SEC building Brokers'requirement to apply the best interest standard to account androllover recommendations stands to substantially impact financialservices providers. (Photo: SEC)

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Stakeholders predicted the finalized form of Regulation Best Interest, the Securities andExchange Commission rule on broker-dealer conduct, would remainlargely unchanged from last year's proposed version of the rule.But one aspect of the rule the SEC did change covers retirement planrollovers to IRAs, recommendations on workplace plan distributions,and recommendations to place investors in brokerage or advisoryaccounts.

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“After careful consideration of comments and feedback, theCommission has modified the rule text to state that an 'investmentstrategy involving securities' includes 'account recommendations',”the rule states.

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“We interpret 'account recommendations' to includerecommendations by broker-dealers of securities account typesgenerally, as well as recommendations to roll over or transferassets from one type of account to another (e.g., workplaceretirement plan account to an IRA,” write regulators.

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That clarification was sought by broker-dealers, andimportantly, a majority of the SEC's Investor Advisory Committee,the 22-member panel established under the Dodd-Frank Act thatincludes industry executives, consumer advocates, pension fundinvestment officers, and the SEC's own investor advocate.

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“The distinction the SEC was seeking to make, and it is one weagree with, is that the recommendation of whether to roll overshould be subject to the standard, and not just the recommendationof specific securities to invest in once the decision to roll overhas already been made,” said Barbara Roper, director of investorprotection at the Consumer Federation of America, and a member ofSEC's Investor Advisory Committee.

'Huge inclusion'

Roper and CFA's endorsement of folding recommendations onaccount types and IRA rollovers within the best interestrequirement is notable. CFA and other consumer advocate groups arehighly critical of Reg BI because it does not enforcea uniform fiduciary standard on brokers and investmentadvisors, and they have suggested the final rule could be subjectto a legal challenge.

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Irrespective of the debate over whether Reg BI goes far enoughto protect retail investors from conflicted advice, brokers'requirement to apply the best interest standard to account androllover recommendations stands to substantially impact financialservices providers.

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As of the end of 2018, IRAs held $8.8 trillion in assets, orabout one-third of the $27.1 trillion retirement market. IRA assetshave increased an average of 10 percent a year over the pastquarter century, according to the Investment Company Institute.

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The growth of IRA assets has been fueled by rollovers fromworkplace retirement plans, ICI data shows. In mid 2018, 42.6million, or 33 percent of the country's total households, reportedowning an IRA. Among those households with rollovers in traditionalIRAs, 57 percent had only rollover money in their accounts, meaningthey have never made other contributions to their IRAs.

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As baby boomers continue to retire, those numbers can beexpected to grow, and quickly.

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“It's a huge inclusion,” said Kevin Walsh, a principal with TheGroom Law Group, of the SEC including rollovers under the bestinterest standard. “The change to recommendations on account typemeans Reg BI expressly applies to IRA rollovers.”

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Critics of Reg BI allege it fails to materially increase FINRA'ssuitability standard. Brokers will be able to continue to offerconflicted advice under the new standard so long as those conflictsare disclosed, they argue.

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In 2013, FINRA issued a regulatory notice to brokers on IRArollover recommendations, and made rollovers an examinationpriority in 2014.

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In its final rule, the SEC explained how rolloverrecommendations under Reg BI will differ from the suitabilitystandard.

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FINRA's suitability standard applied to rollovers that involvedsecurities transactions, but not necessarily to rolloverrecommendations that did not involve a securities transaction, theSEC said.

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“To the extent that broker-dealers and their associated personscurrently make recommendations to open an IRA or to participate inan IRA rollover that do not involve securitiestransactions under the baseline, Regulation Best Interest shouldresult in IRA and IRA rollover recommendations to retail customersthat are more efficient because they will be in the retailcustomer's best interest regardless of whether or not they involvesecurities transactions,” according to analysis in SEC's finalrule.

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In expanding Reg BI to include account recommendations,regulators noted the Investor Advisory Committee's concerns thatbrokers and advisers “have a strong economic incentive to recommendinvestors roll over plan assets into an IRA or otherwise transferassets to open an account with the broker-dealer or investmentadviser.

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According to Groom Law Group's Walsh, Reg BI significantlyexpands oversight of IRA rollover recommendations compared toFINRA's suitability standard.

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“It's a real extension of the suitability standard because itgets at brokers' ability to break apart different recommendations,”said Walsh.

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“Under suitability, FINRA's guidance considered concerns that itwas regulating recommendations on something other than a securitytransaction,” he added. “FINRA narrowed its view because itsjurisdiction applied only to securities transactions.”

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Under FINRA's oversight, a broker could conceivably recommend arollover without selling a security and not be beholden to thesuitability standard. The broker could then sell securities in theIRA at a later time.

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Under Reg BI, that potential regulatory side-step will not beavailable, said Walsh.

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READ MORE:

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SEC, DOL moving in tandem on investment advicerules

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Suitability plus? Lawyers say SEC proposal lacksclarity

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CFA Institute says SEC has immediate authority toclarify broker roles

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Will Reg BI preempt state fiduciaryrules?

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8 highlights of Nevada's fiduciaryproposal

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Maryland sets fiduciary rule inmotion

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Nick Thornton

Nick Thornton is a financial writer covering retirement and health care issues for BenefitsPRO and ALM Media. He greatly enjoys learning from the vast minds in the legal, academic, advisory and money management communities when covering the retirement space. He's also written on international marketing trends, financial institution risk management, defense and energy issues, the restaurant industry in New York City, surfing, cigars, rum, travel, and fishing. When not writing, he's pushing into some land or water.