Is Schwab blocking broker breakaways?

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After almost a decade working for Charles Schwab as a financial planner, David Tsow was ready for a change, and had his eyes set on the independent channel.

Soon after he began his search in January 2019, a headhunter told Tsow he’d had no success finding a match. Three RIAs that interviewed Tsow came back with identical answers: No.

“They all said: ‘Dave, we can't talk with you,’ ” Tsow says. The reason? “Basically, they were using Schwab as a custodian, and Schwab would have issues.”

Even as Schwab doubles down on its aggressive advertising campaign that promotes the value of the independent advisory channel, a lawsuit as well as what one former Schwab executive refers to as an "unwritten policy" highlight the lengths Schwab is willing to go to keep its own employees from going independent with RIAs that use its custodial division and taking any clients with them.

Schwab has a history of taking brokers to arbitration that it alleges have solicited clients after leaving the firm, but it has also gone after RIAs: Schwab has removed at least two firms from its custodial platform after accusing them of aiding in client solicitation prohibited in broker-signed agreements. That's according to court documents, a former Schwab financial consultant and an ex-Schwab executive.

“They're essentially depressing the market for their employees through intimidation,” alleges Steve Greco, the founder of Spotlight Asset Group, the Chicago-based RIA that hired Tsow last April. Greco claims his firm was threatened, then kicked off the Schwab platform, after hiring Tsow.

In response to questions about its policy regarding RIAs that hire its brokers, Schwab spokesman Rob Farmer provided the following statement: “Schwab’s long-standing policy, which is made known to our advisors, is to preserve retail client assets when a former retail client-facing employee of Schwab joins an independent advisor firm. Just as independent firms on our platform should expect us not to solicit assets away from their firms, it’s our expectation that independent advisors extend the same consideration to Schwab’s retail business. Our policy is designed to build a stronger sense of collaboration and partnership between Schwab and advisors on the Schwab Advisor Services platform by making sure that existing employment and client relationships are respected.”

Some who have left the company say Schwab’s strategy of taking brokers to arbitration makes them fearful of communicating with former clients in any capacity.

“[You] can't call, can’t talk, can’t friend, can’t anything,” says a former portfolio consultant at Schwab Private Client, who left the firm in 2019 and asked not to be identified in order to stay off the company’s radar. This rep says there are clients still “sitting in my queue” on LinkedIn, but has ignored them out of fear of arbitration.

Schwab’s Farmer, who declined to comment on any one instance, said that ex-Schwab employees are not altogether prohibited from communicating with former clients.

“Brokers who work at Schwab are subject to post-employment legal and regulatory obligations. These include not using any confidential information clients provide to Schwab and not soliciting clients away from Schwab. Former employees are not prohibited from responding to clients who reach out to them, but Schwab expects them to comply with these obligations,” he said.

In the case of Tsow, Schwab has filed solicitation claims against him through FINRA arbitration, he says. In dispute: 13 clients with approximately $21 million in client assets who followed the broker to Spotlight Asset Group, according to Tsow.

While brokers whose clients follow them from Schwab may face challenges, RIAs that hire the brokers take their own risks. Schwab has terminated its custody relationship with at least two firms after lodging accusations against the firms for soliciting Schwab clients. One such firm was Spotlight.

Spotlight had joined Schwab’s custodial platform about two weeks after it hired Tsow. Its decision was unrelated to Tsow’s hire — it wanted to onboard a Schwab-custodied advisor, as well as find an alternative to TD Ameritrade, according to Greco.

On July 1, Schwab sent Spotlight Asset Group a notice that the RIA’s relationship with Schwab was being terminated, effective Oct. 2. Communication before the
termination letter points to what preempted the end of the relationship.

On May 8, Jason Howard, who was then Spotlight’s general counsel, spoke on the phone with a Schwab institutional rep. After the call, Howard emailed Greco to say the rep had given Spotlight a “shot across the bow.” The rep had told him “that if any Schwab assets move out of Schwab Advisory Services to Spotlight, still custodied at Schwab, then they would seek to terminate the institutional relationship between Schwab and Spotlight,” Howard wrote in the email.

The conversation was not recorded, but Howard sent an email to Schwab five days after the call to document what was said and outlining his understanding of the policy.

“You stated it was Schwab Advisor Services’ policy to terminate an institutional relationship with a Registered Investment Adviser (RIA) that employs a former Schwab employee if a Schwab client becomes a client of the RIA,” Howard wrote to the rep in an email which was shown to Financial Planning. “If my recollection of our call is inaccurate, please correct the record.” Schwab did not respond, Greco says.

Schwab’s faxed letter to Spotlight didn’t list a reason for the termination. A reason was not required because of the at-will nature of the firms’ relationship. “Schwab may terminate this Agreement at any time in its sole discretion without advance notice,” reads Spotlight’s agreement with Schwab.

But Greco says Schwab’s reason was clear: Schwab’s planners are off-limits to RIAs.

Another RIA, Highwater Wealth Management, which is based in Glendale, Colorado, faced a similar dispute with its custodian, according to court documents that outline a custodial relationship that fell apart after the RIA hired a Schwab broker.

Schwab filed a lawsuit against Highwater in 2017 in federal court in Colorado, accusing the firm of “an unlawful scheme to divert business to itself from one of Schwab Investor Services’ retail branch offices.”

In counterclaims, Highwater Wealth Management reports that Schwab removed the RIA from its platform as a matter of retaliation and that “Schwab intentionally attempted to portray Highwater in a negative light and create an appearance of impropriety” when the custodian sent out a notice of the termination to its clients. The lawsuit was jointly dismissed by both parties, and a FINRA arbitration panel ended up rejecting Schwab’s claims against its former broker. “Claimant's claims are denied in their entirety,” the ruling said.

Highwater’s president, Dickson Griswold, did not respond to two requests for comment, and Schwab’s Farmer declined to comment.

Schwab has long had an “unwritten policy” that RIAs aren’t to hire Schwab reps, says Tim Welsh, former director of business consulting at the custodian and now CEO of wealth management consulting firm Nexus Strategy. “This is nothing new … particularly in their referral networks,” Welsh says, adding: “When advisors do this, they definitely look at it as a threat to their business.”

Schwab reps may also face challenges when opening up their own independent advisory firms. Gage DeYoung, who left Schwab in 2015 to open an RIA, says he attempted to custody assets at his former employer.

“Over the course of two weeks it was verbally conveyed to me that my employment [with] Schwab was a barrier to me for moving forward with their platform,” DeYoung says, later adding: “They couldn’t clearly articulate it to me what it was. To them, it was a barrier that I worked at Schwab.” Farmer declined to respond.

To be sure, Schwab is upfront about its protective approach to its approximately 12 million brokerage accounts. The company clearly articulates in an eight-page confidentiality, nonsolicitation and intellectual property ownership agreement brokers sign that clients and their information are proprietary — they don’t belong to the planners. Many broker-dealers have similar agreements with their employees.

“They felt like my clients, but to be fair, I wouldn't have met them if I weren't at Schwab,” says the former private client rep who asked not to be identified.

In these employee documents, Schwab brokers agree to rules surrounding a departure from the company, including a four-week resignation notice in which they cannot lease a new office space, prepare a Form ADV or initiate contact with clients. Brokers are also supposed to disconnect with clients on LinkedIn, according to agreements attached to court documents filed when Schwab seeks preliminary injunction against its brokers ahead of an arbitration hearing.

For former rep DeYoung, the policies made sense to him: “They want to protect the firm from losing any clients.”

The agreements are strict, and they dissuade recruiters. Frank LaRosa, a headhunter of Elite Consulting Partners, says he doesn’t know any recruiters who work with Schwab planners.

“It’s very difficult to do. It becomes a waste of time,” he says.

Schwab’s nonsolicitation policies aren’t unique (Fidelity and other competitors also pursue employees that depart the firm with clients), but its action against the RIAs may be.

Spotlight’s Greco says that, while Fidelity expressed concerns with his firm after he hired two of their reps in the spring of 2018, the two firms worked together to guarantee that no employee agreements were broken. “At no point in time did Fidelity ever [say they may] kick us off their platform,” he says.

Fidelity spokeswoman Nicole Abbott said the company has no formal policy on the matter.

Custodians can remove any RIA from its platform, according to Paul Foley, an attorney who regularly works with advisors and teams going independent.

“[A custodian] can provide services to who they want to provide services to,” he says.

Yet Greco says protective behavior limits employment opportunities for brokers, and scares firms away from hiring them.

“Advisors cannot be in business if they don’t have a custodian,” Greco says. “And we’re now in a position where Schwab is taking over TD Ameritrade, and they’re going to have a remarkable market share of the custodial business.”

A combined Schwab-TD Ameritrade entity would custody assets for 51% of the RIA market, according to estimates by Cerulli Associates.

Schwab’s efforts to keep its employees put are indicative of a greater challenge for custodians who simultaneously run an employee brokerage and RIA division, Foley says.

“[The move to independence has] happened too fast for a lot of the BDs that also are custodians, and they’re trying to find a way to ebb the flow of people going independent,” he says, noting he has seen increasing attempts to restrain employee advisors at these firms from going to independent channels, such as denying them custody.

Custodians face a barrier that many employee brokerages don’t: Clients who go to an institutional division from a retail division at a firm like Schwab don’t have to switch platforms, making for an easy move, according to LaRosa.

“It makes the story to the client pretty simple: You still stay with Schwab, but you’re going to get an increase in your service level. … I can see why Schwab would not want them to do that,” he says.

In addition, advisors may be encouraged to join RIAs through their brokerage’s own marketing efforts.

Schwab actively promotes the independent model with its advertising campaign called “Independent Difference,” which it reports has reached more than 1 billion views. The campaign sponsored the Golf Channel documentary “Hogan” and included an interactive game in The Wall Street Journal.

As the industry increasingly shifts more and more toward independence, attorney Foley says he doesn’t anticipate these solicitation fights will last.

“I expect firms will start throwing in the towel trying to fight it,” Foley says.

As for Tsow, he’s been an advisor at Spotlight for about 10 months. The date for his arbitration hearing hasn’t been set, but he continues to be taken aback by how it all panned out.

“I guess it's just surprising the extent that Schwab is taking this, just for a handful of clients,” he says.

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