Lawsuits Filed Against SEC Regulation Best Interest Rule
On September, 9, 2019, seven states and the District of Columbia filed a lawsuit seeking to invalidate the recently announced Securities and Exchange Commission (SEC) investment advice rule. The Regulation Best Interest Rule, which is currently scheduled to be implemented by June 30, 2020, increases disclosures that must be provided to investors, but preserves many existing industry practices, such as the ability for brokers to use a commission-based sales model.
The plaintiffs contend that the rule undermines existing consumer protections because it will permit brokers to market themselves as trusted advisers while actually engaging in conflicts of interest that may harm their clients. The plaintiffs contend that practices such as sales contests—which they argue represent an obvious conflict of interest—are still permissible in many circumstances under the regulation.
Additionally, the plaintiffs argue that the rule causes confusion about which standards might apply when consumers are seeking investment advice. The rule allows for different standards of advice to apply to investment advisers than those standards that apply to broker-dealers. The plaintiffs cite evidence from an SEC study that retail investors do not understand the difference between the two classifications, and the separate standards to which they are held.
The Dodd-Frank Act required the SEC to study where regulations are weak, and enact necessary changes to improve regulations to protect retail investors where necessary. It also authorized the SEC to create regulations that would ensure uniform standards of investment advice applied to broker-dealers and investment advisers. The plaintiffs argue that the SEC ignored the conclusions of its own study, which demonstrated the need for a more robust regulation than what was actually proposed, and for rules that apply equally to both broker-dealers and investment advisers. For these reasons, the plaintiffs are asking the U.S. District Court for the Southern District of New York to hold the SEC regulation invalid.
XY Planning Network, on September 11, 2019, also filed a lawsuit against the SEC to invalidate the Regulation Best Interest Rule. The plaintiffs argue that the regulation fails to meet the standards imposed under the Investment Advisers Act of 1940, and frustrates the intent of the Dodd-Frank Act.
This lawsuit argues that the new SEC rule imposes a different standard of fiduciary responsibility for broker dealers than it does for financial advisers who might be selling the same or similar products. Financial advisers are held to a standard that the advice they provide to clients must be in the client’s best interests, but broker-dealers—because they are considered to be in the business of selling financial products rather than financial advice—are not held to this same standard when providing advice. The plaintiff claims that the new rule makes this distinction less clear and, as a result, “circumvents a key goal of Dodd-Frank—leveling the playing field—and increases investor confusion.” The plaintiff claims that it will be financially harmed as a result of the rule, as the plaintiff represents over 1,000 financial advisers who expect to lose business to broker-dealers who are subject to the less stringent standards.
The SEC has yet to file a response in either case.