Current Events – The Fiduciary Rule

Originally signed into law in 2016 under the Obama Administration, the Department of Labor’s Fiduciary Rule (DOL rule) was set to take effect this month. However, several weeks ago, the implementation of this rule has been delayed.

The DOL rule was intended to require that any financial services professional giving advice for compensation on a retirement account be held to a fiduciary standard. In other words, they would have to act in their client’s best interests, among other requirements.

In the past few months, as a possible delay of this rule has gained traction as a mainstream news story, I have had a number of conversations with people over the nature of financial advice.

“Wait, so a financial advisor doesn’t have to act in my best interest?” has been a common refrain. It’s perplexing to people unfamiliar with our industry that a financial advisor would have the latitude to not act in their client’s best interest. It depends on entirely how the individual “financial advisor” is registered and who he/she works for.

What Exactly is a Financial Advisor?

Financial Advisor” is a bit of a nebulous signifier these days. If someone tells me they are a financial advisor that could mean they do financial planning, investment management, securities trading, insurance sales, financial coaching, tax management, wealth transfer, 401(k) administration, and/or a variety of other tangential tasks in the world of personal finance.

In addition to this, and more pertinent to this post, someone claiming they are a financial advisor can have disparate ways in which they are regulated and compensated.

Generally, financial advisors fall into one of three camps:

  • Investment Adviser Representatives – Employees of a Registered Investment Adviser, regulated by individual states or the SEC. These advisors must always act as fiduciaries in the best interests of their clients. This is what Ferguson-Johnson Wealth Management and our advisors are.
  • Registered Representatives – Employees of a Broker-Dealer regulated by FINRA. These advisors are held to a suitability standard when making recommendations to clients (more on this later).
  • Dual Registered – Employees of Hybrid firms that can ‘switch hats’ to be an Investment Adviser Representative or a Registered Representative as wanted/needed.

Only individuals that act as #1, 100% of the time, are true fiduciaries that must act in the best interest of their client at all times. Personally, I think it is ridiculous that individuals can call themselves a “financial advisor” and not hold themselves to this standard.

Fiduciary Financial Advisors

As mentioned above, only Investment Adviser Representatives (such as the advisors at Ferguson-Johnson Wealth Management) are required to act as fiduciaries at all times with their clients. This means these advisors must act in their client’s best interest and always place the interests of the client above any personal interest.

Most notably, fiduciary advisors are fee-only and receive compensation solely from their clients. This means they do not receive commissions from investments, products, or services they may recommend in the course of their advice. Furthermore, a fiduciary advisor must clearly disclose conflicts of interest when and if they arise.

The Fiduciary Standard for Financial Advisors

At Ferguson-Johnson Wealth Management, we hold ourselves to a fiduciary standard. In our role as fiduciary, we are legally obligated to act in good faith and put your best interests first. You might expect that every advisor provides the fiduciary standard of care, but this is not the case. For example, brokerage firms are only required to meet the suitability standard.

Non-Fiduciary Advisors

These individuals are held to a “suitability” standard when making recommendations to a client. Under this standard, brokers have a great deal of latitude when doling out advice to a client. As long as an investment is suitable to the client’s risk profile, time frame, and objectives they may recommend the product irrespective of better and/or most cost-effective alternatives.

This creates the problem of brokers selecting products and services that pay them favorably while ignoring products that may be better for the client which don’t compensate the broker as well.

This isn’t to say that all individuals acting as brokers are trying to take advantage of their clients. I would venture that most acting in this capacity are genuinely trying to do right by the people they serve. However, the concern is that this model leaves the door open to less than ideal advice for the client.

In my opinion, the central problem of this model is that the broker’s loyalty is to the broker-dealer he/she works for (and themselves), not necessarily their clients.

What Is the Suitability Standard?

The suitability standard calls for making recommendations which are merely consistent with but not necessarily in the best interests of the underlying customer. Advisors at brokerage firms are paid by commission rather than by fixed fees. In our view, this creates an inherent conflict of interest because the advisor provides advice about suitable investments that offer the advisor different levels of compensation.

Because we adhere to the fiduciary standard, you can be confident that the investment advice we provide is designed to best serve your needs.

How Can I Tell if Someone is a Fiduciary Financial Advisor?

A good starting point for determining whether someone is a fiduciary financial advisor is by looking them up through the SEC’s adviser search tool. If their firm (and by extension they themselves) acts as a Registered Investment Adviser, they will have what is called a Form ADV Part 2A filing available to be viewed online. This document is a plain-English brochure of the firm’s services and compensation methods.

However, as I mentioned above, some financial advisors are dual registered. This means they can act as a broker some of the time and an investment adviser at other times. This creates a transparency issue when trying to determine whether an advisor will truly have your best interests in mind.

These advisors will typically have a Form ADV Part 2A on file with the SEC or state regulators, but there will be disclosure concerning their dual registration. Another way to tell if your advisor is a fiduciary is by reading the disclosures on their website. For instance, Ferguson-Johnson Wealth Management has the following disclosure:

Investment advisory services offered through Ferguson-Johnson Wealth Management, a registered investment adviser. This site is published for residents of the United States only. Investment Advisor Representatives may only conduct business with residents of the states and jurisdictions in which they are properly registered.

Dual-registered firms will have the above disclosure, as well. However, they will also have a disclosure relating to the manner in which they offer investment products such as this:

Company XYZ makes available products and services offered by XYZ, a registered broker-dealer and Member Securities Investor Protection Corporation (SIPC). Insurance and annuity products are offered by DDT, a licensed insurance agency and wholly owned subsidiary of XYZ.

Unfortunately for investors, these distinctions and considerations about employing a financial advisor are complicated. It should not be this hard to identify and obtain objective, fiduciary advice concerning your finances.

If you are just starting your search for a fiduciary advisor, consider utilizing a resource such as National Association of Personal Financial Advisors (NAPFA) or Fee-Only Network. Membership in these organizations is contingent upon an advisor being a true fiduciary.

Another approach, that is becoming more and more common, is the practice of clients having their advisors sign a Fiduciary Oath. True fiduciary advisors should have no problem signing an Oath. If you’re unclear of your advisor’s duty of care to you and your family, request they sign an Oath. They will either happily oblige or they may skirt the issue. If the latter occurs, it may be time to consider a change.

Regardless of the end result of the Department of Labor’s application of the Fiduciary Rule, our firm were fiduciary advisors before, are fiduciary advisors now, and will be fiduciary advisors in the future.

Are You Ready to Speak with a Fiduciary Financial Advisor?

Use our guide of questions that are essential to ask an advisor before you hire them.

20 Questions to Ask a Financial Advisor

Don’t make a mistake by working with the wrong financial advisor. Ask the right questions to determine if a financial advisor is right for you.