Broker-Dealers, Investment Advisers and the Standards That Apply

The difference is not visible from the interface, is rarely visible from the marketing, and turns on which registration the firm holds and what it is doing at the moment in question.

The two regimes

A broker-dealer effects securities transactions, is regulated under the Securities Exchange Act of 1934 and by FINRA, and — when making a recommendation to a retail customer — is subject to Regulation Best Interest.

An investment adviser provides advice about securities for compensation, registers under the Investment Advisers Act of 1940, and owes clients a fiduciary duty comprising a duty of care and a duty of loyalty. That duty arises under Section 206 of the Act, was established by the Supreme Court in 1963 and was reaffirmed in the Commission's 2019 interpretation.

Regulation Best Interest, precisely

Adopted 5 June 2019 with a compliance date of 30 June 2020, Regulation Best Interest requires a broker-dealer making a recommendation to a retail customer to act in that customer's best interest and not to place its own interests ahead of theirs.

It is satisfied only if four component obligations are all met.

Its scope includes recommendations of account types and of retirement account rollovers, not only recommendations of securities.

Two things Regulation Best Interest is not, and both are routinely misstated. First, it is more than the suitability standard it replaced and less than a fiduciary duty. Suitability asked whether a recommendation was suitable; Reg BI requires acting in the customer's best interest and not placing the firm's interests ahead — a real increase — but it did not impose a full fiduciary obligation on broker-dealers, which was the outcome the industry had been concerned about and did not occur. Second, and more consequential for a customer: it attaches to a recommendation, not to a relationship. Where no recommendation is made, Reg BI does not apply to what the firm does. The adviser's fiduciary duty, by contrast, runs throughout the relationship rather than switching on at a moment. So the two standards differ not only in stringency but in duration, and the duration difference is the one most likely to surprise someone.

The "solely incidental" line

A broker-dealer that gives advice does not automatically become an investment adviser, because the Advisers Act excludes advice that is solely incidental to brokerage and for which no special compensation is received. The 2019 package included an interpretation of that exclusion, addressing in particular the exercise of investment discretion over customer accounts and the monitoring of accounts.

That line matters because it determines which regime governs, and it is drawn by reference to what the firm actually does rather than what it calls itself.

Dual registration, and the hat problem

Many organisations are registered as both. Where that is so, Regulation Best Interest applies when the firm is acting as a broker-dealer and the Advisers Act fiduciary standard applies when it is acting as an investment adviser.

Which means the standard owed can change between one interaction and the next, within the same firm and sometimes the same conversation. The Commission's guidance on how dual registrants should handle this is limited, and the practical consequence is that a customer's protections depend on a capacity distinction they are not always in a position to observe.

Form CRS, and the word it does not use

Both broker-dealers and registered investment advisers must give retail investors Form CRS, a brief relationship summary covering the services offered, the fees and costs, the conflicts of interest, the required standard of conduct, and whether the firm or its professionals have reportable legal or disciplinary history. It is explicitly intended to let investors compare firms on a standardised basis.

Worked observation — the disclosure created to distinguish the two regimes describes them in language that makes them sound the same. Form CRS does not require the word "fiduciary" to be used. Instead both broker-dealers and investment advisers describe themselves as required to act in the customer's "best interest" — which is accurate for each, because that phrase covers an obligation arising either from Regulation Best Interest or from an adviser's fiduciary duty under the Advisers Act. The Commission's stated reasoning was that a common phrase would clarify matters for retail investors regardless of which source the obligation came from. The effect a reader should understand is that the single document designed to help them tell the two apart uses, for both, the phrase that does not tell them apart — and the underlying difference in duration and stringency set out above remains, undescribed by the words on the form. MarketClue takes no position on whether the drafting was correct; the point here is only that a reader who relies on that phrase to identify the standard will not learn it from the phrase.