Can They Get Away With That?

April 7, 2015

Most of us know someone who has been fleeced by bad investment advice. I certainly do. In my case it was a family member who took the funds in a 401(k) plan and rolled them into an IRA plan at an investment broker. That was over ten years ago, and today all that remains of a hundred thousand dollars of savings is dust. Bad investment advice, a falling stock market, and sketchy securities ate a substantial nest egg. The family was shocked and appalled over the loss. The universal question is, “Can they get away with that?”

The short answer

Yes. The investment broker does not owe the client a duty of loyalty and is only bound by a responsibility to recommend suitable investments. The salesman doesn’t have to have his client’s best interest at heart when he makes recommendations and can present ideas that benefit himself and his firm more than the client. The investment may be generally acceptable choice, but it doesn’t have to be the best choice for the client. The fees can be too high, the product may be overpriced, there may be more compelling opportunities -- but the salesman is under no obligation to get the client the best deal possible. It’s a “buyers beware” world and the client had better realize he is depending upon his own financial wits to make the best decision.

What is fiduciary responsibility and when does it come into play?

Fiduciary responsibility is the requirement to put the client’s welfare ahead of your own. An advisor with a fiduciary responsibility to the client is held to a higher level of responsibility. The fiduciary must act in the sole interest of the client and is legally required to get the best information and advice to the client. The test that is applied is: What would the advisor do if they were investing their own money? The fiduciary must act as if your best interest is their best interest. That means they must show you the best products at the lowest cost.

All PERA employees and Board of Trustee members, for instance, are fiduciaries for all PERA members and retirees and receive regular training on what it means to be a fiduciary and the legal and ethical standards behind their roles.

There can be vast differences in how your financial professional is regulated and the standards that are upheld. Some advisors have fiduciary responsibility and some do not. The Department of Labor oversees employer sponsored retirement plans such as 401(k) and 403(b) plans under jurisdiction of ERISA laws that became effective in 1975. Under this regulator, the advisor is held to a fiduciary level of responsibility. Investment brokers are overseen by the Securities and Exchange Commission (SEC) and under their rules, the standard is that their recommendations be generally suitable for the client. If you choose to roll your 401(k) account over into an IRA account with an investment broker, then the level of responsibility changes for your advisor from fiduciary to suitability.

Know your financial professional and the standard they work to

There is a real difference between the standards your advisor works to and it is important for you to recognize the difference. You would evaluate the recommendations of a car salesman differently than the recommendations of your doctor -- both are regulated in some form, but the medical profession holds their members to a higher standard. When you consider investment advice for your retirement account, you should consider the experience and credentials of the advisor and what their level of responsibility to you is. Are they acting in your best interest, or are they simply selling you a service?

New legislation may reduce this ambiguity

Currently congress is considering new legislation that would hold all financial advisors who handle retirement accounts to a fiduciary standard. This would remove the ambiguity and ensure everyone advising you on your retirement investments is working in your best interests. Until this becomes law, it will be up to the client to determine who has a fiduciary responsibility to them and judge their advice accordingly.

You can learn more about the potential changes to fiduciary standards here.