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Investment Advisors Have a Fiduciary Duty, says The Labor Department

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  • Posted on: May 30 2016

What does the Labor Department fiduciary standard mean for financial advisors?

After telegraphing its punch for almost 6 years, the Department of Labor recently announced the highly anticipated fiduciary standard regulation that will require financial advisors who provide investment recommendations for retirement accounts, such as 401(k)s and IRAs, to meet a fiduciary standard.

These advisors are now required to put their clients’ interests before their own, rather than adhering to the previous standard requiring them to provide clients with suitable recommendations. The suitability standard, some have argued, allowed investment advisors to steer clients into products with higher fees as a means of padding commissions, regardless of whether or not the investments were well suited for the clients’ retirement situation.

The rule had strong backing from the Obama Administration as officials claimed inappropriate recommendations cost retirement investors $17 billion a year. While commissions and other fees are still permissible, financial firms must commit to charging “reasonable compensation” and cannot give financial incentives to advisors to make inappropriate recommendations.  The new rule is limited to tax-advantaged retirement accounts, however, and does not apply to advisors who manage other types of investments.

Why This Matters

This action comes in the long wake of the financial crisis of 2008 and continued efforts by the government to rein in the excesses of financial services sector.  While not as far reaching as the Dodd-Frank reform measure, the new fiduciary rule will pose compliance challenges to investment advisors, and there will be additional costs associated with establishing needed policies and procedures.

Given the fact that the Labor Department has been working on this rule for years, the investment community has had plenty of time to prepare for the new regulatory regime. That being said, investment advisory firms have time to implement changes since the law becomes effective in 2017. Moreover, certain provisions do not become effective until 2018, such as the requirement that IRA investors enter into contracts with financial advisors in which they acknowledge their role as a fiduciary.

At this juncture, it is unclear whether there will be legal challenges to the new rule.  In the meantime, however, investment advisors should speak to an experienced business law attorney for guidance on their new responsibilities as fiduciaries.

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