Four Possible Consequences of Regulation Best Interest

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On June 5th, 2019, the Securities and Exchange Commission (SEC) released their final draft of Reg BI, or “Best Interest” as it is called. Unfortunately, Regulation Best Interest does not have your best interests at heart. While a fiduciary is held to the highest legal and ethical standards for the property entrusted to your care, Regulation Best Interest is allowing financial professionals to hide in a lower legal requirement, not meet a fiduciary standard, and call it “Best Interest.”

These are the four possible consequences of Regulation Best Interest:

1. Nothing changes.

The most likely consequence of the SEC’s work is that nothing changes. It does not require many new requirements. Most of these regulations are already required in ADV Parts 1 and 2. The format of ADV Part 3 Form CRS Relationship Summary may require some reformatting, but nothing of substance will be different. As a result, it is unlikely that many dark-side commission based firms will need to change their behavior, and equally unlikely that many investors will notice the new disclosures.

2. “Best Interest” may become a marketing term.

I would expect non-fiduciary broker-dealers to pounce on using the term “Best Interest” with capitalized first letters as a marketing-term. When capitalized it will refer to the SEC’s Regulation Best Interest rather than the commonplace definition of what we would normally expect best interest to mean. This one change by the SEC will do more to confuse consumers than anything they have done since the “Merrill Lynch exemption.”

It will be relatively easy to say that any terrible sales-focused financial advice is “Best Interest” when all that means is the regulatory requirement that the person has disclosed how conflicted their advice actually is. The advertisement will probably leave off the word “Regulation” as that doesn’t confuse people as completely. This is one case where the SEC has made it much more difficult for consumers.

3. The SEC will continue to suffer from regulatory capture.

The SEC admits that they designed Regulation Best Interest to be “workable for the transaction-based relationship offered by broker-dealers” rather than requiring them to act as an advisor when pretending to be an advisor. The SEC further admits that they sought a standard that would “maintain the availability of … the broker-dealer model.” They go on to say, “Regulation Best Interest’s regulatory structure is unique to broker-dealers—and is tailored to the broker-dealer business model.”

Tailoring a regulation to an industry is the very definition of regulatory capture. As Wikipedia defines:

Regulatory capture is a form of political corruption that occurs when a regulatory agency, created to act in the public interest, instead advances the commercial or special concerns of interest groups that dominate the industry or sector it is charged with regulating. Regulatory capture is a form of government failure; it creates an opening for firms to behave in ways injurious to the public (e.g., producing negative externalities). The agencies are called “captured agencies”.

Regulatory capture is political corruption plain and simple. It is an inevitable side effect of governmental power. If the government legislates the definition of “organic” then Big Agriculture will lobby the Food and Drug Administration to allow larger amounts of whatever toxins they use. Similarly, large broker-dealers will continue to push the SEC to allow their own forms of toxic advice.

To justify their supportive position for broker-dealers, the SEC cited the “decades of regulatory and judicial precedent” in which they have failed to enforce the Investment Advisors Act of 1940. Citing multiple decades of regulatory capture as precedent that it should be continued is disturbing to say the least.

4. Investors could use this ruling as an opportunity to better educate themselves.

Although unlikely, a few consumers may use this SEC ruling as an opportunity to educate themselves about the difference between fee-only and commission-based. They may come to appreciate the distinction between so-called “Best Interest” and the fiduciary standards. They may begin to understand that anyone can call themselves an adviser, but only a few professionals are CFP® certificants.

For those looking for a fiduciary, there are many firms like Marotta Wealth Management who are fee-only fiduciaries staffed with CFP® professionals offering comprehensive personalized and integrated financial planning. Don’t hesitate to give us a call.

Photo by Eva Blue on Unsplash

Follow David John Marotta:

President, CFP®, AIF®, AAMS®

David John Marotta is the Founder and President of Marotta Wealth Management. He played for the State Department chess team at age 11, graduated from Stanford, taught Computer and Information Science, and still loves math and strategy games. In addition to his financial writing, David is a co-author of The Haunting of Bob Cratchit.