April 15, 2016
Investor’s Business Daily
by Morey Stettner
April 6, the Labor Department issued a regulation to raise the standard for investment advice to retirement savers. Brokers and other financial professionals who help investors with retirement accounts must now act in the best interest of their clients.
For those financial advisors registered with the Securities and Exchange Commission, the new rule has limited impact because they must already meet the “fiduciary” standard. Brokers, on the other hand, had been held to a “suitability” standard, which meant that they had to give retirement investment advice that they reasonably believed was suitable for each client.
The Labor Department’s regulation marks a milestone in retirement planning, changing the investment advisory landscape in significant ways. Many advisors see it as a teachable moment — a chance to educate clients about different types of investment vehicles and how financial professionals earn compensation for selling these products.
“The word ‘fiduciary’ gets bantered around so much that you sometimes get that deer-in-the-headlights look,” said John Gugle, a certified financial planner in Charlotte, N.C. “We’ve long advocated for the implementation of a fiduciary standard of care for all advisors, and this ruling is a great first step. You should always put your client’s interest ahead of your own with a compensation structure that demonstrates that.”
Ford Vs. Toyota?
Part of the challenge for advisors is finding a simple way to convey to clients the difference between the fiduciary and suitability standards. Investors may assume that a suitable product fits their retirement needs, but they may not realize how their broker, insurance company or other financial-services provider earns fees and commissions — and how those earnings affect the provider’s advice.
Peter Lazaroff, a certified financial planner in St. Louis, uses a car analogy. He asks clients to imagine they’re shopping for a new car, and the dealer asks what features they want.
“You list features that are best met with, say, a Toyota (TM) Highlander,” he said. “But you happen to be at a Ford dealership. Under the suitability standard, the dealer could say a Ford (F) Explorer would meet all your needs, so you buy it, and the dealer gets the commission. You have a car that’s suitable for you, but it isn’t necessarily what’s best for you.”
Under the fiduciary standard, Lazaroff explains that the dealer might say, “It sounds like you’re describing a Toyota Highlander. We don’t sell those. I sell a similar model, a Ford Explorer.”
“The new rule is an opportunity to remind our clients how advice is generated, what’s driving that advice and how [financial professionals] are compensated,” Lazaroff said. “Is the car dealer really so bad for showing you a car that’s suitable? There are a lot of good people doing it the right way who are held to a suitability standard. We just want people to understand the difference better.”
The Labor Department’s regulation came after a year of discussion. Interested parties — from big brokerage firms to consumer advocates — chimed in on the proposed changes.
The public comment period has helped raise investors’ awareness. Even if they’re not steeped in the details, they know what questions to pose.
“Over the past year, I’ve had more people ask, ‘Are you a fiduciary?’,” said Erika Safran, a certified financial planner in New York City. “They’re more interested in how I’m compensated, which I think is great.”
Safran adds that when a client meets with an advisor, “there’s this implied level of trust.” Rarely do investors suspect that their advisor might make decisions or recommendations for the wrong reasons.
For some advisors, the new rule serves as a springboard to talk about their compensation. Investors curious about product costs and commissions may welcome the transparency that comes from such a conversation.
“They don’t typically have complete clarity in terms of the types, amounts and ways that they pay fees,” said Michael Krol, a certified financial planner in Bridgeville, Pa. “With the new standard, the end consumer should understand what they’re paying and how they’re paying it.”
Krol says that prospective clients may seek out his firm after working with a broker whom they “trust and like.” But they want more comprehensive financial planning than their broker can provide.
Early in his career, Krol spent about a year at a large brokerage firm before becoming a registered investment advisor. Explaining his move to a client who followed him to his new practice, Krol recalls that the client said, “I thought you were acting in my best interest before. What’s changed now?”
“If I do something wrong and you want to sue me, you’ll probably win now,” Krol jokingly replied.
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You can read the full article from Investor’s Business Daily, here.