Reg BI: What’s In It, What Isn’t

Regulation Best Interest, a three-part rulemaking package aimed to establish a standard of conduct for broker-dealers, will better protect investors, the SEC said.

The newly adopted rule comes just one year after the Department of Labor’s fiduciary rule was vacated.

The timing is about all the two pieces of regulation have in common. The final version of Reg BI is a whopping 771-page tome, noticeably longer than the proposal.

Takeaways from the regulation:

1. There’s still no definition of “best interest” – Missing from the proposed rule, the SEC has chosen not to include a definition of the phrase in its final rule, either.

“A majority of the IAC [Investor Advisory Committee] recommended that the meaning of the best interest obligation should be clarified to require ‘broker-dealers, investment advisers, and their associated persons to recommend the investments, investment strategies, accounts or services, from among those they have reasonably available to recommend, that they reasonably believe represent the best available options for the investor.’

After careful consideration of these comments, we continue to believe that our proposed approach for enhancing the standards of conduct that apply to broker-dealers’ recommendations to retail customers is the appropriate approach, and therefore we are adopting as proposed the structure and scope of Regulation Best Interest, including the phrasing of the General Obligation, and are not expressly defining ‘best interest’ in the rule text.”

2. Title reform dropped – the final rule omitted a section of the proposed rule restricting the use of adviser/advisor by broker-dealers. The final legislation does elaborate that dual-registrants would be privy to using whichever title best describes their registration status.

“Although using these names or titles creates a presumption of a violation of the Disclosure Obligation in Regulation Best Interest, we are not expressly prohibiting the use of these names and titles by broker-dealers because we recognize that some broker-dealers use them to reflect a business of providing advice other than investment advice to retail clients.”

3. Maintains distinction – Although the changes embrace some of the fundamentals of a fiduciary standard for broker-dealers, the rule maintains separate standards for investment advisors and broker-dealers with the exception of dual-registrants who are subjected to Reg BI’s terms and conditions when they are acting as a broker-dealer. Additionally, the dual-registrants are subjected to the Investment Advisers Act when they are acting in that capacity and providing advice.

“Dual-Registrants: We are providing additional guidance on how dual-registrants can comply with Regulation Best Interest, and confirming that Regulation Best Interest does not apply to advice provided by a broker-dealer that is dually registered as an investment adviser (‘dual-registrant’) when acting in the capacity of an investment adviser, and that a dual-registrant is an investment adviser solely with respect to accounts for which a dual-registrant provides advice and receives compensation that subjects it to the Advisers Act.”

4. “Without regard to” eliminated – a major point of contention in the SEC’s proposed legislation was the phrase “without regard to.” The Commission felt the phrase could be misconstrued to mean that broker-dealers would need to eliminate all conflicts when making recommendations, which is not the case. The SEC heavily elaborated on the interpretations of the phrase used by the Dodd-Frank Act and the DOL rule.

“We also agree with commenters that we do not believe that is the intent behind the ‘without regard to’ phrase, as included in Section 913 of the Dodd-Frank Act or recommended in the 913 Study, as is evident both from other provisions of Section 913 that acknowledge and permit the existence of financial interests under that standard, and how our staff articulated the recommended uniform fiduciary standard in the 913 Study. Nevertheless, we are concerned that there is a risk that the ‘without regard to’ language would be inappropriately construed to require a broker-dealer to eliminate all of its conflicts when making a recommendation (i.e. Require recommendations that are conflict free), which we believe could ultimately harm retail investors by reducing their access to differing types of investment services and products and by increasing their costs.”

5. Preemption - Since the defeat of the DOL rule, states such as New York and Nevada have enacted their own fiduciary rules. The SEC declined to say in the final legislation if Reg BI would preempt those enacted by state legislatures, pointing to judicial proceedings to determine the future of the state-enacted laws.

“Whether Regulation Best Interest would have a preemptive effect on any state law would be determined in future judicial proceedings, and would depend on the language and operation of the particular state law at issue.”

AdvisorNews Managing Editor Cassie Miller may be reached at cassie.miller@Adnewsfeedback.com. Cassie has an extensive background in magazine writing, editing and design. Follow her on Twitter @ANCassieM.