- April 6, 2021
- Investor Education
The job titles of a Financial Advisor and Investment Advisor, in reality, more accurately describe the kind of work that’s done, not necessarily the credentials and obligated professional standards of the person doing it. People who perform financial advising and investment advising services may be registered Brokers and registered Investment Advisors or they might not. These occupations have been traditionally subject to different rules according to job title; registered Investment Advisors are subject to the principles of a fiduciary duty that center the client while brokers typically have not been. However, to create a uniform standard for Brokers who buy and sell securities like registered Investment Advisors, the Securities and Exchange Commission established the Regulation Best Interest for brokers. Knowing what each of these requires of an advisor can help investors make better-informed decisions that ensure the most effective use of their resources.
The Fiduciary Duty of Registered Investment Advisors
Registered Investment Advisors are subject to federal regulations called fiduciary standards that were established by the SEC through the Investment Advisers Act of 1940 and decades of legal precedent. These regulations direct registered Investment Advisors to uphold a fiduciary standard which includes strict rules about disclosing fees and potential conflicts of interest to clients. They must also always act in their clients’ best interests, given their clients’ financial goals. They actively register with the SEC and sometimes a state agency, too. Typically, a registered Investment Advisor will handle a complete investment portfolio on an annual fee basis; theirs is typically a long-term relationship with clients.
How the Work of Brokers is Different From Registered Investment Advisors
Brokers are not subject to the same rules because their role is typically different–they work with clients on individual trades; they may also provide advice like financial advising. Instead of an annual fee, they usually earn a commission per trade. Brokers are not required to register with the SEC or state agencies, in most cases. Their work is overseen by the industry group called FINRA, the Financial Industry Regulatory Authority (FINRA) which requires registered Brokers to uphold the suitability rule. Under suitability, all recommendations made to clients by Brokers must be reasonable, given the investor’s goals–which is not the same as always putting the customer’s best interest first.
A Broker could, within the suitability rule, choose to offer a client a more expensive product that results in a higher commission over a less expensive one, if both are equally suitable, without raising any concerns; a registered Financial Advisor, on the other hand, could only recommend the less expensive one.
The Regulation Best Standard of Brokers
To advance the standard of conduct for Brokers and increase transparency for investors, the SEC’s solution is to establish Regulation Best Interest. Among the new expectations, Brokers can’t call themselves financial advisors except under circumstances where they’re following fiduciary standards. Brokers must also disclose the reasoning behind their recommendations to clients, and these recommendations must be in the reasonable best interest of the client based on the broker’s reasonable diligence, care, and skill. Regulation Best Standard requires broker-dealers to establish conflict of interest policies and work within them, disclosing potential conflicts to investors, and create any other necessary policies to fulfill the Regulation Best Interest standard and work within those parameters.
Regulation Best Standard requires both Brokers and registered Investment Advisors to share a client relationship summary form (Form CRS) with their clients. The form includes services and fees, policies, and the firm’s disciplinary history. It allows investors to make an apples-to-apples comparison among services and fees to determine which path is best for them.
● The fiduciary standard outlines ongoing and long-term relationships; Regulation Best Interest is more transactional and limited to securities only, not full investment portfolio management.
● Fiduciary standards have specific rules that registered Investment Advisors must abide by; Regulation Best Interest offers big picture ideals that don’t explicitly define ‘best interest,’ which are left to broker-dealers to make concrete and implement for their teams.
● The fiduciary standard puts most of the burden on the registered Investment Advisor; Regulation Best Interest puts most of the burden on the investor.
● Fiduciary standard language can be difficult for inexperienced investors to comprehend; Regulation Best Interest emphasizes everyday language to make understanding more accessible to ordinary investors.
When it comes to your money, there’s no such thing as being too informed. By learning more about the fiduciary standard and Regulation Best Interest, you’ll have the insight necessary to choose the best financial partner to assist you in meeting your needs and reaching your financial goals.