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The SEC’s “Best Interest Rule”: Another Try at Heightened Investor Protection

By Jessica L. Mackaness, Esq.  of Shustak Reynolds & Partners, P.C. posted on Monday, August 13, 2018.

Since the financial crisis of 2008, consumer advocates and the financial services industry both have advocated for a heightened standard of conduct for broker-dealers when dealing with retail investors. President Barack Obama's Department of Labor attempted this by promulgating its “fiduciary” rule, but, due to the furious work of many financial institutions, this regulatory effort was recently killed by the U.S. Fifth Circuit Court of Appeals.

In another attempt at heightened investor protection, on April 18, the Securities and Exchange Commission (SEC) released a proposed regulation to require financial advisors and broker-dealers to operate in the best interest of their customers, commonly referred to as the “Best Interest Rule.”

Although this rule does not implement a fiduciary standard, in some senses, it is broader than the Obama-era rule because it applies to all retail customer accounts, not just retirement accounts, and will allow the SEC to enforce a common standard across the industry that encompasses a duty of loyalty, a duty of care, and enhanced up-front disclosures.

Under the Best Interest Rule, recommendations must not only be suitable, but in the retail customer’s “best interest.”  This means broker-dealers cannot put their interests ahead of the interests of the retail customer.  Firms must exercise “reasonable diligence, care, skill and prudence” to understand the product they are recommending to clients, and more heavily weigh the cost of a security or strategy in determining whether to recommend the security or strategy to customers.

The proposed rule also requires that broker-dealers disclose key details of the client-broker relationship, including conflicts of interest.  In fact, broker-dealers will now be required to maintain and enforce policies and procedures to identify, disclose, and mitigate — or eliminate — material conflicts of interest stemming from financial incentives.

Whether the SEC’s proposal will be strong enough remains to be seen, but it is still a long way from becoming reality.  Tuesday was the final day for the public to comment, after which, the agency staff must review all feedback (there are nearly 4,000 comments), and then provide a recommendation to SEC commissioners on how to proceed. 

Shustak Reynolds & Partners, P.C. focuses its practice on the securities industry and matters affecting broker-dealers, registered representatives and the financial services sector. For more information, contact Erwin J. Shustak, managing partner, at [email protected], or call 800.496.5900 for a free consultation.

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