In June, the U.S. Securities and Exchange Commission (SEC) passed “Regulation Best Interest: The Broker Dealer Standard of Conduct” and “Form CRS Relationship Summary; Amendments to Form ADV”. This legislation, Regulation Best Interest and CRS Relationship Summary, is the cumulation of many attempts to mesh the “fiduciary standard” for Investment Advisers and Broker-Dealer Representatives. The objective of this legislation and its requirements are to educate investors through disclosures regarding any conflicts, fees, costs, and whether the investment opportunities being offered are suitable for the investor. This legislation will impose new documentation requirements for both Investment Advisors and Broker-Dealer Representatives.

What Do Firms Need to Consider?

Besides the creation of the CRS Relationship Summary form, a few of the items to consider with this new legislation are regular documentation of client communications and documentation of ongoing monitoring of an investor’s investments. If a 401K rollover is recommended, additional documentation should be completed to demonstrate the appropriateness of the rollover, including items such as fee comparisons, investment opportunities between the two options and any other pertinent to the investment recommendation.

Broker-Dealer Obligations

With this new regulation, a broker-dealer making a recommendation to a retail customer would have the duty to act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the broker-dealer ahead of the retail customer. In addition, a broker-dealer would discharge this duty by complying with each of the following specific obligations:

  • Disclosure obligation – Duty to disclose to the retail customer the key facts about the relationship, including any material conflicts of interest.
  • Care obligation – Exercise reasonable diligence, care, skill, and prudence, to (i) under the product; (ii) have a reasonable basis to believe that the product is in the retail customer’s best interest; and (iii) have a reasonable basis to believe that a series of transactions is in the retail customer’s best interest.
  • Conflict of interest obligation – Establish, maintain, and enforce policies and procedures reasonably designed to identify and then at a minimum to disclose and mitigate, or eliminate, material conflicts of interest arising from financial incentives; or any other material conflicts of interest must be disclosed.

Form CRS – Relationship Summary

Investment Advisers and Broker-Dealers will now be required to provide clients with Form CRS – Relationship Summary. This standardized document shall outline the key differences in the principal types of services offered, the legal standards of conduct that apply to each, the fees a client might pay, and certain conflicts of interest that may exist. Also, Investment Advisers and Broker-Dealers, and the financial professionals that work for them, would be required to be clear about their registration status in communications with investors and prospective investors. Finally, certain broker-dealers, and their associated persons who work for them, would be restricted from using, as part of their name or title, the terms “advisor or adviser” – which are so similar to “investment adviser” that their use may mislead retail customers into believing their firm or professional is a registered investment adviser.

The standard for Investment Advisers, as outlined in the Advisers Act, is reinforced by the new regulation regarding their fiduciary duty to its clients. In addition, the CRS form seeks to provide clarity to clients regarding the differences between Investment Adviser recommendations and a Broker-dealer representative recommendation.

Conclusion

Although this legislation imposes additional compliance requirements for firms, it seeks to provide valuable guidance and disclosure for retail investors. The compliance date is June 30, 2020. Best practice for implementation is to begin reviewing and addressing the requirements as soon as possible.

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