The recent fiduciary regulations from the U.S. Department of Labor is something that’s near—but not dear—to the hearts of broker-dealers and their financial advisors. Folks in the industry are still sifting through the rules and figuring out how to navigate this brave new world, so it’s no surprise there was a full house during a panel discussion on the topic on Tuesday at Pershing LLC’s INSITE 2016 conference in Orlando.

“This is the single largest regulatory impact ever in our industry,” said Mike Partnow, a director at Pershing, the wealth management industry custodian and subsidiary of BNY Mellon. “This is a game changer, where 50 percent of your business on average will be impacted.”

Partnow and two of his Pershing colleagues spent more than an hour discussing the ins and outs of the DOL’s controversial fiduciary rulemaking regarding advice for retirement plans under the Employee Retirement Income Security Act of 1974 (ERISA). A large part of the discussion focused on the best interest contract (BIC) exemption that broker-dealers need to have in place in order to conduct some of their existing business activities.

An important consideration concerning these BICs is that they up the regulatory ante.

For example, the contracts broker-dealers currently have with investors go to arbitration if any issues arise. Under a BIC, the DOL will open them up to potential class-action lawsuits, so there’s greater liability risk for broker-dealers, said Danielle Gordon, a vice president in Pershing’s financial solutions group.

“Everyone is taking a harder look at how they’re training and educating advisors, what the contract language will be, and to make sure everybody understands the true spirit of the regulation, which is helping the investor,” she said.

Gordon noted the DOL has specified certain things must be incorporated into a BIC, but each firm will be responsible for customizing the language of the contract.

Meanwhile, broker-dealers will need to take different approaches between how they handle new and existing accounts under the new DOL rules.

“There are some grandfathering clauses within the DOL regulation,” Gordon said. “But I think it’s important that broker-dealers and advisors recognize that going forward doing new business will be a different process,” she said.

The session panelists noted that some broker-dealer firms are afraid of the BIC exemption and how it will affect compensation. Steven Wachtel, also a vice president in Pershing’s financial solutions group, noted that under the DOL conflict of interest rule simply disclosing conflicts regarding compensation won’t solve the conflict.

“You have to address it head on,” he said. “One way is to utilize a BIC exemption. Another way is by eliminating the conflict of varied compensation by levelizing the fees.”

Within the BIC exemption, he explained, the DOL has created a narrow carve-out for something called the level fee fiduciary exemption. “To the extent a firm could qualify for that, it’s another path forward less than the full BIC, or what we call a BIC Lite. To utilize that, a firm has to do three different things.”

First, a firm must provide a written disclosure to the investor acknowledging that the firm and the advisor are fiduciaries. Second, the firm agrees to comply with the impartial conduct standard. And third, the firm must document internally when they move a 401(k) or a brokerage account into a levelized fee account and why that’s in a customer’s best interest.

“To the extent that firms can utilize the level fee fiduciary exemption, it might be a better path forward than relying of a full best interest contract exemption because there aren’t as many things you need to do as you would under a full best interest contract”, such as not having to provide a written contract to the investor, Wachtel said.  
         
While charging level fees is one way to do business in the post-DOL world, it raises questions of how to mesh, say, different mutual fund share classes and the different fees they charge.

“We wouldn’t be changing the actual payments from the fund companies,” Gordon said. “Pershing would look across the different funds to group together funds that pay the same commissions. It’s not necessarily about the share class, it’s about what they’re paying according to their prospectus and we would group those together and then try to put some rules around that so an advisor can’t buy a fund that has a different compensation structure so it stays within a levelized fee account.”

Gordon added that broker-dealers could initiate their own fee-leveling programs by looking at their own investments and what their advisors are selling.
     
One of the longstanding beefs the broker-dealer industry has had with the DOL regulations is that they will raise compliance costs and make it unprofitable to serve clients with small retirement accounts, potentially stranding Main Street investors with no access to professional advice on those accounts.

Gordon said Pershing plans to build small-balance wrap accounts to accommodate low-balance investors to help ensure that their broker-dealer clients can still profitably serve this audience.

She added that Pershing is also boosting the digital tools on its platforms to make it more efficient for advisors to do business, and is rethinking how it can streamline the onboarding and consolidation of new accounts that don’t have as much transparency in their product mix.

One of the basic takeaways from the panel discussion was that the commission business model isn’t dead.

“At Pershing, our platform's book of business is just shy of 50 percent being advisory business,” Partnow said. “Forward-thinking advisory firms are approaching the 80 percent advisory/20 percent commission mark. On average, it’s maybe about 60 percent advisory.

“We expect an acceleration toward advisory [business models], but it won’t be as rapid [as people expect],” he added. “There will always be a need for commission business, whether it’s 529 plans, annuities or buy-and-hold strategies. Just converting a legacy business [to all advisory] won’t make sense for the broker-dealer and advisor, in keeping in mind the whole [DOL] rule is predicated on the best interest of the investor.”