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In whose best interest? State AGs challenge SEC’s Reg BI

Investor advocates have sharply criticized the SEC’s Regulation Best Interest. Now the commission is getting taken to task by eight attorneys general.

They’re challenging the regulation in federal court, asking a judge to vacate the “watered-down rule” because it fails to protect investors and ignores Congress’ intentions for a fiduciary rule as authorized by the Dodd-Frank Act. The lawsuit ups the stakes in the industry’s ongoing fight over standards of conduct for advisors and brokers.

“Instead of adopting the investor protections of Dodd-Frank, this watered-down rule puts brokers first,” New York State Attorney General Letitia James said in a statement. “The SEC is now promulgating a rule that fails to address the confusion felt by consumers and fails to remedy the conflicting advice that motivated Congress to act in the first place.”

James and seven other attorneys general filed suit against the SEC in the Southern District of New York. The other plaintiffs include California, Connecticut, Delaware, Maine, New Mexico, Oregon and the District of Columbia.

An SEC representative was unavailable for immediate comment.

Letitia James, New York attorney general, right, speaks to members of the media as Dale Ho, director of the American Civil Liberties Union (ACLU) voting rights project, listens outside the U.S. Supreme Court after oral arguments in the Department of Commerce v. New York, 18-966, case in Washington, D.C., U.S., on Tuesday, April 23, 2019. Key Supreme Court justices seemed inclined to let the Trump administration add a question about citizenship to the 2020 census in a clash that will shape the allocation of congressional seats and federal dollars. Photographer: Andrew Harrer/Bloomberg
Letitia James, New York attorney general, right, speaks to members of the media outside the U.S. Supreme Court on April 23, 2019.

The lawsuit is “wrong of the law,” Tom Quaadman, executive vice president of the U.S. Chamber of Commerce’s Center for Capital Markets, said in a statement . “We are exploring our options to oppose this misguided effort.”

The legal challenge comes after years of contentious struggles over standards of conduct that have touched nearly every corner of the profession. For example, the CFP Board’s effort to strengthen its fiduciary requirement for planners faced significant industry pushback — and equally vocal support.

This also follows successful efforts by the Chamber of Commerce and other industry trade groups to kill the Department of Labor’s fiduciary rule. That regulation was vacated by a federal appeals court a year ago.

James and her fellow attorneys general cite that case to support their argument that the SEC ignored the Dodd-Frank Act’s provisions directing it to study and adopt a fiduciary rule. The federal appeals court vacated the Labor Department’s fiduciary rule under ERISA, a federal law, because Dodd-Frank “already delegated that authority to the commission,” their complaint says.

More robust investor protections than what is currently available are necessary because of the collapse of distinctions between investment advisors and broker-dealers, the complaint says. This has left investors confused and at risk of harm, it suggests.

The lawsuit dings the SEC for failing to require brokers to provide advice without regard to their financial interest. Reg BI’s standard is “a far cry from the fiduciary standard authorized in” Dodd-Frank. It “produces a standard of care that is similar in large measure to, and fails to meaningfully elevate, the existing suitability obligation in FINRA Rule 2111,” the lawsuit says.

In addition, the state attorneys general argue that the SEC’s rule has ambiguous terms, fails to properly define what is best interest and has poor enforcement mechanisms.

Meanwhile, several state securities regulators have proposed their own fiduciary rules, with some citing the SEC’s Reg BI as motivation.

“We are proposing this standard, because the SEC has failed to provide investors with the protections they need against conflicts of interest in the financial industry, with its recent Regulation Best Interest rule,” Massachusetts Secretary of the Commonwealth William Galvin said in June when unveiling his state’s fiduciary proposal.

Industry trade groups, which challenged the Labor Department’s fiduciary rule, have long argued that the SEC should have sole authority to promulgate industry standards of conduct. Fiduciary rules, whether proposed at the federal or state level, will curb investor’s choice and add to firms’ compliance bills, they contend.

The state attorneys general counter that the commission’s failure to craft a more robust standard will be more costly to clients. Their states will be forced to “bear a greater financial burden to assist retirees and others whose savings are insufficient to meet their needs due to conflicted investment advice.”

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