You have probably heard a lot of buzz lately about the U.S. Department of Labor’s proposed “fiduciary rule,” which would significantly expand the types of financial advisors who are considered fiduciaries, and therefore owe a fiduciary duty to their clients. The rule is intended to apply to advisors who manage or give advice about retirement assets, such as IRAs, SIMPLE IRAs, Roth IRAs, and 401(k)s. But what is a fiduciary duty? How does a fiduciary duty differ from other standards governing financial advisors? And most importantly, how can you tell whether your financial advisor is a fiduciary? Find out below:
Financial advisors who are considered “fiduciaries” owe a fiduciary duty to their clients. This means that they have a fundamental obligation to act in the best interests of their clients and to place their clients’ interests above their own. A fiduciary has a duty of loyalty to the client and a duty of care with the client’s assets. A fiduciary also must avoid any conflicts of interest—such as steering a client toward investments that pay the advisor a high commission or fee, when other investments are available that achieve the same goals but pay a smaller or no commission or fee. Similarly, a fiduciary is obligated to fully disclose any potential conflicts of interest between himself and his client, so the client can make an informed decision. He also must do his best to ensure that any information given to a client and upon which a client will rely is accurate and complete.
Financial advisors who are not fiduciaries are governed by a “suitability” standard. Generally, advisors who work for stock brokerage firms are governed by the suitability standard. This standard is far less onerous than a fiduciary duty. Under a suitability standard, an advisor simply must have a reasonable basis for believing that a recommended investment is suitable for his client at the time of investment. Importantly, a financial advisor acting under a suitability standard has no duty to place his client’s interests above his own or to disclose potential conflicts of interest to his client. The proposed “fiduciary rule” aims to change this by imposing a fiduciary duty on financial advisers who give advice concerning retirement assets. But until the rule goes into effect, the less rigorous suitability standard is the only regulation governing many financial advisors.
Generally speaking, “investment advisors” who accept the responsibilities of the Investment Advisors Act of 1940 are considered fiduciaries and owe a fiduciary duty to their clients. Investment advisors who have sufficient assets register with the Securities and Exchange Commission (“SEC”); those with fewer assets register with state authorities. On the other hand, “brokers” or “dealers” operate under a different set of securities laws, and are individuals or firms that execute buy and sell orders for securities through a stock market for a fee or commission. They are often known as “stockbrokers.” Stockbrokers are regulated by the Financial Industry Regulatory Authority (“FINRA”), are not considered fiduciaries, and currently, are governed only by the suitability standard.
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Looking for questions to ask your financial advisor to determine whether they are really putting your best interests first? Check back later this month for part 2 of this blog series.