The document discusses the U.S. Department of Labor's examination of re-proposing its "Definition of Fiduciary" rule to expand fiduciary standards for providers of investment advice. It argues that absent ERISA preemption, state common law would already consider retirement advisors to be fiduciaries. It claims the rule is needed due to Americans' inadequate retirement security and excessive fees charged by Wall Street firms. The document asserts the rule is consistent with capitalism and examines counterarguments. It promotes the rule as an important reform empowered by common sense.
3. America faces a highly uncertain future. Many economic challenges lie ahead for our country. As government’s ability
to provide for the financial and health care needs of retirees dwindles, our fellow Americans largely possess inadequate
retirement security, a situation compounded by the excessive rents taken from retirement accounts by Wall Street
firms.
The U.S. Department of Labor, through the Employee Benefits Security Administration’s re‐proposed rule, “Definition
of Fiduciary,” is an important component of a greater answer to these economic and financial challenges. Phyllis Borzi’s
vision for the proper application of fiduciary standards to all providers of advice to plan sponsors and plan participants
reflects a long‐needed reform – empowered by common sense.
I. Absent Preemption under ERISA, Fiduciary Duties would already be applied to Retirement Advisors under
State Common Law.
Early FINRA Pronouncement: Brokers are Fiduciaries. In an early pronouncement by the self‐regulatory
organization for broker‐dealers, FINRA (formerly known as NASD) confirmed that brokers were fiduciaries:
“Essentially, a broker or agent is a fiduciary and he thus stands in a position of trust and confidence with respect to his
customer or principal. He must at all times, therefore, think and act as a fiduciary. He owest his customer or principal
complete obedience, complete loyalty, and the exercise of his unbiased interest. The law will not permit a broker or
agent to put himself in a position where he can be influenced by any considerations other than those to the best
interests of his customer or principal … A broker may not in any way, nor in any amount, make a secret profit … his
commission, if any, for services rendered … under the Rules of the Association must be a fair commission under all the
relevant circumstances.” – from The Bulletin, published by the National Association of Securities Dealers, Volume I,
Number 2 (June 22, 1940).
Distinguishing Fiduciary vs. Non‐Fiduciary Relationships. There are two types of relationships between product
and service providers and their customers or clients, under the law. The first form of relationship is an “arms‐length”
one. This type applies to the vast majority of service provider – customer engagements. In these relationships, the
doctrine of “caveat emptor” generally applies, although this doctrine is always subject to the requirement of
commercial good faith. Additionally, this doctrine may be modified by imposition of specific rules or doctrines by law,
such as the disclosure regime contemplated by securities laws and the low requirement of “suitability” imposed upon
registered representatives of broker‐dealer firms (i.e., brokers).
The second type of relationship is a fiduciary relationship. This involves a relationship of trust, which necessarily
involves vulnerability for the party who is reposing trust in another. In such situations one’s guard is down; one is
trusting another to take actions on one's behalf. Under such circumstances, to violate a trust is to infringe grossly
upon the expectations of the person reposing the trust. Because of this, the law creates a special status for fiduciaries,
imposing duties of loyalty, care, and full disclosure upon them. Hence the law creates the “fiduciary relationship,”
which requires the fiduciary to carry on with their dealings with the client (a.k.a. “entrustor”) at a level far above
ordinary, or even “high,” commercial standards of conduct.
The Sales Relationship The Trusted Advisor Relationship
Product Manufacturer Client
represented by represented by
Broker (Salesperson) Fiduciary (Advisor)
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4. who sells to who shops on behalf of the client among
Customer Product Manufacturers
State Common Law: Brokers are (Already) Fiduciaries. As alluded to in the early statement by FINRA, above, most
brokers providing investment advice are already fiduciaries, applying state common law. This is regardless of how they
are registered or licensed (i.e., as registered representatives of broker‐dealer firms, as investment adviser
representatives of registered investment adviser firms, or as insurance agents). Fiduciary status attaches because the
broker is providing advice in a relationship of trust and confidence.
Holding out as a “retirement advisor” or “financial planner” has been held sufficient to invite a relationship of trust and
confidence. And, of course, actually providing investment services of an advisory nature bring with it the imposition of
fiduciary status upon the advisor. [For cases applying these principles under state common law, see “Shh!!! Brokers are
(Already) Fiduciary … Part 1: The Early Days,” available at http://scholarfp.blogspot.com/2013/04/shhh‐brokers‐
are‐already‐fiduciaries.html [http://scholarfp.blogspot.com/2013/04/shhh-brokers-are-already-fiduciaries.html] .
The U.S. Securities and Exchange Commission (SEC) repeatedly held, for much of the 20th
Century, that brokers were
often fiduciaries. The SEC “has held that where a relationship of trust and confidence has been developed between a
broker‐dealer and his customer so that the customer relies on his advice, a fiduciary relationship exists, imposing a
particular duty to act in the customer’s best interests and to disclose any interest the broker‐dealer may have in
transactions he effects for his customer … [broker‐dealer advertising] may create an atmosphere of trust and
confidence, encouraging full reliance on broker‐dealers and their registered representatives as professional advisers in
situations where such reliance is not merited, and obscuring the merchandising aspects of the retail securities business
… Where the relationship between the customer and broker is such that the former relies in whole or in part on the
advice and recommendations of the latter, the salesman is, in effect, an investment adviser, and some of the aspects of
a fiduciary relationship arise between the parties.” (1963 SEC Study, citing various SEC Releases.)
ERISA’s Definition of Fiduciary and Pre‐Emption of State Common Law. The regulations issued by the U.S.
Department of Labor in the mid‐1970’s, applying ERISA, provided significant loopholes to the application of fiduciary
status to providers of investment advice to qualified retirement plan sponsors and to plan participants. At the time
these regulations were issued, most investments were held in pension plan accounts; 401(k) accounts were still in their
infancy.
Since that time there have been significant changes in the retirement plan community, with more complex investment
products, transactions and services available to plans and IRA investors in the financial marketplace, and a shift from
defined benefit plans to defined contribution plans [including 401(k) accounts].
Interestingly enough, ERISA preempts state common law. Hence, absent the mid‐1970’s regulation which provided
such broad loopholes, we would have seen the application of the fiduciary standard of conduct under state common
law upon the providers of investment advice to plan sponsors and plan participants. ERISA’s preemption, combined
with a definition of “fiduciary” which is clearly at odds with the express statutory language found in ERISA and also
not in accord with the burdens imposed by today’s complex financial world, has in essence negated, rather than
enhanced, the protections afforded to plan sponsors and plan participants.
The Application of the Fiduciary Definition to IRA Accounts. As to the U.S. Department of Labor’s proposed
application of fiduciary standards to IRA accounts, it should be noted that section 4975(e)(3) of the Internal Revenue
Code of 1986, as amended (Code) provides a similar definition of the term "fiduciary" for purposes of Code section
4975 (IRAs). However, in 1975, shortly after ERISA was enacted, the Department issued a regulation, at 29 CFR
2510.3‐21(c), that defines the circumstances under which a person renders “investment advice” to an employee benefit
plan within the meaning of section 3(21)(A)(ii) of ERISA. The Department of Treasury issued a virtually identical
regulation, at 26 CFR 54.4975‐9(c), that interprets Code section 4975(e)(3). 40 FR 50840 (Oct. 31, 1975). Under section
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