June 14, 2019
Christopher W. Gerold
Bureau of Securities
Division of Consumer Affairs
153 Halsey Street, 6th Floor
PO Box 47029
Newark, NJ 07101
Submitted Electronically – http://www.njconsumeraffairs.gov/proposals/pages/default.aspx
Re: Comments on Proposed Amendment to N.J.A.C. 13:47A-6.3 and Proposed Rule N.J.A.C. 13:47A-6.4 Regarding a Uniform Fiduciary Standard for Broker-Dealers, Agents, Investment Advisers, and Investment Adviser Representatives
The Association for Advanced Life Underwriting (“AALU”) appreciates the opportunity to comment on the Bureau of Securities (“Bureau”) proposed amendment to N.J.A.C. 13:47A-6.3 and the proposed rule 13:47A-6.4 (collectively, the “Proposal”) establishing a uniform fiduciary standard for investment advisors and broker-dealers.
Who We Are
AALU is the leading organization of life insurance professionals—we have over 4,000 members who are primarily producers engaged in providing life insurance planning and annuity solutions for individuals, families, and businesses nationwide. As life insurance professionals, we work in the best interest of our clients every day, enabling individuals and families to maintain independence in the face of potential financial catastrophe, and to build and guarantee retirement income. While this proposed regulation does not apply to life insurance and annuity products, we offer our comments on the Proposal because many of our members are registered representatives of broker-dealers, and we have significant concerns about the likely effect of the Proposal to restrict New Jersey consumers’ access to financial professionals using the commission-based business model. We appreciate that the Proposal recognizes the need to preserve different business models to better serve the different needs of New Jersey consumers, but we believe the Proposal, as written, would inappropriately restrict access and must be materially modified in any final rule.
Since the Bureau offered the Proposal for public comment on April 15th, the U.S. Securities and Exchange Commission (“SEC”) on June 5th issued final regulations materially changing the federal conduct standards, required disclosures, and compensation standards for broker-dealers and registered investment advisors (“RIA”). The final Regulation Best Interest (“REG BI”), Form CRS Relationship Summary (“Form CRS”), and related guidance documents address the same concerns that motivated the Bureau to issue the Proposal, and materially affect how the public should view and understand the implications of the Proposal.
These new federal standards were issued only nine days before the end of the comment period for the Proposal. The final Reg BI and Form CRS rules will have a direct effect on broker-dealers and other financial professionals in New Jersey, and both the public and the Bureau must closely review these new SEC rules to determine how they will interact with the policies and the regulatory text of the Proposal. Accordingly, we and several other organizations submitted a letter on June 11th requesting that, among other things, the Bureau extend the comment period on the Proposal to allow the public the opportunity to make informed comments in light of these new developments. As initially published, the SEC rules and explanatory materials are more than 1,500 pages of text with several thousand footnotes—it will take the public more than nine days to understand these new rules and to consider how they interact with the Proposal. If the Bureau does not extend the comment period, we ask that it be re-opened in the near future specifically to allow comments on this topic.
In addition, we respectfully offer our comments on the following specific issues:
Commission-Based Models Serve the Needs of New Jersey Consumers, Who Benefit from Choice—the Proposal Should Be Modified to Preserve Access to these Models
Access to commission and transaction-based business models benefit consumers in New Jersey. Depending on the needs of the consumer, such as the frequency with which they will make changes to their investments, or the type of investment product serving the consumer’s best interest, a fee-based model of compensation may cost significantly more while providing no additional advice or assistance. That’s why we are very concerned about the effect of the Proposal on commission-based compensation in three important areas.
First, in order to engage in transaction-based compensation, the new proposed Section 13:47A-6.4(b)(3) requires that the broker-dealer or registered representative demonstrate that it is the “best” of the reasonably available fee options. As we discuss in more detail below, “best” is not a fiduciary concept, nor can it be applied in practice. There are a variety of subjective factors for each consumer regarding whether fee or transaction-based business models are in their best interest, but it is simply not possible or realistic to demonstrate that one or the other is the “best” in all cases.
Second, the duty of loyalty language in the new proposed Section 13:47A-6.4(b)(2) states that recommendations must be made “without regard to” the financial or any other interest of any persons other than the client. This language invites legal challenges to transaction-based compensation models because there likely are some minor differences in compensation between different products that may be recommended. While these differences may be permitted by the Bureau in theory, in practice the “without regard to” language makes it too easy to suggest that a compensation factor was considered which would be contrary to the standard outlawing any consideration of that factor whatsoever. It puts broker-dealers and their representatives in the position of proving a negative. By contrast, a standard that “puts the consumer’s interests first” serves the same purpose without creating a legally untenable position for the financial professional. We note that this is how the Bureau described its standard in its press release, and we ask that the text be modified in any final rule to conform to this intent.1
Finally, the Proposal imposes an ongoing duty to monitor that is too broad, and does not permit many broker-dealers and representatives to act in that capacity. The new proposed Section 13:47A-6.4(a)(2) states that providing investment advice “in any capacity” by a broker-dealer would trigger ongoing fiduciary monitoring obligations—in other words, the consumer is not allowed the choice to use a dually registered advisor as a broker-dealer for some transactions and as an RIA for others. Rather than eliminating that choice, the consumer should be able to make an informed choice based on clear disclosure.
“Best” Is Neither Fiduciary Nor Realistic
The Bureau is attempting to insert a “best recommendation” concept into a fiduciary rule that is completely inapposite to fiduciary conduct. The new proposed Sections 13:47A-6.4(b)(2)(i) and (b)(3) create a presumption that the receipt of direct or indirect compensation for opening a specific type of account, or for recommending a specific security, is a fiduciary breach unless that recommendation “is the best of the reasonably available options.” As discussed above, it similarly permits transaction based-fees only if they are the “best” of the reasonably available fee options.
Fiduciary standards are based on the “inputs,” the process by which decisions are made. That is because basing standards on the outcome of the process effectively asks fiduciaries to guarantee outcomes. Fiduciary duties are designed to ensure that decisions are made for the benefit of the beneficiary of the obligation, not for the benefit of the fiduciary. That is very different than saying that the fiduciary’s answer—which is often made in circumstances that are inherently subjective and based on weighing many different and sometimes conflicting factors—must be the best. There is rarely only one right answer, as the use of the superlative “best” implies.
Whether investment or fee recommendations, a “best” standard invites frivolous litigation and second-guessing of the ultimate decision. Fiduciary standards are designed to avoid such disputes. A legal challenge to the prudence of a decision is that it was made the wrong way, not that it was the wrong answer—the Proposal would turn this long-established fiduciary common law on its head.
The Bureau Should Pause to Consider the Effect of the New SEC Rules to Avoid Conflicting State and Federal Standards
New Jersey consumers will not be well-served by conflicting State and federal standards. By acting unilaterally, the Bureau makes it very likely that simultaneously applicable State and federal rules will conflict with one another, reducing access to financial professionals and increasing costs for New Jersey consumers. Reg BI and the Form CRS make fundamental changes that appear to fully encompass the goals of the Bureau in the Proposal. Rather than risking long and expensive litigation, the Bureau should carefully consider whether any final rule is needed, or needed only in a more measured way that complements new and improved federal standards.
Federal Preemption is Likely Absent Material Modifications
While the Bureau may believe that it has crafted a Proposal that will not be preempted by federal law (which appears to be the intent behind the new Sections 13:47A-6.4(d) and (e) excluding ERISA plans and referencing the National Securities Markets Improvement Act of 1996 (“NSMIA”)), we believe that significant portions of the Proposal would be preempted by federal law. In order to comply—such as showing that its recommendation is the best—a financial professional must keep records and take actions beyond those required by federal law. This includes the financial obligation of purchasing insurance coverage as a fiduciary that goes beyond the standard errors and omissions coverage required of a broker-dealer that is not a fiduciary. We also do not believe that this is a simple anti-fraud statute. Fraud is already illegal under New Jersey law, and the Proposal addresses conduct that is not fraudulent.
The Bureau must anticipate litigation on this point, especially given the SEC’s recent actions to fundamentally change federal standards. Rather than conflict with the SEC, and increasing the cost and confusion facing New Jersey consumers, the Bureau should coordinate any final rule with the SEC final regulations.
Our members act in the best interest of the families they serve every day. However, we are very concerned the best interest of consumers will not be served by the Proposal as written. Rather than proceeding, the Bureau should pause, extend the comment period to allow specific comments on the interaction between the Proposal and the SEC final rules, and coordinate any final rule with the SEC rather than attempt to challenge it.
We appreciate the opportunity to comment, and appreciate your consideration of our concerns. We are always happy to answer any questions.
President & CEO
© 2019 AALU. All Rights Reserved