Four weeks before the SEC's best-interest standard is slated to take effect, a federal appeals court heard oral arguments Tuesday on why it should be vacated.
The SEC's rule package is commonly known as Reg BI for its centerpiece best-interest standard that aims to compel brokers to put clients' financial interests ahead of their own and requires them to mitigate financial conflicts.
"Reg BI makes it more difficult for customers to differentiate between financial planners who are bound by fiduciary obligations and for broker-dealers who may consider their own financial interests," Deepak Gupta, founding principal of Gupta Wessler, told a three-judge panel Tuesday at the 2nd U.S. Circuit Court of Appeals in New York during a hearing conducted by telephone.
Mr. Gupta represents XY Planning Network, a Bozeman, Mont., financial planning organization for fee-for-service financial advisers seeking to serve Generation X and millennial clients, that filed a lawsuit challenging the SEC rule in September.
That same month, three months after SEC commissioners approved Reg BI, eight attorneys general filed a federal lawsuit challenging the rule, saying it doesn't sufficiently protect investors under the Dodd-Frank Wall Street Reform and Consumer Protection Act.
The two lawsuits were bound together since they're challenging the rule in similar ways.
XY Planning Network, in essence, claims that the SEC's new rule fails to hold brokers to the same tough fiduciary standard governing RIAs. In creating Reg BI, it claims the SEC exceeded its regulatory authority by permitting comprehensive financial planning services to be delivered in connection with the sale of brokerage products without requiring a financial planner to register as an investment adviser and/or without fully subjecting such financial planning advice itself to a registered investment adviser's fiduciary duty.
Jeffrey A. Berger, senior litigation counsel at the SEC, opened his oral arguments Tuesday by saying Reg BI "enhances the conduct that broker dealers must provide to retail customers when making recommendations." He added that the SEC balanced two related objectives when crafting the package: protecting investors by improving the quality of recommendations and reducing the risk of harm from conflicted advice, while also preserving investors' ability to choose among firms that offer different services and fee structures.
The two sides sparred over Congress' intention in the Dodd-Frank Act.
"If Congress had wanted to treat brokers and advisers the same, it could've eliminated the broker-dealer exclusion from the Adviser's Act, something it absolutely did not do, it could've directly itself proposed a fiduciary duty on broker-dealers…or it could've mandated a rule-making where the commission adopt a fiduciary standard that Congress envisioned," Mr. Berger said. "It did none of those things."
If the SEC issued a rule on this issue, Mr. Gupta said, under Dodd-Frank it was required to harmonize the broker-dealer and investment adviser regulatory regimes, but the SEC instead "adopted a contrary policy choice, doubling down on the existing regulatory confusion."
In January, former Democratic legislators Sen. Chris Dodd of Connecticut and Rep. Barney Frank of Massachusetts filed an amicus brief in connection with the lawsuits along with 10 other federal lawmakers, telling the court that Reg BI "cannot stand."
Under Dodd-Frank, Congress directed the SEC to study the effects of the different standards of conduct for broker-dealers and investment advisers, and to make relevant recommendations to address any inconsistency between the standards, the amicus brief said. Moreover, Congress also said any rule responding to a regulatory gap in this area "must provide for a uniform fiduciary duty to apply to all broker-dealers and investment advisers," the brief said.
Reg BI "perpetuates the very inconsistency in standards of care that Congress passed the Dodd-Frank Act to fix and violates Dodd-Frank," the brief stated.
The court is expected to reach an expedited decision before Reg BI goes live June 30.
Separately, the Department of Labor on Monday sent its proposed fiduciary rule to the Office of Management and Budget for review. The filing does not provide any details on the proposal or how long OMB will take to review it, but Labor Department officials have said in the past that the revamped fiduciary rule will "harmonize" with Reg BI.
