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All financial advisors who provide investment advice directly to clients or exercise investment discretion over client assets should be subject to fiduciary standards. Because my feelings on this topic are so strong, I take exception to the article by John Lohr entitled “Fiduciary”: Much Ado about Nothing! that appeared in this publication on August 3rd.
In his article, Mr. Lohr states that the debate about fiduciary standards is “nothing more than unnecessary marketing hype.” He then goes on to assert that “stockbrokers already have a legal duty to act as a fiduciary to their clients!”
He is wrong on both counts.
The Investment Advisers Act of 1940 (“Advisers Act”) defines the term “investment adviser” to include anyone who advises others “as to the value of securities” or “the advisability of investing in, purchasing, or selling securities.” Financial advisors who fall within this definition owe a fiduciary duty to their clients under interpretations of the law that go back many years.
However, there is an exception to this definition for “any broker or dealer whose performance of such services is solely incidental to the conduct of his business as a broker or dealer and receives no special compensation therefor.” Historically, this exception has been the basis for excluding brokers from the definition of the term “investment adviser” and, therefore, from the need to act as fiduciaries toward their clients.
There are certainly limited situations in which a stockbroker may be considered an ‘investment adviser’ and, therefore, a fiduciary under the Advisers Act. For example, if a broker receives special compensation for advice given to a client and, in addition, receives commissions in connection with trade execution, the broker may be considered an “investment adviser.” However, these situations do not arise often in connection with traditional brokerage activity and the large brokerage firms have taken great pains to make sure they do not.
There are other limited circumstances in which a stockbroker may be deemed to have a fiduciary duty to his client and Mr. Lohr cites one of them. Under ERISA, a stockbroker providing investment advice to an employee benefit plan will usually be considered a fiduciary whether or not such advice is “solely incidental to the conduct of his business as a broker.”
But ERISA is a very special case. The fact that brokers have been held to be fiduciaries when they provide investment advice to an employee benefit plan does not mean that they have a general fiduciary duty to their clients outside that world. In fact, the rules under ERISA make clear that a broker who simply provides trade execution services at the direction of a fiduciary is not even considered a fiduciary under ERISA.
