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What If the DOL Rule Change for Financial Advisors Applied to Used Car Dealers?

By: Joe Delaney

If you follow financial news you have likely by now heard about changes to the way financial advisors are allowed to do business brought about by the Department of Labor (DOL). You may have recognized that the DOL’s ruling is probably beneficial to you as an investor and not thought much more of it.

Yes, the new standards may be beneficial to you. Then again, they may not.

Let’s briefly recap what the DOL has done. Advisors providing investment advice for retirement accounts are now subject to the more stringent requirements for service called the fiduciary standardthan the previous suitability standard. This means they are legally obligated to act in your best interests as an investor.

That ought to give you pause. “They didn’t have to act in my best interest before?”

The answer to that question is pretty complicated. The suitability standard is essentially one where advisors have to justify a “reasonable basis” to recommend a transaction or strategy; one that is “suitable” in the sense that is not outright impossible for the investor to make money.

By contrast, the fiduciary standard is one that requires an advisor to put themselves in the place of the client, ethically speaking. A fiduciary is legally obligated to practice a version of the Golden Rule: “advise unto others as you would have them advise unto you.”

To simplify the issue, let’s pretend this change had happened not in the financial services industry, but in the used car business.

The Suitability Standard … of Used Car Sales

A “suitable” vehicle runs. The salesman can reasonably expect that at least somedrivers can get home in it without breaking down. Under this minimum standard:

  • It is acceptable for the markup over retail value to be far higher than fair market valueobtained using sales of similar vehicles in the area for comparison.
  • It is acceptable for the salesman’s commission on the sale of this vehicle to be higher than it would be on a safer alternative specifically because it is a riskier investment.
  • It is also acceptable for the salesman to have a deal on the side, perhaps a bet with another salesperson, that he can sell you a particular vehicle whether or not it’s best for you.

There is far less regulation on the fees charged for investment services, on the viability of investment vehicles and on the necessity of disclosing conflicts of interest under the suitability standard. Gouging the investor with as many fees as they are willing to pay (or are unaware of) is an acceptable practice.

A “Fiduciary-esque” Standard Imagined

Under a car dealer’s version of a “fiduciary” standard the salesman must recommend a vehicle he himself would drive if he were in your shoes.

  • He must provide an asking price within the bounds of demonstrable fair market value.
  • He must not have an incentive to earn more because he was able to convince you to purchase a vehicle he knows to be inferior.
  • If he somehow earns extra compensation for selling you a particular model in addition to what he earns from his direct employer, he has to tell you first.

A fiduciary is under far more scrutiny to demonstrate fair fees, well-researched products and win-win scenarios. For example, a fiduciary advisor must disclose that rolling an employer-provided 401k over into an IRA he manages will mean increased compensation for the advisor and must demonstrate value for the fees charged.

Does This Benefit You as an Investor?

Yes … if:

1) You are investing in a retirement account.

It is important to understand that the new requirement for advisors to operate at the fiduciary standard of service applies only to advisors working with 401k and traditional IRA investors. The new standard does not (yet) apply to any form of taxable investment account or other investment purchased with after-tax dollars (such as Roth IRAs, annuities, etc.).

2) You are aware of your rights.

There is a big loophole in the new ruling called the Best Interests Contract Exemption(BICE) that allows otherwise prohibited transactions (investments in the advisor’s own ventures, for example) as long as the financial institution has mechanisms to “police its own conflict of interest.” That may seem like it takes the teeth out of the new rule, but one important shift remains: the right of investors to seek legal action if advisors fail to meet their newly-required fiduciary obligations. In other words, if your “dealer” sells you a lemon and later claims he only sold it – he didn’t adviseyou to buy it – anything he made you sign waiving your right to sue won’t hold up in court.

The bottom line is this: ask your financial advisor if he or she is a fiduciary or a broker that is accountable only to the suitability standard of service.Should you ask us at Lifeguard Wealth the answer will be that not only are we a fiduciary, we have been since the beginning. The same is true for any advisor under the BAM Alliance umbrella. It’s that dedication to the fiscal Golden Rule that made us choose to join BAM and why we continue to be proud of our membership.

Just like driving, there is always risk in investing. Now is the time to find out whether your vehicle is in your best interest … or just a minimally “suitable” clunker nickel-and-diming you off the road.

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http://finra.complinet.com/en/display/display.html?rbid=2403&record_id=13390&element_id=9859&highlight=2111

https://www.kitces.com/blog/best-interests-contract-exemption-bice-and-dol-fiduciary-bic-requirements/

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The opinions expressed by myself and other featured authors are their own and may not accurately reflect those of Lifeguard Wealth. This article is for general information only and is not intended to serve as specific financial, accounting or tax advice.

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