The Public Deserves A Choice, But It's Not Fiduciary Vs Suitability

Posted by Michael Kitces on Wednesday, January 4th, 2:19 pm, 2012 in Planning Profession

In the ongoing debate for the fiduciary standard, supporters of fiduciary have suggested that everyone in financial services should be subject to the standard, while those opposing have responded that consumers deserve a choice between fiduciary and suitability; in essence, they simply suggest that we should let consumers choose whatever method of financial services they prefer, and may be the best model win. But to me, the choice presented is a false one: the real choice is not between fiduciary advice and suitable advice, the difference is between fiduciary advice and suitable product sales. In other words, the real choice we should present to consumers is between advice and product sales, and the real goal of the planning profession should be to focus on who is and is not qualified to deliver advice.

The inspiration for today's blog post comes from several recent Twitter debates that I've had about the fact that I believe the focus on fiduciary is the wrong message to send to the public. As I've noted previously on this blog, consumers already believe that advisors have their best interests at heart, so promoting fiduciary isn't really about saying "you can trust me" - it's just about bashing your competition and saying THEY can't be trusted. And a negative advertising campaign that bashes the competition is a terrible way to advance the profession, and your own financial planning practice. 

But the real point here is that fiduciary advice vs suitability advice is a false dichotomy; the only kind of advice is fiduciary advice, delivered in the best interests of the person receiving the advice. Merriam-Webster defines the act of advising as "to give (someone) a recommendation about what should be done" (emphasis mine); in other words, telling the person what should be done that's in their interests is the very essence of what advice is, in the first place! On the other hand, the suitability standard is about offering a product for sale that is suitable - or at least, not unsuitable - given the client's circumstances. The latter, simply put, is not a standard for advice; it's not actually about advice at all, but simply determining whether a product being sold is so unsuitable that it's unconscionable to allow it to be bought at all. Advice, as Merriam-Webster makes clear, it about telling someone what actually should be done, not merely what would be "not unsuitable" to buy. In fact, the existing securities regulations (Section 202(a)(11)(C)) have already stated that any advice delivered in a product sales context should be "solely incidental" to the sale of the product; if the primary focus of the relationship is about the delivery of advice and/or special compensation is received for advice, the fiduciary standard already applies!

Accordingly, the real debate is not about whether consumers should have a choice between fiduciary or suitability; the real choice is between working with an advisor who delivers advice and working with a salesperson who sells a product. Notably, the latter is not intended in a derogatory or pejorative manner; it is simply to make the distinction between someone who offers bona fide advice - which, by definition, is in the interests of the person receiving the advice to get a recommendation about what should be done - versus someone who offers a product for sale, which is implicitly in the interests of the person or company offering the product for sale but should only be offered when it is not unsuitable to do so.

Why is this distinction of advice versus sales more important than fiduciary versus suitability? Because, cast in the context of advice versus sales, the solutions quickly become more readily apparently. The goal of fiduciary advisors should not be to subject everyone to the fiduciary standard; it should be to subject everyone offering advice to the fiduciary standard. If you don't want to be treated as a fiduciary, that's fine; just don't offer advice, and don't hold yourself out as offering advice. People who offer securities or insurance products for sale eliminate the words "financial advisor" or "financial consultant" from their business cards, and simply hold themselves out for doing what they do: registered representative, stockbroker, or insurance agent. Those who offer advice hold themselves out as advisors, and subject themselves to the appropriate standard.

In this framework, then, it's not about whether consumers deserve a choice between fiduciary and suitability standards; it's a choice about whether they want to buy their products from a salesperson, or receive advice from an advisor. It's a much clearer choice. Eventually, we might even see a world where a prospective buyer of an insurance policy, after being told about the policy's benefits and features, asks the question "But is this policy right for me?" to which the insurance agent responds "Oh, I'm sorry, I can't give you advice on that; you'd have to ask your financial planner." The agent responds this way because he/she doesn't want to be held to a fiduciary advice standard if he/she isn't giving advice. And the consumer receives a genuinely clear distinction about what role the insurance agent does, and does not, serve.

In fact, arguably consumer clarity itself is a major benefit of shifting the dialogue in this manner. While consumers have made it clear they don't understand the different between a fiduciary and suitability standards very clearly, the difference between "is this person giving me advice, or not" is much clearer. In fact, it highlights the problem, as noted in the RAND study itself: "most investors believe that the financial intermediary is acting in the investor's best interest [regardless of whether delivered from a broker-dealer or investment adviser]." Perhaps the best target for advocacy is not to expand the fiduciary standard to all, but instead to remove the "solely incidental" exception for advice delivered by registered representatives, and simply make all advice subject to fiduciary.

But the bottom line is this: debating about the fiduciary versus suitability standards is a lost cause. The public doesn't understand the distinction, in no small part because they simply cannot conceive of any advice that isn't in their best interests, since that contravenes the very definition of advice. The real issue to the consumer is whether they are receiving advice at all, or whether they are simply being pitched a product for sale. By creating a distinction between product sales and advice, consumers can have a clear choice about which they want, and each can be regulated in its own appropriate framework. And if a product salesperson doesn't want to be held to the standards of advice - client-centric fiduciary, with the necessary competence including education, training, experience, and ethics - that's fine; just make it crystal clear to the buyer that no advice is being delivered. Just as so many advisors are already quick to emphasize that they are not tax advisors and cannot/do not give tax advice, so too would they make it clear they are not financial planners and cannot/do not give financial advice, unless they truly wish to deliver such advice and be held to the associated standard.

So what do you think? Is "advice vs product sales" a better distinction than "fiduciary vs suitability"? Does it make a clearer distinction for the public? How could we shift our advocacy, lobbying, and discussions with the public if we focused the debate on separating advice from product sales, instead of fiduciary from suitability?

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  • http://about.me/nathangehring Nathan Gehring

    Michael,

    This is a point I have been screaming about for a long time! A bit of clarity in roles will go a long way toward settling this argument.

    In fact, your post mirrors many of my own thoughts (although much more eloquently put by you) in a blog post I wrote almost two years ago as this battle really hit Washington: http://goo.gl/5E2Oc .

    If we could agree -- or more accurately, be regulated -- to be clear and honest about what our professional roles are, a lot of this debate would simply vanish. Then it would be up to us to repair a tarnished image of what a financial planner is.

    Thanks for putting the thought out there!

    -Nathan-

  • http://www.pathfinderfs.com David Jacobs

    Michael,

    I agree that the fiduciary vs. suitability debate is pointless. But I also don't think your solution gets us there either. Some amount of advice is inherent in most sales processes, you can't eliminate it. And that gray area then gets us back to where we are today.

    The only solution I see is dividing financial products into two camps much like we have with drugs. In one camp we have straight forward vanilla products that are easy to understand (e.g., term life insurance, immediate annuity, etc) which are allowed to be sold directly to the public by financial companies and their salesforce and other distributors.

    In the second camp we have those products which have sufficient complexity that a professional advisor subject to the fiduciary standard needs to be involved (e.g., write a financial prescription). Of course, this means we would also have to be more diligent about regulating the approved interactions between advisors and financial products companies (hopefully learning from some of the mistakes make in regulating doctor/drug company relationships).

  • Dylan

    Yes, yes, yes! Thank you for writing about this point (and doing it so clearly). I have been trying to spread this same message. It's totally about the difference between advice and sales. They're clearly two different activities, and that's what the focus needs to be on. Selling isn't advice, and if "advising" someone to buy something that you're selling isn't the very essence of a sales pitch, I don't know what is. Let's work to make it clear, and I 100% agree that "fiduciary" vs. "suitability" is not clear.

  • Ron Rhoades

    Michael, your observations are so true. One can be a trusted advisor or a product salesperson. Both have important roles to play in financial intermediation. However, all of the difficulties arise when trying to do both at the same time. As many jurists have noted, it is impossible to wear two hats at the same time. And, in reality, consumers are unaware when hat-switching occurs, even when disclosed, once a relationship of trust is formed.

    I am taken aback by lobbyists who have (perhaps successfully) framed the SEC rule making process in terms of preserving choice. The choice already exists. Product sellers can sell away. The problem is holding out as one providing advice while merely engaged in product sales. This results in a "rush to the bottom" as to standards of conduct, if two actors can both provide advice but under varied standards. George Akerloff won a Nobel Prize in economics for his work, which leads to this conclusion.

    In reality, fiduciary duties have always acted as restraints on conduct, both in terms of what is required of the advisor and what is prohibited. I fear that the SEC's rule making under Dodd Frank will eschew true fiduciary standards of conduct in favor of a "new federal fiduciary duty" in which duties of care are circumscribed, and in which conflicts of interest need only be casually disclosed (not avoided or, if unavoided, properly managed in a fashion that ensures no harm to the client). Of course, as we all know, consumers don't read disclosures, and don't understand them. (If disclosures did work, there would be no need for the true fiduciary standard.)

    While the fiduciary standard requires more, and is a higher standard, we must all acknowledge that current oversight of RIAs, at least SEC-registered ones, is resource constrained. Having a higher standard does not necessarily equate to better consumer protection if it is not adequately enforced. Yet, failures in enforcement in no way diminishes the utility, superiority or necessity of the true fiduciary standard for providers of financial advice. Despite this, proponents of suitability often use SEC resource constraints to argue against the fiduciary standard.

    Conflicts of interest in financial services are insidious. They have led to a diversion of a substantial portion of the returns of the capital markets away from individual investors. They have led to a financial services industry which, despite efficiencies resulting from the computer age, has grown to become a large segment of the nation's economy. Efforts to eliminate conflicts of interest, such as through arming investors with fiduciary representatives, have long been opposed by the dinosaurs of Wall Street. And this disintermediation process has been slowed by inappropriate SEC rule making since 1977.

    Imagine a world where all nearly consumers of investment products were represented by fiduciaries. Would high-turnover, high-fee pooled investment products exist? Would VAs exist? This is the nightmare scenario opponents of the fiduciary standard have sought to avoid through hundreds of millions of dollars devoted to lobbying.

    If nearly everyone became true fiduciary advisors, my clear advantage - in educating prospective clients of the many advantages my RIA business model offers, would largely disappear. Yet this outcome is one which many advocates of the fiduciary standard have Long sought - while fully aware that there own future business could be circumscribed. Why? Because much more is at stake. If Americans don't begin making far better choices about savings and investing, this will put an even great strain on federal, state and local governments in the future.

    Imagine a world where the average retiree has a 50% greater nest egg in the future, as a result of disintermediation (avoiding high fee / high cost investments). Some reintermediation occurs, but increased competition will keep the fees of fiduciaries at the levels charged by other skilled professionals.

    As seen, there are many aspects of the fiduciary standard "debate." There is a need, in my view, to preserve the business model of product sales. The difficulty arises, as one commenter has previously noted, in where to draw the line as to what transcends a product recommendation and when "advice" is provided. In a situation where consumers assume all financial consultants are trusted advisors, it may take some very forceful constraints on the use of titles, and marketing representations, and mandated disclosures, to re-establish the line.

    2012 will go a long way in determining the future of the fiduciary standard, both as to when it will be applied to providers of advice, and how.

    2012 will go a long way in determining whether the provision of investment advice and financial advice ever arises to the level of a true profession.

    I doubt the fix will be prohibiting product sellers from providing a large quantity of advice, or in prohibiting the use of terms or titles which denote an advisory relationship when none really exists. Seeing the large lobbying campaign by warehouses and insurance companies, I am pessimistic about the outcome of SEC rule making. There's an old saying in Washington ... "Follow the money." I only hope I am wrong with this prediction.

  • http://www.accretus.in partha iyengar

    Michael..This article pretty much rings a bell in India too..The current debate is precisely on this..
    The only difference is that the regulator is creating the debate among financial services professionals here! There is a new concept paper put out by the regulator which is soon expected to become a law for Registered Investment Advisers. It clearly points out that financial services professionals can choose to be either an 'Agent' or an 'Advisor'. The regulator believes that this will bring clarity in the minds of the investor. Of course, by opting for Advisor one has to follow a stricter standards and compliance compared to an 'Agent'.
    http://www.sebi.gov.in/cms/sebi_data/attachdocs/1317044891201.pdf

    If this paper gets implemented [either with some modification or none], it will be a welcome step..since this will be first time ever that financial services professionals will be brought under 'Regulation' in India!!!

  • Eric Golberg

    Michael,
    Fortunately, the bifurcation of sales product sales and advice has already occurred in both the U.K. and Australia. I recently had an opportunity to have a discussion with an advisor in Australia and it was refreshing to see how they serve their clients.
    Unfortunately, the U.S. is quite a ways behind in catching up; am sure it has nothing to do with the lobbying dollars spent by the brokerage and insurance industries! Seems inevitable, though, that this type of structure is where we end up.
    -Eric

  • Meg Bartelt

    The problem that stands out most to me is encapsulated is described by Mr. Rhoades as follows: "There is a need, in my view, to preserve the business model of product sales. The difficulty arises...in where to draw the line as to what transcends a product recommendation and when "advice" is provided."

    When I go into a clothing store, I fully expect the sales person to peddle whatever line of patter (lies or not) it takes about a pair of pants or a shirt in order to sell it to me. It seems inherent to the sales process. If someone were already convinced of the need for a product or service, the human salespeople could simply be replaced by computers (witness Amazon). I would expect a sales person in the financial industry (just as in the clothing industry) to take the same approach.

  • Robert Stanley

    Exactly; I’ve always argued there should be a simple salesman’s standard; IF your business card and/or any of your sales literature states or implies that you are anything other than a salesman THEN the fiduciary duty/standard as outlined in the advisors act would apply to you and more importantly to your master, the entity you are under contract with.

    Given many solutions, the simplest solution tends to be the correct solution; one interpretation of Occam’s razor.

    Bob Stanley

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  • John Olsen

    Michael,

    Bang on target, sir!

    But I still have qualms about the issue of "advice solely incidental to" product sales. Could ANY product sale be truly "suitable" if the seller provided no advice (or elicited goals and "facts and circumstances" information without which no meaningful advice would be possible"?

    I'm coming to the belief that a Product Salesperson who is not acting as an "advisor" - and does not wish to be regulated as such - ought to provide a disclosure that any advice he/she renders is intended to determine the suitability of product recommendations AND THAT SUITABLE SALE OF PRODUCT(S) IS THAT INDIVIDUAL'S GOAL when dealing with that consumer.

    Whatcha think?

    John

  • http://investsense.com Jim Watkins

    Have to respectfully with you on this one Michael. As both a securities attorney and advisor (as well as former director of compliance), holding both advisors and salesmen to a fiduciary duty is needed to protect the public against unethical advisors and salesmen. While there are plenty of ethical salesmen, we all know there are plenty who are not ethical. Just settled a case where annuity salesman sold a customer six VAs, tying up over 85% of net worth in annuities...all of which was approved by his BD. Tell me that is suitable. And I have over twenty cases like that

    In my opinion the bad reps are ruining it for the professional, ethical reps. I could go through a litany of cases to prove my point, but the real point is that the financial services industry has proven that the advisor/salesman dichotomy you propose will not work if the goal is to protect the public, which all securities laws state as their goal. Asking the salemen and their BD's to work under an "honor" code simply does not work. For evidence, just check the FINRA site re cases each year, with suitability being one of the leading claims. Again, unfortunate that the honest professionals must suffer, but blame it on the real problem, lax compliance and BDs ignoring the laws to increase their bottom line.

  • Michael Kitces

    Jim,
    You're partially making my point here.

    First of all, if your example from the annuity salesman is deemed unsuitable, then it's unsuitable. Period. That means it's a violation even WITHOUT a fiduciary standard.

    But the real point is that if the person had bought all those annuities from a website, would you have deemed the website's sale to be unsuitable as well? Would we prosecute the server for executing the transaction? Probably not. People have a right to make their own transactional decisions (although I'm certainly a supporter of educating them away from harmful ones). But why is it different whether the person buys the annuities from a website order-taker or a human being order-taker?

    The real issue is how the annuity salesman was held out to the client. If that person held themselves out AS an advisor, I have a real concern, because that implies the client was ADVISED to buy the annuities. That's the distinction I'm making here. If the "annuity salesman" was simply a human version of a computer order-taker - then the scenario looks different.

    The reason why FINRA is littered with complaints is precisely because people don't KNOW they're working with a salesman. They THINK they're working with an advisor. That doesn't mean every salesman has to BE a fiduciary. Are you going to sue a website for breach of fiduciary duty? Or a car dealership? Or the person on the sales floor at a department store? The public does understand salespeople and the caveats that go with them. What they don't understand are salespeople who hold themselves out as something they're not.
    - Michael

  • http://Www.wwkllc.com Roger Whitney

    Good point Michael. Everyone gives advice because that is what the consumer wants (whether a salesman or not). Problem is most don't know when the advice is given with the pretense of getting a sale. What they want is advice without pretense and that is the key distinction between an advisor and salesperson. People don't get fiduciary. I like the direction of your thinking because it puts it in simpler language

  • Katrina Hawker

    I enjoyed reading Michael's article and the related comments. It is interesting to see a comment from India. I reside in New Zealand. (It's that little country just near Australia. NOT part of Australia and actually three and a half hours away by plane.) We have it sorted here, I think. Our legislative framework makes it clear as to what a financial service is, who the providers can be and what type of client they may be dealing with (including more savvy clients defined as "eligible" or "wholesale". Accompanying our legislation, we have a Code of Professional Conduct where the first (of sixteen) standards says an Adviser must place the interests of the client first and act with integrity. All Advisers have to document how they work, disclose all aspects of that to both the regulator and clients then be subject to audit. It is an offence against our legislation NOT to report breaches of the Code to our regulatory authority. This regime was brought in to sort out a hitherto unregulated and out-of-control industry. I am not saying that the Public is totally clear about the difference between a fiduciary approach and the alternatives but at least we have developed, what I think is, a good foundation on which to build a sound understanding.

  • JC

    "to give (someone) a recommendation about what should be done"

    I see nothing in that definition of "advice" that requires the recommendation to be in the best interest of the recipient. I think this is an overly narrow and simplistic way to look at it... and one that does not reflect the reality of how business is done. I certainly don't perceive every bit of advice I seek (whether professional, financial or personal) to be significantly detached from the biases of the adviser.

    If anything, the reality that most people believe the financial advice they receive is given under a fiduciary standard is the best reason to require all to adhere to the fiduciary standard, or at the very least to make it painfully clear that the fiduciary standard - the one expected by the random person walking in the door - isn't the standard followed there. If such a public notice is considered a stigma, there's an obvious reason for that: to not follow a fiduciary standard is to specifically say to your customers that your best interests come ahead of theirs, and no customer wants to hear that.

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  • Michael Kitces

    Ron,
    Thanks for sharing. I find your parenthetical comment particularly striking:
    "If disclosures did work, there would be no need for the true fiduciary standard."

    So true, and what an intriguing way to frame the issue!
    - Michael

  • Michael Kitces

    Meg,
    Indeed. The difference, though, is that the person in the clothing store is not widely marketed and held out to the public as a "personal clothing advisor".

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