Regulation Best Interest: The Broker-Dealer Standard of Conduct

Federal RegisterJul 12, 2019

Ask Donna

What actually matters in this document.

Text

SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 240

[Release No. 34-86031; File No. S7-07-18]

RIN 3235-AM35

Regulation Best Interest: The Broker-Dealer Standard of Conduct

AGENCY:

Securities and Exchange Commission.

ACTION:

Final rule.

SUMMARY:

The Securities and Exchange Commission (the “Commission”) is adopting a new rule under the Securities Exchange Act of 1934 (“Exchange Act”), establishing a standard of conduct for broker-dealers and natural persons who are associated persons of a broker-dealer (unless otherwise indicated, together referred to as “broker-dealer”) when they make a recommendation to a retail customer of any securities transaction or investment strategy involving securities (“Regulation Best Interest”). Regulation Best Interest enhances the broker-dealer standard of conduct beyond existing suitability obligations, and aligns the standard of conduct with retail customers' reasonable expectations by requiring broker-dealers, among other things, to: Act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the broker-dealer ahead of the interests of the retail customer; and address conflicts of interest by establishing, maintaining, and enforcing policies and procedures reasonably designed to identify and fully and fairly disclose material facts about conflicts of interest, and in instances where we have determined that disclosure is insufficient to reasonably address the conflict, to mitigate or, in certain instances, eliminate the conflict. The standard of conduct established by Regulation Best Interest cannot be satisfied through disclosure alone. The standard of conduct draws from key principles underlying fiduciary obligations, including those that apply to investment advisers under the Investment Advisers Act of 1940 (“Advisers Act”). Importantly, regardless of whether a retail investor chooses a broker-dealer or an investment adviser (or both), the retail investor will be entitled to a recommendation (from a broker-dealer) or advice (from an investment adviser) that is in the best interest of the retail investor and that does not place the interests of the firm or the financial professional ahead of the interests of the retail investor.

DATES:

Effective date:

This rule is effective September 10, 2019.

Compliance date:

The compliance date is discussed in Section II.E of this final release.

FOR FURTHER INFORMATION CONTACT:

Lourdes Gonzalez, Assistant Chief Counsel—Office of Sales Practices; Emily Westerberg Russell, Senior Special Counsel; Alicia Goldin, Senior Special Counsel; John J. Fahey, Branch Chief; Daniel Fisher, Branch Chief; Bradford Bartels, Special Counsel; and Geeta Dhingra, Special Counsel, Office of Chief Counsel, Division of Trading and Markets, at (202) 551-5550, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-8549.

SUPPLEMENTARY INFORMATION:

The Commission is adopting new rule 17 CFR 240.15

-1 under the Exchange Act to establish a standard of conduct for broker-dealers and natural persons who are associated persons of a broker-dealer when they make a recommendation to a retail customer of any securities transaction or investment strategy involving securities. The Commission is also adopting amendments to rules 17 CFR 240.17a-3 and 17 CFR 240.17a-4 to establish new record-making and recordkeeping requirements for broker-dealers with respect to certain information collected from or provided to retail customers.

Table of Contents

I. Introduction

A. Background

B. Overview of Regulation Best Interest

C. Overview of Modifications to the Proposed Rule Text and Guidance Provided

D. Overview of Key Enhancements

II. Discussion of Regulation Best Interest

A. General Obligation

1. Commission's Approach

2. General Obligation To “Act in Best Interest”

B. Key Terms and Scope of Best Interest Obligation

1. Natural Person Who Is an Associated Person

2. Recommendation of Any Securities Transaction or Investment Strategy Involving Securities

3. Retail Customer

C. Component Obligations

1. Disclosure Obligation

2. Care Obligation

3. Conflict of Interest Obligation

4. Compliance Obligation

D. Record-Making and Recordkeeping

E. Compliance Date

III. Economic Analysis

A. Introduction and Primary Goals of the Regulation, Comments on Market Failure and Quantification, and Broad Economic Considerations

1. Introduction and Primary Goals of the Regulation

2. Broad Economic Considerations

3. Comments on Market Failure of the Principal-Agent Relationship and Quantification; Comments That the Broker-Dealer, Commission-Based Model Should Be Severely Restricted or Eliminated

B. Economic Baseline

1. Providers of Financial Services

2. Regulatory Baseline and Current Market Practices

3. Investment Advice and Evidence of Potential Investor Harm

4. Trust, Financial Literacy, and the Effectiveness of Disclosure

C. Benefits and Costs

1. General

2. Disclosure Obligation

3. Care Obligation

4. Conflict of Interest Obligation

5. Compliance Obligation

6. Record-Making and Recordkeeping

7. Approaches To Quantifying the Potential Benefits

D. Efficiency, Competition, and Capital Formation

1. Competition

2. Capital Formation and Efficiency

E. Reasonable Alternatives

1. Fiduciary Standard for Broker-Dealers

2. Prescribed Format for Disclosure

3. Disclosure-Only

IV. Paperwork Reduction Act

A. Respondents Subject to Regulation Best Interest and Amendments to Rule 17a-3(a)(35) and Rule 17a-4(e)(5)

1. Broker-Dealers

2. Natural Persons Who Are Associated Persons of Broker-Dealers

B. Summary of Collections of Information

1. Disclosure Obligation

2. Care Obligation

3. Conflict of Interest Obligation

4. Compliance Obligation

5. Record-Making and Recordkeeping Obligations

V. Final Regulatory Flexibility Act Analysis

A. Need for and Objectives of the Rule

B. Significant Issues Raised by Public Comments

C. Small Entities Subject to the Rule

D. Projected Reporting, Recordkeeping, and Other Compliance Requirements

1. Disclosure Obligation

2. Care Obligation

3. Conflict of Interest Obligation

4. Compliance Obligation

5. Record-Making and Recordkeeping Obligations

E. Agency Action To Minimize Effect on Small Entities

VI. Statutory Authority and Text of the Rule

I. Introduction

We are adopting a new rule 15

-1 under the Exchange Act (“Regulation Best Interest”) that will improve investor protection by: (1) Enhancing the obligations that apply when a broker-dealer makes a recommendation to a retail customer and natural persons

who are associated persons of a broker-dealer (“associated persons”) (unless otherwise indicated, together referred to as “broker-dealer”) and (2) reducing the potential harm to retail customers from conflicts of interest that may affect the recommendation. Regulation Best Interest enhances the broker-dealer standard of conduct beyond existing suitability obligations, and aligns the standard of conduct with retail customers' reasonable expectations by requiring broker-dealers, among other things, to: (1) Act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the broker-dealer ahead of the interests of the retail customer; and (2) address conflicts of interest by establishing, maintaining, and enforcing policies and procedures reasonably designed to identify and fully and fairly disclose material facts about conflicts of interest, and in instances where we have determined that disclosure is insufficient to reasonably address the conflict, to mitigate or, in certain instances, eliminate the conflict. Regulation Best Interest establishes a standard of conduct under the Exchange Act that cannot be satisfied through disclosure alone.

A. Background

Broker-dealers play an important role in helping Americans organize their finances, accumulate and manage retirement savings, and invest toward other important long-term goals, such as buying a house or funding a child's college education. Broker-dealers offer a wide variety of brokerage (

i.e.,

agency) services and dealer (

i.e.,

principal) services and products to both retail and institutional customers.

Specifically, the brokerage services provided to retail customers range from execution-only services to providing personalized investment advice in the form of recommendations of securities transactions or investment strategies involving securities to customers.

See

Regulation Best Interest, Release No. 34-83062 (Apr. 18, 2018) [83 FR 21574] (May 9, 2018) (“Proposing Release”) at 21574-75;

see also

Staff of the U.S. Securities and Exchange Commission,

Study on Investment Advisers and Broker-Dealers As Required by Section 913 of the Dodd-Frank Wall Street Reform and Consumer Protection Act

(Jan. 2011) (“913 Study”) at 8-12,

available at

www.sec.gov/news/studies/2011/913studyfinal.pdf

(discussing the range of brokerage and dealer services provided by broker-dealers).

See

Proposing Release at 21574-21575;

see also

913 Study.

Investment advisers play a similarly important, though distinct, role. As described in the Fiduciary Interpretation, investment advisers provide a wide range of services to a large variety of clients, from retail clients with limited assets and investment knowledge and experience to institutional clients with very large portfolios and substantial knowledge, experience, and analytical resources.

See

Commission Interpretation Regarding Standard of Conduct for Investment Advisers, Advisers Act Release No. 5248 (June 5, 2019) (“Fiduciary Interpretation”).

As a general matter, broker-dealers and investment advisers have different types of relationships with investors, offer different services, and have different compensation models when providing investment recommendations or investment advisory services to customers. Broker-dealers typically provide transaction-specific recommendations and receive compensation on a transaction-by-transaction basis (such as commissions) (“transaction-based” compensation or model). A broker-dealer's recommendations may include recommending transactions where the broker-dealer is buying securities from or selling securities to retail customers on a principal basis or recommending proprietary products.

Investment advisers, on the other hand, typically provide ongoing, regular advice and services in the context of broad investment portfolio management, and are compensated based on the value of assets under management (“AUM”), a fixed fee or other arrangement (“fee-based” compensation or model).

This variety is important because it presents investors with choices regarding the types of relationships they can have, the services they can receive, and how they can pay for those services. It is also common for a firm to provide both broker-dealer and investment adviser services.

See

Proposing Release at 21574-21575;

see also

913 Study.

See

913 Study.

Like many principal-agent relationships—including the investment adviser-client relationship—the relationship between a broker-dealer and a customer has inherent conflicts of interest, including those resulting from a transaction-based (

e.g.,

commission) compensation structure and other broker-dealer compensation.

These and other conflicts of interest may provide an incentive to a broker-dealer to seek to increase its own compensation or other financial interests at the expense of the customer to whom it is making investment recommendations.

The investment adviser-client relationship also has inherent conflicts of interest, including those resulting from an asset-based compensation structure that may provide an incentive for an investment adviser to encourage its client to invest more money through an adviser in order increase its AUM at the expense of the client.

See

Fiduciary Interpretation at footnotes 53-72 and accompanying text for a discussion of how investment advisers satisfy their fiduciary duty when conflicts of interest are present.

Notwithstanding these inherent conflicts of interest in the broker-dealer-customer relationship, there is broad acknowledgment of the benefits of, and support for, the continuing existence of the broker-dealer business model, including a commission or other transaction-based compensation structure, as an option for retail customers seeking investment recommendations.

For example, retail customers that intend to buy and hold a long-term investment may find that paying a one-time commission to a broker-dealer recommending such an investment is more cost effective than paying an ongoing advisory fee to an investment adviser merely to hold the same investment. Retail customers with limited investment assets may benefit from broker-dealer recommendations when they do not qualify for advisory accounts because they do not meet the account minimums often imposed by investment advisers. Other retail customers who hold a variety of investments, or prefer differing levels of services (

e.g.,

both episodic recommendations from a broker-dealer and continuous advisory services including discretionary asset management from an investment adviser), may benefit from having access to both brokerage and advisory accounts. Nevertheless, concerns exist regarding (1) the potential harm to retail customers resulting from broker-dealer recommendations provided where conflicts of interest exist and (2) the insufficiency of existing broker-dealer regulatory requirements to address these conflicts when broker-dealers make recommendations to retail customers.

More specifically, there are concerns that existing requirements do not require a broker-dealer's recommendations to be in the retail customer's best interest.

See

Proposing Release at 21579.

Id.

at 21577-21579.

Id. See also

Section I.C, Overview of Modifications to the Proposed Rule Text and Guidance Provided.

B. Overview of Regulation Best Interest

On April 18, 2018, we proposed enhancements to the standard of conduct that applies when broker-dealers make recommendations to retail customers.

Specifically, the proposal would have established an express best interest obligation that would require all broker-dealers and associated persons,

when making a recommendation of any securities transaction or investment strategy involving securities to a retail customer, to act in the best interest of the retail customer at the time the recommendation is made without placing the financial or other interest of the broker-dealer or associated person making the recommendation ahead of the interest of the retail customer.

Proposing Release at 21575.

The Commission received substantial comment on proposed Regulation Best Interest. We received over 6,000 comment letters in connection with the Proposing Release, of which approximately 3,000 are unique comment letters, from a variety of commenters including individual investors, consumer advocacy groups, financial services firms (including broker-dealers, investment advisers, and insurance companies), investment professionals, industry and trade associations, state securities regulators, bar associations, and others.

Comments received in response to the Proposing Release are available at:

https://www.sec.gov/comments/s7-07-18/s70718.htm.

The Commission also solicited individual investors' input through a number of forums in addition to the traditional requests for comment in the Proposing Release. Among other things, seven investor roundtables were held in different locations across the country to solicit further comment on the proposed relationship summary,

and the Commission and its staff received in-person feedback from almost 200 attendees in total.

The Commission also received input and recommendations from a majority of its Investor Advisory Committee (“IAC”) on proposed Regulation Best Interest.

In a separate, concurrent rulemaking, the Commission proposed to, among other things, require broker-dealers and investment advisers to deliver to retail investors a short relationship summary (“Relationship Summary”).

See Form CRS Relationship Summary; Amendments to Form ADV; Required Disclosures in Retail Communications and Restrictions on the use of Certain Names or Titles,

Release No. 34-83063, IA-4888, File No. S7-08-18 (Apr. 18, 2018), 83 FR 23848 (May 23, 2018) (“Relationship Summary Proposal”).

Along with adopting Regulation Best Interest, the Commission is adopting Exchange Act Rule 17a-14 (CFR 240.17a-14) and Form CRS (17 CFR 249.640) under the Exchange Act (“Form CRS”).

See Form CRS Relationship Summary; Amendments to Form ADV

Exchange Act Release No. 86032, Advisers Act Release No. 5247, File No. S7-08-18 (June 5, 2019) (“Relationship Summary Adopting Release”). The Commission is also providing interpretations: (1) Clarifying standards of conduct for investment advisers, and (2) regarding when a broker-dealer's advisory services are solely incidental to the conduct of the business of a broker or dealer.

See

Fiduciary Interpretation; Commission Interpretation Regarding the Solely Incidental Prong of the Broker-Dealer Exclusion to the Definition of Investment Adviser, Advisers Act Release No. 5249 (June 5, 2019) (“Solely Incidental Interpretation”).

The transcripts from the seven investor roundtables, which took place in Atlanta, Baltimore, Denver, Houston, Miami, Philadelphia, and Washington DC, are available in the comment file at

https://www.sec.gov/comments/s7-08-18/s70818.htm#transcripts.

The Commission also used a “feedback form” designed specifically to solicit input from retail investors with a set of questions requesting both structured and narrative responses, and received more than 90 responses from individuals who reviewed and commented on the sample proposed relationship summaries published in the proposal. The feedback forms are available in the comment file at

https://www.sec.gov/comments/s7-08-18/s70818.htm.

Finally, the Commission's Office of the Investor Advocate engaged the RAND Corporation to conduct investor testing of the proposed relationship summary. Angela A. Hung,

et al.,

RAND Corporation,

Investor Testing of Form CRS Relationship Summary

(2018),

available at

https://www.sec.gov/about/offices/investorad/investor-testing-form-crs-relationship-summary.pdf

(“RAND 2018”).

See also Investor Testing of the Proposed Relationship Summary for Investment Advisers and Broker-Dealers,

Commission Press Release 2018-257 (Nov. 7, 2018),

available at

https://www.sec.gov/news/press-release/2018-257.

As noted in the Relationship Summary Adopting Release, the amount of information available from the various investor surveys and investor testing described in this release is extensive. We considered all of this information thoroughly, using our decades of experience with investor disclosures, when evaluating changes to the disclosure required by Regulation Best Interest, as well as to the Relationship Summary.

See

Relationship Summary Adopting Release.

Recommendation of the Investor as Purchaser Subcommittee Regarding Proposed Regulation Best Interest, Form CRS, and Investment Advisers Act Fiduciary Guidance, Nov. 7, 2018,

available at

https://www.sec.gov/spotlight/investor-advisory-committee-2012/iac110718-investor-as-purchaser-subcommittee-recommendation.pdf

(“IAC 2018 Recommendation”). Generally, a majority of the IAC made the following recommendations related to Regulation Best Interest: (1) That the meaning of the best interest obligation should be clarified to require both broker-dealers, investment advisers, and their associated persons to recommend the investments, investment strategies, accounts, or services, from among those they have reasonably available to recommend, that they reasonably believe represent the best available options for the investor; (2) that the best interest obligation be expanded to apply to the implicit “no recommendation” recommendation that a broker makes when reviewing an account and recommending no change, to rollover recommendations and recommendations by dual registrant firms regarding account types; and (3) that the best interest obligation should be explicitly characterized as the fiduciary duty that it is, while making clear that the specific obligations that flow from that duty will vary based on differences in business models. The Commission is statutorily obligated to respond to the recommendations of the IAC, which we are doing in this section and throughout the adopting release in the relevant sections, for example, in the discussion of the General Obligation in Section II.A.1, the discussion of recommendations in Section II.B.1, Recommendation of Any Securities Transaction or Investment Strategy Involving Securities, and the Care Obligation in Section II.C.2.

After careful review and consideration of comments received and upon further consideration, the Commission is adopting Regulation Best Interest, with certain modifications as compared to the Proposing Release. As discussed below, while the Commission is generally retaining the overall structure and scope set forth in the Proposing Release, we are making modifications to the text of the rule and also providing interpretations and guidance to address points raised during the comment process.

The Commission has crafted Regulation Best Interest to draw on key principles underlying fiduciary obligations, including those that apply to investment advisers under the Advisers Act, while providing specific requirements to address certain aspects of the relationships between broker-dealers and their retail customers. Regulation Best Interest enhances the existing standard of conduct applicable to broker-dealers and their associated persons at the time they recommend to a retail customer a securities transaction or investment strategy involving securities. This includes recommendations of account types and rollovers or transfers of assets and also covers implicit hold recommendations resulting from agreed-upon account monitoring. When making a recommendation, a broker-dealer must act in the retail customer's best interest and cannot place its own interests ahead of the customer's interests (hereinafter, “General Obligation”).

The General Obligation is satisfied only if the broker-dealer complies with four specified component obligations. The obligations are: (1) Providing certain prescribed disclosure before or at the time of the recommendation, about the recommendation and the relationship between the retail customer and the broker-dealer (“Disclosure Obligation”); (2) exercising reasonable diligence, care, and skill in making the recommendation (“Care Obligation”); (3) establishing, maintaining, and enforcing policies and procedures reasonably designed to address conflicts of interest (“Conflict of Interest Obligation”), and (4) establishing, maintaining, and enforcing policies and procedures reasonably designed to achieve compliance with Regulation Best Interest (“Compliance Obligation”).

See generally

Section II.A, General Obligation.

As discussed in further detail below, although Regulation Best Interest identifies specified obligations with which a broker-dealer must comply in order to meet its General Obligation, compliance with each of the component obligations of Regulation Best Interest will be principles-based. In other words, whether a broker-dealer has acted in the retail customer's best interest will turn on an objective assessment of the facts and circumstances of whether the specific components of Regulation Best Interest are satisfied at the time that the recommendation is made.

First,

under the Disclosure Obligation,

before or at the time of the recommendation, a broker-dealer must disclose, in writing, all material facts about the scope and terms of its relationship with the customer. This includes a disclosure that the firm or representative is acting in a broker-dealer capacity; the material fees and costs the customer will incur; and the type and scope of the services to be provided, including any material limitations on the recommendations that could be made to the retail customer. Moreover, the broker-dealer must disclose all material facts relating to conflicts of interest associated with the recommendation that might incline a broker-dealer to make a recommendation that is not disinterested, including, for example, conflicts associated with proprietary products, payments from third parties, and compensation arrangements.

See generally

Section II.C.1, Disclosure Obligation.

Second,

under the Care Obligation,

a broker-dealer must exercise reasonable diligence, care, and skill when making a recommendation to a retail customer. The broker-dealer must understand potential risks, rewards, and costs associated with the recommendation. The broker-dealer must then consider those risks, rewards, and costs in light of the customer's investment profile and have a reasonable basis to believe that the recommendation is in the customer's best interest and does not place the broker-dealer's interest ahead of the retail customer's interest. A broker-dealer should consider reasonable alternatives, if any, offered by the broker-dealer in determining whether it has a reasonable basis for making the recommendation. Whether a broker-dealer has complied with the Care Obligation will be evaluated as of the time of the recommendation (and not in hindsight). When recommending a series of transactions, the broker-dealer must have a reasonable basis to believe that the transactions taken together are not excessive, even if each is in the customer's best interest when viewed in isolation.

See generally

Section II.C.2, Care Obligation.

Third,

under the Conflict of Interest Obligation,

a broker-dealer must establish, maintain, and enforce reasonably designed written policies and procedures addressing conflicts of interest associated with its recommendations to retail customers. These policies and procedures must be reasonably designed to identify all such conflicts and at a minimum disclose or eliminate them. Importantly, the policies and procedures must be reasonably designed to mitigate conflicts of interests that create an incentive for an associated person of the broker-dealer to place its interests or the interest of the firm ahead of the retail customer's interest. Moreover, when a broker-dealer places material limitations on recommendations that may be made to a retail customer (

e.g.,

offering only proprietary or other limited range of products), the policies and procedures must be reasonably designed to disclose the limitations and associated conflicts and to prevent the limitations from causing the associated person or broker-dealer from placing the associated person's or broker-dealer's interests ahead of the customer's interest. Finally, the policies and procedures must be reasonably designed to identify and eliminate sales contests, sales quotas, bonuses, and non-cash compensation that are based on the sale of specific securities or specific types of securities within a limited period of time.

See generally

Section II.C.3, Conflict of Interest Obligation.

Fourth,

under the Compliance Obligation,

a broker-dealer must also establish, maintain, and enforce written policies and procedures reasonably designed to achieve compliance with Regulation Best Interest as a whole. Thus, a broker-dealer's policies and procedures must address not only conflicts of interest but also compliance with its Disclosure and Care Obligations under Regulation Best Interest.

See generally

Section II.C.4, Compliance Obligation.

The enhancements contained in Regulation Best Interest are designed to improve investor protection by enhancing the quality of broker-dealer recommendations to retail customers and reducing the potential harm to retail customers that may be caused by conflicts of interest. Regulation Best Interest will complement the related rules, interpretations, and guidance that the Commission is concurrently issuing.

Individually and collectively, these actions are designed to help retail customers better understand and compare the services offered by broker-dealers and investment advisers and make an informed choice of the relationship best suited to their needs and circumstances, provide clarity with respect to the standards of conduct applicable to investment advisers and broker-dealers, and foster greater consistency in the level of protections provided by each regime, particularly at the point in time that a recommendation is made.

See

Relationship Summary Adopting Release; Fiduciary Interpretation; Solely Incidental Interpretation.

We believe each rule and interpretation stands on its own and enhances the effectiveness of existing rules, and is reinforced by the other rules and interpretations being adopted contemporaneously.

At the time a recommendation is made, key elements of the Regulation Best Interest standard of conduct that applies to broker-dealers will be similar to key elements of the fiduciary standard for investment advisers.

Importantly, regardless of whether a retail investor chooses a broker-dealer or an investment adviser (or both), the retail investor will be entitled to a recommendation (from a broker-dealer) or advice (from an investment adviser) that is in the best interest of the retail investor and that does not place the interests of the firm or the financial professional ahead of the interests of the retail investor.

Specifically, an investment adviser's fiduciary duty under the Advisers Act comprises a duty of care and a duty of loyalty. This combination of care and loyalty obligations has been characterized as requiring the investment adviser to act in the “best interest” of its client at all times.

See

Fiduciary Interpretation.

There are also key differences between Regulation Best Interest and the Advisers Act fiduciary standard that reflect the distinction between the services and relationships typically offered under the two business models. For example, an investment adviser's fiduciary duty generally includes a duty to provide ongoing advice and monitoring,

while Regulation Best Interest imposes no such duty and instead requires that a broker-dealer act in the retail customer's best interest

at the time

a recommendation is made. In addition, the new obligations applicable to broker-dealers under Regulation Best Interest are more prescriptive than the obligations applicable to investment advisers under the Advisers Act fiduciary duty and reflect the characteristics of the generally applicable broker-dealer business model.

See

Fiduciary Interpretation, Section II.B.3 (Duty to Provide Advice and Monitoring over the Course of the Relationship).

See, e.g.,

Sections II.A and III.E.

The Commission has been studying and carefully considering the issues related to the standard of conduct for broker-dealers for many years, which led to the development of Regulation Best Interest.

In designing Regulation Best Interest, we considered a number of options to enhance investor protection, while preserving, to the extent possible, retail investor access (in terms of choice and cost) to differing types of investment services and products. There

were several options, including, among others: (1) Applying the fiduciary standard under the Advisers Act to broker-dealers; (2) adopting a “new” uniform fiduciary standard of conduct that would apply equally to both broker-dealers and investment advisers, such as that recommended by the staff in the 913 Study;

and (3) the path we ultimately chose, adopting a new standard of conduct specifically for broker-dealers, which draws from key principles underlying fiduciary obligations, including those that apply to investment advisers under the Advisers Act.

The standard also provides specific requirements to address certain aspects of the relationships between broker-dealers and their retail customers, including certain conflicts related to compensation of associated persons.

Proposing Release at 21579-21583.

One of the staff's primary recommendations was that the Commission engage in rulemaking to adopt and implement a uniform fiduciary standard of conduct for broker-dealers and investment advisers when providing personalized investment advice about securities to retail customers. The staff's recommended standard would require firms “to act in the best interest of the customer without regard to the financial or other interest of the broker, dealer or investment adviser providing the advice.” The staff made a number of specific recommendations for implementing the uniform fiduciary standard of conduct, including that the Commission should: (1) Require firms to eliminate or disclose conflicts of interest; (2) consider whether rulemaking would be appropriate to prohibit certain conflicts, to require firms to mitigate conflicts through specific action, or to impose specific disclosure and consent requirements; and (3) consider specifying uniform standards for the duty of care owed to retail customers, such as specifying what basis a broker-dealer or investment adviser should have in making a recommendation to a retail customer by referring to and expanding upon broker-dealers' existing suitability requirements.

See generally

913 Study.

See supra

footnote 23.

In addition to these alternatives, we also considered several other reasonable alternatives.

See

Section III.E.

We have declined to subject broker-dealers to a wholesale and complete application of the existing fiduciary standard under the Advisers Act because it is not appropriately tailored to the structure and characteristics of the broker-dealer business model (

i.e.,

transaction-specific recommendations and compensation), and would not properly take into account, and build upon, existing obligations that apply to broker-dealers, including under FINRA rules.

Moreover, we believe (and our experience indicates), that this approach would significantly reduce retail investor access to differing types of investment services and products, reduce retail investor choice in how to pay for those products and services, and increase costs for retail investors of obtaining investment recommendations.

See also

913 Study at 139-143.

See, e.g.,

Section 913 Study. at 143-159 for the study's consideration of the potential costs, expenses, and impacts of various regulatory changes related to the provision of personalized investment advice to retail investors.

See also

Section II.A.1, Commission's Approach.

We have also declined to craft a new uniform standard that would apply equally and without differentiation to both broker-dealers and investment advisers. Adopting a “one size fits all” approach would risk reducing investor choice and access to existing products, services, service providers, and payment options, and would increase costs for firms and for retail investors in both broker-dealer and investment adviser relationships. Moreover, applying a new uniform standard to advisers would mean jettisoning to some extent the fiduciary standard under the Advisers Act that has worked well for retail clients and our markets and is backed by decades of regulatory and judicial precedent.

Our concerns about the ramifications for investor access, choice, and cost from adopting either of these approaches are not theoretical. With the adoption of the now vacated Department of Labor (“DOL”) Fiduciary Rule,

there was a significant reduction in retail investor access to brokerage services,

and we believe that the available alternative services were higher priced in many circumstances.

Moreover, because key elements of the standard of conduct that Regulation Best Interest applies to broker-dealers at the time that a recommendation is made to a retail customer will be substantially similar to key elements of the standard of conduct that applies to investment advisers pursuant to their fiduciary duty under the Advisers Act, we do not believe that applying the existing fiduciary standard under the Advisers Act to broker-dealers or adopting a new uniform fiduciary standard of conduct applicable to both broker-dealers and investment advisers would provide any greater investor protection (or, in any case, that any benefits would justify the costs imposed on retail investors in terms of reduced access to services, products, and payment options, and increased costs for such services and products).

As discussed in more detail in the Proposing Release, on April 8, 2016, the DOL adopted a new, expanded definition of “fiduciary” that treats persons who provide investment advice or recommendations for a fee or other compensation with respect to assets of a plan subject to the Employee Retirement Income Security Act of 1974 (“ERISA”) (an “ERISA plan”) or individual retirement account (“IRA”) as fiduciaries in a wider array of advice relationships than under the previous regulation and issued certain related prohibited transaction exemptions (“PTEs”) (together, the “DOL Fiduciary Rule”). The rule was subsequently vacated in toto by the United States Court of Appeals for the Fifth Circuit.

See Chamber of Commerce

U.S. Dep't of Labor, 885 F.3d 360

(5th Cir. 2018).

We understand that in the absence of a PTE, broker-dealers that would be considered to be a “fiduciary” for purposes of ERISA and the Internal Revenue Code (the “Code”) would be prohibited from engaging in purchases and sales of certain investments for their own account (

i.e.,

engaging in principal transactions) and would be prohibited from receiving common forms of broker-dealer compensation (notably, transaction-based compensation).

See

DOL, Best Interest Contract Exemption, 81 FR 21002 (Apr. 8, 2016) (“BIC Exemption Release”). To avoid this result, the DOL published, among other PTEs, the Best Interest Contract Exemption (“BIC Exemption”), which would have provided conditional relief for an “adviser,” as that term is used in the context of the BIC Exemption, and the adviser's firm, to receive common forms of “conflicted” compensation, such as commissions and third-party payments (such as revenue sharing), provided that the adviser's firm met certain conditions.

See id.

Generally, the BIC Exemption and other PTEs required that, among other things, the advice be provided pursuant to a written contract that commits the firm and the adviser to adhere to standards of impartial conduct, including providing advice in the investor's best interest; charging only reasonable compensation; and avoiding misleading statements about fees and conflicts of interest) (“Impartial Conduct Standards”).

See generally id. See also

Proposing Release at 21580-21582.

While the full effects of the DOL Fiduciary Rule were not realized as it was vacated during the transition period, a number of industry studies indicated that, as a result of the DOL Fiduciary Rule, industry participants had already or were planning to alter services and products available to retail customers. For example, of the 21 members of the Securities Industry and Financial Markets Association (“SIFMA”) that participated in the SIFMA Study, 53% eliminated or reduced access to brokerage advice services and 67% migrated away from open choice to fee-based or limited brokerage services.

See

SIFMA & Deloitte,

The DOL Fiduciary Rule: A Study on How Financial Institutions Have Responded and the Resulting Impacts on Retirement Investors

(Aug. 9, 2017),

available at

https://www.sifma.org/wp-content/uploads/2017/08/Deloitte-White-Paper-on-the-DOL-Fiduciary-Rule-August-2017.pdf

(“SIFMA Study”). Other studies also saw shifts from commission-based accounts to fee-based accounts.

See infra

footnote 1009. In addition, an industry study found that some customers were shifted from commission-based brokerage accounts to self-directed accounts, while the same study observed that 29% of their survey participants expected to move clients, particularly those with low account balances, to robo-advisors.

See infra

footnote 1010.

It was widely reported that a number of firms responded to the DOL Fiduciary Rule by either requiring customers to enter into more expensive advice relationships or by passing through higher compliance costs to customers, which altered many retail customer relationships with their financial professionals.

See infra

footnote 1007. From the SIFMA Study, for those firms whose retail customers faced eliminated or reduced brokerage advice services, 63% of firms had customers that chose to move to self-directed accounts rather than fee-based accounts and cited the customers' reasons as “not wanting to move to a fee-based model, not in the best interest to move to a fee-based model, did not meet account minimums, or wanted to maintain positions in certain asset classes prohibited by the fee-based models.”

We acknowledge certain commenters urged the Commission to take additional

or different regulatory actions than the approach we have adopted, including the alternatives discussed above. We do not believe that any rulemaking governing retail investor-advice relationships can solve for every issue presented. After careful consideration of the comments and additional information we have received,

we believe that Regulation Best Interest, as modified, appropriately balances the concerns of the various commenters in a way that will best achieve the Commission's important goals of enhancing retail investor protection and decision making, while preserving, to the extent possible, retail investor access (in terms of choice and cost) to differing types of investment services and products.

See supra

footnotes 11-13 and accompanying text.

If any of the provisions of these rules, or the application thereof to any person or circumstance, is held to be invalid, such invalidity shall not affect other provisions or application of such provisions to other persons or circumstances that can be given effect without the invalid provision or application.

The Commission's staff will offer firms significant assistance and support during the transition period and thereafter with the aim of helping to ensure that the investor protections and other benefits of the final rule are implemented in an efficient and effective manner. Further, we will continue to monitor the effectiveness of Regulation Best Interest in achieving the Commission's goals.

C. Overview of Modifications to the Proposed Rule Text and Guidance Provided

The vast majority of commenters supported the Commission's rulemaking efforts to address the standards of conduct that apply to broker-dealers when making recommendations, but nearly all commenters suggested modifications to proposed Regulation Best Interest.

These suggestions touch on almost every aspect of the proposal, as discussed in more detail below. A variety of commenters offered suggestions on the overall structure and scope of the proposed rule, including: whether the standard should be a fiduciary standard;

whether the standard should apply to both investment advisers and broker-dealers;

whether the standard should be principles-based or more prescriptive;

whether the standard should define “best interest;”

whether the standard is or should be a safe harbor;

what should be considered a recommendation, including whether Regulation Best Interest should apply to recommendations to roll over or transfer assets or take plan distributions, and to recommendations of particular account types (

i.e.,

brokerage or advisory);

whether Regulation Best Interest should apply to account monitoring services provided by a broker-dealer, or impose a continuing duty;

and whether Regulation Best Interest's protections should apply to a broader or narrower set of “retail customers.”

See, e.g.,

Letter from David Certner, Legislative Counsel and Legislative Policy Director, AARP (Aug. 7, 2018) (“AARP August 2018 Letter”); Letter from Christopher Gilkerson, Senior Vice President and General Counsel, and Tara Tune, Director and Corporate Counsel, Charles Schwab & Co., Inc. (Aug. 6, 2018) (“Schwab Letter”); Letter from Barbara Roper, Director of Investor Protection, and Micah Hauptman, Financial Services Counsel, Consumer Federation of America (“CFA”) (Aug. 7, 2018) (“CFA August 2018 Letter”); Letter from Joseph Borg, President, North American Securities Administrators Association, Inc. (“NASAA”) (Aug. 23, 2018) (“NASAA August 2018 Letter”); Letter from Kenneth E. Bentsen, Jr., President and Chief Executive Officer, SIFMA (Aug. 7, 2018) (“SIFMA August 2018 Letter”).

See, e.g.,

Letter from Jon Stein, Founder and CEO, Benjamin T. Alden, General Counsel, and Seth Rosenbloom, Associate General Counsel, Betterment (Aug. 7, 2018) (“Betterment Letter”); Letter from Kurt N. Schacht, Managing Director, James Allen, Head, Capital Markets Policy, and Linda L. Rittenhouse, Director, Capital Markets, CFA Institute (Aug. 7, 2018) (“CFA Institute Letter”); Letter from Jill I. Gross, Associate Dean for Academic Affairs, Professor of Law, Elisabeth Haub School of Law, Pace University (Mar. 11, 2019) (“Pace March 2019 Letter”); Letter from Sharon Cheever, Senior Vice President and General Counsel, Pacific Life Insurance Company (Aug. 3, 2018) (“Pacific Life August 2018 Letter”); Letter from Melanie Fein, Fein Law Offices (Jun. 6, 2018) (“Fein Letter”); Letter from Elizabeth Warren, U.S. Senator (Aug. 3, 2018) (“Warren Letter”); Letter from Dean P. McDermott, McDermott Investment Advisors (Jul. 7, 2018) (“McDermott Letter”); Letter from Brian Hamburger, President and CEO, MarketCounsel (Aug. 7, 2018) (“MarketCounsel Letter”).

See, e.g.,

AARP August 2018 Letter; Letter from Americans for Financial Reform et al. (Aug. 7, 2018) (“Americans for Financial Reform Letter”); Letter from Robert J. Moore, Chief Executive Officer, Cetera Financial Group (“Cetera”) (Aug. 7, 2018) (“Cetera August 2018 Letter”); Letter from L.A. Schnase, Individual Investor and Attorney at Law (Jul. 30, 2018) (“Schnase Letter”); Pacific Life August 2018 Letter; Pace March 2019 Letter; MarketCounsel Letter; Letter from Dennis M. Kelleher, President and CEO, Stephen Hall, Legal Director and Securities Specialist, Lev Bagramian, Senior Securities Policy Advisor, Better Markets (Aug. 7, 2018) (“Better Markets August 2018 Letter”); Letter from Attorneys General of New York, California, Connecticut, Delaware, Hawaii, Illinois, Maine, Maryland, Massachusetts, Minnesota, New Mexico, Oregon, Pennsylvania, Rhode Island, Vermont, Washington, and the District of Columbia (Aug. 7, 2018) (“State Attorneys General Letter”).

See, e.g.,

SIFMA August 2018 Letter; Letter from Mortimer J. Buckley, President and Chief Executive Officer, Vanguard (Aug. 7, 2018) (“Vanguard Letter”); Letter from Chris Lewis, General Counsel, Edward Jones (Aug. 7, 2018) (“Edward Jones Letter”); Letter from Joseph E. Sweeney, President, Advice & Wealth Management Products and Service Delivery, Ameriprise Financial (Aug. 6, 2018) (“Ameriprise Letter”); Letter from Sheila Kearney Davidson, Executive Vice President, Chief Legal Officer & General Counsel, New York Life Insurance Company (“NY Life”) (Aug. 7, 2018) (“NY Life Letter”); Letter from Keith Gillies, NAIFA President, National Association of Insurance and Financial Advisors (“NAIFA”) (Aug. 2, 2018) (“NAIFA Letter”); Letters from Tom Quaadman, Executive Vice President, Center for Capital Markets Competitiveness, U.S. Chamber of Commerce (“CCMC”) (Aug. 7, 2018) (supplemented by letter dated Sep. 5, 2018) (“CCMC Letters”); Letter from Dave Paulsen, Executive Vice President, Chief Distribution Officer, Transamerica (Aug. 7, 2018) (“Transamerica August 2018 Letter”).

See, e.g.,

Letter from Seth A. Miller, General Counsel, Senior Vice President, Chief Risk Officer, Cambridge (Aug. 7, 2018) (“Cambridge Letter”); SIFMA August 2018 Letter; Vanguard Letter; Edward Jones Letter; Ameriprise Letter; NY Life Letter; NAIFA Letter; CCMC Letters; Letter from Aron Szapiro, Director of Policy Research, Morningstar (Aug. 7, 2018) (“Morningstar Letter”); Letter from David Kowach, Head of Wells Fargo Advisors, Wells Fargo (Aug. 7, 2018) (“Wells Fargo Letter”).

See, e.g.,

CFA August 2018 Letter; Letter from Anthony Chereso, President & CEO, Institute for Portfolio Alternatives (“IPA”) (Aug. 7, 2018) (“IPA Letter”); Letter from Heather Slavkin Corzo, AFL-CIO et al. (Apr. 26, 2019

)

(“AFL-CIO April 2019 Letter”).

See, e.g.,

Letter from Jason Bortz, Senior Counsel, Capital Research and Management Company (Aug. 7, 2018) (“Capital Group Letter”); Letter from Andrew Stoltmann, President, Public Investors Arbitration Bar Association (“PIABA”) (Aug. 7, 2018) (“PIABA Letter”); SIFMA August 2018 Letter; NASAA Letter; Letter from Robert K. Shaw, President, Individual Markets, Great-West Financial (Aug. 7, 2018) (“Great-West Letter”); NAIFA Letter; Transamerica August 2018 Letter; Letter from Tim Rouse, Executive Director, The SPARK Institute (Aug. 7, 2018) (“SPARK Letter”); Letter from Robin C. Swope, Director, Global Product Governance & Support, Invesco (Aug. 7, 2018) (“Invesco Letter”); Letter from R. Keith Overly, President, National Association of Government Defined Contribution Administrators (“NAGDCA”) (Aug. 7, 2018) (“NAGDCA Letter”); Letter from Kevin R. Keller, Chief Executive Officer, CFP Board, et al., Financial Planning Coalition (“FPC”) (Aug. 7, 2018) (“FPC Letter”); Letter from Dennis Simmons, Executive Director, Committee on Investment of Employee Benefit Assets, Committee on Investment of Employee Benefit Assets (“CIEBA”) (Aug. 6, 2018) (“CIEBA Letter”).

See, e.g.,

SIFMA August 2018 Letter; Letter from Lisa D. Crossley, Executive Director, National Society of Compliance Professionals (“NSCP”) (Aug. 7, 2018) (“NSCP Letter”); PIABA Letter; FPC Letter; Better Markets August 2018 Letter; Letter from Karen L. Barr, President and CEO, Investment Adviser Association (“IAA”) (Aug. 6, 2018) (“IAA August 2018 Letter”).

We also received comments addressing when a broker-dealer's advisory services are “solely incidental to the conduct of his business as a broker or dealer” under the “broker-dealer exclusion” from the definition of investment adviser—and thus from the application of the Advisers Act—provided in Section 202(a)(11)(C) of the Advisers Act. We have addressed these comments in the context of the Solely Incidental Interpretation.

See, e.g.,

Letter from Carl B. Wilkerson, Vice President and Chief Counsel, American Council of Life Insurers (“ACLI”) (Aug. 3, 2018) (“ACLI Letter”); Letter from Brian H. Graff, Executive Director and CEO, Craig P. Hoffman, General Counsel, Dough Fisher, Director of Retirement Policy, and Joseph A. Caruso, Government Affairs Counsel, American Retirement Association (“ARA”) (Aug. 3, 2018) (“ARA August 2018 Letter”); Letter from Anne Tennant, Managing

Director and General Counsel, Morgan Stanley (Aug. 7, 2018) (“Morgan Stanley Letter”); CCMC Letters; Letter from Thomas Roberts, Groom Law Group (Aug. 7, 2018) (“Groom Letter”); Letter from Catherine J. Weatherford, President and CEO, Insured Retirement Institute (“IRI”) (Aug. 7, 2018) (“IRI Letter”); NSCP Letter; Letter from Raymond J. Manista, Executive Vice President, Chief Legal Officer and Secretary, Northwestern Mutual (Aug. 7, 2018) (“Northwestern Mutual Letter”); State Attorneys General Letter; Letter from Mari-Anne Pisarri, Pickard Djinis and Pisarri LLP (Aug. 14, 2018) (“Pickard Letter”); SIFMA August 2018 Letter; Invesco Letter; Letter from Tom Clark, Managing Director, Sean Murphy, Vice President, Blackrock (Aug. 7, 2018) (“Blackrock Letter”).

In addition, most commenters from both industry and consumer advocate groups requested modifications to each of the Disclosure, Care, and Conflict of Interest Obligations, and also called for more specific examples of conduct that would—or would not—satisfy these obligations. With respect to the Disclosure Obligation, most commenters generally sought greater clarity or made suggestions regarding what material facts and material conflicts would need to be disclosed, the form and manner (

e.g.,

written versus oral, individualized versus standardized, and the use of electronic and/or layered) and the timing and frequency of the disclosure (

e.g.,

whether the disclosure should be prior to, at the time of, or could be after a recommendation), as well as whether the Disclosure Obligation could be satisfied by complying with other existing disclosure requirements.

In particular, several commenters recommended that the Commission require broker-dealers provide “full and fair” disclosure.

See, e.g.,

Ameriprise Letter; Great-West Letter; Letter from Ram Subramaniam, Head of Brokerage and Investment Solutions, David Forman, Chief Legal Officer, Fidelity Investments (Aug. 7, 2018) (“Fidelity Letter”); Morgan Stanley Letter; CCMC Letters; Letter from Bret C. Hester, Senior Managing Director, Head of Regulatory Affairs, Teachers Insurance and Annuity Association of America (“TIAA”) (Aug. 7, 2018) (“TIAA Letter”); Letter from James Sonne, Assistant Vice President, Federal Government Relations, Mass Mutual (Feb. 19, 2019) (“Mass Mutual Letter”); Letter from Edmund F. Murphy III, President, Empower Retirement (Aug. 2, 2018) (“Empower Retirement Letter”); IRI Letter; Letter from Paul Schott Stevens, President and CEO, Investment Company Institute (“ICI”) (Aug. 7, 2018) (“ICI Letter”); SIFMA August 2018 Letter; Edward Jones Letter; Letter from Michelle Bryan Oroschakoff, Chief Legal Officer, LPL Financial (Aug. 7, 2018) (“LPL August 2018 Letter”); NASAA August 2018 Letter; AARP August 2018 Letter; PIABA Letter; Letter from Ann M. Kappler, Senior Vice President, Deputy General Counsel, Prudential Financial (Aug. 7, 2018) (“Prudential Letter”), CFA Institute Letter; State Attorneys General Letter; CFA August 2018 Letter; Letter from Jason Chandler, Group Managing Director, Co-Head Investment Platforms and Solutions, and Michael Crowl, Group Managing Director, General Counsel, UBS (Aug. 7, 2018) (“UBS Letter”), Letter from William F. Galvin, Secretary of the Commonwealth of Massachusetts (Aug. 7, 2018) (“Galvin Letter”); Letter from David T. Bellaire, Executive Vice President & General Counsel, Financial Services Institute (“FSI”) (Aug. 7, 2018) (“FSI August 2018 Letter”); Mass Mutual Letter; Schwab Letter; Letter from Michael F. Anderson, Senior Vice President and Chief Legal Officer, CUNA Mutual (Aug. 7, 2018) (“CUNA Letter”); Transamerica August 2018 Letter.

See, e.g.,

CFA August 2018 Letter; Better Markets August 2018 Letter; Pace Letter.

Regarding the Care Obligation, commenters from certain investor groups supported incorporating a “prudence” standard,

while a number of industry commenters expressed concern about including this standard.

Numerous commenters requested further clarity on what would be required to meet the Care Obligation, including what factors a broker-dealer should consider in developing a retail customer's investment profile and when making a recommendation, and in particular the role of cost and other relevant factors when making a recommendation, and also asked for more specific examples of how to weigh costs against other factors when making a recommendation.

A majority of the IAC and other commenters requested clarification on how to consider “reasonably available alternatives” when making a recommendation and suggested clarifying the scope of the inquiry into potential reasonably available alternatives when a broker-dealer offers a limited product menu versus when the broker-dealer has an “open architecture” model.

Several industry commenters made recommendations regarding the application of proposed Regulation Best Interest to recommendations of specific categories of securities, such as variable annuities or leveraged exchange-traded products.

See, e.g.,

AARP August 2018 Letter; CFA August 2018 Letter; FPC Letter.

See, e.g.,

Letter from Karen L. Sukin, Executive Vice President, Deputy General Counsel, Primerica (Aug. 7, 2018) (“Primerica Letter”); Transamerica August 2018 Letter; IPA Letter; Cetera August 2018 Letter.

See, e.g.,

Letter from Felice R. Foundos, Partner, Chapman and Cutler (Aug. 6, 2018) (“Chapman Letter”); Vanguard Letter; ICI Letter; Morgan Stanley Letter; Wells Fargo Letter; Primerica Letter; Great-West Letter; NASAA August 2018 Letter; Cambridge Letter; Blackrock Letter.

See, e.g.,

IAC 2018 Recommendation; Fidelity Letter; ICI Letter; SIFMA August 2018 Letter; Prudential Letter; LPL August 2018 Letter; Morningstar Letter.

See also

AFL-CIO April 2019 Letter (stating that the rule “must make clear that brokers are required to recommend the investments they reasonably believe are the best match for the investor from among the reasonably available investment options”).

See, e.g.,

Letter from Brian Winikoff, Senior Executive Director and Head of U.S. Life, Retirement and Wealth Management, AXA (Aug. 7, 2018) (“AXA Letter”); Letter from Clifford Kirsch, Susan Krawczyk, Eversheds Sutherland, Committee of Annuity Insurers (Aug. 7, 2018) (“Committee of Annuity Insurers Letter”); Pacific Life August 2018 Letter; Letter from Angela Brickl, General Counsel, Rafferty Asset Management (“Direxion”) (Aug. 7, 2018) (“Direxion Letter”); Letter from Mark F. Halloran, VP Managing Director, Business Development, Transamerica (Nov. 9, 2018) (“Transamerica November 2018 Letter”).

With respect to the Conflict of Interest Obligation, many commenters questioned the distinction between financial incentives that would have to be mitigated and other conflicts that would only need to be disclosed, and recommended generally that the distinction be eliminated.

In addition, some commenters suggested that the obligation to establish policies and procedures to mitigate conflicts should apply to material conflicts at the level of the natural person who is an associated person (as opposed to the firm).

Commenters also asked for more clarity and examples of what conflicts must be mitigated versus eliminated and more guidance on appropriate mitigation methods.

Some commenters also expressed the view that by requiring mitigation of financial incentives, proposed Regulation Best Interest would require more of broker-dealers than what is required of investment advisers under their fiduciary duty, which could create a competitive disadvantage for broker-dealers that could further encourage migration from the broker-dealer to investment adviser business model and result in a loss of retail investor access (in terms of choice and cost) to differing types of investment services and products.

See, e.g.,

CFA August 2018 Letter; SIFMA August 2018 Letter; Primerica Letter; Letter from Jeff Hartney, Executive Director, Bank Insurance and Securities Association (“BISA”) (Aug. 7, 2018) (“BISA Letter”); Committee of Annuity Insurers Letter; IPA Letter; CFA Institute Letter; Morgan Stanley Letter; CCMC Letters.

See, e.g.,

Primerica Letter; TIAA Letter; ICI Letter; Letter from Craig D. Pfeiffer, President and CEO, Money Management Institute (Aug. 7, 2018) (“Money Management Institute Letter”).

See, e.g.,

AALU Letter; CFA August 2018 Letter; Letter from Quinn Curtis, Professor of Law, University of Virginia School of Law (“UVA”), (Aug. 3, 2018) (“UVA Letter”); Primerica Letter; Committee of Annuity Insurers Letter; Cetera August 2018 Letter; Wells Fargo Letter; NASAA August 2018 Letter; Morningstar Letter.

See, e.g.,

Letter from Craig S. Tyle, Executive Vice President and General Counsel, Franklin Templeton Investments, (Aug. 6, 2018) (“Franklin Templeton Letter”); Primerica Letter; LPL August 2018 Letter; CCMC Letters; UBS Letter; ICI Letter; Letter from Christopher A. Iacovella, Chief Executive Officer, American Securities Association (“ASA”) (Aug. 7, 2018) (“ASA Letter”); Schwab Letter.

In addition, a number of commenters agreed with the Commission's statement that it was not intended to create a private right of action, but many requested that the Commission explicitly state in the final rule that Regulation Best Interest does not confer a private right of action.

One

commenter requested that the Commission elaborate and make clear the remedies available to investors when broker-dealers violate Regulation Best Interest and emphasize that scienter is not required to establish a violation of Regulation Best Interest.

See, e.g.,

Letter from Paul C. Reilly, Chairman and CEO, Raymond James Financial (Aug. 7, 2018)

(“Raymond James Letter”); NAIFA Letter; ASA Letter; CCMC Letters; UBS Letter; LPL August 2018 Letter; Cambridge Letter.

Contra

Letter from Elise Sanguinetti, President, American Association for Justice (Aug. 6, 2018) (“American Association for Justice Letter”).

NASAA August 2018 Letter.

Finally, numerous commenters urged the Commission to coordinate with other regulators, in particular the DOL

and state securities and insurance regulators,

and several commenters opined that the Commission should preempt (or avoid preempting) state law.

See, e.g.,

ICI Letter; Franklin Templeton Letter; Morningstar Letter; Wells Fargo Letter; Edward Jones Letter; IRI Letter; Letter from Cynthia Lo Bessette, Executive Vice President and General Counsel, Letter from Oppenheimer Funds (Aug. 7, 2018) (“Oppenheimer Letter”); Vanguard Letter.

See, e.g.,

CCMC Letters; Letter from Robert Reynolds, President and CEO, Putnam Investments (Aug. 7, 2018) (“Putnam Letter”); Letter from Will H. Fuller, Executive Vice President, President, Annuity Solutions, Lincoln Financial Group (Nov. 13, 2018) (“Lincoln Financial Letter”); Cetera August 2018 Letter; Great-West Letter; Letter from Marc Cadin, Chief Operating Officer, Association of Advanced Life Underwriting (“AALU”) (Aug. 7, 2018) (“AALU Letter”); IRI Letter; Pacific Life August 2018 Letter; Vanguard Letter; Fidelity Letter; Letter from Andrew J. Bowden, Senior Vice President and General Counsel, Jackson National Life Insurance Company (Aug. 7, 2018) (“Jackson National Letter”); Invesco Letter; Lincoln Letter; CUNA Mutual Letter; Great-West Letter.

See, e.g.,

Cetera August 2018 Letter; ICI Letter; Franklin Templeton Letter; Putnam Investments Letter;

but see

NASAA August 2018 Letter; PIABA Letter; Letter from Teresa J. Verges, Director, Investor Rights Clinic, University of Miami School of Law (Aug. 2, 2018) (“U. of Miami Letter”); Letter from Kayla Martin, Legal Intern, Christine Lazaro, Director and Professor Clinical Legal Education, Securities Arbitration Clinic, St. John's University School of Law (Aug. 7, 2018) (“St. John's U. Letter”); Letter from Kevin M. Carroll, Managing Director & Associate General Counsel, SIFMA (Mar. 29, 2019) (“SIFMA March 2019 Letter”); Letter from Michael Pieciak, NASAA President and Commissioner, Vermont Department of Regulation, NASAA (Apr. 25, 2019); Letter from Tom Quaadman, Executive Vice President, CCMC (May 16, 2019) (“CCMC May 2019 Letter”); AFL-CIO April 2019 Letter.

After carefully reviewing the comments on the proposed rule, we have determined to retain its overall structure and scope. However, we have modified the proposed rule in a number of respects and are also providing additional interpretations and guidance to address and clarify issues raised by commenters. Summarized below are the key modifications from the proposal, as well as the interpretations and guidance provided.

•

Retail Customer Definition:

We are modifying the definition of “retail customer” to include

any natural person

who receives a recommendation from the broker-dealer for the natural person's own account (but not an account for a business that he or she works for), including individual plan participants.

We are interpreting “legal representative of such natural person” to include the nonprofessional legal representatives of such a natural person (

e.g.,

nonprofessional trustee who represents the assets of a natural person).

As discussed in Section II.B.3.a, Retail Customer, Focus on Natural Persons and Legal Representatives of Natural Persons, to the extent a plan representative who decides service arrangements for a workplace retirement plan is a sole proprietor or other self-employed individual who will participate in the plan, the plan representative will be a retail customer to the extent that the sole proprietor or self-employed individual receives recommendations directly from a broker-dealer primarily for personal, family or household purposes.

•

Implicit Hold Recommendations:

While broker-dealers will not be required to monitor accounts, in instances where a broker-dealer agrees to provide the retail customer with specified account monitoring services, it is our view that such an agreement will result in buy, sell or hold recommendations subject to Regulation Best Interest, even when the recommendation to hold is implicit.

See

Section II.B.2.b, Interpretation of Any Securities Transaction or Investment Strategy Involving Securities.

•

Recommendations of account types, including recommendations to roll over or transfer assets from one type of account to another:

We are modifying Regulation Best Interest to expressly apply to account recommendations including, among others, recommendations to roll over or transfer assets in a workplace retirement plan account to an IRA, recommendations to open a particular securities account (such as brokerage or advisory), and recommendations to take a plan distribution for the purpose of opening a securities account.

We are also providing guidance under the Care Obligation on what factors a broker-dealer generally should consider when making such recommendations.

See id.

•

Dual-Registrants:

We are providing additional guidance on how dual-registrants can comply with Regulation Best Interest, and confirming that Regulation Best Interest does not apply to advice provided by a broker-dealer that is dually registered as an investment adviser (“dual-registrant”) when acting in the capacity of an investment adviser, and that a dual-registrant is an investment adviser solely with respect to accounts for which a dual-registrant provides advice and receives compensation that subjects it to the Advisers Act.

See

Section II.B.3.d, Retail Customers, Treatment of Dual-Registrants.

We are also clarifying the relationship between the General Obligation and the specific component obligations, and in particular, what it means to “act in the best interest” of the retail customer. As is the case with the fiduciary duty applicable to investment advisers under the Advisers Act, we are not expressly defining in the rule text the term “best interest,” and instead are providing in Regulation Best Interest and through interpretations, what “acting in the best interest” means.

Whether a broker-dealer has acted in the retail customer's best interest in compliance with Regulation Best Interest will turn on an objective assessment of the facts and circumstances of how the specific components of Regulation Best Interest—including its Disclosure, Care, Conflict of Interest, and Compliance Obligations—are satisfied at the time that the recommendation is made (and not in hindsight). In response to commenters, we are addressing, among other things, what the General Obligation does and does not require (for example, that it does not impose a continuing duty beyond a particular recommendation), providing specific examples of what would violate Regulation Best Interest, and its application to certain scenarios, particularly in the context of satisfying the Care Obligation.

In the investment adviser context, an investment adviser's fiduciary duty under the Advisers Act comprises a duty of care and a duty of loyalty. This combination of care and loyalty obligations has been characterized as requiring the investment adviser to act in the “best interest” of its client at all times.

See

Fiduciary Interpretation.

We are also modifying and clarifying the component obligations that a broker-dealer would be required to satisfy in order to meet the General Obligation:

Disclosure Obligation.

We are refining the treatment of conflicts of interest by: (1) Defining in the rule text a “conflict of interest” for purposes of Regulation Best Interest (as opposed to interpreting the phrase “material conflict of interest” as in the Proposing Release) as an interest that might incline a broker-dealer—consciously or unconsciously—to make a recommendation that is not disinterested; and (2) revising the Disclosure Obligation to require disclosure of “material facts” regarding conflicts of interest associated with the recommendation.

Similar to the proposal, all such conflicts of interest will be covered by Regulation Best

Interest (

e.g.,

subject to the Conflict of Interest Obligation), however, only “material facts” regarding these conflicts would be required to be disclosed under the Disclosure Obligation.

See

Section II.C.1.b, Disclosure Obligation, Material Facts Regarding Conflicts of Interest.

Furthermore, we are modifying the Disclosure Obligation to explicitly require broker-dealers to provide “full and fair” disclosure of material facts, rather than requiring broker-dealers to “reasonably disclose” such information. We are providing the Commission's view regarding what it means to provide “full and fair” disclosure to retail customers, including the level of specificity of disclosure required, and the form and manner and timing and frequency of such disclosure.

We are explicitly requiring the disclosure of material facts relating to the scope and terms of the relationship that were specifically identified in the proposal (

i.e.,

capacity, material fees and charges, and type and scope of services).

In connection with disclosure requirements regarding the type and scope of services, we are also clarifying that at a minimum, a broker-dealer needs to disclose whether or not account monitoring services will be provided (and if so, the scope and frequency of those services), account minimums, and any material limitations on the securities or investment strategies involving securities that may be recommended to the retail customer.

Also we conclude that the basis for a broker-dealer's recommendations as a general matter (

i.e.,

what might commonly be described as the firm's investment approach, philosophy, or strategy) and the risks associated with a broker-dealer's recommendations in standardized (as opposed to individualized) terms are material facts relating to the scope and terms of the relationship that should be disclosed.

Below, we outline a method to address oral disclosure and written disclosure provided after the fact.

See

Section II.C.1.c, Disclosure Obligation, Full and Fair Disclosure.

See

Section II.C.1.a, Disclosure Obligation, Material Facts Regarding Scope and Terms of the Relationship.

Id.

See

Section II.C.1, Disclosure Obligation, Oral Disclosure or Disclosure After a Recommendation.

Care Obligation.

We are adopting the Care Obligation largely as proposed; however, we are expressly requiring that a broker-dealer understand and consider the potential

costs

associated with its recommendation, and have a reasonable basis to believe that the recommendation does not place the financial or other interest of the broker-dealer ahead of the interest of the retail customer.

Nevertheless, we emphasize that while cost must be considered, it should never be the only consideration. Cost is only one of many important factors to be considered regarding the recommendation and that the standard does not necessarily require the “lowest cost option.” Relatedly, we are emphasizing the need to consider costs in light of other factors and the retail customer's investment profile.

See generally

Section II.C.2, Care Obligation.

We are also providing additional guidance on what it means to make a recommendation in a retail customer's “best interest.” As in the Proposing Release, determining whether a broker-dealer's recommendation satisfies the Care Obligation will be an objective evaluation turning on the facts and circumstances of the particular recommendation and the particular retail customer. We recognize that a facts and circumstances evaluation of a recommendation makes it difficult to draw bright lines around whether a particular recommendation will meet the Care Obligation. Accordingly, we focus on how a broker-dealer could establish a reasonable basis to believe that a recommendation is in the best interest of its retail customer and does not place the broker-dealer's interest ahead of the retail customer's interest, and the circumstances under which a broker-dealer could not establish such a reasonable belief.

We are clarifying that an evaluation of reasonably available alternatives does not require an evaluation of every possible alternative (including those offered outside the firm) nor require broker-dealers to recommend one “best” product, and what this evaluation will require in certain contexts (such as a firm with open architecture). Furthermore, we clarify that, when a broker-dealer materially limits its product offerings to certain proprietary or other limited menus of products, it must still comply with the Care Obligation—even if it has disclosed and taken steps to prevent the limitation from placing the interests of the broker-dealer ahead of the retail customer, as required by the Disclosure and Conflict of Interest Obligation—and thus could not use its limited menu to justify recommending a product that does not satisfy the obligation to act in a retail customer's best interest.

Conflict of Interest Obligation.

We are revising the Conflict of Interest Obligation by: (1) Similar to the proposal, establishing an overarching obligation to establish written policies and procedures to identify and at a minimum disclose (pursuant to the Disclosure Obligation), or eliminate, all conflicts of interest associated with the recommendation;

and (2) setting forth explicit requirements to establish written policies and procedures reasonably designed to mitigate or eliminate certain identified conflicts of interest, specifically:

This obligation achieves greater consistency with the treatment of conflicts under the Advisers Act. As discussed in the Fiduciary Interpretation, in seeking to meet its duty of loyalty, an adviser must make full and fair disclosure to its clients of all material facts relating to the advisory relationship. An adviser must eliminate or at least expose through full and fair disclosure all conflicts of interest which might incline an investment adviser—consciously or unconsciously—to render advice which was not disinterested.

See

Fiduciary Interpretation.

•

Mitigation of Associated Person Conflicts of Interest.

We are revising the proposal's mitigation requirement to: (1) Eliminate the distinction between financial incentives and all other conflicts of interest; and (2) focus on mitigating conflicts of interest associated with recommendations that create an incentive for the associated person of the broker-dealer to place the interest of the firm or the associated person ahead of the interest of the retail customer.

We are providing further guidance regarding the types of incentives covered by this revised obligation, in particular focusing on compensation or employment related incentives and other incentives provided to the associated person (whether by the broker-dealer or third-parties). We are also confirming, clarifying and expanding on the proposal's guidance on potential mitigation methods to further promote compliance with this obligation.

See generally

Section II.C.3.e, Conflict of Interest Obligation, Mitigation of Certain Incentives to Associated Persons.

•

Address Any Material Limitations on Recommendations to Retail Customers.

To address the conflicts of interest presented when broker-dealers place any material limitations on the securities or investment strategies involving securities that may be recommended to a retail customer (

i.e.,

only make recommendations of proprietary or other limited range of products), we are requiring broker-dealers to establish, maintain and enforce written policies and procedures reasonably designed to: (1) Identify and disclose any material limitations placed on the securities or investment strategies involving securities that may be recommended and any associated conflicts of interest; and (2) prevent the limitations and associated conflicts of

interest from causing the broker-dealer or their associated persons to make recommendations that place the interest of the broker-dealer or associated person ahead of the interest of the retail customer (for example, a broker-dealer could establish product review processes or establish procedures addressing which retail customers would qualify for the product menu).

See generally

Section II.C.3.f, Conflict of Interest Obligation, Mitigation of Material Limitations on Recommendations to Retail Customers.

•

Elimination of Certain Conflicts.

We are requiring broker-dealers to establish written policies and procedures reasonably designed to identify and eliminate any sales contests, sales quotas, bonuses, and non-cash compensation that are based on the sale of specific securities or the sale of specific types of securities within a limited period of time.

By explicitly focusing on policies and procedures to eliminate these incentives, it does not mean that all other incentives are presumptively compliant with Regulation Best Interest. Rather, such other incentives and practices that are not explicitly prohibited are permitted provided that the broker-dealer establishes reasonably designed policies and procedures to disclose and mitigate the incentive created to the representative, and the broker-dealer and its associated persons comply with the Care Obligation and the Disclosure Obligation.

See generally

Section II.C.3.g, Conflict of Interest Obligation, Elimination of Certain Conflicts of Interest.

General Compliance Obligation.

We are establishing a new, general “Compliance Obligation” to require broker-dealers to establish policies and procedures to achieve compliance with Regulation Best Interest in its entirety.

See generally

Section II.C.4, Compliance Obligation.

Books and Records.

In addition to adopting Regulation Best Interest, we are also adopting the record-making and recordkeeping requirements largely as proposed, with certain explanations and clarifications regarding the scope of these requirements and the extent to which new obligations have been created.

See generally

Section II.D, Record-Making and Recordkeeping.

Interaction with Other Standards, Waivers and Private Right of Action.

Compliance with Regulation Best Interest will not alter a broker-dealer's obligations under the general antifraud provisions of the federal securities laws. Regulation Best Interest applies in addition to any obligations under the Exchange Act, along with any rules the Commission may adopt thereunder, and any other applicable provisions of the federal securities laws and related rules and regulations.

For example, any transaction or series of transactions, whether or not subject to the provisions of Regulation Best Interest, remain subject to the antifraud and anti-manipulation provisions of the securities laws, including, without limitation, Section 17(a) of the Securities Act of 1933 (“Securities Act”) [15 U.S.C. 77q(a)] and Sections 9, 10(b), and 15(c) of the Exchange Act [15 U.S.C. 78i, 78j(b), and 78o(c)] and the rules thereunder.

Scienter will not be required to establish a violation of Regulation Best Interest. We note that the preemptive effect of Regulation Best Interest on any state law governing the relationship between regulated entities and their customers would be determined in future judicial proceedings based on the specific language and effect of that state law. We believe that Regulation Best Interest, Form CRS, and the related rules, interpretations and guidance that the Commission is concurrently issuing will serve as focal points for promoting clarity, establishing greater consistency in the level of retail customer protections provided, and easing compliance across the regulatory landscape and the spectrum of investment professionals and products. In addition, under Section 29(a) of the Exchange Act, a broker-dealer will not be able to waive compliance with Regulation Best Interest, nor can a retail customer agree to waive her protections under Regulation Best Interest.

Furthermore, we do not believe Regulation Best Interest creates any new private right of action or right of rescission, nor do we intend such a result.

D. Overview of Key Enhancements

With these modifications and clarifications, Regulation Best Interest is designed to improve investor protection by:

• Requiring broker-dealers to have a reasonable basis to believe that recommendations are in the retail customer's best interest, which enhances existing suitability obligations by: Requiring compliance not only with the explicit Care Obligation, but also with Disclosure, Conflict of Interest, and Compliance Obligations; expressly requiring consideration of cost in evaluating a recommendation as part of the Care Obligation; expressing our views regarding the consideration of reasonably available alternatives when making a recommendation as part of the Care Obligation; applying Regulation Best Interest to recommendations of account types and rollovers and to any recommendations resulting from agreed-upon account monitoring services (including implicit hold recommendations); and, applying the Care Obligation to a series of recommended transactions (currently referred to as “quantitative suitability”) irrespective of whether a broker-dealer exercises actual or

de facto

control over a customer's account;

• requiring broker-dealers to establish, maintain, and enforce written policies and procedures reasonably designed to mitigate (and in some cases, eliminate) certain identified conflicts of interest that create incentives to make recommendations that are not in the retail customer's best interest; these new requirements are a significant and critical enhancement as existing requirements under the federal securities laws largely center upon conflict disclosure rather than conflict mitigation;

• requiring disclosure under the Disclosure Obligation of the material facts relating to the scope of terms of a broker-dealer's relationship with the retail customer and the conflicts of interest associated with a broker-dealer's recommendations, which will foster retail customers' understanding of their relationship with the broker-dealer and help them to evaluate the recommendations received; and

• requiring broker-dealers to establish, maintain and enforce written policies and procedures reasonably designed to achieve compliance with Regulation as a whole, which will further promote broker-dealer compliance with Regulation Best Interest.

Through these new requirements, we believe that Regulation Best Interest will improve investor protection by enhancing the quality of broker-dealer recommendations to retail customers and reducing the potential harm to retail customers that may be caused by conflicted brokerage recommendations. We also believe Regulation Best Interest achieves these enhancements in a manner that is workable for the transaction-based relationship offered by broker-dealers, thus preserving, to the extent possible, retail investor access (in terms of choice and cost) to different types of quality investment services and products. As discussed above, Regulation Best Interest will complement Form CRS and related rules, interpretations, and guidance that the Commission is concurrently issuing.

II. Discussion of Regulation Best Interest

A. General Obligation

As in the Proposing Release, Regulation Best Interest is set forth in two subparagraphs: (1) An overarching provision setting forth a general best interest obligation (“General Obligation”); and (2) a second provision requiring compliance with specific obligations in order to satisfy the overarching standard (discussed below in Section II.C).

Specifically, as in the Proposing Release, the General Obligation requires that a broker-dealer “shall act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of [the broker-dealer] . . . ahead of the interest of the retail customer.”

See

Proposing Release at 21585

et seq.

See

Paragraph (a)(1) of Regulation Best Interest.

Most commenters, including a majority of the IAC, expressed opinions on this approach, and in particular on the General Obligation, including whether the obligation should be a “fiduciary” standard, whether it should be a uniform standard for broker-dealers and investment advisers,

and whether the standard should be more principles-based or more prescriptive (in particular, whether to define “best interest”).

See

IAC 2018 Recommendation; Letter from Rob Foregger, Co-Founder, NextCapital (Aug. 7, 2018) (“NextCapital Letter”) (recommending that the Commission adopt a uniform fiduciary standard of conduct applicable to both broker-dealers and investment advisers); Letter from Sharon Cheever, Senior Vice President and General Counsel, Pacific Life Insurance Company (May 28, 2019) (“Pacific Life May 2019 Letter”) (recommending that the Commission adopt a single `best interest' standard of care for all financial professionals).

See also

Letter from R. Scott Henderson, Bank of America (Aug. 7, 2018) (“Bank of America Letter”); Letter from Christopher Jones, Chief Investment Officer, Financial Engines (Aug. 6, 2018) (“Financial Engines Letter”); State Attorneys General Letter; Letter from Jill I. Gross, Associate Dean, Academic Affairs, Elisabeth Haub School of Law, Pace University (Mar. 11, 2019) (“Gross Letter”). Relatedly, one commenter expressed concern that a court or arbitration panel would determine that Regulation Best Interest would control, rather than existing case law, which would apply a fiduciary duty in certain circumstances.

See

Gross Letter.

See also

AFL-CIO April 2019 Letter.

See, e.g.,

Ameriprise Letter; Cambridge Letter; CCMC Letters; Edward Jones Letter; NAIFA Letter; Morningstar Letter; NY Life Letter; Letter from Kevin T. Reynolds, Senior Vice President, Penn Mutual Life Insurance Company (Aug. 1, 2018) (“Penn Mutual Letter”); SIFMA August 2018 Letter; Vanguard Letter; Letter from Kent. A Mason, Davis & Harman LLP (Jul. 20, 2018) (“Davis Harman Letter”).

The views of commenters on the approach to an enhanced standard of conduct for broker-dealers varied widely. A number of commenters supported a broker-dealer specific standard of conduct.

Several of these commenters supported the Commission's approach as proposed, with certain modifications to the specific component obligations discussed below.

Some commenters urged the Commission to change the standard from what the commenters called “suitability-plus” to what the commenters called a “true best interest standard,” including the avoidance of certain conflicts,

and urged the Commission to change the name of Regulation Best Interest unless it required firms to always be responsible for acting in the retail customer's best interest (as opposed to at the time of the recommendation).

Other commenters advocated for the adoption of a broker-dealer standard modeled after FINRA suitability rules,

and some suggested that the Commission create a safe harbor from liability for compliance with Regulation Best Interest.

See, e.g.,

SIFMA August 2018 Letter; Cetera August 2018 Letter; Vanguard Letter; Edward Jones Letter; Ameriprise Letter; NY Life Letter; NAIFA Letter; CCMC Letters; Penn Mutual Letter; Cambridge Letter; PIABA Letter; Letter from Ronald J. Kruszewski, Chairman and Chief Executive Officer, Stifel Financial (Aug. 7, 2018) (“Stifel Letter”); Financial Engines Letter.

See, e.g.,

SIFMA August 2018 Letter; Vanguard Letter; Edward Jones Letter; Ameriprise Letter; NY Life Letter; NAIFA Letter; CCMC Letters; Penn Mutual Letter; Cambridge Letter; PIABA Letter.

See, e.g.,

CFA Institute Letter.

See, e.g.,

Letter from Jean-Luc Bourdon, CPA/PFS, Chair, Personal Financial Planning Legislative and Regulatory Task Force, and Charles R. Kowal, Chair, Personal Financial Planning Executive Committee, AICPA (Aug. 7, 2018) (“AICPA Letter”); Betterment August 2018 Letter; NASAA August 2018 Letter.

See, e.g.,

National Society of Compliance Professionals Letter; Cetera August 2018 Letter.

See

Cambridge Letter; BISA Letter; IPA Letter.

By contrast, other commenters recommended that the Commission adopt a uniform standard of conduct for investment advisers and broker-dealers, in varying forms.

Commenters expressed differing views on the form of such a uniform standard of conduct, including that the Commission should adopt: a fiduciary standard for broker-dealers similar to, or no less stringent than, the fiduciary duty under the Advisers Act;

a uniform fiduciary standard as articulated in Section 913(g) of the Dodd-Frank Act

and/or consistent with the recommendations of the staff's Section 913 Study;

or a uniform standard similar to the DOL standard as reflected in the BIC Exemption;

harmonized requirements and guidance for broker-dealers and investment advisers offering services to retail customers;

or a new uniform best interest standard, with common core elements.

See, e.g.,

Betterment Letter; AARP August 2018 Letter; AFR Letter; Galvin Letter; State Attorneys General Letter.

See, e.g.,

Betterment Letter; Warren Letter; Fein Letter; Letter from Joseph M. Torsella, Pennsylvania State Treasurer, et al. (Aug. 7, 2018) (“State Treasurers Letter”); AARP August 2018 Letter.

See, e.g.,

FPC Letter; Letter from Maxine Waters, Ranking Member, Committee on Financial Services, U.S. House of Representatives, et al. (Sep. 12, 2018) (“Waters Letter”); Fein Letter.

See, e.g.,

ACLI Letter; Schwab Letter.

See, e.g.,

Galvin Letter.

See supra

footnote 32.

See, e.g.,

AARP August 2018 Letter.

See, e.g.,

Pacific Life August 2018 Letter.

In this vein, a number of commenters suggested specific revisions to the text of the General Obligation to clarify what the standard requires with respect to broker-dealer conflicts of interest, including that the Commission change the proposed “without placing the financial or other interest [of the broker-dealer] ahead” language to a standard that requires a recommendation be made “without regard to” a broker-dealer's interest

and/or requires the broker-dealer to “place the customer's interest first” or ahead of its own.

These commenters stated that changing the proposed language to a “without regard to” and/or “place the customer's interest first” phrasing would result in a stronger standard, whereas the proposed phrasing would allow a broker-dealer to act in its own interests as long as the broker-dealer does not put its interests ahead of its customers' interest.

100

These commenters stated that broker-dealers must put aside their own interest when determining what is best for the retail customer, that broker-dealers must ensure that conflicts do not taint recommendations.

101

See, e.g.,

CFA August 2018 Letter; FPC Letter; PACE Letter; Better Markets August 2018 Letter.

See, e.g.,

Invesco Letter; Schwab Letter; Better Markets August 2018 Letter; CFA Institute Letter.

100

See, e.g.,

CFA August 2018 Letter; FPC Letter; Pace Letter.

101

See, e.g.,

CFA August 2018 Letter.

Some commenters challenged the Commission's concern that the “without regard to” language “could be inappropriately construed to require a broker-dealer to eliminate all of its conflicts,” arguing that their position is supported by the plain meaning of the language and the context of 913(g) (which explicitly recognizes conflicts in certain areas), and the interpretations by others (such as the DOL) who have used it.

102

Highlighting what commenters viewed as inconsistencies in the Proposing Release's interpretation of the proposed “without placing . . . ahead” phrasing, such as statements that the obligation would require broker-dealers to “put aside their interests” when

making a recommendation versus others suggesting that a broker-dealer's interests cannot “predominantly motivate” or be the “sole basis” for the recommendation, some commenters suggested we either adopt the “without regard to” phrasing or state that the proposed phrasing requires a broker-dealer to put aside its interests.

103

Some commenters further stated that the “without regard to” phrasing, which is used in Section 913(g) of the Dodd-Frank Act, is the stronger standard of conduct that Congress intended, and challenged the Commission's reliance on the authority provided in Section 913(f).

104

In this vein, some commenters suggested that the Commission should adopt a uniform standard of conduct for broker-dealers and investment advisers that was authorized under Section 913(g), and recommended by the staff in the Section 913 Study.

105

102

See, e.g.,

CFA August 2018 Letter; Waters Letter.

103

See, e.g.,

CFA August 2018 Letter.

See also

Waters Letter (stating that the proposal fails to adequately explain just what it would require of brokers that is different from the status quo, that the standard should clearly differ from the current “suitability” standard, and that any final rule must clearly explain the standard, what it requires and prohibits, and how it differs from the status quo).

104

See, e.g.,

CFA August 2018 Letter; State Attorneys General Letter; Waters Letter; FPC Letter; Better Markets August 2018 Letter.

105

See, e.g.,

Waters Letter; FPC Letter.

Other commenters, however, supported the proposal's “without placing . . . ahead” formulation.

106

These commenters expressed concern that a “without regard to” standard would require “conflict free” recommendations, which would limit compensation structures and the offering of certain products.

107

Instead, commenters stated that the appropriate role of a best interest standard is to require disclosure and management of conflicts of interest.

108

Others generally supported, or did not object to, the Commission's decision not to proceed under its 913(g) authority in its current proposal.

109

106

See, e.g.,

AALU Letter; Cetera August 2018 Letter; NAIFA Letter; Pickard Letter.

107

See, e.g.,

AALU Letter; Cetera August 2018 Letter; NAIFA Letter; Pickard Letter.

108

See, e.g.,

AALU Letter; Cetera August 2018 Letter.

109

See, e.g.,

Invesco Letter; IAC 2018 Recommendation (stating “we recognize that the Commission has chosen not to proceed under its 913(g) authority in its current proposal, and it is not our intent to derail that proposal by advocating that the Commission change the legal basis for its rulemaking. Moreover, we believe the clarifications we have outlined above to the meaning of best interest, if implemented, have the potential to deliver immediate benefits to customers of broker-dealers and investment advisers alike. Should the Commission determine, however, that it cannot enforce the clarified best interest standard under the Advisers Act, a majority of the Committee believes the Commission should reconsider rulemaking under its 913(g) authority to close that regulatory gap.”). As noted above, Regulation Best Interest draws from key principles underlying fiduciary obligations, including those that apply to investment advisers under Advisers Act. Accordingly, as discussed below, the Commission has chosen to enhance existing obligations for broker-dealers when they make recommendations to a retail customer, while, in a separate interpretation, reaffirming and in some cases clarifying an investment adviser's fiduciary duty.

See

Fiduciary Interpretation.

A common theme across many comments was the need for additional guidance on what “best interest” means, with some commenters recommending that the Commission codify its interpretation of “best interest” or provide a more specific definition of what it means to act in the “best interest.”

110

Several commenters suggested that the “best interest” standard should require the “best” or most beneficial product available,

111

while others (including a majority of the IAC) requested that the Commission clarify that there is no single “best” recommendation and that the obligation is to adhere to a professional standard of conduct when making a recommendation.

112

Some commenters suggested defining “best interest” as including a duty of loyalty and care.

113

Several also suggested that the Commission incorporate best execution and fair pricing and compensation as factors for determining compliance with the standard.

114

110

See, e.g.,

NASAA August 2018 Letter.

111

See, e.g.,

Financial Engines Letter; CFA August 2018 Letter.

112

See, e.g.,

Wells Fargo Letter;

see also

IAC 2018 Recommendation (“[T]he Commission should recognize there will often not be a single best option and that more than one of the available options may satisfy this standard.”).

113

See, e.g.,

TIAA Letter; Morningstar Letter.

114

See, e.g.,

CFA Institute Letter; Letter from Mark Heckert, Vice President, Pricing and Analytics, ICE Data Services, (Aug. 7, 2018) (“ICE Letter”); FPC Letter.

Several commenters recommended that the Commission adopt a definition of best interest that is consistent with the best interest obligation described by the DOL in the BIC Exemption's Impartial Conduct Standards,

115

and supported a standard which would require a broker-dealer to act “solely” in the interest of the retail customer when making a recommendation.

116

Conversely, other commenters recommended that the “best interest” standard could be satisfied even if the recommendations are in part influenced by “self-promotion.”

117

115

See, e.g.,

AARP August 2018 Letter; Wells Fargo Letter; Schwab Letter; NASAA August 2018 Letter.

116

See, e.g.,

Galvin Letter.

117

See,

e.g.,

LPL August 2018 Letter.

Finally, in lieu of a prescribed definition of “best interest,” a number of commenters advocated for a facts-and-circumstances or “totality of the circumstances approach” for determining compliance with the “best interest” standard.

118

A majority of the IAC recommended that the meaning of the best interest obligation should be clarified to require “broker-dealers, investment advisers, and their associated persons to recommend the investments, investment strategies, accounts or services, from among those they have reasonably available to recommend, that they reasonably believe represent the best available options for the investor.”

119

118

See, e.g.,

AAJ Letter; CFA August 2018 Letter.

119

IAC 2018 Recommendation.

After careful consideration of these comments, we continue to believe that our proposed approach for enhancing the standards of conduct that apply to broker-dealers' recommendations to retail customers is the appropriate approach, and therefore we are adopting as proposed the structure and scope of Regulation Best Interest, including the phrasing of the General Obligation, and are not expressly defining “best interest” in the rule text.

120

However, in consideration of these comments, we are providing our views on what the standard generally requires, what it is intended to achieve, and its alignment in many respects with fiduciary principles.

120

Another commenter stated that any modification to the proposed rules and guidance that would make them “more restrictive” should be reproposed for additional public comment.

See

ACLI Letter. Because we have provided notice and the changes we are making are based on comments we received, reproposal is not necessary.

1. Commission's Approach

After extensive consideration, and for the reasons discussed in the Proposing Release and further below, we are adopting a rule to enhance the existing broker-dealer conduct obligations when they make recommendations to a retail customer.

121

At the same time, we seek to preserve retail investor access (in terms of choice and cost) to differing types of investment services and products.

121

See

Proposing Release at 21575. In particular, we considered the recommendations made by our staff in 2011 and the recommendations of the IAC.

See

Staff of the U.S. Securities and Exchange Commission,

Study on Investment Advisers and Broker-Dealers As Required by Section 913 of the Dodd-Frank Wall Street Reform and Consumer Protection Act

(Jan. 2011) (“913 Study”), at 9-10,

available at www.sec.gov/news/studies/2011/913studyfinal.pdf

; Recommendation of the Investor Advisory Committee: Broker-Dealer Fiduciary Duty (Nov. 2013) (“IAC 2013 Recommendation”),

available at https://www.sec.gov/spotlight/investor-advisory-committee-2012/fiduciary-duty-recommendation-2013.pdf

; IAC 2018 Recommendation.

The Commission is adopting Regulation Best Interest pursuant to the

express and broad grant of rulemaking authority in Section 913(f) of the Dodd-Frank Act.

122

As some commenters noted, Section 913(g) expressly authorizes the Commission to adopt rules that would hold broker-dealers to the same standard of conduct as investment advisers. However, the availability of overlapping, yet distinct, rulemaking power under Section 913(g) does not negate the grant of authority under Section 913(f). The plain text of Section 913(f) authorizes the Commission to promulgate this rule addressing the legal and regulatory standards of care for broker-dealers, and their associated persons.

122

Section 913(f) of the Dodd-Frank Act provides the Commission discretionary authority to “commence a rulemaking, as necessary or appropriate to the public interest and for the protection of retail customers (and such other customers as the Commission may by rule provide), to address the legal or regulatory standards of care for brokers, dealers . . . [and] persons associated with brokers or dealers . . . for providing personalized investment advice about securities to such retail customers.” In addition to Section 913(f), the Commission is promulgating Regulation Best Interest pursuant to other provisions of the Exchange Act, including Section 15(c)(6) and Section 17.

The Commission is utilizing its authority under 913(f) in order to adopt an enhanced investor-protection standard for broker-dealers that maintains the availability of both the broker-dealer model and the investment adviser model. The Commission has chosen not to apply the existing fiduciary standard under the Advisers Act to broker-dealers in part because of concerns that such a shift would result in fewer broker-dealers offering transaction-based services to retail customers, which would in turn reduce choice and may raise costs for certain retail customers.

Moreover, the Commission has chosen not to create a new uniform standard applicable to both broker-dealers and investment advisers which, among other things, would discard decades of regulatory and judicial precedent and experience with the fiduciary duty for investment advisers that has generally worked well for retail clients and our markets. We believe that adopting a “one size fits all” approach would not appropriately reflect the fact that broker-dealers and investment advisers play distinct roles in providing recommendations or advice and services to investors, and may ultimately harm retail investors. Instead, the Commission has chosen to enhance existing obligations for broker-dealers when they make recommendations to a retail customer, while, in a separate interpretation, reaffirming and in some cases clarifying an investment adviser's fiduciary duty.

123

Although we are not adopting a uniform fiduciary standard of conduct, we note that our rules are designed to achieve many of the key goals advocated for by supporters of a uniform standard of conduct. For example, in advocating for a uniform standard of conduct former Commission Chair Elisse B. Walter (then a Commissioner) stated that (1) “[t]o appreciate fully what a fiduciary standard means, and what it really means to act in the best interest of an investor, it is absolutely necessary to drill down and determine what duties and obligations flow from a fiduciary standard,” (2) “a fiduciary standard is not a substitute for business practice rules . . . [r]ather, the two are complementary . . . and can be used by the Commission] to prohibit certain conflicted behavior or to require mitigation or management of the conflict,” (3) “what a fiduciary duty requires depends on the scope of the engagement,” and (4) “[m]ost important, whatever gloss and guidance the Commission provides, it should not deviate from the basic principle that financial professionals should always act in the best interests of investors, both large and small.” Commissioner Elisse B. Walter, Regulating Broker-Dealers and Investment Advisers: Demarcation or Harmonization? (May 5, 2009),

available at

https://www.sec.gov/news/speech/2009/spch050509ebw.htm

In our Fiduciary Interpretation and in this release, we are providing our views on the duties and obligations that flow from the fiduciary duty and Regulation Best Interest. In this release, we discuss the specific obligations of broker-dealers under the Disclosure, Care and Conflicts of Interest Obligations, which include requirements to establish policies and procedures that comply with the Conflict of Interest Obligation, specifically to disclose and mitigate (

i.e.,

reasonably reduce), or eliminate, certain conflicts. As discussed below, these specific obligations are tailored to address particular concerns that arise as a result of the broker-dealer model. For that reason, as well as the other reasons set forth above, the Commission does not believe that it is necessary to adopt a uniform standard in order to ensure that these specific obligations also apply to investment advisers, as the IAC suggests.

See

IAC 2018 Recommendation. In our Fiduciary Interpretation, we state that “the application of the investment adviser's fiduciary duty will vary with the scope of the relationship,” and here we have noted that we are not expressly defining in the rule text the term “best interest,” and instead are providing in the rule and through interpretations what “best interest” means. Compliance with each of the specific component obligations will turn on an objective assessment of the facts and circumstances of how the specific components of Regulation Best Interest are satisfied at the time that the recommendation is made. Finally, regardless of whether a retail investor chooses a broker-dealer or an investment adviser (or both), the retail investor will be entitled to a recommendation (from a broker-dealer) or advice (from an investment adviser) that is in the best interest of the retail investor and that does not place the interests of the firm or the financial professional ahead of the interests of the retail investor.

Regulation Best Interest considers and incorporates (to the extent appropriate) obligations that apply to investment advice in other contexts, with the goal of fostering greater consistency and clarity in the level of protection provided to retail customers at the time that a recommendation is made. We are tailoring these principles to the structure and characteristics of the broker-dealer relationship with retail customers and building upon existing regulatory obligations. As a result, Regulation Best Interest protects investors who seek access to the services, products, and payment options offered by broker-dealers.

Although we are not applying the existing fiduciary standard under the Advisers Act to broker-dealers, key elements of the standard of conduct that applies to broker-dealers under Regulation Best Interest will be substantially similar to key elements of the standard of conduct that applies to investment advisers pursuant to their fiduciary duty under the Advisers Act

124

at the time that a recommendation is made. Regulation Best Interest's regulatory structure is unique to broker-dealers—and is tailored to the broker-dealer business model—but regardless of whether a retail investor chooses a broker-dealer or an investment adviser (or both), the retail investor will be entitled to a recommendation (from a broker-dealer) or advice (from an investment adviser) that is in the best interest of the retail investor and that does not place the interests of the firm or the financial professional ahead of the interests of the retail investor.

124

See

Fiduciary Interpretation.

As discussed in the proposal, and in the discussion below, Regulation Best Interest, as adopted, incorporates Care and Conflict of Interest Obligations substantially similar to the fiduciary duties of care and loyalty under Section 206(1) and (2) of the Advisers Act, even if not in the same manner as the 913 Study recommendations or identical to the duties under the Advisers Act.

125

We extensively considered the 913 Study as part of developing Regulation Best Interest, as discussed in the Proposing Release, and believe that the enhancements to the broker-dealer standard of conduct incorporate, and in many aspects (such as the concept of mitigation, and the detailed Care Obligation), build upon and go beyond the recommendations in the 913 Study.

125

See

Proposing Release at 21590.

Although key elements are substantially similar, the Commission notes that the obligations of a broker-dealer under Regulation Best Interest and the obligations of an investment adviser pursuant to its fiduciary duty under the Advisers Act differ in certain respects, taking into account the scope of the services and relationships typically offered by broker-dealers and

investment advisers. For example, an investment adviser's duty of care encompasses the duty to provide advice and monitoring at a frequency that is in the best interest of the client, taking into account the scope of the agreed relationship. This difference reflects the generally ongoing nature of the advisory relationship, and the Commission's view that, within the scope of the agreed adviser-client relationship, investment advisers' fiduciary duty generally applies to the entire relationship. In contrast, the provision of recommendations in a broker-dealer relationship is generally transactional and episodic, and therefore the final rule requires that broker-dealers act in the best interest of their retail customers at the time a recommendation is made and imposes no duty to monitor a customer's account following a recommendation.

As noted above, Regulation Best Interest also generally imposes more specific obligations on broker-dealers under the Disclosure, Care and Conflict of Interest Obligations (each of which is discussed in detail below) than the principles-based requirements of investment advisers' fiduciary duty under the Advisers Act. This approach is intended to tailor the application of principles that have developed in the context of a different business model over the course of almost 80 years. Moreover, this more specific and tailored approach drawing on key fiduciary principles (1) is consistent with the generally rules-based regulatory regime that applies to broker-dealers, (2) acknowledges that certain relevant obligations may already be addressed by existing broker-dealer requirements (

e.g.,

broker-dealers are already subject to a duty of best execution), (3) allows us to impose requirements that we are believe are more appropriately tailored to address the specific conflicts raised by the transaction-based nature of the broker-dealer model, and (4) recognizes that it would be inappropriate to apply to certain generally applicable obligations of investment advisers (

e.g.,

duty to monitor) in the context of a transaction-based relationship.

These specific obligations include express requirements relating to the Care Obligation, requiring that a broker-dealer exercise reasonable diligence, care, and skill to: (1) Understand the risks, rewards and costs of a recommendation; (2) have a reasonable basis to believe that the recommendation is in the best interest of a particular retail customer, based on the retail customer's investment profile, and that the recommendation does not place the broker-dealer's interest ahead of the retail customer's interest; and (3) have a reasonable basis to believe that a series of transactions is in the best interest of the retail customer and does not place the interest of the broker-dealer ahead of the retail customer's interests. Regulation Best Interest imposes a duty of care that enhances existing suitability obligations (as discussed further below). It also includes a requirement under the Care Obligation to specifically address the risk that a broker-dealer's transaction-based recommendations and compensation could result in a series of recommendations that are not in the best interest or a retail customer—a “churning” risk unique to the broker-dealer model of providing recommendations and resulting transaction-based compensation.

Regulation Best Interest also includes a requirement under the Conflict of Interest Obligation for broker-dealers to establish, maintain, and enforce written policies and procedures reasonably designed to (1) mitigate conflicts of interest at the associated person level, (2) specifically address the conflicts of interest presented when broker-dealers place material limitations on the securities or products that may be recommended (

i.e.,

only make recommendations of proprietary or other limited range of products), and (3) eliminate sales contests, bonuses, and non-cash compensation that are based on the sales of specific securities or specific types of securities within a limited period of time. The conflicts of interest associated with incentives at the associated person level and limitations on the securities or products that may be recommended to retail customers have raised particular concerns in the context of the broker-dealer, transaction-based relationship. Accordingly, the Commission believes specific disclosure and additional mitigation requirements are appropriate to address those conflicts. Sales contests, sales quotas, bonuses and non-cash compensation that are based on the sales of specific securities within a limited period of time create high-pressure situations for associated persons to increase the sales of specific securities or specific types of securities within a limited period of time and thus compromise the best interests of their retail customers. The Commission does not believe such conflicts of interest can be reasonably mitigated and, accordingly, they must be eliminated.

Phrasing of Standard

We are adopting the phrasing “act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the [broker-dealer] ahead of the interest of the retail customer” as it was proposed.

126

In response to comments, we are clarifying our views on what this standard entails and how it compares to the “without regard to” language of Section 913.

126

See

paragraph (a)(1) of Regulation Best Interest. As discussed in Section II.C.2, we are also adding the phrasing “does not place the financial or other interest of the broker, dealer, or such natural person . . . ahead of the retail customer” to certain provisions of the Care Obligation.

By replacing the “without regard to” language of Section 913(g) and the 913 Study with the “without placing the financial or other interest of the [broker-dealer] . . . ahead of the interest of the retail customer” phrasing, we did not intend to create a “lower” or “weaker” standard compared to the language of Section 913(g) and the 913 Study. Rather, we are adopting a standard that reflects that a broker-dealer should not put its interests ahead of the retail customer's interest, and thereby aligns with (and in certain areas imposes more specific obligations than) the investment adviser fiduciary duty, at the time a broker-dealer makes a recommendation to a retail customer.

As discussed in the Proposing Release, we do not intend for our standard to require a broker-dealer to provide conflict-free recommendations. For example, under Regulation Best Interest, a broker-dealer could recommend a more expensive or more remunerative security or investment strategy if the broker-dealer has a reasonable basis to believe there are other factors about the security or investment strategy that make it in the best interest of the retail customer, based on that retail customer's investment profile.

127

See Section II.C.2, Care Obligation.

We also agree with commenters that we do not believe that is the intent behind the “without regard to” phrase, as included in Section 913 of the Dodd-Frank Act or recommended in the 913 Study, as is evident both from other provisions of Section 913 that acknowledge and permit the existence of financial interests under that standard, and how our staff articulated the recommended uniform fiduciary standard in the 913 Study.

128

Nevertheless, we are concerned that there is a risk that the “without regard to” language would be inappropriately construed to require a broker-dealer to eliminate all of its conflicts when making a recommendation (

i.e.,

require recommendations that are conflict free), which we believe could ultimately harm retail investors by reducing their access to differing types of investment services and products and by increasing their costs.

128

See

Proposing Release at 21590. As noted in the proposal, among other things, Dodd-Frank Act Section 913(g) expressly provides that the receipt of commission-based compensation, or other standard compensation, for the sale of securities shall not, in and of itself, violate any uniform fiduciary standard promulgated under that subsection's authority as applied to a broker-dealer. Moreover, Section 913(g) does not itself require the imposition of the

principal trade provisions of Advisers Act Section 206(3) on broker-dealers. In addition, Dodd-Frank Act Section 913 provides that offering only proprietary products by a broker-dealer shall not, in and of itself, violate such a uniform fiduciary standard, but may be subject to disclosure and consent requirements.

See

Exchange Act Section 15(k)(1) and Advisers Act Section 211(g)(1).

See also

913 Study at 113; Proposing Release at 21590.

The potential for a range of different meanings to be given to the phrase “without regard to” was heightened by the DOL's use of this same language for purposes of the Impartial Conduct Standards set forth in the BIC Exemption. We recognize, as noted by some commenters, that the DOL interpretation of this phrase does not require “conflict-free” recommendations. Nevertheless, because of the differences in the approach to the treatment of conflicts under ERISA and under the federal securities laws—ERISA starts by prohibiting conflicts and then through exemptions permits certain conflicts, whereas the federal securities laws generally start with disclosure and become more restrictive—we share commenters' concerns that DOL's use of the “without regard to” language could alter the way in which conflicts are viewed and cause a substantial portion of conduct that is currently permitted, and reasonably accepted and desired by retail customers, to be limited or eliminated. Based on market participant experience with the implementation of—and reaction to the subsequent overturning of—the DOL Fiduciary Rule, in particular the BIC Exemption,

129

we continue to believe that it is better to use language that provides similar investor protections, but does not raise these legal ambiguities.

129

See supra

footnotes 33 and 34 (citing reduction in services and increase in costs following DOL).

The “without placing the financial or other interest . . . ahead of the interest of the retail customer” phrasing recognizes that while a broker-dealer will inevitably have some financial interest in a recommendation—the nature and magnitude of which will vary—the broker-dealer's interests cannot be placed ahead of the retail customer's interest.

130

Accordingly, we believe this phrasing establishes a standard that enhances investor protection by prohibiting a broker-dealer from placing its interests ahead of the retail customer's interests, and preserves investor access (in terms of both choice and cost) to differing types of investment services and products.

130

In this vein, we believe that a broker-dealer's “financial interest” is broad, and that a broker-dealer is unlikely to have an “other interest” that is not a “financial interest.”

See, e.g.,

Proposing Release at 21618 (noting “. . . our interpretation of the types of material conflicts of interest arising from financial incentives is broad. . .”).

The phrasing also aligns with an investment adviser's fiduciary obligation. As discussed in the Fiduciary Interpretation, an investment adviser's fiduciary duty under the Advisers Act comprises a duty of care and a duty of loyalty.

131

The fiduciary duty requires that an adviser “adopt the principal's goals, objectives, or ends.”

132

This means the adviser must, at all times, serve the best interest of its clients and not subordinate its client's interest to its own. In other words, the investment adviser cannot place its own interests ahead of the interests of its client.

133

This combination of care and loyalty obligations has been characterized as requiring the investment adviser to act in the “best interest” of its client at all times.

134

131

See, e.g.,

Proxy Voting by Investment Advisers, Advisers Act Release No. 2106 (Jan. 31, 2003) (“Investment Advisers Release No. 2106”).

See also

Fiduciary Interpretation.

132

Arthur B. Laby,

The Fiduciary Obligations as the Adoption of Ends,

56 Buffalo Law Review 99 (2008);

see also

Restatement (Third) of Agency, § 2.02 Scope of Actual Authority (2006) (describing a fiduciary's authority in terms of the fiduciary's reasonable understanding of the principal's manifestations and objectives).

See

Fiduciary Interpretation.

133

See

Fiduciary Interpretation.

134

Id. See also

Amendments to Form ADV, Advisers Act Release No. 3060 (Jul. 28, 2010) (adopting amendments to Form ADV and stating that “under the Advisers Act, an adviser is a fiduciary whose duty is to serve the best interests of its clients, which includes an obligation not to subrogate clients' interests to its own,” citing Investment Advisers Act Release 2106).

See SEC

Tambone,

550 F.3d 106, 146 (1st Cir. 2008) (“Section 206 imposes a fiduciary duty on investment advisers to act at all times in the best interest of the fund. . .”);

SEC

Moran,

944 F. Supp. 286, 297 (S.D.N.Y 1996) (“Investment advisers are entrusted with the responsibility and duty to act in the best interest of their clients.”).

Language that would require a broker-dealer to put the retail customer's interest “first” arguably raises many of the same concerns as the “without regard to” language. Accordingly, we are adopting a formulation in Regulation Best Interest that is consistent with how we describe the duty of loyalty for investment advisers in the Fiduciary Interpretation—that is, a requirement not to place the adviser's interests ahead of the interests of its client.

135

See

Fiduciary Interpretation at footnote 54 (stating that, in practice, referring to putting a client's interest first is a plain English formulation commonly used by investment advisers to explain their duty of loyalty in a way that may be more understandable to retail clients).

While we are not revising this phrasing of the standard, we appreciate concerns raised by commenters about clarifying whether this standard permits broker-dealers to allow their conflicts to taint their recommendations or to allow broker-dealers to make recommendations that are motivated by their own interests or to put their interests first. We discuss below what it means to “act in the best interests,” particularly in the context of satisfying the Care and Conflict of Interest Obligations. Specifically, we clarify that the obligations set forth in Regulation Best Interest are intended to require broker-dealers to take steps to reduce the effect of (and in some cases eliminate) conflicts that create an incentive to place a broker-dealer's or an associated person's interest ahead of the retail customer's interest when making a recommendation, and to make recommendations in the best interest of the retail customer even where conflicts continue to exist. We believe that this approach will result in a standard of conduct that is consistent with what a reasonable retail customer would expect.

136

See, e.g.,

Brian Scholl,

et al.,

SEC Office of the Investor Advocate and RAND Corporation,

The Retail Market for Investment Advice

(2018),

available at

https://www.sec.gov/comments/s7-07-18/s70718-4513005-176009.pdf

(“OIAD/RAND”). OIAD/RAND summarized the results of focus groups, indicating that in the context of discussing expectations for standards of conduct, “the groups typically expected that a financial professional who is acting in a client's best interest” to, among other things, “disclose payments they receive that might influence their advice [and] avoid taking higher compensation for selling one product over a similar but less costly product.” Further, OIAD/RAND summarized focus group comments on professionals' form of compensation, noting that “although many participants prefer that a professional be compensated by the client alone, some might not rule out using a professional who is receiving other compensation, for example if the compensation is openly disclosed and they are comfortable with the professional.” The SEC's Office of Investor Advocate and the RAND Corporation prepared this research report regarding the retail market of investment advice prior to, and separate from, our rulemaking proposals. This report was included in the comment file at

https://www.sec.gov/comments/s7-07-18/s70718-4513005-176009.pdf

See also

Proposing Release at 21587.

149

at 21588.

Further, for the reasons discussed in the proposal, we confirm that Regulation Best Interest is not intended to limit or eliminate recommendations that encourage diversity in a retail customer's portfolio through investment in a wide range of products, including, when appropriate, products that may involve higher risks or cost to the retail customer, as these products may be in the best interest of certain retail customers at certain times or in certain circumstances.

150

Regulation Best Interest will not necessarily obligate a broker-dealer to recommend the “least expensive” or the “least remunerative” security or investment strategy, provided the broker-dealer complies with the specific component obligations.

151

In other words, Regulation Best Interest will allow a broker-dealer to recommend products that entail higher costs or risks for the retail customer, or that result in greater compensation to the broker-dealer, or that are more expensive, than other products, provided that the broker-dealer complies with the specific component obligations detailed below,

152

including the requirement to make these recommendations exercising reasonable diligence, care, and skill to have a reasonable basis to believe that the recommendation is in the retail customer's best interest and does not place the broker-dealer's interest ahead of the retail customer's interest.

150

Id.

151

See id.

152

See id.

Finally, some commenters sought additional clarity whether Regulation Best Interest would extend beyond a particular recommendation, impose a duty to monitor the retail customer's account, or apply to unsolicited orders.

153

We confirm that, consistent with the Proposing Release and as discussed further below, Regulation Best Interest

would not:

(1) Extend beyond a particular recommendation

154

or generally require a broker-dealer to have a continuous duty to a retail customer or impose a duty to monitor;

155

(2) require the broker-dealer

to refuse to accept a customer's order that is contrary to the broker-dealer's recommendation; or (3) apply to self-directed or otherwise unsolicited transactions by a retail customer, whether or not she also receives separate recommendations from the broker-dealer.

153

See, e.g.,

SIFMA August 2018 Letter; Transamerica August 2018 Letter;

see also

NASD Notice to Members 01-23, Online Suitability—Suitability Rules and Online Communications (Apr. 2001); Notice of Filing Proposed Rule Change to Adopt FINRA Rule 2090 (Know Your Customer) and FINRA Rule 2111 (Suitability) in the Consolidated FINRA Rulebook, Exchange Act Release No. 62718 (Aug. 13, 2010), 75 FR 51310 (Aug. 19, 2010), as amended, Exchange Act Release No. 67218A (Aug. 20, 2010), 75 FR 52562 (Aug. 26, 2010) (discussing what it means to make a “recommendation”).

162

See

Proposing Release at 21592-21593.

While certain commenters recommended formally defining the term “recommendation,” including what does not come within that term,

163

other commenters maintained there is no need to define “recommendation” and expressed support for harmonizing the term in accordance with existing broker-dealer guidance and case law.

164

We agree with commenters that clarity is important, and we continue to believe that the current principles-based approach underlying existing Commission precedent and guidance will provide effective clarity. Being more prescriptive could result in a definition that is over inclusive, under inclusive, or both.

165

We believe that what constitutes a recommendation is highly fact-specific and not conducive to an express definition in the rule text. Furthermore, we believe that the existing framework has worked well, that broker-dealers generally are familiar with the existing framework, and therefore, that this approach should continue. Accordingly, we are taking the approach as set forth in the Proposing Release, which we believe provides a workable framework and clarity for broker-dealers regarding the contours of a recommendation. To provide further clarity, in response to comments, we describe below the types of communications that we generally view

as falling outside of the scope of a recommendation.

163

See, e.g.,

Prudential Letter (recommending an express definition of “recommendation” that would codify guidance).

164

See, e.g.,

SIFMA August 2018 Letter (“Similarly, the SEC refers to the FINRA concept of `recommendation' rather than prescribing a specific definition. We believe this is appropriate, and we believe that a carve-out for educational materials would be consistent with that approach.”); Edward Jones Letter (“We do not believe it is necessary for the SEC to define the phrase `at the time the recommendation is made,' because its meaning is plain.”); Cambridge Letter (“FINRA Rule 2111 sets forth an explicit standard for what constitutes a recommendation and recognizes `call to action' as the hallmark. Cambridge believes this definition is fully understood and in use by the industry.” Cambridge also states that harmonizing the final rule with existing FINRA rules and guidance will provide clarity to firms, financial professionals, and investors).

165

See id.;

Proposing Release at 21592-21593. Similarly, FINRA has stated that “defining the term `recommendation' is unnecessary and would raise many complex issues in the absence of specific facts of a particular case.” Exchange Act Release No. 37588, 1996 SEC LEXIS 2285, at *29 (Aug. 20, 1996), 61 FR 44100, 44107 (Aug. 27, 1996).

We are also generally confirming our interpretation in the Proposing Release of the phrase “any securities transaction or investment strategy involving securities.” However, in response to comments regarding the coverage of certain securities or investment strategies, we are providing further clarity regarding our interpretation of this phrase, and in certain instances, refining our interpretation. For example, as discussed more fully below, we are confirming our interpretation that recommendations of “any securities transaction” (purchase, sale, or exchange) and any “investment strategy” involving securities (including an explicit hold recommendation)

are

recommendations “of any securities transaction or investment strategy involving securities.”

In addition, we are generally confirming our interpretation that a broker-dealer may agree with a retail customer to take on additional obligations beyond those imposed by Regulation Best Interest, for example, by agreeing with a retail customer to provide monitoring of the retail customer's investments on a periodic basis for purposes of recommending changes in investments.

166

In response to comments, it is our position that when a broker-dealer agrees

167

with a retail customer to monitor that customer's account: (1) The broker-dealer is required to disclose the terms of such account monitoring services (including the scope and frequency of those services) pursuant to the Disclosure Obligation

168

and (2) such agreed-upon monitoring involves an

implicit

recommendation to hold (

i.e.,

recommendation not to buy, sell, or exchange assets pursuant to that securities account review) at the time the agreed-upon monitoring occurs, which is a recommendation “of any securities transaction or investment strategy involving securities” covered by Regulation Best Interest.

169

As discussed further below, in our view, a recommendation of “an investment strategy” includes implicit hold recommendations in this context, where the broker-dealer has agreed to monitor a retail customer's account.

170

We are interpreting the phrase “any security transaction or investment strategy” to include instances where there is an agreement to monitor because in this context there is an implicit recommendation to hold at the time the agreed-upon monitoring occurs when the broker-dealer does not provide an express recommendation to buy, sell, or hold.

171

166

Proposing Release at 21594-21595. The Proposing Release referred to “ongoing” monitoring of the retail customer's investments for purposes of recommending changes in investments.

Id.

In the discussion that follows and the Solely Incidental Interpretation, we are clarifying our views regarding broker-dealer account monitoring services, and the application of Regulation Best Interest to such services. As discussed in the Solely Incidental Interpretation, a broker-dealer that agrees to monitor a retail customer's account on a periodic basis for purposes of providing buy, sell, or hold recommendations may still be considered to provide advice in connection with and reasonably related to effecting securities transactions. Broker-dealers may choose to adopt policies and procedures that, if followed, would help demonstrate that any agreed-upon monitoring is in connection with and reasonably related to the broker-dealer's primary business of effecting securities transactions.

See

Solely Incidental Interpretation.

167

An agreement to provide account monitoring services to a retail customer is not required to be in writing (although whether or not the broker-dealer is providing account monitoring services, and, if so, the scope and frequency of such monitoring services, must be disclosed in writing pursuant to the Disclosure Obligation). For example, a broker-dealer's oral undertaking that the broker-dealer will monitor the retail customer's account on a periodic basis would create an agreement to monitor the account on the terms specified orally. Whether an agreement with the retail customer has been established in the a

This text is long and has been trimmed here. Open the source document for the complete record.

This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.