Is wealth management ready for Reg BI? It’s complicated.
The long-running fiduciary debate will reach a destination of sorts when the SEC’s Regulation Best Interest goes into effect June 30. But after years of wrangling over standards of advisor conduct, what will be the impact of Reg BI?
A painstaking regulatory process, ongoing court challenges, emerging state-level fiduciary rules or other factors may turn it into just another bump in the road. For now, though, Reg BI is the reality — and a potentially expensive one for broker-dealers.
The cost of complying with the rule is likely to reach billions of dollars across wealth management, albeit a lower amount than the expenses anticipated from the Department of Labor’s now-defunct fiduciary rule. Reg BI is also turning into a boon for firms aiming to assist wealth managers with new, bulked-up disclosure rules and other provisions.
Comparing the expense impact
Though it’s difficult to quantify just how much Reg BI will cost, it’s definitely not cheap, according to company disclosures and expert analysis.
Raymond James will spend $20 million in initial costs to comply, plus another $5 million each year, according to a rough estimate by the firm in 2018. A small firm of $500,000 in net capital would spend about $60,000, the National Society of Compliance Professionals said in a letter to the SEC cited in the final rule.
For its part, the SEC is “unable to quantify certain economic effects” leading to the overall cost because the right data isn’t obtainable and the calculation would entail too many assumptions, the rule states. The agency appraised the individual cost of obligations under the rule, though. Disclosure guidelines alone will cost BDs at least $1.5 billion initially and $500 million a year.
Reg BI compliance costs include tech investments, compliance staff, outside vendors, legal counsel, compensation changes, due diligence tweaks, and marketing material reviews, according to an implementation guide prepared in September by Deloitte on behalf of SIFMA.
“While not an exact comparison, firms may find it efficient to benchmark against prior DOL fiduciary rule program cost estimates when assessing the impact of Reg BI program requirements,” the guide said.
In looking at those figures, the largest firms estimated the Labor Department rule would cost them more than $50 million initially and nearly $6 million per year, according to a different survey by Deloitte in 2017. Based on the responses, Deloitte estimated that dual registrant BDs spent $4.7 billion upfront on compliance. In the agency’s analysis, the DOL predicted it would cost $3.3 billion.
The Reg BI business
To Morningstar Head of Advisor Solutions Matthew Radgowski, Reg BI’s most noticeable impact will come from “real-time, side-by-side” comparisons of so-called reasonably available alternatives. He argues clients and advisors will make better investment decisions with these comparisons at hand.
“It is a core focus,” Radgowski says. “The change I think you're going to see is the consistency and the documentation of the process is going to be tremendously improved.”
Firms appear to be in a “pretty decent place” with respect to creating new client relationship summary documents, he adds. Their “biggest concern” revolves around how they “ensure it's delivered consistently at that point of sale or point of recommendation,” Radgowski says.
The research firm and other companies serving the wealth management industry are there to help. Morningstar’s Advisor Workstation of 175,000 licensed users is adding new capabilities to document the delivery of Form CRS, display potential alternative recommendations and show alignments of the ultimate choice with the client’s investor profile.
Fintechs, custodians and broker-dealers are also rolling out solutions. In examples discussed at FSI’s OneVoice conference in January, Riskalyze launched new tools to comply with the documentation guidelines, and BNY Mellon’s Pershing created Form CRS templates and integrations. Reg BI could move some advisors in the opposite direction of the fiduciary rule.
“You had advisors make decisions to go fee-only to play regulatory arbitrage,” Jeff Rosenthal, CEO of Advisor Group’s Triad Advisors, said in an interview at the conference. “There’s a strong need for an educated, experienced partner to protect an advisor’s business and help them continue to grow as they go into the future.”
Firms show compliance progress
Reg BI’s effective date comes nearly 10 years after the Dodd-Frank Act required the SEC to study whether brokers should remain exempt from the requirement for fiduciary duty. In 2011, the agency’s study concluded there should be a uniform fiduciary standard, according to the Congressional Research Service. It took until after the DOL’s six-year proposal process and the court decision for the SEC to propose Reg BI.
SEC Chairman Jay Clayton's announcement that the pandemic won't push back the June 30 implementation date doesn't come as much surprise amid all the preparation.
Firms “with account relationships comprising a substantial majority of retail investor assets” have made “considerable progress” on Form CRS and adjustments to their policies and procedures, he said on April 2.
The SEC “engaged extensively” with stakeholders in the past 10 months, Clayton said. The regulator decided that the implementation date “remains appropriate” based on the discussions “and because the continued implementation of these conduct and transparency initiatives, individually and collectively, will significantly benefit Main Street investors,” he said.
Firms have launched Reg BI project teams, working groups and training sessions, according to a review by FINRA. They had already, for example, ended any “sales contests, sales quotas, bonuses and non-cash compensation practices based on the sales of specific securities or specific types of securities within a limited time period,” FINRA says.
FINRA and state regulators are following the SEC’s lead in implementing other changes such as the end of the suitability standard for brokers. The SEC also issued a risk alert on April 7 to explain the criteria its examiners will be using to judge compliance with the new guidelines. Companies must post Form CRS on their websites and send it to their clients by July 30.
“We understand that this implementation will be an iterative process, and our focus will be on firms continuing good faith and reasonable efforts, including taking into account firm-specific effects from disruptions caused by COVID-19,” Pete Driscoll, the director of the Office of Compliance Inspections and Examinations, said in a statement.
Outlook for the future
The answer to whether Reg BI makes a lasting impact will only come into focus after the outcome of the court cases, the state-level rules and the 2020 elections. Critics may strongly disagree with the view of a Morningstar blog that the effect of Reg BI is “extremely positive.”
Besides Form CRS, it’s “really difficult to see much difference” between Reg BI and the current standards, according to Barbara Roper, the director of investor protection of the Consumer Federation of America. The pending state fiduciary rules and the new CFP Board Standards — which will be enforced starting on June 30 — provide stronger protections for clients, she says.
“We started to see some very encouraging developments after the Department of Labor rule was finalized, where firms were really getting serious about minimizing practices,” Roper says. “A lot of that has seemed to fade into nothingness as soon as the rule was overturned in court.”
What is known for sure is that the SEC’s rule is going into effect. While Clayton asked firms encountering difficulty with compliance due to the coronavirus to bring it to the regulator’s attention, Radgowski says the pandemic hasn’t thrown the large BDs off track.
“They don't anticipate there will be any type of delay, even with this going on,” Radgowski says. “They're continuing to push ahead full steam on evaluation and implementation efforts.”