Since 2011, when one member of a married couple passes away, the surviving spouse is eligible to carry over any unused portion of the deceased spouse’s estate tax exemption amount. This rule, allowing “portability” of the deceased spouse’s unused exemption (DSUE) amount, provides a substantial reduction in estate tax exposure for couples whose combined net worth is more than $5 million (or is expected to grow above that amount in the future), and reduces or eliminates the need for many couples to utilize a bypass trust in their estate plan.
However, the caveat to portability of the estate tax exemption at the death of the first spouse is that it only applies if a Form 706 estate tax return is filed in a timely manner to claim portability – even, or especially, if the estate under the filing threshold and otherwise wouldn’t even need to file an estate tax return.
Unfortunately, though, many executors don’t even realize that there is a requirement to file an estate tax return for those who are not subject to an estate tax, and the oversight often isn’t discovered until the surviving spouse subsequently passes way. And by that time, it’s too late to go back and file for portability. At least, not without submitting a potentially costly request to the IRS for a private letter ruling to be granted an extension.
To help ameliorate this common oversight of executors – and the high volume of PLRs the IRS was receiving – in 2014 the IRS granted executors the opportunity to retroactively claim portability by filing an estate tax return for anyone who had passed away since 2011, under Rev. Proc. 2014-18. Yet since those rules lapsed (at the end of 2014), it has once again become increasingly common for executors to submit PLR requests to the IRS to receive an extension for an accidentally missed Federal estate tax return deadline.
Thus, the IRS has now issued Rev. Proc. 2017-34, which grants a permanent automatic extension for the time to file an estate tax return just to claim portability, beyond the original 9 months requirement. In order to utilize the extension, the executor merely needs to file a not-otherwise-required-to-be-filed Form 706 estate tax return within 2 years of the decedent’s date of death, and note on the return that it is being filed as a permissible extension under Rev. Proc. 2017-34.
In addition, the IRS has granted prior estates yet another opportunity for retroactive portability as well. For any member of a married couple who died after 2010, there is once again an opportunity to file a (now very late) Form 706 estate tax return to claim portability, with a deadline of January 2nd of 2018. Which allows surviving spouses (including same-sex married couples) to claim a carryover of the DSUE amount for any spouse who passed away in 2011 or later. And in situations where the then-surviving spouse also passed away and owed an estate tax, there’s even an opportunity to retroactively claim portability, and then file an amended estate tax return, and receive an estate tax refund of up to $2 million!
For most, though, the new rules simply provide an extended time window for executors to realize the need to file a Form 706 estate tax return to claim portability in the first place. Nonetheless, in situations where at least one member of a married couple passed away in 2011 or later, there is a limited time window to claim retroactive portability through the end of the year as well!
What Is Estate Portability Of The DSUE Amount?
To shelter most people from exposure to the Federal estate tax, US citizens are eligible for a Federal estate tax exemption – which is currently $5.49 million per person (annually indexed for inflation). Thus, for anyone whose total estate is less than $5.49M, the Federal estate tax exemption effectively reduces their estate tax liability to zero (and current IRS data shows that there are only a few thousand estates per year, in total, that exceed this threshold!).
While the Federal estate tax exemption easily protects most individuals from the scope of the Federal estate tax, the situation is more problematic when it comes to married couples. The reason is that while each member of a couple has an estate tax exemption, if the first spouse passes away and leaves assets to the surviving spouse, then when the surviving spouse passes away, he/she will have the couple’s joint total of assets but only the one (surviving) individual estate tax exemption, potentially triggering an estate tax.
Example 1. Andrew passes away, leaving his wife Molly an inheritance of $3,000,000. Molly already has a personal net worth of $5,000,000. While each of their individual estates are below the $5,490,000 estate tax exemption, after Andrew’s death, Molly’s total combined estate is up to $8,000,000, which, if she died, would be subject to a 40% estate tax above the $5.49M exemption amount, resulting in nearly $1,000,000 of estate taxes!
To avoid this outcome, for years couples would use a “bypass trust” estate plan, where the first spouse to pass away wouldn’t leave assets directly to a surviving spouse in the first place; instead, the assets would go to a trust for the surviving spouse’s benefit, typically allowing access to cover any necessary expenses for the surviving spouse’s ‘health, education, maintenance, and support’, but restricting any further access (which allowed the bypass trust to be excluded from, and not taxed in, the surviving spouse’s estate).
Example 2. Continuing the prior example… instead of leaving his assets to his wife, Andrew instead leaves his $3M estate to a bypass trust for Molly’s benefit. Molly may use the bypass trust to help maintain her standard of living, but because her access to the trust is limited, its value is not included in her estate. Thus, Molly’s estate remains under the $5.49M estate tax exemption threshold. And Andrew is not subject to estate taxes when he leaves $3M to a bypass trust, because his $3M is sheltered by his own $5.49M estate tax exemption.
However, this all changed under the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (also known as TRUIRJCA, or “the first fiscal cliff legislation”), which, for the first time, introduced the concept of “portability”. The new rules, as defined under IRC Section 2010(c)(4), declared that if one member of a married couple didn’t use all of his/her own estate tax exemption – most commonly, because assets are left to a surviving spouse, which is eligible for an unlimited marital deduction that already reduces the tentative estate tax to zero – then the surviving spouse could inherit the deceased spouse’s unused exemption amount. In other words, the deceased spouse’s unused exemption (DSUE) amount became “portable” to the surviving spouse, obviating the need for a bypass trust in most situations.
Example 3. Continuing the prior example further… with portability, Andrew can simply leave his $3M of assets directly to Molly after all. Andrew’s estate will receive a $3M marital deduction, reducing his taxable estate to zero, and preserving all of his $5.49M estate tax exemption for Molly. Thus, Molly will end up with a total of $8M of assets (including Andrew’s and her own), but will have $10.98M of estate tax exemption to shelter those assets (including Andrew’s $5.49M and her own), avoiding any estate tax exposure (and without the need for a bypass trust).
Unfortunately, the new portability rules only applied to decedents who passed away after December 31st of 2010, and, at the time, were further limited by the fact that portability itself was temporary, since TRUIRJCA merely extended the sunset provisions that were causing the “fiscal cliff” of 2010 by 2 years, turning it into the fiscal cliff of 2012 (which meant portability itself would lapse at the end of 2012). However, the American Taxpayer Relief Act of 2012 – passed by Congress just hours before midnight on New Year’s Eve that year – ultimately resolved the fiscal cliff of 2012, and in the process, ATRA made portability of the estate tax exemption permanent.
Requirements To Claim Portability And Filing Form 706
While portability is now permanent, there is still a key requirement to claim it: the executor of the decedent’s estate must actually file a Form 706 Federal estate tax return.
In other words, portability doesn’t happen automatically; it takes an affirmative action to ensure the deceased spouse’s unused exemption (DSUE) amount is actually carried over to the surviving spouse. And the requirement applies even if the decedent’s estate otherwise had no obligation to file an estate tax return. In fact, in most situations where portability applies, there will be no obligation to file a Federal estate tax return… because filing isn’t even required until the gross estate is more than $5.49M in the first place (which is why the exemption amount is so often unused and available to carry over!)!
Yet regardless of whether a Form 706 will be filed because the estate actually exceeds the filing threshold, or simply because of a desire to claim portability, the deadline remains the same: to file a timely estate tax return, Form 706 must be filed by 9 months after the decedent’s date of death (with the option for a 6-month extension via Form 4768). In other words, under IRC Section 2010(c)(5)(A), even estates that would otherwise have no reason or obligation to file an estate tax return within 9 months of the decedent’s date of death, are obligated to do so in order to claim portability.
And unfortunately, in recent years it has become increasingly apparent that many people who wish to claim portability of the estate tax exemption are missing this deadline, including and especially in situations where the estate was under the filing threshold and the executor would otherwise have had no reason to file an estate tax return at all. In other words, executors often don’t even realize there’s a reason to file an estate tax return, for an estate with no estate tax exposure, until after the filing deadline has passed. The problem was especially severe in the early years after portability was established – in 2011 and 2012 – where many executors didn’t even know the portability rules existed and that there was a reason to file the estate tax return. They often didn’t find out until years later, when the surviving spouse passed away with a taxable estate, and it was discovered that portability was never claimed at the death of the first spouse.
For those who missed the Form 706 filing deadline, Section 301.9100-3 does allow executors to request an extension for a missed estate tax return deadline, if the executor can establish that he/she “acted reasonably and in good faith”, but doing so still requires submitting for a Private Letter Ruling (PLR) and paying a non-trivial User Fee (plus, usually, the cost of an accountant or attorney to aid in the process).
And in fact, so many executors began to submit PLRs to request extensions to the estate tax return filing deadline that in 2014, the IRS published Revenue Procedure 2014-18, which temporarily offered a “simplified method” of requesting automatically-approved extensions (effectively allowing “retroactive” portability) for anyone who had died since the portability rules first took effect after 2010 and missed the original filing deadline.
However, the automatic-extension relief of Rev. Proc. 2014-18 ended at the end of 2014, and since then, the IRS has once again seen a substantial increase in the volume of private letter ruling requests for extensions from executors who failed to file the Form 706 estate tax return in a timely manner (usually because they didn’t even realize they needed to until it was too late).
IRS Grants Permanent Extension For Form 706 Portability Filing Deadline Under Rev Proc 2017-34
In the newly issued Revenue Procedure 2017-34, the IRS has once again granted automatic relief provisions for those who failed to file a timely estate tax return in order to claim portability. However, this time around, the extension will remain available indefinitely in the future, as well.
Specifically, under Section 4.01(1) of Rev. Proc. 2017-34, any estate of a decedent who passed away after December 31st of 2010 is automatically granted an extension until January 2nd of 2018 to file the Form 706 estate tax return to claim portability. In addition, going forward, any executor will automatically have until the second anniversary of the decedent’s date of death to file an estate tax return for the purposes of claiming portability. (In the event that the decedent passed away in 2016 or 2017, where both options apply, the up-to-2-years option will supersede the January 2nd deadline, allowing the 2-year window to extend into 2018 or 2019.) In other words, in situations where the normal 9-month deadline (and 6-month extension) has passed for filing an estate tax return to claim portability, executors can automatically get an extension to the later of January 2nd of 2018, or 2 years after the decedent’s date of death.
In order to claim the extension – for executors who are filing past the normal 9-month deadline – Section 4.01(2) of the guidance stipulates that the executor should simply write “FILED PURSAUNT TO REV. PROC. 2017-34 TO ELECT PORTABILTIY UNDER 2010(c)(5)(A)” at the top of Form 706. There is no user fee or other cost to making and being granted the request for extension (beyond the cost of assistance in filing a Form 706 in the first place).
Notably, though, these rules for getting an automatic extension only apply where the decedent was:
1) Survived by a spouse,
2) Died after December 31st of 2010,
3) Was a US citizen (or resident) on the date of death,
4) Not required to file an estate tax return in the first place (i.e., was under the filing threshold); and,
5) Did not already file an estate tax return (as if Form 706 was already filed, portability either was or wasn’t already claimed!)
A key point of the requirements is the determination that the estate was not already required to file an estate tax return under IRC Section 6018(a). In cases where the gross estate (plus prior adjusted taxable gifts) exceeds $5.49M, but there was no estate tax due (e.g., thanks to the marital, charitable, or other deduction), the standard 9-month-deadline-plus-6-month-extension rules still apply. In fact, Section 4.03 of Rev. Proc. 2017-34 explicitly notes that if the executor begins the process of filing for an extension, and then discovers that the original estate was over the filing threshold (and would have been required to file in the first place), this automatic extension is no longer available.
For those who are not eligible for an extension under the new rules – e.g., by being beyond even the 2-year time extended window – it is still possible to submit a private letter ruling under Section 301.9100-3 to request a further extension, subject to the usual User Fee and filing requirements for a PLR. On the other hand, for those who had already been in the process of requesting a PLR, Section 7.02 of Rev. Proc. 2017-34 states that the PLR request will be closed out, user fees will be refunded, and executors should simply proceed under the new automatic extension rules. In fact, the IRS has stated that no new PLRs will be considered at all after June 9th (the effective date for Rev. Proc. 2017-34), for those who fit the above requirements and can/should simply follow the new automatic extension process noted here.
Estate Planning Opportunities For The “Recently” Deceased (Since 2010) Under Rev. Proc. 2017-34
Notably, in the case of married couples where at least one spouse passed away since 2010 (i.e., on January 1st of 2011, or later), Rev. Proc 2017-34 provides a substantial additional planning opportunity: retroactive portability for anyone who died in the past 6.5 years, as the new deadline for portability is the later of 2 years from the date of death or January 2nd of 2018. Which means, even if one member of the couple passed away back in 2011, shortly after the portability rules came into existence, and never filed an estate tax return, there’s now once again an opportunity to file a Form 706 (by January 2nd of 2018) to claim portability for a surviving spouse, who may have only now realized he/she wants or needs it.
The planning opportunity is even more significant in the case of couples where both spouses have passed away since 2010, no portability was claimed at the first spouse’s death, and an estate tax was due at the death of the second spouse. Because the new portability deadline means it is now possible to retroactively claim portability from the first spouse’s death, to carry over the DSUE amount to the then-surviving spouse, and then claim the higher exemption thanks to portability on the second deceased spouse’s estate tax return, and receive what could be a 7-figure estate tax refund!
Example 4. Charlie died back on February 17th of 2011, leaving approximately $2,000,000 of assets to his wife Sheila. Charlie never filed an estate tax return at the time, and thus Sheila never inherited his unused estate tax exemption (which thanks to the marital deduction, would have been the entire $5,000,000 exemption at the time). Last year, on March 11th of 2016, Sheila passed away, with a then-combined estate of $8,000,000 (including Charlie’s $2M), leaving her assets to her two children. Since Sheila’s estate tax exemption was “only” $5.45M, and Charlie never filed a return for portability, Sheila owed a 40% estate tax on the excess of her estate above the exemption amount, and last year paid an estate tax liability of $1,020,000.
Under Rev. Proc. 2017-34, though, it’s now possible to retroactively file an estate tax return for Charlie, to “claim” his estate tax liability of $0, and port over his unused $5,000,000 exemption to Sheila. Then, Sheila’s executor can file an amended Form 706 estate tax return to claim a total exemption of her $5.45M plus Charlie’s $5M DSUE amount, for a total exemption of $10.45M. Since this exemption would have been more than enough to shelter the entire estate, Sheila will then receive a $1,020,000 estate tax refund!
Notably, in order for the second spouse’s estate to file an amended return and claim the refund, the amended return itself must be filed by within 3 years of when the second spouse’s Form 706 was filed under the requirements of IRC Section 6511(a). Thus, if both spouses passed away more than 3 years ago, and the second spouse’s Form 706 was already filed more than 3 years ago, the opportunity for retroactive portability is a moot point. And if neither spouse had an estate tax liability, the point is also moot.
Nonetheless, as long as the second spouse died and filed a Form 706 within the past 3 years and there was an estate tax paid (or alternatively if a gift was made, and there was a gift tax paid along with filing Form 709), the opportunity remains available. In situations where the second spouse’s estate (or prior gift) is close to the 3-year deadline, the executor should file a Form 843 to establish a protective claim for the refund (by the 3-year deadline), then file Form 706 for the first spouse’s estate for retroactive portability, and then file the amended Form 706 for the second spouse’s estate (which is permissible past the 3-year deadline, as long as Form 843 itself was filed by the 3-year deadline).
It’s also important to bear in mind that since the United States v. Windsor Supreme Court ruling in 2013, and the subsequent IRS Revenue Ruling 2013-17, the IRS recognizes a same-sex married couple as being “married” for the purposes of Federal income and estate tax rules, including portability, as long as the same-sex marriage was legal where it was performed at the time. Which means the surviving spouse of a same-sex married couple, where one spouse passed away in 2011 or 2012, could now retroactively claim portability of the estate tax exemption, even though the marriage wasn’t recognized as legal for Federal estate tax purposes at the original time of death!
Ultimately, advisors should review any/all situations where at least one member of a couple passed away since 2011, to determine whether a Form 706 was filed to claim portability, and, if not, whether it makes sense to do so by January 2nd of 2018, either to carry over the DSUE amount to the surviving spouse’s estate tax return, or to apply towards the then-surviving spouse’s estate and file for a refund in situations where the second spouse passed away as well (and owed an estate tax).
Planning Implications And Opportunities Of The New Portability Filing Deadline Extension
Beyond the unique opportunity that Revenue Procedure 2017-34 creates for couples where one spouse already passed away, the good news of the new rules is that it effectively turns what is normally a 9-month deadline to file a Form 706 estate tax return just to claim portability, into a 2-year deadline instead. As unlike the normal option for a 6-month extension (which itself must be requested by the 9-month deadline), the new extension is automatic for those who qualify, simply by writing “FILED PURSUANT TO REV. PROC. 2017-34 TO ELECT PORTABILITY UNDER 2010(c)(5)(A)” at the top of Form 706 when filed. At least, for those who were otherwise under the filing threshold and didn’t realize they “needed” to file in the first place just to get portability. (For those who are over the filing threshold and are required to file a Form 706 in the first place, though, the normal 9-month deadline remains.)
For most, this extension will simply be a welcome additional time window to ensure that Form 706 is filed, and portability is claimed. Two years from the decedent’s date of death gives a surviving spouse more time to make the decision whether the (usually modest) cost of filing is worthwhile just to carry over the deceased spouse’s DSUE amount. And for those who may not realize at first that it’s necessary to file an estate tax return just to claim portability for someone who does not have any Federal estate tax exposure – because their assets are well under the $5.49M exemption amount – now the surviving spouse gets more time to realize the opportunity.
In the meantime, from the IRS’ perspective, this will reduce the what are now a “considerable number” of surviving spouses submitting Private Letter Ruling requests just to obtain the same extension, without extending the time window so far that it becomes impossible to get an accurate picture of (and accurate appraisals for) decedents who passed away long ago. Though those who wait beyond 2 years, and prior estates that wait beyond the January 2nd, 2018 deadline, will still have to rely on the existing PLR process.
But the bottom line is that going forward, couples where one spouse passes away will have more time to make the decision whether to file Form 706 to claim portability – and/or have more time to realize they need to do so in the first place. Nonetheless, the deadline is still “just” a 2-year deadline (from the date the decedent passed away), which means it is still possible to wait too long, or forget altogether, the requirement to claim portability. And for those who already missed the opportunity to file for portability after the first spouse’s death years ago (but since 2010), a unique second-chance window remains open through the end of the year to file for retroactive portability, and reclaim the unused exemption amount!
After a nearly 18-month process of working to update its Standards of Professional Conduct, the CFP Board’s Commission on Standards has released newly proposed Conduct Standards for CFP professionals, expanding the breadth of when CFP professionals will be subject to a fiduciary duty, and the depth of the disclosures that must be provided to prospects and clients.
In fact, the new CFP Board Standards of Conduct would require all CFP professionals to provide a written “Introductory Information” document to prospects before becoming clients, and a more in-depth Terms of Engagement written agreement upon becoming a client. In addition, the new rules also refine the compensation definitions for CFP professionals to more clearly define fee-only, limit the use of the term fee-based, and updates the 6-step “EGADIM” financial planning process to a new 7-step process instead.
Overall, the new Standards of Conduct appear to be a positive step to advance financial planning as a profession, more clearly recognizing the importance of a fiduciary duty, the need to manage conflicts of interest, and formalizing how CFP professionals define their scope of engagement with the client.
Ironically, though, the CFP Board’s greatest challenge in issuing its new Standards of Conduct is that the organization still only has limited means to actually enforce them, as the CFP Board can only make public admonishments or choose to suspend or revoke the CFP marks, but cannot actually fine practitioners or limit their ability to practice. And because the CFP Board is not a government-sanctioned regulator, it is still limited in its ability to even gather information to investigate complaints in the first place, especially in instances where the complaint is not from a client but instead comes from a third party (e.g., a fellow CFP professional who identifies an instance of wrong-doing).
In addition, the CFP Board’s new Standards of Conduct rely heavily on evaluating whether the CFP professional’s actions were “reasonable” compared to common practices of other CFP certificants… which is an appropriate peer-based standard for professional conduct, but difficult to assess when the CFP Board’s disciplinary proceedings themselves are private, which means CFP professionals lack access to “case law” and disciplinary precedents that can help guide what is and is not recognized as “acceptable” behavior of professionals. At least until/unless the CFP Board greatly expands the depth and accessibility/indexing of its Anonymous Case Histories database.
Nonetheless, for those who want to see financial planning continue to advance towards becoming a recognized profession, the CFP Board’s refinement of its Standards of Conduct do appear to be a positive step forward. And fortunately, the organization is engaging in a public comment process to gather feedback from CFP certificants to help further refine the proposed rules before becoming final… which means there’s still time, through August 21st, to submit your own public comments for feedback!
CFP Board Commission On Standards Proposes Revised CFP Code Of Ethics And Standards Of Conduct
Back in December of 2015, the CFP Board first announced that it was beginning a process to update its Standards of Professional Conduct, by bringing together a new 12-person “Commission on Standards” (ultimately expanded to 14 individuals), including diverse representation across large and small firms, broker-dealers and RIAs, NAPFA and insurance companies, and even a consumer advocate and former regulator.
The purpose of the new group was to update the CFP Board’s existing Standards of Professional Conduct, which is (currently) broken into four key sections:
– Code of Ethics and Professional Responsibility: The 7 core ethical principles to which all CFP certificants should aspire, including Integrity, Objectivity, Competence, Fairness, Confidentiality, Professionalism, and Diligence
– Rules of Conduct: The specific rules by which the conduct of CFP professionals will be evaluated, including a CFP certificant’s obligations to define the client relationship, disclose conflicts to the client, protect client information, and the overall duty of conduct of the CFP certificant to the client, to employers, and to the CFP Board itself.
– Financial Planning Practice Standards: The standards that the CFP certificant should follow that define what financial planning “is” and how the 6-step financial planning process itself should be delivered.
– Terminology: The definitions of key terms used in the Standards of Professional Conduct, from what constitutes a “financial planning engagement” to what it means to be a “fiduciary” and the definition of “fee-only” and what is considered “compensation” to be disclosed.
The update process would be the first change to the CFP Board’s Standards of Professional Conduct since mid-2007, which at the time was highly controversial, and stretched out for years, but culminated in the first application of a fiduciary duty for CFP professionals.
Under the newly proposed Code of Ethics and Standards of Conduct, which the CFP Board published for public comment last Tuesday, June 20th, the four sections above will be consolidated into two sections – a Code of Ethics, and a Standards of Conduct (which will incorporate the prior Rules of Conduct, Practice Standards, and key Terminology).
The full text of the Proposed Code of Ethics and Standards of Conduct can be viewed here on the CFP Board’s website.
Expanding The Fiduciary Definition Of “Doing” Financial Planning
Under the CFP Board’s current Rules of Conduct for CFP professionals, certificants owe to their clients a fiduciary duty of care when providing financial planning or material elements of financial planning. Accordingly, the reality is that the overwhelming majority of CFPs are already subject to a fiduciary duty when providing financial planning services to clients.
However, the CFP Board’s standard has been criticized as allowing for a “loophole”, in that it’s not based on simply being a CFP professional, but instead tries to identify when people are doing financial planning (or material elements thereof). Which at best isn’t always clear, and at worst allows a subset of CFP professionals to aggressively sell nothing but their own products – knowingly not serving as a fiduciary, despite holding out as a CFP certificant – because a single product recommendation was not deemed to be “doing financial planning”.
New CFP Board Fiduciary Duty When Providing Financial Advice
In its new CFP Code of Ethics and Standards of Conduct, the CFP Board takes a stronger position that CFP certificants should be held to a fiduciary standard when delivering their services. Accordingly, the very first section of its new Standards of Conduct states:
A CFP Professional must at all times act as a fiduciary when providing Financial Advice to a client, and therefore, act in the best interest of the Client.
Notably, under this new rule, the scope of fiduciary obligation is not limited to just when providing “financial planning” or “material elements of financial planning”. Instead, the fiduciary duty will apply anytime a CFP professional is “providing financial advice”, which itself is defined very broadly, as:
Financial Advice (according to CFP Board)
A) Communication that, based on its content, context, and presentation, would reasonably be viewed as a suggestion that the Client take or refrain from taking a particular course of action with respect to:
- The development or implementation of a financial plan addressing goals, budgeting, risk, health considerations, educational needs, financial security, wealth, taxes, retirement, philanthropy, estate, legacy, or other relevant elements of a Client’s personal or financial circumstances;
- The value of or the advisability of investing in, purchasing, holding, or selling Financial Assets;
- Investment policies or strategies, portfolio composition, the management of Financial Assets, or other financial matters;
- The selection and retention of other persons to provide financial or Professional Services to the Client; or
B) The exercise of discretionary authority over the Financial Assets of a Client.
In this definition, the mere suggestion that a client take or refrain from taking any particular course of action is deemed “financial advice”. Notably, the CFP Board does clarify that marketing materials, general financial education materials, or general financial communication “that a reasonable person would not view as Financial Advice” does not constitute Financial Advice. Nonetheless, most classic recommendations – from delivering a comprehensive financial plan, to merely suggesting “this product is right [or not right] for your situation”, would be captured under this definition of Financial Advice, and subjected to a fiduciary duty.
In other words, the expansion of the CFP Board’s application of the fiduciary duty to providing any kind of “financial advice”, and not just delivering “financial planning or material elements of financial planning”, eliminates the current gap where product salespeople could sell a product as a CFP certificant and claim they’re not subject to the fiduciary duty because it wasn’t “financial planning”. Although the fiduciary duty is still not defined by merely being a CFP or holding out as a CFP certificant, this new and far-broader scope of applying the fiduciary duty when “delivering financial advice” still accomplishes a substantively similar result, as even a focused, single-product recommendation, would still constitute “financial advice” under the new rules.
On the other hand, the CFP Board’s new definition of Financial Advice to which a fiduciary duty applies may actually have gone too far, as the new rules have no actual requirement that the client have agreed to engage the CFP professional in order for the fiduciary standard to occur. By contrast, for the fiduciary duty to apply to an RIA under the Investment Advisers Act, the investment adviser must give investment advice for compensation, and the Department of Labor similarly only applies a fiduciary duty to investment advice given to a retirement investor for compensation. The “compensation” requirement helps to ensure that free advice is not subject to a fiduciary duty, and also helps to ensure that suggestions that may be given in the course of soliciting a prospect are not deemed as fiduciary financial advice even if the advisor is never hired. The CFP Board may need to consider adding a similar stipulation to their current rules, to make it clear that the CFP professional’s obligation to deliver fiduciary financial advice only applies if the client ultimately actually engages the professional for advice for which at least some type of compensation is paid!
New Fiduciary Duties Of A CFP Professional
Of course, if CFP certificants are going to be held to a fiduciary duty, it’s still necessary to define exactly what that means. Most financial advisors, thanks to the recent discussions about the Department of Labor’s fiduciary rule, are familiar with the classic requirement that fiduciaries must act in the best interests of their clients, but in reality a fiduciary duty can (and should be) broader than just this Duty of Loyalty to the client.
In its new rules, the CFP Board defines the obligations of the CFP professional as a fiduciary to include:
CFP Professional’s Fiduciary Duty
A) Duty of Loyalty. A CFP® professional must:
- Place the interests of the Client above the interests of the CFP® professional and the CFP® Professional’s Firm;
- Seek to avoid Conflicts of Interest, or fully disclose Material Conflicts of Interest to the Client, obtain the Client’s informed consent, and properly manage the conflict; and
- Act without regard to the financial or other interests of the CFP® professional, the CFP® Professional’s Firm, or any individual or entity other than the Client, which means that a CFP® professional acting under a Conflict of Interest continues to have a duty to act in the best interest of the Client and place the Client’s interest above the CFP® professional’s.
B) Duty of Care. A CFP® professional must act with the care, skill, prudence, and diligence that a prudent professional would exercise in light of the Client’s goals, risk tolerance, objectives, and financial and personal circumstances.
C) Duty to Follow Client Instructions. A CFP® professional must comply with all objectives, policies, restrictions, and other terms of the Engagement and all reasonable and lawful directions of the Client.
In other words, the CFP Board is, in fact, applying the two core duties of a fiduciary standard: the Duty of Loyalty (to act in the interests of the client), and the Duty of Care (to act with the care, skill, prudence, and diligence of a professional). In addition, the CFP Board still affirms that a CFP professional must follow their clients’ instructions as well. (Which means a CFP professional still has an obligation to follow the clients’ instructions if the client wants to make their own bad financial decision against the advisor’s advice!)
Notably, in the past, the CFP Board’s existing Rules of Conduct for CFP professionals also stated that the CFP certificant – when acting as a fiduciary while providing financial planning or material elements of financial planning – owes to the client a duty of care, and must place the interest of the client ahead of his/her own. However, the new rules go much further in clearly and concretely defining the fiduciary duties of loyalty and care.
Managing Fiduciary Conflicts Of Interest As A CFP Professional
One of the core issues of a fiduciary duty, and the obligation to place the interests of the client above that of the advisor or his/her firm, is how to handle the inevitable conflicts of interest that may arise.
The CFP Board’s new Duty of Loyalty specifically requires that CFP professionals seek to avoid conflicts of interest, or fully disclose any Material conflicts of interest (where “material” is defined as “information that a reasonable client would have considered important in making a decision”).
In addition, a further expansion of the CFP professional’s duties with respect to conflicts of interest, in Section 9 of the new Standards, would obligate the CFP professional to obtain “informed consent” after disclosing any Material conflicts of interest (though informed consent can be handled in conversation in a prospect/client meeting, as written consent is not required).
Furthermore, CFP professionals are expected to “adopt and follow business practices reasonably designed to prevent Material Conflicts of Interest from compromising the CFP professional’s ability to act in the Client’s best interests.” Notably, this is very similar to the “policies and procedures” requirement that the Department of Labor imposes on Financial Institutions engaging in fiduciary advice with respect to retirement accounts – although the DoL fiduciary rule requires the firm to adopt policies and procedures, while the CFP Board’s standards require the individual CFP certificant to adopt those business practices (recognizing that the CFP Board has no jurisdiction over firms, only certificants, and that CFP certificants must comply even if their firms, which may have non-CFPs as well, do not adopt firm-wide policies and procedures).
On the other hand, organizations like the Institute for the Fiduciary Standard have already pointed out that the CFP Board has a history of encouraging CFP professionals to disclose conflicts of interest, but not necessarily urging them to actually avoid or eliminate those conflicts. By contrast, the Department of Labor’s recent fiduciary rule goes into far greater depth about what constitutes an unacceptable (i.e., not realistically manageable) conflict of interest, and outright bans many (as does ERISA’s fiduciary duty). For the CFP Board, though, the new standards have little guidance on whether CFP professionals are actually expected to avoid any conflicts of interest at all, as the focus of the new standards is simply on disclosing material conflicts of interest (and gaining “informed consent” from the client).
In fact, because the CFP Board allows for material conflicts of interest – as long as there is informed consent – there is arguably no requirement that CFP professionals actually avoid any conflict of interest at all, nor necessarily even manage them. After all, while the new rules do suggest that CFP professionals should adopt business practices to prevent material conflicts of interest from compromising their duty of loyalty, the rules also fully permit those material conflicts of interest anyway, as long as the CFP professional can demonstrate that it was disclosed and that the client agreed to the recommendation anyway (i.e., gave informed consent).
Doing Financial Planning And The CFP Board Practice Standards
In addition to the new rules placing on CFP professionals an obligation to act as fiduciaries to clients, including both a Duty of Loyalty and a Duty of Care, the new Practice Standards further emphasize that when providing financial advice, the CFP professional is expected to actually do the financial planning process.
In fact, the new Practice Standards presume that whenever a CFP professional provides financial advice, there should be a financial planning process that integrates together the relevant elements of the Client’s personal and/or financial circumstances to make a recommendation. Or viewed another way… not only are CFP professionals no longer allowed to escape fiduciary duty by providing narrow product recommendations – in an attempt to avoid providing “financial planning” or “material elements of financial planning” – but under the new rules, any (product or other) recommendation or “suggestion to take or refrain from a particular course of action” is presumed to be “financial planning” and necessitates following the full financial planning process, unless the CFP professional can prove that it wasn’t necessary to do so (or that the client refused the comprehensive advice, or limited the scope of engagement to make comprehensive advice unnecessary).
However, it’s important to recognize that “doing” financial planning when giving financial advice still doesn’t necessarily mean every client must be provided a comprehensive financial plan. Under the new conduct standards, “financial planning” itself is defined as:
“Financial Planning: A collaborative process that helps maximize a Client’s potential for meeting life goals through Financial Advice that integrates relevant elements of the Client’s personal and financial circumstances.”
The key term here is “relevant elements” of the client’s personal and financial circumstances. Thus, just as a doctor doesn’t need to conduct a full-body physical exam with blood analysis just to set a broken arm, neither would a CFP professional be required to do a comprehensive financial plan just to help a client set up a 529 college savings plan. Nonetheless, a full evaluation of the relevant circumstances – from the ages of children and time horizon to college, to the risk tolerance of the parents, their tax situation, and available savings and other resources for college – would still be necessary to deliver appropriate financial (planning) advice.
EGADIM 6-Step Process Becomes A 7-Step Financial Planning Process
Perhaps more notable, though, is that the financial planning process itself is changed and updated under the new conduct standards.
In the past, the standard financial planning process was known by the acronym EGADIM: Establish client/planner relationship, Gather data, Analyze the client situation, Develop plan recommendations, Implement the plan, and Monitor the plan. And each of those parts of the 6-step process had 1-3 levels of detailed practice standards about how they should be delivered.
Now, under the new rules, financial planning will entail a 7-step process of:
1) Understand the Client’s Personal and Financial Circumstances (including gathering quantitative and qualitative information, analyzing the information, and identifying any pertinent gaps in the information);
2) Identify and Select Goals (including a discussion on how the selection of one goal may impact other goals)
3) Analyze the Current Course of Action and Potential Recommendations (evaluating based the advantages and disadvantages of the current course of action, and the advantages and disadvantages of potential recommendations)
4) Develop Financial Planning Recommendations (including not only what the client should do, but the timing and priority of recommendations, and whether recommendations are independent or must be implemented jointly)
5) Present Financial Planning Recommendations (and discuss how those recommendations were determined)
6) Implement Recommendations (including which products or services will be used, and who has the responsibility to implement)
7) Monitoring Progress and Updating (including clarifying the scope of the engagement, and which actions, products, or services, will be the CFP professionals’ responsibility to monitor and provide subsequent recommendations)
Unfortunately, the new 7-step process isn’t as conducive to an acronym as EGADIM was, though a new option might be CGADPIM (Circumstances, Goals, Analyze, Develop, Present, Implement, Monitor). In practice, the primary difference under the new rules is that the prior requirement to “establish the scope of the engagement” is not considered part of the financial planning process itself (though it will still be separately required, as discussed below), the “gather client data” phase is now broken out into two standalone steps of the process (first to gather information about the client’s Circumstances, then to identify the client’s Goals), and the CFP Board has similarly separated the prior “Develop and Present Recommendations” of EGADIM into separate “Develop” and “Present” process steps.
Another key distinction of the new 7-step process, though, is that the last two steps – to Implement, and to Monitor – are explicitly defined as optional, and are only an obligation for the CFP professional if the client’s Scope of Engagement specifically dictates that the CFP professional will be responsible for implementation and/or monitoring (although notably, the presumption is that the CFP professional will have such responsibilities, unless they are specifically excluded in the Scope of Engagement).
In other words, if the CFP professional defines the scope of the agreement as only leading up to presenting recommendations (the CGADP part of the new financial planning process), but leaves it up to the client to proceed with implementation and monitoring, that is permitted under the new rules… recognizing that some clients prefer to only engage in more “modular” advice and a “second opinion” from a CFP professional, but may not wish to implement with that CFP professional.
Introductory Information And Financial Planning Terms (And Scope) Of Engagement
Currently, the CFP Board’s Rules of Conduct when a CFP Professional is engaged by a client to provide financial planning (or material elements of financial planning) include an obligation to provide information to clients (prior to entering into an agreement), including the responsibilities of each party, the compensation that the CFP professional (or any legal affiliates) will or could receive, and, upon being formally engaged by the client for services, the CFP professional was/is expected to enter into a formal written agreement, specifying the (financial planning) services to be provided.
Under the new rules, these disclosure and engagement requirements would be expanded further, into a series of (at least) two written documents: the first is “Introductory Information” to be provided to a prospect (before becoming a client), and the second is a “Terms of Engagement” agreement provided to a client (at the time the client engages the advisor).
The Introductory Information must include:
1) Description of the CFP professional’s available services and category of financial products;
2) Description of how the client pays, and how the CFP Professional and the Professional’s Firm are compensated for providing services and products;
3) Brief summary of any of the following Conflicts of Interest (if applicable): offering proprietary products; receipt of third-party payments for recommending products; material limitations on the universe of available products; and the receipt of additional compensation when the Client increases the amounts of assets under management; and
4) A link to (or URL for) relevant webpages of any government authorities, SROs, or professional organizations, where the CFP professional’s public disciplinary history or personal/business bankruptcies are displayed (e.g., the SEC’s IAPD, FINRA BrokerCheck, and the CFP Board’s own website).
The new rules state that for RIAs, the delivering of Form ADV Part 2 will satisfy the Introductory Information requirement. Broker-dealers, though, would need to create and distribute their own Introductory Information guidance. (The CFP Board has indicated that it will be creating an Introductory Information template for advisors and brokers to use.) The Introductory Information is expected to be delivered to a prospect at the time of initial consultation, or “as soon as practicable thereafter”, and it may be delivered in writing, electronically, or orally (if appropriate given a [presumably limited] scope of services).
In addition, when a CFP professional is actually engaged to give financial advice, the CFP professional must further provide a written Terms of Engagement agreement, including:
Terms Of Engagement Financial Planning Agreement
– Scope of Engagement (and any limitations), period for which services will be provided, and client responsibilities
– Further disclosures, to the extent not already provided, including:
– More detailed description of costs to the client, including:
– How the client pays, and how the CFP Professional and the Professional’s Firm are compensated for providing services and products;
– Additional types of costs that the Client may incur, including product management fees,
– Identification of any Related Party that will receive compensation for providing services or offering products
– Full disclosure of all Material Conflicts of Interest
– Link to relevant webpages of any government authorities, SROs, or professional organizations, where the CFP professional’s public disciplinary history or personal/business bankruptcies are displayed
– Any other information that would be Material to the client’s decision to engage (or continue to engage) the CFP professional or his/her firm
As mentioned earlier, the CFP Board’s current Standards of Professional Conduct already require that CFP certificants enter into a written agreement with clients that defines the scope of the engagement. But with an expanded fiduciary duty for CFP professionals, it seems likely that financial advisors may become more proactive about clearly defining the scope of what they will, and won’t, do as a part of the client engagement. Especially since the CFP Board’s new 7-step process makes it optional for the CFP to follow through on the implementation and/or monitoring phases of the process, but only if the scope of engagement explicitly excludes those steps of the process.
In addition, the mere delivery of a “comprehensive” financial plan, under a more “comprehensive” fiduciary duty, creates potential new liability exposures for financial advisors. If the advisor’s agreement says the financial plan is “comprehensive”, what, exactly, does that cover? Is it everything in the CFP Board’s current topic list? Does that mean CFP professionals could get themselves into trouble for offering a “comprehensive” financial plan, but failing to review a will or a trust, or an automobile or renter’s insurance policy? Under the new standard in the future, CFP professionals may want to become far more proactive about stating exactly what they will cover in a plan – to more concretely define the scope of engagement – rather than just stating that it will be “comprehensive”.
The new standards of conduct also require that the CFP professional disclose to the client any Material change of information that occurs between the Introductory Information and when the actual Terms of Engagement are signed, along with any Material changes that occur after the engagement begins but during the scope of the (ongoing) engagement. Ongoing updates must be provided at least annually, except for public disciplinary actions or bankruptcy information, which must be disclosed to the client within 90 days (along with a link to the relevant regulatory disclosure websites).
Cleaning Up Fee-Only Definitions And Sales-Related Compensation
One of the most challenging issues for the CFP Board in recent years has been its “compensation definitions” – specifically pertaining to when and how a CFP professional can call themselves “fee-only”, which had led to both a lawsuit against the CFP Board by Jeff and Kim Camarda, the resignation of (now-former) CFP Board chair Alan Goldfarb (who was later publicly admonished), and a series of ongoing debacles for the CFP Board as it kept trying to update its flawed interpretation of the original “fee-only” compensation definition.
The problem was that under the prior rules, “fee-only” was defined as occurring “if, and only if, all of the certificant’s compensation from all of his or her client work comes exclusively from the clients in the form of fixed, flat, hourly, percentage, or performance-based fees.” And the certificant’s “compensation” was in turn defined as “any non-trivial economic benefit, whether monetary or non-monetary, that a certificant or related party receives or is entitled to receive for providing professional activities.”
The primary problem in this context was that the CFP Board interpreted these rules to mean that if a related party could receive non-fee compensation, the CFP certificant couldn’t call themselves “fee-only”, even if the CFP professional could prove that 100% of their clients paid 100% in fees (and no commissions) for any/all client work. In other words, the CFP Board imputed the possibility of a commission to taint the CFP professional’s status as fee-only, regardless of whether the client ever actually paid a commission to anyone, ever. Such that even being able to prove that all your clients only paid fees wasn’t a legitimate defense to claiming that you were fee-only!
Under the new Standards of Conduct, the overall structure of “fee-only” is substantively similar, but updated in ways that should help to resolve many of the prior problems and misinterpretations of the definition. Now, fee-only is defined as:
Fee-Only. A CFP professional may represent his or her compensation method as “fee-only” only if:
- The CFP professional and the Professional’s Firm receive no Sales-Related Compensation; and
- Related Parties receive no Sales-Related Compensation in connection with any Professional Services the CFP professional or the CFP Professional’s Firm provides to Clients.
In turn, “Sales-Related Compensation” is defined as:
Sales-Related Compensation. Sales-Related Compensation is more than a de minimis economic benefit for purchasing, holding for purposes other than providing Financial Advice, or selling a Client’s Financial Assets, or for the referral of a Client to any person or entity. Sales-Related Compensation includes, for example, commissions, trailing commissions, 12(b)1 fees, spreads, charges, revenue sharing, referral fees, or similar consideration.
Sales-Related Compensation does not include:
- Soft dollars (any research or other benefits received in connection with Client brokerage that qualifies for the “safe harbor” of Section 28(e) of the Securities Exchange Act of 1934);
- Reasonable and customary fees for custodial or similar administrative services if the fee or amount of the fee is not determined based on the amount or value of Client transactions; or
- The receipt by a Related Party solicitor of a fee for soliciting clients for the CFP® professional or the CFP® Professional’s Firm.
Not surprisingly, “sales-related compensation” is defined as any type of compensation that is paid for any type of purchase or sale related to a client’s financial assets, or for a referral (that might subsequently lead to such outcomes). Thus, for instance, selling an investment or insurance product for a commission would be sales-related compensation, as would referring a client to an insurance agent or broker (or anyone else) who pays the CFP professional for referring the lead. Although under the current rules, using an outsourced investment provider – i.e., a TAMP – might also be deemed a “referral” fee, to the extent that many TAMPs collect the AUM fees and then remit a portion of the CFP professional as a solicitor/referrer fee, which would no longer be allowed, even if the cost is the same to the client as the CFP professional who hires his/her own internal CFA to run the portfolio. Will the CFP Board be compelled to refine its “sales-related compensation” rules to allow for level AUM fees as a part of standard solicitor agreements?
More generally, though, it’s notable that the new “fee-only” rules are not actually defined by whether the CFP professional receives various types of AUM, hourly, or retainer fees; instead, it is defined by not receiving any type of Sales-Related Compensation (such that client fees are all that is left). As a result, the new “fee-only” definition might more aptly be explained as being a “no-commission” (and no-referral-fee) advisor instead.
A key distinction of the new rules, though, is that for a CFP professional to be fee-only, neither the CFP professional nor his/her firm can receive any sales-related compensation, but a related party can receive sales-related compensation as long as it is not “in connection with” the services being provided to the client by the CFP professional or his/her firm. This shift is important, as otherwise, any connection between the CFP professional and any related party to his/her firm could run afoul of the fee-only rules; for instance, if a fee-only RIA was bought by a bank or holding company, which separately had another division that happened to offer mortgages (for a commission), the RIA would lose its fee-only status, even if no clients ever actually did business with the related subsidiary. Under the new rules, external related parties could still co-exist in a manner that doesn’t eliminate the CFP professional’s fee-only status, as long as no clients actually do business with that related party (so no clients ever actually pay a commission to a related party), and the CFP professional’s own firm doesn’t directly accept any type of sales-related compensation.
Notably, under these new definitions, Jeff and Kim Camarda – who had a “fee-only” RIA but referred clients internally to a co-owned insurance subsidiary that earned commissions – would still not have been permitted to call themselves “fee-only” (as clients really were paying commissions to a related party in connection with the Camardas’ financial advice). However, the strange case of former CFP Board chair Alan Goldfarb, who was deemed to violate the fee-only rules because his RIA-parent-company accounting firm also owned a broker-dealer even though it was never stated that a single client of Goldfarb’s ever actually paid a commission to that entity, would have been (appropriately) still allowed to call himself “fee-only”.
On the other hand, it’s not entirely clear whether the CFP Board considered how CFP professionals might shift towards fee-only compensation in the future. For instance, what happens if a CFP professional who currently earns commissions and trails decides to stop doing any commission-based business, and operate solely on a fee-only basis in the future… but doesn’t want to walk away from his/her existing trails for prior business? Under a strict interpretation of the current “sales-related compensation” rules, even old sales-related compensation that has no relationship to current clients would still run afoul of the rules, even though the CFP professional really does work solely on a fee-only basis now. In addition, receiving “old” trails typically still requires the CFP professional to maintain a broker-dealer registration (to remain as Broker of Record), and/or a state Insurance license (and appointment to one or several insurance companies) to remain Agent of Record… which means the CFP professional would still be affiliated with a firm that receives sales-related compensation (which also runs afoul of the rules). Does the CFP Board need to add a further clause that clarifies how CFP professionals who are transitioning to fee-only can keep old commission trails for prior sales, and “old” affiliations to broker-dealers or insurance companies to receive those trails, and still be permitted to hold out as fee-only going forward, as long as no new clients will ever again compensate the advisor via commissions or other sales-related compensation?
CFP Board Cautions Against Marketing “Fee-Based” Compensation
In addition to tightening the CFP Board’s compensation of “fee-only”, the new rules also explicitly caution CFP professionals against the use of the term “fee-based”, which was originally a label for investment wrap accounts where trading costs were “fee-based” rather than a per-trade commission, but in recent years has occasionally been used by brokers to imply they are offering “fee-only” advice (relying on consumers to not understand the difference between fee-based and fee-only).
To limit this, the new CFP Board conduct standards would require that anyone who holds out as “fee-based” to clearly state that the CFP professional either “earns fees and commissions”, or that “the CFP professional is not fee-only”, and that the term should not otherwise be used in a manner that suggests the CFP professional is fee-only. (Recognizing that the term is enshrined in SEC regulations as a part of fee-based wrap accounts, and can’t realistically be eliminated from the investment lexicon altogether.)
The caveat, however, is that while the CFP Board is explicitly cracking down on the use of “fee-based” as a marketing label, the organization is backing away from its prior “Notice to CFP Professionals” guidance from 2013, which grouped all financial advisor compensation into being either “fee-only”, “commission-only”, or “commission and fee”. Which seems concerning, as while grouping CFP professionals into “just” three buckets has limited value – when most are in the middle and operate with some blend of commissions and fees – it’s still better than not requiring consistent definitions at all. Otherwise, what’s to stop CFP professionals from just coming up with another label for being (partially) fee-compensated, that isn’t fee-only, but sounds similar… which is precisely why “fee-based” has been increasingly adopted in recent years anyway.
In other words, if the CFP Board states: “All CFP professionals must disclose that their compensation is fee-only, commission-and-fee, or commission-only, and should provide further compensation disclosure details as appropriate” then at least CFP professionals will disclose their compensation consistently. But with the CFP Board’s current approach, a CFP professional who receives at least some fees might have to stop using “fee-based”, but could just use similar words like “fee-oriented” or “fee-compensated” or “fee-for-service” financial advice, which would still focus on and imply fees (and fee-only) without stating that the actual compensation includes commissions as well (as using the term “fee and commission” is now only required when attached to fee-based).
Enforcement Of The New CFP Board Standards Of Conduct?
Notwithstanding its expansion in the scope of fiduciary duties that would apply to CFP professionals, it’s important to recognize that the CFP Board’s ability to enforce its standards is still somewhat limited.
At most, the CFP Board’s Disciplinary and Ethics Commission (DEC) can only privately censure or publicly admonish a CFP certificant, and/or in more extreme cases to suspend or revoke the CFP marks from that individual. However, that doesn’t mean the CFP Board can actually limit someone’s ability to be a practicing financial advisor, who offers (and is paid for giving) financial advice to the public. Nor can the organization fine or otherwise financially punish a CFP certificant, beyond the financial consequences that might occur to the CFP certificant’s business if he/she is either publicly admonished, or has his/her marks suspended or revoked (which is also part of the public record).
Although the real challenge for the CFP Board is that because it is not an actual government-sanctioned regulator, its ability to collect the information necessary to adjudicate its disciplinary hearings is a significant challenge. Because broker-dealers and advisory firms have in some cases refused to provide the necessary information to the CFP Board regarding a CFP certificant and his/her clients when a client is filed, as the firm fears that actual government regulators (e.g., the SEC and/or FINRA) might discipline them for a breach of client privacy by sharing information with the CFP Board in the first place! In fact, back in 2011 the CFP Board had to seek out a “No-Action” letter from the SEC to affirm that it was permissible for firms to share “background documents” without violating Reg S-P, and continued pushback from firms led the CFP Board to request a follow-up No-Action letter request in 2014 to further expand the scope of what firms even could share with the CFP Board.
Of course, in situations where a client files a complaint with the CFP Board, the client has authorization to release his/her own information to the CFP Board to evaluate the complaint. But the limitations of the CFP Board’s ability to even investigate complaints against CFP certificants, especially in the case of third-party complaints (i.e., where it is not the client who submits the complaint, and his/her information to document it), raise serious concerns about its ability to effectively enforce its new standards. It’s not a coincidence that the overwhelming majority of current CFP Board disciplinary actions are based almost entirely on public information (from bankruptcy filings and DUI convictions, to CFP certificants who are disciplined after the SEC or FINRA already found them publicly guilty), and/or pertain to situations that wouldn’t require client-specific information anyway (e.g., whether the advisor misrepresented his/her compensation in marketing materials).
In other words, the “good” news of the new CFP Conduct Standards is that CFP professionals will be required to meet a fiduciary standard of care when providing any kind of financial advice to clients… but what happens if they don’t? To what extent can the CFP Board enforce against those who don’t effectively comply with the rules, and then simply refuse to provide information – under the guise of Reg S-P – when a complaint is filed? Will the CFP Board have to rely on consumers to file their own complaints, just to get the information necessary to investigate such complaints? And is the CFP Board prepared to enforce against the non-trivial number of CFP certificants who have been acting as non-fiduciaries for years or decades already by using their CFP marks to sell products (which now will be subject to a fiduciary obligation for the first time)? Especially since the CFP Board doesn’t require CFP professionals to state in writing that they’re fiduciaries to their clients, which means the CFP Board’s fiduciary duty still won’t necessarily be grounds for a client to actually sue the financial advisor for breach of fiduciary duty (as the CFP certificant would simply be failing to adhere to the CFP Board’s requirement that he/she act as a fiduciary, and not an actual fiduciary commitment to the client!).
CFP Board Anonymous Case Histories And Case Law Precedents
On the other hand, one of the greatest challenges for the CFP Board may not be the consequences if it can’t investigate claims against CFP professionals, but what happens if it does see an uptick in the number of complaints and enforcement actions under the new CFP Conduct Standards.
The problem is that ultimately, a large swath of the newly proposed Conduct Standards contain potentially subjective labels to determine whether the rules have actually been followed, or not. For instance, the word “reasonable” or “reasonably” is used a whopping 26 times in the new Conduct Standards, pertaining to everything from whether a conflict of interest in Material (based on whether a “reasonable” client would have considered the information important), to whether a related party is related based on whether a “reasonable” CFP professional would interpret it that way, to requirements that CFP professionals diligently respond to “reasonable” client inquiries, follow all “reasonable” and lawful directions of the client, avoid accepting gifts that “reasonably” could be expected to compromise objectivity, and provide introductory information disclosures to prospects the CFP professional “reasonably” anticipates providing subsequent financial advice to. In addition, the entire application of the rules themselves depend on the CFP Board’s “determination” of whether Financial Advice was provided (which triggers the fiduciary obligation for CFP professionals), and CFP professionals with Material conflicts of interest will or will not be found guilty of violating their fiduciary duty based on the CFP Board’s “determination” of whether the client really gave informed consent or not.
In other words, the CFP Board’s new Standards of Conduct leave a lot of room for the Disciplinary and Ethics Commission (DEC) to make determinations of what is and isn’t reasonable in literally several dozen instances of the rules, as well as determining how they will determine when Financial Advice is given and what does and doesn’t really constitute informed consent.
To be fair, the reality is that it’s always the case that regulators and legislators write the rules, and the courts interpret them in the adjudication process. So the idea that the CFP Board’s DEC will have to make interpretations of all these new rules isn’t unique or that out of the ordinary. And frankly, using “reasonableness” as a standard actually helps to reduce the risk that a CFP professional is found guilty of something that is “reasonably” what another CFP professional would have done in the same situation. “Reasonableness” standards actually are peer-based professional standards, which is what you’d want for the evaluation of a professional.
However, when courts interpret laws and regulations, they do so in a public manner, which allows everyone else to see how the court interpreted the rule, and provides crucial guidance for everyone who follows. Because once the court interprets whether a certain action or approach is or isn’t permitted, it provides a legal precedent that everyone thereafter can rely upon. In point of fact, many of the key rules that apply to RIA fiduciaries today, including the fact that a fiduciary duty applies to RIAs in the first place, didn’t actually come from regulators – it came from how the courts interpreted those regulations (which in the case of an RIA’s fiduciary duty, stemmed from the 1963 Supreme Court case of SEC v Capital Gains Research Bureau).
The problem, though, is that the CFP Board’s disciplinary process is not public. Which means even as the DEC adjudicates 26 instances of “reasonableness”, no one will know what the DEC decided, nor the criteria it used… which means there’s a risk that the DEC won’t even honor its own precedents, and that rulings will be inconsistent, and even if the DEC is internally consistent, CFP professionals won’t know how to apply the rules safely to themselves until they’re already in front of the DEC trying to defend themselves!
Notably, this concern – of the lack of disciplinary precedence in CFP Board DEC hearings – was a concern after the last round of practice standard updates in 2008, and did ultimately lead to the start of the CFP Board releasing “Anonymous Case Histories” in 2010 that provide information on the CFP Board’s prior rulings. (The case histories are anonymous, as making them public, especially in situations where there was not a public letter of admonition or a public suspension or revocation, would itself be a potential breach of the CFP professional’s privacy.)
However, the CFP Board’s current Anonymous Case History (ACH) database is still limited (it’s not all cases, but merely a collection of them that the CFP Board has chosen to share), and the database does not allow CFP professionals (or their legal counsel) any way to do even the most basic keyword searches OF the existing case histories (instead, you have to search via a limiting number of pre-selected keywords, or by certain enumerated practice standards… which, notably, will just be even more confusing in the future, as the current proposal would completely re-work the existing practice standard numbering system!).
Which means if the CFP Board is serious about formulating a more expanded Conduct Standards, including the application of a fiduciary duty and a few dozen instances of “reasonableness” to determine whether the CFP professional met that duty, the CFP Board absolutely must expand its Anonymous Case Histories database to include a full listing of all cases (after all, we don’t always know what will turn out to be an important precedent until after the fact!), made available in a manner that is fully indexed and able to be fully searched (not just using a small subset of pre-selected keywords and search criteria). Especially since, with the CFP Board’s unilateral update to its Terms and Conditions of Certification last year, CFP professionals cannot even take the CFP Board to court if they dispute the organization’s findings, and instead are bound to mandatory arbitration (which itself is also non-public!).
Overall Implications Of The CFP Board’s New Fiduciary Standard
Overall, for CFP certificants (including yours truly) who have called for years for the CFP Board to lift its fiduciary standard for its professionals, there’s a lot to be liked in the newly proposed Standards of Conduct. The CFP Board literally leads off the standards with the application of the fiduciary duty to CFP professionals (it’s the first section of the new Standards of Conduct!), and expands the scope of the CFP Board’s standards to cover not just delivering financial planning or material elements of financial planning, but any advice by a CFP professional (for which it is presumed that delivering that advice should entail doing financial planning!).
In addition, the CFP Board has made a substantial step forward on its disclosure requirements for conflicts of interest, particularly regarding the creation of its “Introductory Information” requirement for upfront disclosures to prospects, and its expanded and more detailed requirements for setting the Terms of Engagement for client agreements. (For anyone who still believes the CFP Board is beholden to its large-firm broker-dealers, this should definitively settle the issue – as broker-dealers compliance departments will most definitely not be happy that the CFP Board as a “non-regulator” is imposing disclosure requirements on their CFP brokers! In fact, there’s a non-trivial risk for the CFP Board that some large brokerage or insurance firms may decide to back away from the CFP Board’s expansion of its fiduciary duty, just as State Farm did back in 2009 when the CFP Board first introduced its fiduciary standard.)
On the other hand, it is still notable that despite increasing the disclosure requirements associated with its expanded fiduciary duty for CFP professionals, the CFP Board isn’t actually requiring CFP professionals to change very much from what they do today. Material conflicts of interest must be disclosed, but obtaining informed consent appears to be a legitimate resolution to any actual conflict of interest. And debating whether a conflicted recommendation that the client agreed to with informed consent was still a fiduciary breach or not would quickly come back to a determination of whether the CFP professional’s advice met various standards of “reasonableness” – which, as of now, aren’t entirely clear standards, and if the CFP Board can’t effectively expand its Anonymous Case Histories, may not get much clearer in the future even as the DEC interprets what is “reasonable”, either.
In the meantime, though, to the extent that the CFP Board’s newly expanded fiduciary standard – both the duty of loyalty, and the expanded duty of care – does create at least some new level of accountability for CFP professionals, the real challenge may be the CFP Board’s own ability to enforce and even investigate complaints if and when they do occur. As the saying goes, the CFP Board needs to make sure its mouth isn’t writing checks that its body can’t cash, by promulgating standards of conduct it may struggle to effectively enforce. Whether and how the CFP Board will expand and reinvest into its own disciplinary process and capabilities remains to be seen.
But overall, the CFP Board’s newly proposed Standards of Conduct really do appear to be a good faith effort to step up and improve upon the gaps of the prior/existing standards of professional conduct. The scope of what constitutes “doing” financial planning for the purposes of the fiduciary duty is expanded (and if anything, the CFP Board may have gone too far by not limiting the scope of fiduciary duty to an established financial advice relationship for compensation), the fee-only compensation definition is improved (although the CFP Board may be starting a problematic game of whack-a-mole by just punishing “fee-based” instead of more formally establishing a standardized series of compensation definitions), and although the CFP Board didn’t crack down on material conflicts of interest to the extent of the Department of Labor’s fiduciary rule, it did still move the ball further down the field by more fully highlighting prospective conflicts and increasing the disclosure requirements for both RIAs and especially broker-dealers and insurance firms.
For the time being, though, it’s also important to recognize that these are only proposed standards, and not final. The CFP Board is engaging in a series of eight Public Forums in late July across the country to gather feedback directly from CFP professionals (register for one in your area directly on their website here), and is accepting public comment periods for a 60-day period (ending August 21st), which you can submit either through the CFP Board website here, or by emailing firstname.lastname@example.org. Comments and public forum feedback will then be used to re-issue a final version of the standards of conduct (or even re-proposed if the Commission on Standards deems it necessary to have another round of feedback) later this year.
And for those who want to read through a fully annotated version of the proposed Standards of Conduct themselves, the CFP Board has made a version available on their website here.
It is widely acknowledged that there is both an ‘art’ and a ‘science’ to financial planning. Technical knowledge – the “science” – is crucial to delivering the technically accurate advice to clients. But the best advice in the world is meaningless if the financial advisor can’t master the “art” of delivering it in a skillful manner – leading a client to actually take action and improve their financial well-being. Yet despite its label as “art”, the reality is that how best to deliver financial advice advice can itself be subjected to scientific scrutiny. Which is beginning to happen, with the emergence of several “financial counseling laboratories” in educational institutions across the country.
In this guest post, Derek Tharp – our new Research Associate at Kitces.com, and a Ph.D. candidate in the financial planning program at Kansas State University – examines what a financial counseling laboratory is, and how researchers are using financial counseling laboratories to subject the ‘art’ of financial planning to scientific investigation.
A financial counseling laboratory is an environment in which financial planning, counseling, or therapy research can be conducted. The space itself is akin to the kind of office with tables and chairs that financial advisors might use to meet with their clients. However, the key feature of a financial counseling lab is that it contains some unobtrusive means of observation, such as one-way mirrors or cameras, allowing the interactions between a financial advisor and their client to be scientifically measured and tested (and sometimes also monitored by students who may be gaining practical observational training, or even engage in the supervised practice of their financial planning skills).
The existence of financial counseling laboratories is important given how conducive they are to conducting highly relevant research for practitioners about how to actually be better financial planners, and get clients to engage their financial advice. In fact, some of this research is already beginning to emerge, delving into topics such as how the physical office environment influences client stress, how coaching techniques can help clients save more, and how measurements of brain activity suggest receiving counseling from an advisor with a CFP designation (relative to a non-credentialed advisor) may actually reduce stress during market declines! In essence, laboratory research – in a financial setting, examining questions relevant to advisors – may soon begin to shape the future of how financial planners interact with their clients!
Advisors who are interested in supporting or assistance with the research process have several options, from getting involved with organizations like the Financial Therapy Association (where many of the Financial Counseling laboratory researchers are engaged), collaborating with researchers themselves on future projects, contributing financially to organizations such as the CFP Board’s Center for Financial Planning, or contributing directly to the handful of universities which already have permanent on-campus financial counseling laboratories.
But the bottom line is that, for the first time ever, the “art” of financial planning itself is beginning to be subjected to scientific scrutiny, with the potential to yield important insights into the practice of financial planning, and how advisors can better get clients to actually adopt their advice!
Subjecting The ‘Art’ Of Financial Planning To Scientific Investigation
It is widely accepted that there is both an ‘art’ and a ‘science’ to financial planning. Technical knowledge – the “science” – is crucial to delivering the right advice to clients. But the best advice in the world is meaningless if the financial advisor can’t master the “art” of delivering it in a skillful manner – leading a client to actually take action and improve their financial well-being.
This dynamic is not unique to financial planning. It is exemplified well in the modern Hippocratic Oath, which states, “I will remember that there is art to medicine as well as science, and that warmth, sympathy, and understanding may outweigh the surgeon’s knife or the chemist’s drug.”
And though it is known that the art and science of financial planning are both important, we actually know surprisingly little about either. This too is not unique to the financial planning profession. Even the field of medicine, which is perceived to be far more ‘scientific’ than financial planning, has had less evidence-based support for both the art and the science of the profession than we likely wish to believe. In a 2016 Freakonomics podcast on “Bad Medicine”, Vinay Prasad, an assistant professor of medicine at Oregon Health & Science University, said:
The reality was that what we were practicing was something called eminence-based medicine. It was where the preponderance of medical practice was driven by really charismatic and thoughtful, probably, to some degree, leaders in medicine. And you know, medical practice was based on bits and scraps of evidence, anecdotes, bias, preconceived notions, and probably a lot psychological traps that we fall into. And largely from the time of Hippocrates and the Romans until maybe even the late Renaissance, medicine was unchanged. It was the same for 1,000 years. Then something remarkable happened which was the first use of controlled clinical trials in medicine.
Particularly when we look at the art of financial planning, “bits and scraps of evidence, anecdotes, bias, preconceived notions, and probably a lot of psychological traps we fall into” likely describes a lot of how we practice as financial planners.
That’s not to disparage financial planners – most of us are just doing our best with the training and information we have available – but the underlying evidence is limited, and therein lies the promise of financial counseling laboratories to radically change our profession for the better. Instead of continuing to rely on dogma and tradition to inform the art of financial planning, controlled clinical trials can subject the art of financial planning to scientific investigation.
What Is A Financial Counseling Lab?
A financial counseling laboratory is an environment in which financial planning, counseling, or therapy research can be conducted – allowing the interactions between a financial advisor and their client to be scientifically measured and tested.
The word “laboratory” typically conjures up images of sterile environments where people in lab coats conduct experiments, but a financial counseling lab typically looks much different. Financial counseling labs tend to be comfortable environments that would be suitable for meeting with a client and giving them financial advice. However, relative to the average financial advisor’s office, a financial counseling lab is probably going to have more of an intimate feel to it. Think more of a therapist’s office rather than a typical financial advisor’s office, perhaps with a small round table or some comfortable chairs for discussion. The image below is an example from the ASPIRE Clinic at the University of Georgia:
A key feature of a financial counseling lab is that it contains some unobtrusive means of observation, such as one-way mirrors or cameras. Fundamentally, this is what distinguishes a financial counseling lab from just any other room. Unobtrusive observation is important for not just conducting research and observing participants, but also for monitoring students who may be gaining practical experiencing by giving advice to others within a monitored environment. Here is an example of the Financial Counseling Clinic at Iowa State University:
In the image above, you can see that observation is available through the use of a one-way mirror and microphones. The researcher or instructor can observe the meeting in a manner that is less obtrusive than having someone sitting in the room and taking notes. Additionally, if a student should need help or lose control of a meeting, a professional is available to step in.
Another method of observation is the use of cameras. The image below shows one such setup at the Financial Therapy Clinic at Kansas State University:
Observation at this facility is provided via cameras, which record where the advisor and client are but can be watched in another room. Additionally, recordings can be generated (with client permission, of course!), so that researchers or students can go back and watch the recording in order to gather data or improve their performance.
Biometric data, including measurements of both physiological characteristics (e.g., EEG measurements of brain activity, skin conductance sensors attached to fingers or other parts of the body) and behavioral characteristics (e.g., how we move, speak, or behave), can also be gathered in a laboratory setting.
It is also worth noting that while there are advantages to having a permanent on-campus laboratory, the current state of audio/video technology arguably allows for almost any setting to be turned into an observational laboratory. Further, laboratory style research that doesn’t require recording or live observation (e.g., research based on pre- and post-assessments, without any need to observe or record the intervention being investigated) can be conducted without a permanent laboratory. For instance, while Texas Tech does not have a permanent financial counseling laboratory, they do have an excellent peer financial counseling program called Red to Black, which can get permission from clients to conduct videotaped sessions that can then be reviewed by student coaches for training purposes.
Laboratory Research To Study The “Art” Of Financial Planning
Much of the research currently conducted in financial planning programs at universities is quantitative research based on the use of secondary data sets. For instance, researchers may use data sets to study things such as the relationships between financial knowledge and financial behavior, the characteristics of those who do (or don’t) use financial planners, or associations between things such as financial knowledge and the use of alternative financial services.
While this type of research is incredibly important, from a financial advisor’s perspective, it won’t necessarily provide insights with immediate applications for your business. For instance, while it is important to understand the associations between financial sophistication and financial satisfaction, from a business perspective, there’s not much an advisor can necessarily do with this.
Laboratory research, on the other hand, is conducted in an environment similar to how advisors actually work with clients. Further, laboratory research often examines questions with very practical implications. For instance, researchers may be looking issues such as: how different communication strategies or office environments influence client decision making; how different client segments prefer to interact with an advisor; or what presentation techniques help clients best learn and retain information. For this reason, studies that will likely have the largest impact on the actual practice of financial planning will be coming from laboratories.
That said, there are some significant challenges to conducting laboratory research. First, relative to many other types of labs on a college campus, financial counseling labs simply don’t have the same levels of funding. Second, even when the funding (or professor/grad student labor) is available, it can be really hard to get laboratory research published, particularly given the small sample sizes that are common in laboratory research. Among the core personal finance journals, only the Journal of Financial Therapy is typically interested in publishing studies with small sample sizes and/or experimental designs. Given the amount of work that goes into setting up, conducting, and then writing up the results of an experimental laboratory study, researchers may choose to prioritize their efforts elsewhere if there is limited potential for publication or other professional benefit associated with a project.
While the interest in laboratory research among existing journals has been limited, the CFP Board Center for Financial Planning will be launching a new academic journal later this year which will be open to clinical and experimental studies. Given the Center for Financial Planning’s focus on ensuring that their journal will meet academic criteria for university faculty to achieve tenure and promotion at top business schools, this new journal will create further opportunities and incentives for the production of high quality experimental and clinical research.
Notable Research That Has Come Out Of Financial Counseling Laboratories
While the bulk of existing financial planning research has been on more technical planning topics or has utilized secondary data sets, it’s notable that there are already several financial counseling laboratories in operation today, and many have already published research with relevance for financial advisors.
Client Stress And The Physical Office Environment
One of the most well-known studies to come out of a financial counseling laboratory is a study on client stress and the physical environment of an office (Britt & Grable, 2010).
Based on research conducted at the Financial Therapy Clinic at Kansas State University, researchers found that meeting with clients in a room with a couch and an arm-chair creates less stress than a more typical environment of sitting at chairs around a table.
Given that prior research has found that client stress can reduce the ability to build trust with a client, interfere with client willingness to consider long-term implications of their behavior, and result in overall negative outcomes for a client-advisor relationship, the practicality of such physical office environment studies should be obvious.
In their 2010 article in the AFCPE publication The Standard, Britt and Grable also suggest that other stress reducing modifications that can be made to an office environment may include:
- Add naturalistic features to the office environment, such as plants
- Use neutral wall colors
- Play soft, non-lyrical music in the waiting room
- Minimize physical “barriers” (such as a table) between the client and advisor
Their article also stresses the importance of being observant of client cues of stress (e.g., cold hands can be a direct indication of stress), as well as advisor stress. Stress transference (when a client consciously or unconsciously perceives and experiences an advisor’s stress) can be detrimental to a client-advisor relationship as well. Meditation, deep breathing, walks outside, and reduced caffeine intake prior to a meeting are all steps an advisor can take to reduce the amount of stress they may personally introduce into an office environment.
Helping Clients Actually Implement Financial Planning Recommendations
As most any advisor can attest, knowing what advice to give a client is one thing, but knowing how to get them to actually take that advice can be the real challenge.
In a 2016 study published in the Journal of Financial Therapy, Lance Palmer, a clinical faculty supervisor for the ASPIRE Clinic at the University of Georgia, along with his coauthors Teri Pichot of the Denver Center for Solution-Focused Brief Therapy and Irna Kunovskaya of The Financial Literacy Group, examined how savings could be promoted through the use of solution-focused brief coaching techniques.
In short, solution-focused brief coaching is a collaborative form of coaching that is focused on the future and setting goals to make a client’s situation better, rather than focusing on the past and where the client is struggling. Solution-focused brief coaching utilizes many techniques of solution-focused brief therapy, though with more emphasis on the coaching aspect of the relationship than therapy.
To examine how solution-focused brief coaching techniques can promote savings behavior, participants receiving tax preparation services at a Volunteer Income Tax Assistance (VITA) location were randomly assigned to one of four groups: 1) a group receiving video-based solution-focused brief coaching; 2) a group receiving a discount card incentive; 3) a group receiving both video-based solution-focused brief coaching and a discount card incentive; or 4) a control group. Each client then had an opportunity to save part of their refund, if they had one.
Video-Based Solution-Focused Brief Coaching
The video-based solution-focused brief coaching intervention consisted of a professional therapist serving as a “video coach” to walk the client through a coaching exercise. The video itself was roughly 10 minutes, though the total length of the intervention depended on how long participants took to complete some self-reflection tasks.
The video coaching questions included asking the client the miracle (or fast-forward) question (a question commonly used in SFBT to get the client envisioning a world without a current problem they are facing), scaling questions (questions which are used to assess commitment, confidence, and motivation to change behavior [Archuleta et al., 2015]), next step questions, coping questions, and relationship questions. Participants followed along with a worksheet and the video would pause to allow clients to answer each question, only restarting once the client confirmed they were ready to continue. You can watch the video below:
The specific sections of the video include:
- Welcome and introduction
- Introduction of the video coach as a life coach
- Invitation to think about their desired financial future
- Explain why the video may be helpful
- Provide an analogy the emphasizes the importance of planning for the future
- Fast-forward exercise (worksheet activity)
- Explore current exceptions (worksheet activity)
- Provide a ladder analogy to explain scaling
- Create a clear vision of how things would improve in their desired state
- Explore possible next steps to reach their desired state (worksheet activity)
- Invite the client to discuss their goals and next steps with the tax preparer
The uniformity provided by the video presentation of the therapy session was an advantage of this study. While there certainly other advantages to having a real life therapist provide the intervention, video presentation allows the researchers to be more confident the intervention was more consistent for clients.
Cashless Matching Incentive
The second intervention was referred to as “The 10% Club”. Clients who saved at least 10% of their tax refund into a long-term savings account (e.g., US savings bond, IRAs, or CDs) were offered a discount card to local business as part of a cashless matching incentive. The card providing varying discounts to local businesses (e.g., 10% off, buy one get one free, etc.).
At the end of their session, each client was asked the following questions:
- Did you save part of your refund today?
- How did you save part of your refund today?
- How much of your refund did you save today?
The results strongly supported the efficacy of solution-focused brief-coaching, finding a statistically significant difference in both whether a client saved and how much they saved:
The results for the discount card did not fare as well. Interestingly, the combination of both the discount card and the SFBC was the worst outcome. The researchers suggest this may be the result of student tax preparers not seeing themselves as coaches, and therefore feeling uncomfortable with that intervention and steering participants towards the discount card. Another possibility is that the participants experienced choice overload and were more inclined to do nothing. It is also possible the combination of the discount card and the video created the impression the clients were participating in some type of sales presentation, and therefore experienced greater resistance to both options.
Palmer et al. (2016) suggest that perhaps the most significant result of their study was the fact that coaching that led to higher levels of saving was found to be scalable in the sense that the coaching services do not need to be delivered by a flesh and blood human coach, but instead, can be delivered through a recording. Given that a reported 60 million tax returns were filed in 2012 using H&R Block and TurboTax alone, the power of a scalable solution to help people save more should not be underestimated. And while human financial planners may be essential for some types of coaching and financial behavior change, it doesn’t mean that technology and recordings of humans can’t play a role, too!
Brain Activity And The CFP Designation
Another well-known line of financial planning research conducted in a laboratory is Russell James’ research utilizing fMRI, which is a neuroimaging technique which measures brain activity based on changes in blood flow within the brain. James has examined a number of topics related to neuroscience and financial planning, including brain activation when engaging in charitable bequest decision making, brain activations when choosing and changing financial advisors, and how neuroscience can be applied to a financial planning practice.
In a 2013 study in the Journal of Financial Planning, James utilized fMRI to measure brain activity and found that counseling from an individual with the CFP designation can help calm investors relative to similar counseling from a non-credentialed financial advisor.
The study engaged individuals in a stock market game employing four different investment strategies. After being placed in the fMRI scanner looking at a video screen, participants were given the following prompt:
Next you will play a stock-market game. The participant who accumulates the most money in this game will be paid $250. Instead of picking stocks, you will select among four financial planning firms. These advisers will invest in stocks for you based on one of four strategies. You may change firms at any time, as many times as you like. There is no cost to change firms. The four financial planning firms are (A) The Able Firm, (B) The Baker Firm, (C) The Clark Firm, and (D) The Davis Firm.
The Able Firm follows a TRENDS strategy immediately selling stocks that are falling and buying stocks that are rising. The Baker Firm follows a GROWTH strategy buying stocks in companies that are growing. The Clark Firm follows a VALUE strategy buying “cheap” stocks in companies with a lot of assets but low stock price. All advisers in the Clark firm are Certified Financial Planners. A CFP [certificant] must have years of experience, a college degree with investment coursework, must pass a series of rigorous exams and continually complete ongoing education in investing. The Davis Firm follows an INCOME strategy buying stocks in companies that pay high dividends (income). All advisers in the Davis firm are Certified Financial Planners.
After each round you will see your percentage return (gain or loss) for that round and the overall market return for that round. You may change advisers at any point by clicking on the relevant button: left button/left hand for Able; right button/left hand for Baker; left button/right hand for Clark; right button/right hand for Davis .…
Choose your initial adviser now. You may change at any point by pressing the appropriate button.
Participants went through a series of 36 “market reports” which reported how much the market was up in a given round as well as their specific investments. After the 36th market report, participants received the following message:
For the second half of the game, the adviser firms are (A) The Adams Firm, (B) The Brown Firm, (C) The Cook Firm, and (D) the Dale Firm. All firm strategies are as described previously for TRENDS, GROWTH, VALUE, and INCOME. All advisers in the Adams Firm and the Brown Firm are Certified Financial Planners. Choose your initial adviser now.
This continued for 36 more market reports, at which point the game came to an end. In the first round, all participants were given “flat” market returns for the first 12 reports (0.5% – 3.0%), high for the next 12 reports (10% – 20%), and low for the final 12 reports (-10% to -20%). A similar structure was used for the second half of the game, except returns were presented as high, low, and then flat. The selection of an advisor did not impact returns, and all advisors either did better or worse than the market by 1% – 5% based on a pre-determined sequence.
On average, participants selected CFP advisors 62.5% percent of the time, and that rate was similar during both periods of market under- and over-performance. Advisor switching was more common during periods of poor performance (nearly 75% of all switches occurred during poor performance).
Statistically significant brain activations were found when using a non-CFP versus a CFP during an under-performing market. Russell notes that activation within the anterior cingulate cortex is particularly notable given that it is a region that has been found to be associated with error detection, and particularly error detection within another person. In other words, the fMRI results when a non-CFP experiences under-performance are consistent with the type of brain activity that occurs when we question the errors of others, suggesting that participants may be more questioning of non-CFPs than CFPs during times of poor market performance.
How Financial Planners And Academics Can Better Collaborate In Laboratory Research
The New CFP Board Journal And The Financial Therapy Association (FTA)
Laboratory research will continue to yield important insights on the practice of financial planning. However, as noted previously, there are some challenges related to both funding and getting laboratory research published. While there isn’t much advisors can do to help out with the publishing issue (though contributing to the Center for Financial Planning’s to support its new journal is certainly an option), one way advisors can get more involved is joining and engaging with the Financial Therapy Association.
In practice, the Financial Therapy Association has become the central organization bringing together those conducting research in financial counseling laboratories. Participation gives advisors the opportunity to help generate new research ideas, give feedback to researchers on their studies (as most will gladly welcome feedback to make their research more practical!), and help ensure academics aren’t too isolated from the needs of practitioners (the classic “academics in their ivory towers” concern). And for interested advisors, there may even be opportunities to collaborate on research as well, such as sharing (anonymized) client data or even permitting researchers to do “field work” in the advisor’s real financial planning environment (though still subject to Institutional Review Board [IRB] requirements!).
In addition to opportunities for collaboration, advisors who join the FTA also receive access to the Journal of Financial Therapy (which is the journal most open to clinical and experimental studies that relate to everyday financial planning practice). And, of course, joining also helps provide financial support, which in turn helps the organization grow and continue to build its reach.
Provide Financial Support To Financial Counseling Labs
Another meaningful way to help out with research is through funding. In fact, given the relative youth of financial planning as an academic discipline, a little bit of funding can actually go a very long way. Advisors would likely be surprised how far even a few thousand dollars can go towards funding research that literally shapes the future of the profession.
For advisors who are interested in funding research, the best place to start would be by seeking out labs or clinics that are conducting quality research, and then contacting a lab/program director to begin the conversation. A starting list of programs with on-campus financial counseling labs include:
- University of Georgia
- Iowa State University
- Kansas State University
- University of Missouri:
While not an exhaustive list, other programs which may not have a permanent financial counseling laboratories but do have strong financial planning programs and research faculty include Texas Tech University, The American College, Ohio State University, University of Alabama, and Utah Valley University.
Ultimately, laboratory research will continue to be an important source of new insight into the financial planning profession – allowing us to subject the “art” of financial planning to scientific investigation. Practitioners have a big role to play in the continuing development of financial planning research, and there are many opportunities to get involved. Whether it is by engaging in the literature and applying it in your practice (thereby helping to build the culture of an evidence-based profession), actually getting involved in the research and collaborating with researchers, or providing funding that can lead to new insights and the development of research agendas – both practitioners and researchers have a unique opportunity to continue shaping the future of the financial planning profession going forward.
At the end of 2015, the CFP Board announced that it was forming a new Commission on Standards… a 12-person committee, with a diverse representation across the industry, that was tasked with updating the CFP Board’s current Standards on Professional Conduct, which hadn’t been changed since the last update went effective in 2008. This week, the Commission on Standards released the first draft of its new Proposed Code of Ethics and Standards of Conduct, which expands the scope of when a CFP professional must act as a fiduciary on behalf of clients to include not just when delivering financial planning or material elements of financial planning, but anytime the advisor provides “financial advice”, which is broadly defined to include any time the CFP professional suggests that the client “take or refrain from taking a particular course of action” (which could include even a single product recommendation).
Notably, though, the CFP Board will still allow CFP professionals to earn commissions – akin to the Department of Labor’s fiduciary rule – as long as the advisor otherwise meets his/her fiduciary obligations with respect to the advice itself. And as a result, some critics are still raising the concern of whether the CFP Board’s new standards will still leave open too many loopholes for broker-dealers offering particularly high-commission products. On the other hand, with the Department of Labor’s fiduciary rule forcing substantial reform amongst broker-dealers anyway, including the rise of less conflicts T shares and clean shares, in practice efforts to comply with the DoL’s fiduciary rule could reduce the conflicts that CFP professionals are exposed to, anyway. In the meantime, the CFP Board will be conducting a series of 8 open Town Halls for feedback on the proposed standards, and the release of the standards on June 20th marks the start of a 60-day public comment period, which will end on Monday August 21st, during which anyone can submit a comment on the proposed standards via the CFP Board’s website here.
As digital marketing for financial advisors slowly gains momentum, there is growing interest amongst financial advisors to launch their own blog as a means to showcase their expertise. Yet the challenge, for advisors at both broker-dealers and RIAs, is that any prospective advertising content to the public must first be reviewed by compliance, and the compliance oversight process can make financial advisor blogging difficult – especially for those in a large broker-dealer environment.
This week we discuss blogging as a financial advisor, the compliance rules that apply to financial advisor blogging, and the issues to consider when navigating compliance oversight, both for RIAs and those operating in the broker-dealer channel!
Because in practice blogging is more popular at this point amongst RIAs than broker-dealers, a common question is whether the compliance requirements are different between the two channels. However, the reality is that whether you’re an RIA or a broker-dealer, anything you do that advertises to prospective clients or solicits prospective clients for your business is deemed “advertising”, and is subject to compliance (pre-)review. Technically broker-dealers are covered by FINRA Rule 2210, and RIAs are covered by Rule 206(4)-1, but in the end, both have requirements that compliance should review blog content before it goes out to the public, ensure blog content isn’t misleading, and record and archive blog content for later review. Which means, the key difference between channels is not really the regulatory compliance requirements.
Instead, the key difference is actually firm size. Most RIAs are small (at least by broker-dealer standards), and operate as either solo advisors, or with just a dozen or few advisors as a large RIA. By contrast, mid-to-large-sized broker-dealers may have hundreds or even thousands or brokers. And it’s this size difference that drives major compliance differences for financial advisor blogging between channels. Because in a small (or even “large”) RIA, an advisor is either themselves the chief compliance officer, or likely knows the compliance officer very well. Which means it is easy to get buy-in from the compliance officer to take the time to review the content of a blog. By contrast, a compliance officer in a broker-dealer rarely knows the brokers who many want to blog, and the sheer magnitude of trying to oversee advertising for such a large number of brokers leads to compliance officers to adopt very strict and very limited rules that force brokers to stay inside a small box of activities!
Fortunately, there are some more progressive broker-dealers that have begun to find solutions to allow advisors to blog. But unfortunately, many of those programs have been slow to roll out. For advisors who do want to start a blog, regardless of what channel you are in, there are some things you can do to increase your odds of solving the compliance issues. First, try to work proactively with your compliance department. Explain to them what you want to write about, and, if it’s not related to products, investments, or performance, tell them, because that will make their job easier. Second, write some content well in advance, and send it to them for review. After they’ve seen your content for a while and realize it is not a compliance risk, you may find they ease up a bit.
In the end, the challenges of overseeing such a large number of advisors in the broker-dealer environment have unfortunately squelched the ability of a lot of brokers to engage in blogging, but it’s not because they can’t, or that FINRA won’t allow it. Rather, it’s because broker-dealer compliance departments are struggling to oversee a huge number of brokers that they don’t necessarily know, while the more limited span of oversight at RIAs makes it easier to expedite the process!
Financial Advisor Blogging Compliance In RIAs Vs Broker-Dealers
Now, the reality is that whether you’re at an RIA or a broker-dealer, anything you do that advertises to prospective clients or solicits prospective clients to your business is going to be deemed advertising and is subject to compliance review. In the case of broker-dealers, that’s driven by FINRA Rule 2210, which scrutinizes whether any form of advertising communication is fair and balanced, and not misleading.
In the case of RIAs, it’s slightly different. It’s Rule 206(4)-1, which limits investment advisors from engaging in deceptive or manipulative advertising, particularly with respect to how investment advisors present performance, their track record of recommendations, and any kind of testimonials about their client results. Now, both channels have requirements that firms have to oversee and supervise any advertising content to ensure it’s complying with those rules. And that advertising materials have to be retained for some period of time as well, under a books and records requirement.
While there are some nuanced differences in what’s focused on in those compliance reviews of RIA versus broker-dealer environments, substantively, the key points are actually the same:
- Compliance should review it before it goes out to the public.
- It can’t be misleading about what you do and the results you provide.
- And it needs to be captured, recorded, and archived for later review.
So, generally speaking, any and all blog posts of an advisory firm are going to need to go through this kind of compliance review regardless of whether you’re at an RIA or a broker-dealer.
There’s actually not a big difference in that regard. Now, that being said, there is a major difference in practice in how compliance works when reviewing potential advertising materials, including blog posts, between RIAs and broker-dealers. The difference is size. Most RIAs are small (at least by broker-dealer standards). Many are solo advisors that just have themselves or a handful of staff. Even large independent RIAs often just have a couple of advisors.
There are very few that even have more than a dozen advisors in one firm. Which means the compliance process is much more straightforward. In some cases, the advisor literally is their own chief compliance officer who needs to review their own blog post, which, not surprisingly, gets done pretty quickly when you’re reviewing your own material. Even in multi-advisor firms, the chief compliance officer is often a partner who is reviewing the work of other partners, who has an interest in expediting the compliance review process, especially for a partner who’s already known and trusted, and is trying to grow your joint business.
By contrast, in a broker-dealer, there aren’t just a handful of a dozen advisors. There may be hundreds or thousands. And for wirehouses, more than 10,000, which means compliance has a lot of advertising to review constantly. Even worse, compliance departments in most broker-dealers have very little direct connection to the advisor whose content is being reviewed. In a small RIA, every advisor is probably going to know that chief compliance officer personally, maybe for years or a decade or more. In a mid to large-sized broker-dealer, not so much.
That becomes a problem because it undermines trust between the compliance department and the broker seeking compliance approval. Think about it for a moment. Put yourself in the seat of a compliance officer at a broker-dealer. So your job, your backside, is on the line every time you review advertising for your brokers. You could potentially get fired if you slip up and fail to properly oversee whatever the one dumbest, most idiotic broker in your entire firm might do that brings the whole thing down.
So, not surprisingly, if you want to keep your job as a compliance officer, this is pretty simple. You write strict, limited rules that force advisors to stay in a small box of activities. That makes it easier to oversee and reduces your risk of getting fired. Unfortunately, though, as we see in a practice, it also kind of squelches the ability of a lot of brokers to engage in blogging. Not because they can’t or that FINRA doesn’t allow it. But because the broker-dealer’s compliance department is so struggling to oversee a huge number of brokers that they don’t even necessarily know or trust, that it leaves them to write very limiting compliance rules.
Some of the more progressive broker-dealers have come up with workarounds to this. Some have special teams that review blog content, recognizing the importance of timeliness. Others just grant greater flexibility to top producers or more experienced brokers. Recognizing that compliance doesn’t quite have to be so limiting and restrictive for a subset of brokers who have long since demonstrated that they’re trustworthy, able to follow the rules, and not engaging in risky advertising behaviors.
But unfortunately, these programs have been slow to roll out. we see a lot more of the blogging amongst RIAs than we do amongst broker-dealers. Whether or how it really is at the individual firm still depends on the broker-dealer, how they choose to write their compliance rules, and how they execute their oversight process. Again, there are more progressive broker-dealers that have been willing to grant more latitude to experienced brokers (or are otherwise running some kind of pilot test to make it easier to blog), but we’re getting there slowly.
Advisor Compliance And Allowing Blog Comments
Now, a similar theme around financial advisor compliance for blogging props up when it comes to allowing comments on the blog. This was another recent question we got from Matt, who asked:
“I’m starting to blog and I’m getting pushback from my BD on allowing comments on the blog, which we both know is extremely important to engage audience. So, is this a FINRA thing? Would it be easier if I was an RIA?”
Great question, Matt. Again, this isn’t really a FINRA versus RIA thing.
The primary concern here, from the compliance perspective, is whether the comments on the blog can potentially be construed as testimonials or otherwise misleading statements about your investment results, track record, or your recommendations. Now, as we know, unless you’re literally writing about your investment performance, most blog comments are probably going to have nothing to do with clients giving testimonials about your services. They’re probably comments about actual content of the article or some other investment theme, financial planning strategy, or whatever else it is that you’re writing about.
But nonetheless, compliance officers have an oversight obligation. There’s still an expectation that they’re overseeing your blog comments, even if it’s just to prove they’re not testimonials. Now, in a small firm environment, this can be solved pretty easily. Configure your website to automatically email new comments directly to the compliance officer to review. Most blog and content management systems can do this automatically. But again, in a larger broker-dealer context, that may not be feasible.
The firm may not be built to take all those incoming comments, or you may not be configured to give your broker-dealer compliance department access to manage your blog when those comments appear, so that they can take down the inappropriate ones. Nor does the compliance department necessarily want to do the work, because it’s potentially time-intensive and a resource drain for the broker-dealer compliance department. They may feel like they have bigger fish to fry.
So, the end result is that broker-dealer compliance departments often say, “No comments.” Not because comments are banned by regulators, but because there is something for them to oversee and it makes it more time-efficient for them to just say, “No comments,” and then they don’t have to oversee it. In theory, that can be a problem for a small RIA as well. But again, in a small RIA, I’m more likely to know my compliance officer and be able to say, “Hey, work with me. This will be good to grow our firm,” and get them to do it.
In a broker-dealer, especially when the majority of advisors don’t blog right now, asking a compliance officer to oversee your blog comments just feels like more work to them. So, unfortunately, they often just say, “No.”
Setting Up A Financial Advisor Blog Separate From Your Advisory Firm Website?
I know that for some advisors, this at least starts to raise the question, “Well, then should I just do my blogging separate from my advisory firm website, so I can avoid dealing with all this compliance hassle altogether?” To which I’d answer, “Maybe”, at best, because that will not automatically solve the compliance issue.
Because the reality is that if you’re employed in our financial services industry, whether it’s an RIA or under a broker-dealer, if you’re even going to engage in blogging as an outside business activity, that still needs to be disclosed to the firm. The compliance department still gets to decide whether that’s okay or not, and whether it’s something they need to oversee further. If the focus of your blog is to solicit clients, compliance is likely going to say it’s still part of your advisory firm or broker-dealer activity, and it’s still subject to oversight, even as a separate website.
Because it’s not ultimately about whether it’s on your business website or not. It’s about whether you are engaging in an effort to make recommendations, solicit clients, or otherwise advertise for your services. In other words, what makes compliance need to oversee the blogging is not what website it’s on. It’s how it relates to you providing services or trying to get clients. Now, that being said, I do know some advisors who have launched successful blogs that are separate from their advisory firm website and have separate compliance oversight.
The key points to this approach are, first, it’s still disclosed to compliance that it’s happening. They have to approve of this as an outside activity.
Second, if you want to go down this road, the content cannot pertain in any way to recommending specific products, providing individual investment advice, or talking about your performance or track record at all. Because that immediately scoops it back up in the normal regulation of your activities as an advisor.
Third, don’t talk about investment performance at all, in any way, because again, that has to be overseen as well.
And fourth, don’t solicit clients on that blog. Because if you lead with, “Jim is a financial advisor who’s now taking clients,” at the bottom of every article, you’re soliciting clients and you’re advertising for your services, and the firm is going to need to oversee your advertising efforts. Now, if it’s, “Jim provides this educational website for free. If you want to learn more about what he does, click here,” and the Click Here goes to your separate website with your advisory firm, with all of your advertising that is compliance overseen, that’s probably not an issue for most compliance officers.
Because they don’t need to oversee education, and they don’t need to oversee material that is outside of the scope of regular financial services and financial advising. In fact, some of the best blogs are so specific to a niche that you wouldn’t be talking at all about your advisory services. It’d be about all the non-investment issues of your niche and if the people are so interested in that, they want to talk to you, you can send them to your actual financial advisor website. However, this separate blog approach just isn’t feasible for a lot of advisors.
Because their blogging is so tied to their advisory services, their investment outlook, or their investment views, that they couldn’t separate it if they wanted to. The whole point of the blog is to actually solicit clients and advertise their services. But I thought it’s worth knowing there are at least some advisors that do this separation successfully. You just have to be very clear about drawing the line, and you still need compliance on board with the decision to maintain it separately. Now, of course, if you’re going to run the blog separate from your advisory firm, you do still need some way to get them to your advisory firm.
If you don’t, you’re just giving content away for free and you’re never actually going to capture any business, which isn’t good for business either. That’s actually why I tend to recommend that most advisors put their blogs directly on their advisory firm websites. Because if you’re really trying to get clients, at the end of the day, you want clients to see the firm and you want them to be reading the content on the firm’s website. That’s how you start building awareness of your company’s brand so that you can do business with these people in the future.
But the bottom line here is just to recognize that the obligations of compliance really aren’t that substantially different between RIAs and broker-dealers. The financial service industry as a whole has stringent rules about how advisors advertise to the public and that includes blogging, and it’s true on both sides of the channels. But it is true that RIAs tend to be much smaller than mid to large-sized broker-dealers, where most brokers work.
Which means, it is often easier to work proactively with a chief compliance officer in an RIA to come up with an oversight process that works. While at large BDs, a compliance officer often has no connection to the brokers and risks being fired for whatever the one biggest idiot in the firm might do, so the compliance policies tend to be more restrictive around a lot of things, including blogging. Not because FINRA requires it, but because that’s the dynamic of executing compliance in a very large firm.
Getting Started With A Financial Advisor Blog [Time – 12:03]
For those who do want to get started, here’s my suggestion on moving forward. First, try to work proactively with your compliance department. Contact them. Tell them what you’re trying to do. Be very clear about what you want to write about. Especially if it’s not related to products, investments, or performance, tell them. It doesn’t alleviate them of your compliance burden, but it does make it easier for them. It’s kind of a nice way of saying, “I’m not a threat to your compliance job.”
Second, plan out your expected editorial calendar of content and write your first couple of articles far in advance, and send it in for compliance to review. Yeah, it helps to produce timely blog content. But the reality is that a lot of what you should produce should be long-term, evergreen content anyways, that answers common questions of your clients and prospects, and doesn’t have to be timely. So start with that. Write your first two, four, or six articles that you’re going to put out over the next couple of months. Send them all into compliance at once. You’ll have a lot of lead time. You can start working out the process and the kinks with compliance.
I suspect what you’ll find… The pattern I’ve seen with a lot of brokers who have gone down this road, is that after the first couple of months, once compliance reads a bunch of your articles and realizes that you’re probably not talking that much about investments, performance, or product recommendations (all the stuff that they’re worried about), they may even ease up a bit. I’ve heard from a lot of brokers, in particular, and broker-dealers that say, “Compliance early on was really a pain about the blogging.” But it eased up after a few months of the process once compliance realized they weren’t a threat. And particularly if you can get a dedicated compliance officer that works with you and starts to really understand the nature of your content.
Now, if you’re going to be really focused on investment issues and you want to write an investment commentary, yeah, be prepared that you’re going to have to work much more proactively and push the process a little bit harder to get things to run in a timely manner. Because now, you truly are writing timely content. But most blog content doesn’t even actually need to be that timely, unless you’re specifically trying to promote investment content.
I hope that helps a little as some food for thought around blogging as an advisor, the differences or not between broker-dealers and RIAs, and why it’s less a difference of regulation in the channels and more just a difference of the size of firms, and the challenges that large firms have trying to oversee large numbers of advisors and brokers.
So what do you think? Are actively managed funds going to see a sudden increase in performance due to the changes in broker compensation? Will brokers start pointing to fund performance rather than account performance, since the former won’t include their fees?
In the wake of the Fed decision to begin reducing its balance sheet, speculation abounds. Pundits of all stripes are speculating about what this will do to interest rates, the economy, and the stock market.
The answer is easy. Nothing.
Those commenting often make two types of mistakes – omitting important data and using pop economics instead of real analysis. Let’s consider each in turn.
If we put aside the political debate and merely asked about the impact of reduced demand in a market, what would be our approach? We would take the rate of the change and compare it to the daily volume. If it was very small, we would expect little effect. In a Federal court where I was an expert witness the Fidelity Investments team opined that 1% would be small. While no one really knows, that seems reasonable. Let’s do the math.
The Fed plans to halt replacement of maturing Treasury securities at some point in 2018. We do not know the exact plan, so I’ll make a more aggressive assumption. Suppose that the Fed begins immediately—no replacement of maturing securities. Let’s do the math.
Amount of Treasury holdings expiring in the next five years: $1.4 trillion.
Dividing by five years: $280 billion per year.
Dividing by 250 (or so): $1.12 billion per day.
Total daily volume in the cash Treasury market: $500 billion or so, or about 0.2%.
And this does not count trading in futures markets, where a buyer can hold until delivery if desired.
This is a very deep and liquid market. The error made by many is to compare the size of the Fed balance sheet with net new issuance by the Treasury. Why is this comparison relevant?
The net new issuance comparison makes a common, pop econ mistake. It treats a large and complex market as if it consisted of two parties. This may be easier to understand, but so was the concept of “flat earth.” It leads people, like a top TV bond commentator, to ask, “If the Fed and other central banks quit buying new bonds, who will step in?”
In the last few years we have also witnessed assorted experts asking, “who will buy our bonds?” And then shortly thereafter, shamelessly discussing a shortage of long-term bonds. These are great stories to attract viewers and readers, but a simplistic view of the market. It ignores the millions of participants making up the deep market. This cannot be represented as two parties. A beginning economics class is all you really need. Think about supply and demand in terms of distributions of many players. Consider these simple graphs from a helpful source.
If you look at the chart on the right, you might view the Fed absence from the market as an external shift in demand. This does not affect the plans of other participants, but it does mean less demand at each price, so a shift from D2 to D1. We should expect a lower quantity and price (higher yield), but not a hugely dysfunctional market. During the QE period, I sought estimates from many macro economists about the total effect of QE. Some Fed economists also made a similar estimate – about 1% in the ten-year note.
Over a period of several years, we might expect a gradual adjustment in the ten-year note by 1% — or perhaps less, since some of the balance sheet will be maintained. It is small enough that other factors will be the main drivers.
We can now see why past scary predictions did not come to pass. If every TV pundit was required to pass a two-part test:
- State the size of the bond market;
- Draw and explain one of the charts above…..
…CNBC would have a lot of air time to fill!
In the latest Schwab Independent Advisor Outlook study, a growing number of financial advisors report feeling compelled to do more for clients, without being able to increase their fees to pay for it. A whopping 44% of advisors state they have already begun to provide more services to clients without charging for them, and 40% of advisors are spending more time on each client without increasing fees. Notably, the study does not find that advisors are cutting their fees to compete with robo-advisors and the like; instead, advisory firms are responding to competitive pressures by trying to do more to justify their existing fees in the first place (at the risk of compromising their profit margins over time).
In fact, the pressure to do more and offer a wider range of services for clients was the dominant theme of the study’s future outlook as well, as advisors themselves are increasingly suggesting that the key to differentiation in the future – especially as DoL fiduciary forces more and more competitors into the AUM model – will be offering clients a broader range of services beyond just the portfolio, from tax planning, to philanthropic advice, and health-care planning. In the meantime, as the DoL fiduciary standard itself becomes universal, only 20% of the RIAs in Schwab’s study stated that they anticipate trying to differentiate through a commitment to more stringent standards for advice. Nonetheless, 79% of advisors reported feeling confident about the future of the industry, and expect more opportunities in the next 10 years, particularly as financial planning itself continues to mature.