NASAA Finds Broker-Dealers are Slow in Meeting Reg BI Standards
Commentary by Steven Lofchie
Based on a study of 200 broker-dealers, NASAA found that firms are "still relying heavily" on suitability policies that predate Regulation Best Interest ("Reg BI").
NASAA also proposed amendments to its "Dishonest or Unethical Business Practices of Broker-Dealers and Agents" rule to further support the implementation of Reg BI standards.
In a Report entitled Phase II (B) of its Coordinated National Regulation Best Interest Examination Initiative, NASAA focused on "complex, costly, risky" (a/k/a "CCR") products: leveraged and inverse exchange-traded funds, non-traded REITs, variable annuities and private placements. NASAA reported that, generally, broker-dealers are:
- adjusting their investor profile forms and policies and procedures with Reg BI requirements but need "more specific instructions";
- adhering to "product-specific restrictions" when recommending CCR products in accordance with age, net income/worth and risk profiles and are using exception reports to ensure compliance;
- utilizing cost-comparison tools to assess reasonably available alternatives despite their continuing to ignore common lower-cost and lower-risk products when recommending CCRs;
- depending on financial incentives to sell CCR products; and
- "not enhanc[ing] point-of-sale disclosure" but continuing to devote "significant" efforts to comply with Reg BI's Disclosure Obligation by "crafting the Form CRS and detailed Supplemental Reg BI disclosures, along with disclosure information available via link to the [broker-dealer's] website."
Business Practices Proposed Amendments
NASAA proposed amendments to its "Dishonest or Unethical Business Practices of Broker-Dealers and Agents" rule to implement Reg BI standards. The amendments would clarify that broker-dealers must (i) make recommendations that are "in the best interest of the retail customer" and (ii) "make all reasonable efforts to avoid or eliminate conflicts of interest." NASAA also proposed including a prohibition on the "misleading use of the professional title 'advisor' or 'adviser.'" NASAA said that the "blurring of brokerage and advisory services" can mislead investors to believe that a broker-dealer is acting in a fiduciary capacity.
Comments on the proposal must be submitted by December 4, 2023.
Commentary
Although market participants are primarily focused on proposed rules put forward by the federal regulators, it would be prudent to be attentive to state activity concerning broker dealers, given the very large role that state regulators play in enforcing suitability standards. It is important that state laws and regulations are neither ambiguous nor overbroad. The enforcement action brought by the State of Massachusetts against Robin Hood is illustrative of the significant role that state regulators play in this area. Firms should be aware that the Massachusetts court decided that there was no bar against the various states adopting regulations that were stricter than those set out in Regulation Best Interest, and thus implicitly there is the possibility that every state may adopt a different standard.