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Fiduciaries, Broker-Dealers, and Regulation BI

February 24, 2021 | By Katharine George, CFP®, AEP®
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Your relationship with your financial advisor should be grounded in trust, competence, and mutual interest. As an investor, your expectations are that your wealth management firm offers the sort of guidance that delivers you the best possible outcome—even if that outcome means they receive fewer commissions or fees.

The world of wealth management can be divided into two branches – the Registered Investment Advisor (RIA) branch and the Broker-Dealer branch. From an outsider’s perspective, it’s almost impossible to notice the difference.

It used to be relatively easy to explain the pros and cons of RIAs and broker-dealers. RIAs were labeled as “fiduciaries” – a term broker-dealers were unable to label themselves. Working with a fiduciary meant receiving guidance based on your best interest, both in the present moment and into the future. But a recent ruling called Regulation-Best Interest has made the distinction of “fiduciary” between the RIA world and the Broker-Dealer world a little more difficult to distinguish.

What is a Fiduciary?

A fiduciary is an advisor who is legally bound to always act in their client’s best interest. Fiduciaries are required by law to disclose any and all conflicts of interest to their clients. They must do their best to ensure their advice is made using accurate and complete information, and after completing a thorough analysis.

RIA’s are legally bound to the fiduciary standard as part of being regulated by the SEC and are required to file a Form ADV. This public form discloses how an advisor is paid, their investment strategy, and any current disciplinary or legal actions taken against them. Wealthstream Advisors is a registered investment advisory firm, and we are fiduciaries.

What are Broker-Dealers?

Broker-dealers are firms that are in the business of buying and selling securities. Brokers, or registered representatives, are the individuals employed by the firm who arrange the transactions. They earn money through commissions or mark-ups on securities including in some cases their own proprietary financial products. Brokers might label themselves financial advisors or wealth managers, but at the end of the day, they are also incentivized to sell product.

Fiduciaries vs. Broker-Dealers

Fiduciaries sell guidance and advice. With fiduciaries, conflict of interest is not a concern because protecting and growing your wealth is their interest. Commissions and mark-ups do not enter the picture.

Brokers used to be required to meet what is known as a “suitability standard.” That means instead of being legally bound to place a client’s interest above their own, brokers were required to reasonably believe their recommendations were suitable for the client at the time they were made. As you might imagine, this leaves much up to interpretation. 

How Does Regulation Best Interest (Reg-BI) Change All of This?

The 2019 SEC ruling Regulation BI went into effect on June 30, 2020. It is an improvement for broker-dealers; however, it is still not as stringent as the fiduciary standard. Yet, broker-dealers may use this new ruling to act as if fiduciaries and broker-dealers are now the same.

Reg BI requires brokers to act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the broker-dealer ahead of the interests of the retail customer. They must also disclose information about why the recommendations were suitable.

There are still questions surrounding Regulation BI’s definition of “best interest” and it may not be as strictly defined as it is through the fiduciary standard. The fiduciary standard requires advisors to always act in the best interest of the client, not just at the time the recommendation was made.

The Fiduciary Advantage

We believe Regulation BI’s disclosures are too subjective and potentially misleading. Additionally, there is little clarity on how Regulation BI addresses specific issues, like when a financial professional is dually registered with both an RIA and a broker-dealer, as many are. We would argue that Regulation BI could lead to customer confusion regarding which hat their financial advisor may be wearing—RIA or broker—at different points in their relationship.

Despite the SEC’s new ruling, we believe that fiduciaries remain the top choice when it comes to putting the client’s best interests first. Fiduciary duty ensures that a client’s best interest is the standard throughout the relationship. And when commissions are taken out of the picture, client and advisor interests become one and the same.

Regulation BI blurs the line between RIA and broker-dealer standards and makes it harder for consumers to determine who is a fiduciary and who is not. If you’re speaking to a financial advisor for the first time, put a premium on the million-dollar question: “Are you a fiduciary?”

Wealthstream Advisors, Inc. ("Wealthstream") is a registered investment adviser. Additional information, including management fees and expenses, is provided on our Form ADV Part 2 available upon request or at the SEC’s Investment Adviser Public Disclosure website, Past performance is not a guarantee of future results.

The views expressed are those of the author as of the date noted. Material discussed is meant to provide general information and it is not to be construed as specific investment, tax, or legal advice.

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