Compliance Week (January 10, 2020) – Joining forces with a handful of state attorneys general who are seeking to have the Securities and Exchange Commission’s Regulation Best Interest set aside, former Sen. Christopher Dodd (D-Conn.) and former Rep. Barney Frank (D-Mass.), joined by 10 other current and former members of Congress, have filed a “friend of the court” brief in the 2nd U.S. Circuit Court of Appeals siding with the states.

The SEC finalized its rule in July 2019. Among other things, Regulation Best Interest establishes a standard of conduct for broker-dealers, who are to act in the best interest of their retail customers at the time they make a recommendation.

Dodd, Frank, and the Congressional colleagues who joined them on their amicus curiae brief maintain the standards of care applicable to broker-dealers and investment advisers must be harmonized pursuant to the requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, which was passed in the wake of the 2008 financial crisis.

Dodd served as a U.S. Senator from 1981 until 2011. He announced in 2010 he would not seek re-election. Frank served in the U.S. House of Representatives from 1981 to 2013. He did not seek re-election in 2012. While serving in Congress, Dodd and Frank sponsored the Wall Street reform legislation that bears their names.

States challenge the rule

Last year, seven states (California, Connecticut, Delaware, Maine, New Mexico, New York, and Oregon) along with the District of Columbia, the XY Planning Network (a network of registered investment advisers), and Ford Financial Solutions filed petitions in the court of appeals seeking to have Regulation Best Interest vacated. The cases have been consolidated.

Like Dodd and Frank, the states are concerned about the conflicting standards applicable to broker-dealers and investment advisers. “Although broker-dealers and investment advisers both offer personalized investment advice and market themselves as trusted financial professionals, the two groups have historically been subject to dramatically different standards of conduct,” the state attorneys general noted in their brief.

An unfair differentiation?

Pursuant to the Investment Advisers Act of 1940, investment advisers have a fiduciary duty requiring them to provide advice without regard to their own interest. In contrast, broker-dealers typically are not subject to a fiduciary duty but instead must make recommendations that are suitable for a customer.

“This suitability standard has permitted broker-dealers to offer investment advice subject to conflicts of interest,” the states maintain.

The harm stemming from this situation has become exacerbated over time as broker-dealers focus more on providing personalized investment advice rather than just on providing order-execution services they traditionally had provided, the states assert.

Dodd, Frank, and their colleagues maintain the Dodd-Frank Act requires SEC regulation on this subject to provide a uniform fiduciary duty applicable to broker-dealers and to investment advisers. In addition to Dodd and Frank, Sen. Sherrod Brown (D-Ohio) and Reps. Maxine Waters (D-Calif.), Wm. Lacy Clay (D-Mo.), Al Green (D-Texas), Stephen Lynch (D-Mass.), Carolyn Maloney (D-N.Y.), Jerrold Nadler (D-N.Y.), Katie Porter (D-Calif.), and Jan Schakowsky (D-Ill.) are included on the amicus brief along with former Rep. Paul Kanjorski (D-Pa.).

Piling on?

Better Markets, Inc., the Consumer Federation of America, the Financial Planning Association, and the Public Investors Arbitration Bar Association have also submitted amicus briefs.

The SEC has asked the appeals court to set the due date for the SEC’s response brief to March 3, 2020. The compliance date for Regulation Best Interest is June 30, 2020 (although the rule became effective on Sept. 10, 2019), according to the SEC.

Last September, a lower court dismissed a petition the states had originally filed with it in favor of the petition already pending before the 2nd Circuit. A provision in the Exchange Act provides federal appeals courts have exclusive jurisdiction over challenges arising from certain rules promulgated by the SEC.