SKARBECK: Adviser rule is compromise but could protect investors

After a year of wrangling, the Department of Labor on April 6 issued its long-awaited and much-debated “fiduciary rule.” If you have no idea what I’m talking about, don’t fret. The rule addresses regulatory issues within the investment industry with regard to advising and managing retirement accounts.

The goal of the rule is to have less-conflicted advisers and lower costs for retirement accounts. The Obama administration has estimated that imposing a fiduciary standard would save investors $40 billion over the next 10 years.

Before the new rule, stockbrokers and other investment salespersons were operating under a “suitability standard.” Suitability required that, when recommending investment products to clients, the broker had to reasonably believe they were suitable to the client’s needs and circumstances. Whereas the more stringent fiduciary standard, which registered investment advisers operate under, requires advisers to put their client’s interest above their own.

To the outside investor, it might seem like we are splitting hairs here. Your reasoned response might be: Shouldn’t or haven’t advisers always been putting my best interest ahead of theirs? Well, in the eyes of the regulators and industry critics, the answer would be: not always.

Regulators were attempting to address the perception that the suitability standard was prone to conflicts of interest. For example, back when most brokerage firms managed in-house mutual funds, it was typically more lucrative for a broker to have clients invest in his or her firm’s mutual funds. Naturally, the broker-owned funds saw their assets increase even though, on balance, they performed poorly in comparison to competing and less-costly funds.

Also with the new rule, the DOL had discussed eliminating some of the higher-cost investment products that have found their way into retirement accounts. Investment vehicles such as non-traded REITs and certain annuities were under scrutiny by regulators.

In the end, the initial and more stringent proposed rule was tempered by lobbying efforts and compromise to the point where neither constituency is completely pleased with all aspects of the final rule, but overall both sides can live with it.

The rule does allow advisers to sell any financial investment—including options, non-traded REITs and variable annuities—under the BICE, or “best interest contract exemption.” This exemption allows advisers to collect commissions from these products as long as the adviser puts the client’s interest first and that charges are “reasonable” and not “misleading.” Once the rule goes into full effect, investors will need to sign a document acknowledging they are choosing these kinds of investments.

The final rule also eliminates a proposed requirement that advisers relying on the contract exemption provide clients with an annual transaction disclosure that details fees and costs. Here, the idea was to shine light on the obscured costs of these products in retirement plans like 401(k)s. So, chalk up a loss for greater transparency on investment costs.

Thomas Perez, secretary of the DOL, reiterated that conflicts in retirement advice shave roughly 1 percent off investor returns each year and that $1.7 trillion is currently invested in products where conflicts of interest reside, but he stressed that “putting clients’ interest first is no longer a slogan—it’s the law.”•

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Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. He can be reached at 818-7827 or ken@aldebarancapital.com.