexes. When you create an army of expert fiduciary advisers to scrutinize products, only the best will survive.

Variable annuities? The high-cost ones, which often possess 3% to 4% (or more) annual total fees and costs, won't survive. Lower-cost ones will survive. Look for stripped-down versions of annuities (some already exist).

Equity-indexed annuities (EIAs)? Most won't survive. Anytime a fiduciary recommends the purchase of a fixed annuity from an insurance company with low financial strength, the fiduciary's judgment will be (rightfully) questioned. And, many claims will be brought against advisers recommending EIAs because the actual returns seen will often be far less than the returns that are illustrated (a fact a good fiduciary would know, and disclose, prior to recommending the product). Insurance company control over the level of profits it makes (via control over participation rates and caps, and by other means) will also be questioned.

• [It is possible that good EIAs might appear in the marketplace - designed with transparency in mind and with low cost structures and from insurance companies with very high financial strength ratings. (If you know of any in the marketplace, drop me a line!)]

Revenue sharing, including 12b-1 fees? They will disappear, over time. Within a few years, the marketplace will be transformed into a "level compensation" environment. Rather than keep track of "fee offsets" (a difficult and expensive system to adopt and maintain), firms will become revenue-sharing-free and commission-free. The marketplace will put an end to 12b-1 fees, payment for shelf space, soft dollar compensation and other forms of revenue sharing - long before the SEC acts in this area.

Proprietary product recommendations? Eventually, they will largely disappear. You just can't represent the seller (your firm, or its affiliate, producing and selling an product) and the buyer (the client) at the same time. Eventually the investment community will come to realize this. Proprietary products will be shed by BD firms - a movement that began over a decade ago will accelerate.

Principal trading? Same result. It will be difficult in most instances for a fiduciary to justify a principal trade, unless they can prove that it is in the client's best interests. Let's be frank - principal trades make BD firms more money than agency trades. And it can lead to the dumping of securities. And other practices adverse to clients' interests. Except in a few cases (such as in a few states, where limited dealers of muni bonds exist), BD firms will migrate more to serving in an agency role, rather than as a principal. Perhaps the long-awaited split of brokerage away from dealers (that FINRA, f/k/a NASD, boasted that it was able to negate, in the 1940's) will finally occur. Again, from marketplace pressures, not due to explicit regulation. (This will take time.)

FINRA. It's opposition to the application of fiduciary duties to fee-based accounts in 2005, and its stated opposition to the DoL fiduciary rule (in favor of a new "best interests" standard that is anything but), will come back to haunt them. More and more Senators and Representatives in the U.S. Congress will question why FINRA even exists, given its opposition to raising standards of conduct, as evidenced by its actions over many decades. Increasing calls will occur for market conduct regulation to be stripped from FINRA, and given to a combination of the SEC and the states, or perhaps to a new professional regulatory organization (new formed, or adapted from an existing professional organization).

WINNERS:

Large and small business owners (i.e., plan sponsors). They will be served by fiduciaries. In class-action litigation, they won't be left hanging out to dry, while their "retirement counselors" hide behind the shield of "suitability." Also, 401(k) product fees will continue to plummet, as fiduciary advisers rush to ensure participant funds are not "wasted."

401(k) plans. More small businesses will offer them, once their fears of liability are diminished, through the receipt of fiduciary advice from advisors that can be held accountable if things go wrong.

Plan participants and IRA account owners? Huge winners. Individual client portfolios will be (largely) managed under the dictates of the prudent investor rule. Lower fees and costs result. Less risk will be assumed by individual investors in many instances. And greater portfolio returns, especially over the long term, will flow to the individual investors. As a result, our fellow U.S. citizens will amass greater amounts for their retirement needs, and during retirement their nest eggs will be managed far better.

Lower-fee fiduciary advisers will gain market share. Including robo-advisers (although challenges exist for the "pure" robo in terms of providing the necessary advice without human intervention). Better yet will be the "hybrid" advisers - where personal contact is offered at the onset of the client relationship, and periodically thereafter. Individual advisers will team up with robo-advisor solutions, to more efficiently serve clients.

But, fears of the requirements of "reasonable compensation" are overblown. Generally, courts don't like to delve into this issue, and will permit the marketplace to set fees. We'll still see AUM fees of 1% and greater, especially when financial planning and life planning services are provided as part of such fee.

Lower-cost mutual fund and ETF providers will see large market share gains. But only the best will survive. Any attempts to "hide" fees (through excessive sharing of securities lending revenue, high payments to affiliate, payment of soft dollars) will eventually be unveiled by the army of expert fiduciaries.

Winners will likely be Dimensional Funds Advisors (DFA) and Vanguard. DFA offers compelling offerings with its core equity funds, providing high levels of exposure to several factors for relatively low cost. DFA also has excellent tax-efficient funds, and tax-efficient stock mutual funds will become necessary in taxable accounts as the fiduciary duties spread. But, over time, DFA will be challenged by the emergence of more multi-factor funds and ETFs; continued innovation by DFA may, however, keep them ahead of the rest of the pack.

Vanguard has a number of very-low-cost funds and ETFs, although it lacks offerings in some key asset classes. And it lacks broad market fund with multi-factor tilts, designed to minimize transaction costs and to promote tax efficiencies. If Vanguard can expand its offerings more intelligently than it has in the past, it could become even larger.

Some low-cost, but not always exceptionally low-cost, fund complexes will survive, at least for a while. TIAA-CREF and Fidelity come to mind. Over time, they will need to continue to lower their fees, to adequately compete. Otherwise their market share will slowly decline.

The possible elimination of 403(b) plans during tax reform [in favor of just having 401(k) plans] could also serve as an impediment to TIAA-CREF, to some degree. During any changeover many formerly 403(b) plans will likely re-examine their choice of investment adviser.

Some of the lower-cost ETF providers will survive, but others will fall by the wayside. It all depends on which ones become the low-cost leaders, achieve full transparency on fees and costs, and survive the waves of extensive due diligence that will be coming. Again, asset managers that aggressively cut fees and costs (not just the annual expense ratio, but also transaction and opportunity costs and diversion of revenue sharing dollars), and who go for market share, will likely be the survivors.

Many Discount Brokers/Custodians. TD Ameritrade, Schwab, Fidelity, and others will continue to grow as more and more independent RIAs and independent BDs require custodial services. Some challenges exist, but as RIA firms and independent BDs continue to gain market share, then these custodians will continue to benefit. Especially if the custodians, themselves, eschew conflicts of interest in their own practices.

Under the Impartial Conduct Standards, some practices of mutual fund complexes and custodians - such as providing "free" educational conferences (even if the participants pay their own travel costs) - will need to be altered. Don't be surprised to see all custodians start charging fixed fees for conference attendance, and even annual fees for access to trading software, rebalancing software, and research. Small RIAs will bear the brunt of such fees, and it will increase the cost of entry into this investment advisory profession.

The U.S. Economy and U.S. Corporate Profits. A huge win. Greater accumulation of capital results, accelerating over time. This lowers the cost of capital for U.S. companies, and provides the fuel for U.S. economic growth.

Professional Associations, Generally? Too soon to tell. But, generally, as the members of FPA, AICPA/PFP division, NAPFA, CFA Institute, and CFP Board converge around common standards (such as the fiduciary standard), these organizations begin to look more and more the same. And, as conference sponsorship revenues fall (especially as high-cost product providers evaporate), financial pressures may be brought upon them to merge, or at least become more closely aligned. Some organizations may share common technology (web-based software) platforms, for example, to save fees, costs and staffing expenses.

Certified Financial Planner(tm) Certification? A clear winner. The way you distinguish yourself, in a fiduciary era where everyone is using low-cost products, is to offer financial planning. And providing financial planning in different ways, to fit the desires of different clients, will become necessary.

An embrace of life planning with further add to the CFP(r)'s value proposition, and will stem the rise of "artificial intelligence" to provide financial planning advice.

Also, the Certified Financial Planner(tm) certification has become the most recognized among consumers (although much work remains in that area); I don't see any other designation being close to challenging the CFP mark, in terms of consumer awareness.

Newly Minted CFPs. Firms' demand for newly minted CFPs will soar. College undergraduate programs may well see the number of graduates rise, especially as a larger number of "good jobs" and internships become available as firms shift toward fiduciary business models. Problems continue in attracting minorities and women to the field, but efforts will continue to be made.

There are significant differences in the level of education provided in some college programs, versus many of the certificate programs that "teach to the CFP exam." These distinctions will become more widely known, and firms may begin to recruit more heavily from top-tier university programs that teach all aspects of financial planning and investments, including client relationship management skills and foundational knowledge as to the use of various software.

For example, the depth of the corporate finance / investments background that Financial Planning Track graduates of Western Kentucky University receive, along with training in networking and ongoing enhancement of interpersonal skills, will set these graduates apart. If demand increases for our graduates from firms practicing under the fiduciary standard, then WKU will be willing to expand its programs to increase its number of graduates.

Other institutions will become known for producing graduates with an emphasis on financial counseling, or who also possess strong business education, or for more in-depth practice management knowledge. The CFP Board will continue to evolve its student learning objectives, however, thereby providing a core common course of study that binds all of the university programs together.

Chartered Financial Analyst designation? The CFA is most respected designation, within the larger financial services industry. But will it further shed its security analysis roots, and embrace more comprehensive education and testing around "wealth management" (i.e., financial planning plus investment portfolio management)? Will it survive the passive investment research onslaught? Don't get me wrong - we'll always have securities analysts (for without them, the market would not be as efficient as it is now). And we'll need investment bankers (although I predict investment banking fees will diminish over time, especially for equities). The question is how many securities analysts will be hired, in the future, as technology continues to displace workers in this area and as the number of actively managed portfolios decline.

CPA/PFS designation? Likely a boost, over time. Simply because, as trust in financial advisors becomes more widespread among consumers, the demand for all financial planning services will rise. The question is whether the CPA/PFS becomes aligned with the CFP(r) designation, in some fashion. The CFP has greater brand recognition (as a financial planning designation). But the CPA designation is perhaps the most highly trusted by consumers, and the required tax and financial planning knowledge to become a CPA/PFS continues to make it one of the few premier designations available today. A closer alignment between CFP and CPA/PFS could be undertaken, if visionaries exist along with those who can make it happen.

TRANSFORMATIONAL. 

That's what the June 9th date promises.

But only if the DoL's Definition of Fiduciary and Impartial Conduct Standards are actually implemented on that date. Eight weeks is a short time, but it is also a long time - in terms of what could happen in Washington to derail the new June 9th applicability date for the core, important parts of the DoL rules.

Let's hope that June 9th arrives with the application of the broader definition of fiduciary and with the application of the Impartial Conduct Standards. For on that day, the financial planning and investment advisory emerging profession(s) will take a huge step forward toward laying further foundations for a true profession someday.

Ron A. Rhoades, JD, CFP(r) serves as Director of Western Kentucky University's Financial Planning Program. He is also a tax and estate planning adviser, a Certified Financial Planner, and a registered investment adviser. He frequently consults to firms on the application of the fiduciary standard of conduct, and he is a frequent speaker on fiduciary standards generally as well as investment due diligence.

This blog is written on his own behalf, and does not represent the views of any institution, firm or organization with whom he may be associated.

For questions, comments, suggestions, and inquiries, Please contact Ron via e-mail: ron.rhoades@wku.edu.