Think Advisor (November 5, 2021) - What You Need to Know:

  • While there has been incremental progress in Reg BI compliance, broker-dealers still are not abiding by the Reg BI rule now in effect, Lubin said.
  • The report focuses on the progress made by 225 firms.
  • It's time for the SEC to clarify its expectation by issuing supplemental guidance, Seidt said.

Broker-dealer compliance with the Securities and Exchange Commission Regulation Best Interest is falling short, according to state securities regulators.

The North American Securities Administrators Association’s 2021 Reg BI Phase Two Report, released Thursday, follows the group’s 2020 Reg BI Phase One Report, which analyzed financial services industry policies and practices prior to the implementation of Reg BI.

Melanie Lubin, NASAA president and Maryland securities commissioner, said Wednesday on a call with reporters that NASAA’s latest report shows that “while there has been incremental progress [in Reg BI compliance],  broker-dealer firms still are not abiding by the Reg BI rule now in effect.”

State securities regulators, Lubin said, “did not see the tide-turning reforms they had expected to see in the broker-dealer industry” after Reg BI took effect.

The 2021 report “reveals that while there were some improvements, most firms are operating in the same manner as they were under the suitability rule, especially when it comes to harmful compensation conflicts,” she explained.

Andrea Seidt, chair of NASAA’s Regulation Best Interest Implementation Committee and an Ohio securities commissioner, added that “some firms are headed in the right direction, but Reg BI has a long way to go to close the investor protection gap separating broker-dealers from investment advisors when it comes to conflicted advice.”

Notable Findings

State examiners from 35 jurisdictions examined 443 broker-dealer firms in the 2021 report.

The report focuses on the progress made by 225 firms that were examined in both phases of the initiative — phase one and two — and have transitioned from the suitability standard to the new, best interest standard of care, NASAA explained.

These 225 firms serve more than 77.5 million retail accounts and employ over 316,000 registered reps, NASAA said.

Some notable findings from the 2021 Phase Two report include:

  • The percentage of BDs surveyed that were offering complex, costly and risky products increased by 11% after Reg BI took effect.
  • Sixty-five percent of BDs surveyed are not discussing lower-cost or lower-risk products with their customers when they recommend these types of products.
  • No more than 4% of BDs surveyed had enhanced their investor profile forms (in any key metric measured) to more carefully match investors with products after Reg BI took effect.
  • Three percent of BDs surveyed took a step backward from their prior suitability procedures by dropping customer education, longevity risk and tolerance for alternative products from their investor profile forms.
  • From 24% to 30% of BDs surveyed were still utilizing product-agnostic sales contests, differential compensation and extra forms of compensation. These compensation conflicts are rarely seen in fiduciary firms, observed in only 0.5%-3% of investment advisors examined in Phase I.

Compensation conflicts were concentrated in firms that recommended complex, costly and risky products after Reg BI took effect.

  • Forty percent of BDs surveyed that recommended leveraged or inverse exchange-traded funds had compensation conflicts, as did 41% of firms that recommended private securities, 44% of firms that recommended variable annuities, and 52% of firms that recommended non-traded real estate investment trusts.
  • Only 35% of BDs surveyed that recommended complex, costly and risky products after Reg BI took effect reduced the financial reward associated with these products by capping agent sales credits.

How Should the SEC Respond?

“It is early, and I think [broker-dealers have] done what they thought they needed to do. But now the ball is back in the regulators’ court,” Seidt said on the call. “I think Reg BI sinks or swims based on what securities regulators do, now that we are aware of that firm inaction. We need to help the firms move the needle and close the gaps that remain between Reg BI and fiduciary firms.”

The SEC, Seidt continued, needs to issue “supplemental interpretive guidance. I don’t think it’s really necessary to reform or revise or amend the [Reg BI] rule. It really is time for the SEC to clarify its expectation by issuing supplemental guidance.”

The regulator, she said, received an advance copy of the Phase Two report, and NASAA wants to coordinate with the securities regulator in the coming year on a response.

When asked whether the deficiencies cited in the Phase Two report warrant enforcement action, Seidt responded: “On the state side, we don’t anticipate the states to take early enforcement actions. There needs to be stronger and clearer guidance. A lot of it now is coaching and a redirection at the examination stage.”


Michael Edmiston, the new president of the Public Investors Advocate Bar Association, or PIABA, said NASAA’s report shows that Reg BI “has not improved the standards of conduct. The very set of rules the brokerage industry supported are now being ignored.”

PIABA is an association of lawyers who represent investors in disputes with the securities industry.

NASAA’s report, Edmiston said, “demonstrates that many firms have not changed their policies, procedures and practices in the areas of due diligence and care, disclosure, or conflict management.”