A Look Inside the SEC’s Final RIA Guidance and Its Discussion of “Best Interest”

In light of the significance of the final rules and commission interpretations issued by the Securities and Exchange Commission on June 5, 2019, Drinker Biddle & Reath’s Best Interest Compliance Team is publishing a series of articles on the subject. The first article, “The Final Reg BI Package: What to Know and What’s Next,”  described the final package of rules and interpretations. The second article covered “Form CRS .” The third article, summarized here, will provide a more detailed analysis of strategically selected provisions of the RIA Guidance.

The Securities and Exchange Commission (SEC) Interpretation Regarding Standard of Conduct for Investment Advisers (RIA Guidance) reaffirms, interprets, clarifies, and provides guidance regarding the fiduciary duty an investment adviser owes to its clients under the Investment Advisers Act of 1940 (Advisers Act) as it has been interpreted by common law and SEC guidance. The RIA Guidance also describes the underlying responsibilities that constitute an investment adviser’s fiduciary duties: the Duty of Care and the Duty of Loyalty.

The RIA Guidance is the most significant Commission pronouncement on the fiduciary duties of an investment adviser ever finalized and published by the SEC. For this reason, investment advisory firms should scrutinize and analyze the Guidance, apply it to their firm, and quickly remediate any issues with enhanced practices, policies, and procedures. Indeed, unlike Reg BI and Form CRS that have an implementation date of June 30, 2020, the RIA Guidance became effective on July 12, 2019.

The Guidance makes clear that an adviser’s fiduciary duty applies to “all investment advice the investment adviser provides to clients” including account type. Regarding rollovers, the RIA Guidance offers specificity: “We consider advice about ‘rollovers’ to include advice about account type, in addition to any advice regarding the investments or investment strategy with respect to the assets to be rolled over, as the advice necessarily includes the advice about the account type into which assets are to be rolled over.” Thus, the SEC appears likely to increase its scrutiny of investment advisers’ practices relating to rollovers.

The RIA Guidance says that recommending the lowest-cost product or strategy is not required. For situations in which the lowest-cost investment or strategy is not recommended, the Guidance simply provides that there should be consideration of “other factors about the investment or strategy that outweigh cost and make the investment or strategy in the best interest of the client, in light of that client’s objectives.” However, firms need to be vigilant that their compliance and supervisory practices, policies, and procedures are strong in this area, and further that the recommendations made to place a client in a higher-cost investment or strategy are fully supportable and well documented to withstand SEC examination and enforcement scrutiny.

The dreaded disclosure term “may,” which “is not adequate when a conflict actually exists,” would be inappropriate if it simply precedes a list of all possible or potential conflicts and “obfuscates actual conflicts to the point that a client cannot provide informed consent.” The SEC provides a sentence in passing (and perhaps somewhat begrudgingly) that this term “could” be used appropriately to disclose a conflict that currently does not exist but might in the future. A takeaway for firms that plan to continue to use the term “may” − and any other type of broad and general terminology to discuss actual existing conflicts – is that they will be doing so at their own peril.

The RIA Guidance uses the term “best interest” repeatedly throughout the final release for a total of 51 times. While, like Reg BI, this Guidance does not define this term, it does have a subsection that discusses guidance for complying with the “Duty to Provide Advice that is in the Best Interest of the Client.” There is no discussion of the connection between the RIA Guidance and Reg BI, but it appears to be fairly palpable.

Certain critics of the SEC’s efforts have complained about the lack of a uniform fiduciary standard. Regardless of whether that criticism has any merit, closer analyses of these aspects of the June 5, 2019, final rulemaking package reveal that the standards of conduct for the brokerage and the investment advisory industries in servicing their retail clients have converged, and some “may” argue significantly so.

Note: For a more complete discussion of the SEC’s Final RIA Guidance read “Digging into the SEC’s Final RIA Guidance – And Why It Repeatedly Uses the Term ‘Best Interest.”

For further information or guidance relating to the SEC’s RIA Guidance, Form CRS, or any other aspect of Reg BI, Drinker Biddle’s Best Interest Compliance Team is prepared to assist you. For a general overview of the RIA Guidance, read “SEC Interpretation Offers Clarification on an Investment Adviser’s Duties of Care and Loyalty.”

The material contained in this communication is informational, general in nature and does not constitute legal advice. The material contained in this communication should not be relied upon or used without consulting a lawyer to consider your specific circumstances. This communication was published on the date specified and may not include any changes in the topics, laws, rules or regulations covered. Receipt of this communication does not establish an attorney-client relationship. In some jurisdictions, this communication may be considered attorney advertising.

About the Author: Sandra D. Grannum

Sandra Dawn Grannum concentrates her practice on securities, broker/dealer arbitration, litigation, mediation and regulatory defense. She is co-chair of the Commercial Litigation Team.

Sandy has tried complex multimillion-dollar arbitrations before FINRA, AAA and JAMS across the country. She has represented brokerage firms, banks, clearing firms, and associated persons in over 60 arbitrations before the NASD and FINRA which have been tried through award. In addition, she has successfully pursued cases in state and federal courts and in adversarial proceedings before bankruptcy courts.

About the Author: Brad Campbell

About the Author: Fred Reish

Fred Reish represents clients in fiduciary issues, prohibited transactions, tax-qualification and Department of Labor, Securities and Exchange Commission and FINRA examinations of retirement plans and IRA issues.

About the Author: Joshua Deringer

Joshua Deringer has developed a strong client following for his skill in expanding liquid investment options and implementing innovative structures for private and alternative investment funds. His forward-thinking counsel has made Josh a sought-after attorney for national and international financial services companies involved in all aspects of the investment management industry. Josh leads the firm's investment management practice group.

About the Author: David Williams

David Williams represents and counsels clients in the investment management industry, with particular focus on counseling investment advisers on registered investment company fund formation, regulatory requirements and corporate governance. He also counsels institutional investors on fund due diligence and investment management agreement negotiations. A growing part of David’s practice is advising global fund managers on environmental, social and governance (ESG) and impact funds, and their unique investment and governance considerations. In addition, David counsels investment advisers on the design and launch of closed-end interval and tender offer funds that enhance distribution channels for advisers.

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