Experiential Wealth

When it Comes to Best Interest, There is no Gray Area

Apr 11, 2016 | Institutions, Opinions, Plan Sponsors

ERISA has always required a fiduciary to serve “solely” in the best interest of the plan participants and beneficiaries. There is nothing new about this requirement. Since the fiduciary standard is a principal- rather than rule-based law, the essence of a fiduciary meeting his/her fiduciary duty will be based on facts and circumstances at the time such advice or decisions were made. A fiduciary must act “with the care, skill, prudence and diligence under the circumstances then prevailing that a prudent man acting in a like capacity” would act has been around for as long as trust law has been around. Nothing new here either.

The DOL, in its attempt to placate the brokerage and wire house industry, created exemptions that neutralize commission and variable compensation as a conflict. This is not an easy feat and is awkward. Nonetheless, once considered a fiduciary, the broker adviser must live up to the fiduciary standard. There are conflicts in fee-based advisers as well. Some examples are decisions pertaining to rollover upon termination, annuitize or lump sum decision at retirement from a DB plan, payoff the mortgage at retirement or sooner, are just the most common. We should not give fee-based advisers an automatic fiduciary pass. Fee-based can mean a flat asset-based fee where the plan assets increase every year guaranteeing a pay raise for the adviser while the work load remains unchanged. This is a conflict indeed.

There is nothing gray about the “best interest”. It is actually really clear. Most practitioners want a rule-based approach where we are told exactly what are allowed or not allowed actions in a similar method imposed by FINRA to its members under the suitability standard. Like teenagers, we all try to circumvent rules (“rules are made to be broken”) which would bring on more rules for us to get around. A principal-based approach on the other hand, such as the fiduciary rule, reminds me of the definition for pornography…you know it when you see it. For example, instead of writing pages of rules to impose honesty, we should simply say that one should be honest. We can use facts and circumstances of the situation to later judge if the person was dishonest or not.

A decision that is made based solely on the best interest of the client requires not only the duty of loyalty (which is what most observers talk about) but also the duty of due care. Based on the facts and circumstances of the client at the time, a set of advice can be given that is deemed prudent. Notice that there is no outcome expectation or benchmark written in any fiduciary laws or imposed on any fiduciary. The fiduciary practice is about building an ever improving and evolving process based on new and changing data and information so that the client can be served, on an ongoing basis, in his/her best interest as times change.