In legal terms, a fiduciary is an individual or organization that has taken on the responsibility of acting on behalf of another person or entity with utmost honesty and integrity. For example, bankers, attorneys and officers of public companies are all fiduciaries, meaning they must act in the best interest of their customers, clients or shareholders. If they don’t, they are legally liable. Similarly in the investment world, fiduciary financial advisors manage client assets with the clients’ best financial interests in mind. Therefore, be sure to limit your search for a financial advisor to only fiduciary advisors in your area.
What Is a Fiduciary?
The term “fiduciary” is a good word to hear when you’re searching for a financial advisor. An advisor that calls themselves a fiduciary seeks to minimize conflicts of interest, be transparent and live up to the trust placed in them. Fiduciary financial advisors must:
- Put their clients’ best interests before their own, seeking the best prices and terms.
- Act in good faith and provide all relevant facts to clients.
- Avoid conflicts of interest and disclose any potential conflicts of interest to clients.
- Do their best to ensure the advice they provide is accurate and thorough.
- Avoid using a client’s assets to benefit themselves, such as purchasing securities for their own account before buying them for a client.
Fiduciary usually refers to someone who manages assets on the behalf of an individual, a family, a company or any other entity. In addition to a banker or financial advisor, this person could be an accountant, executor, trustee or board member. In theory, a fiduciary can be anyone to whom you delegate your personal, legal or financial choices.
What Is Fiduciary Duty?
Fiduciary duty is a legal responsibility to put the interests of another party before your own. If someone has a fiduciary duty to you, he or she must act solely in your financial interests. A fiduciary cannot, for example, recommend a strategy that doesn’t benefit you but instead provides a kickback. You can think of it like the doctor-patient relationship, where one party has a duty to provide the best care it can to the other party.
Fiduciary duty is important for guiding the actions of the professionals who deal with clients’ money. It’s also important because, when violated, it provides an avenue for legal action. If a financial professional who isn’t a fiduciary has been knowingly selling you low-performing, high-fee investments, you don’t have the legal standing that you would have if the professional were a fiduciary.
A breach of fiduciary duty occurs when a fiduciary fails to honor his or her obligation. A breach could happen if a fiduciary benefits from his or her recommendations, fails to provide proper guidance or acts in any way that’s adverse to your best interests. Examples include:
- Account churning (making an excessive number of trades to make commissions)
- Misrepresentation (making a false statement about a security transaction)
- Making unauthorized trades
- Acting negligently
Fiduciaries can be held financially and civilly responsible for any actions they make that are not in your best interest. You are entitled to damages even if you don’t incur harm.
How to Know If a Financial Advisor Is a Fiduciary
All investment advisors registered with the U.S. Securities and Exchange Commission (SEC) or a state securities regulator must act as fiduciaries. Broker-dealers, stockbrokers and insurance agents are only required to fulfill a suitability obligation. This means that while they must provide suitable recommendations to their clients, they don’t have to put their clients’ interest before their own.
There are several resources available that can help you know if an advisor is a fiduciary. The National Association of Personal Financial Advisors (NAPFA) has an online search tool that makes it easy to find certified financial planners in your area. Every advisor in that system operates on a fee-only basis and promises to act as a fiduciary. Garrett Planning Network is another planner organization of fiduciary financial planners who charge an hourly rate. Additionally, the Certified Financial Planners Board has an advisor search tool. You can use it to look up a particular planner and see their experience and history.
The vetting process shouldn’t stop there. Once you identify potential advisors, here are the sorts of questions you should ask advisors to ensure that they suit your needs and have minimal conflicts of interest:
- How do you earn money?
- What certifications and licenses do you hold?
- What services do you offer? Who is your typical client?
- How often do you typically communicate with clients?
- Can you provide a written guarantee of your fiduciary duty?
You should also request a copy of a financial advisor’s Form ADV and Form CRS, which is paperwork the SEC requires advisory firms to file. This will provide information about an advisor’s business, pay structure, educational background, potential conflicts of interest and disciplinary history. That information is also available online through the SEC’s Investment Advisor Public Disclosure (IAPD) tool. You should also request a performance record and list of client references to contact.
Why Working With a Fiduciary Financial Advisor Is Important
Choosing a fiduciary financial advisor can give you greater peace of mind. With a fiduciary financial advisor, you’ll know that the person managing your money must make decisions in your best interest. In general, fiduciary financial advisors tend to have fewer conflicts of interest, and they’re required to disclose any potential conflicts of interest that they have. Financial professionals who earn commissions may be incentivized to sell their own products even if there are comparable products available at a lower cost. Fiduciaries must seek the best prices and terms for their clients. Thus, if you work with a fiduciary you’re more likely to end up with the product or recommendation that’s truly right for you.
In general, financial professionals bound by fiduciary duty tend to be more transparent. Fiduciaries must thoroughly discuss their decisions with their clients, providing all relevant information and pertinent facts. This makes it easier to ensure you understand the decisions that are being made in regards to your assets and financial future.
While not all non-fiduciaries are necessarily bad actors, it’s easier to ensure that you’re working with someone who has your best interest if you opt to work with a fiduciary. Moreover, if you’re working with someone who doesn’t have a fiduciary duty to you, you have fewer legal options in the event that you discover your interests haven’t been served.
Fiduciary Duty vs. Suitability Rule
Some financial professionals such as investment brokers and insurance agents aren’t bound by fiduciary duty. Instead, they’re only required to fulfill a suitability obligation. While fiduciaries must put their clients’ best interests before their own, financial professionals who adhere to the suitability standard must only provide suitable recommendations to their clients.
To determine whether a recommendation is suitable, these professionals must consider your financial situation, goals and risk tolerance. Additionally, they must ensure that you won’t incur excessive costs and that excessive trades won’t be made. However, they may still suggest products that aren’t necessarily in your best interest or that benefit them more than they do you.
Here’s a detailed comparison of fiduciary duty and the suitability rule:
|Suitability Rule vs. Fiduciary Duty|
|Suitability Standards||Fiduciary Standards|
|Recommendation Requirements||Recommendations must be suitable for the client||Recommendations must be in client’s best interest|
|Disclosure Requirements||Less strict rules regarding disclosure of conflicts of interest||Required to disclose conflicts of interest|
|Loyalty Requirements||May be loyal to the broker-dealer, not necessarily the client||Must be loyal to the client and act in good faith|
The Department of Labor (DOL) Fiduciary Rule
The term “fiduciary” has made headlines over the last few years thanks to the Department of Labor’s (DOL) fiduciary rule. The rule required any financial professionals – including brokers and insurance dealers – who provide retirement advice or work with retirement plans to act as fiduciaries.
The Obama administration proposed this rule to create greater transparency around retirement planning. The rule required financial professionals to disclose potential conflicts of interest and clearly state fees and commissions. The Obama administration said the rule could save Americans as much as $17 billion a year due to conflicted advice.
However, as of June 2018, the fiduciary rule is effectively dead. After President Trump took office, he delayed the rule’s implementation due to resistance from the financial industry. Opponents argued that the rule would make it more expensive for advisors to manage smaller accounts, in turn making it harder for lower-income investors to get financial advice.
Then, in June 2018, the Fifth Circuit Court confirmed that it had finalized its decision to end the fiduciary rule. The court argued that the Department of Labor had overstepped its authority to regulate financial services and providers.
President Trump has requested that the DOL look over the rule once again and prepare an analysis. The DOL could then ask the court to review the rule again, or the fiduciary rule could even make its way up to the Supreme Court.
Is a Robo-Advisor a Fiduciary?
A robo-advisor is a great alternative for investors who perhaps can’t afford the account minimums and management fees of a traditional financial advisor. But the question of whether robo-advisors are fiduciaries is one that’s up for debate in the financial services industry.
Robo-advisors that hold a registration with the SEC insist that they are fiduciaries. As registered investment advisors, they are required to act in their clients’ best interests. Furthermore, robo-advisors that offer advice on 401(k) plans must comply with ERISA’s fiduciary rules. Robo-advisors also don’t sell proprietary products.
The other camp argues that only human advisors can truly embody the fiduciary role.
Robo-advisors typically only offer investors advice based on their goals, rather than their full financial situation. This limits the scope of their advice and can make it less personalized than a traditional advisor’s.
When you’re working with a financial professional, it’s key to find out if he or she follows the fiduciary standard. A fiduciary has different obligations than someone bound only by the suitability rule. Fiduciaries must always act in their clients’ best interest – and if they don’t, you have legal options to pursue. Ultimately, when it comes to choosing someone to manage your money, you should find someone you can trust.
Tips for Finding a Financial Advisor
- Financial advisors can offer many practical benefits including increased cohesion between your investments and long-term financial plan. SmartAsset’s free tool matches you with financial advisors in your area in just five minutes. If you’re ready to be matched with local advisors, get started now.
- Talk to at least three candidates before settling on one. That way, you’ll have enough context about fees, services and investing strategies to choose with confidence.
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