Will investors really get choice tax breaks and investment incentives while advisors get stuck with a new regulator (maybe even the NASD)?

Investors and their planners have a lot to dream about these days. From meaningful tax cuts and juicier investment accounts to long-term care policy incentives and endorsed retirement plan advice, a spate of budget proposals and legislation is shaping up to bring millions of investors that much closer to smart planning and future financial freedom.

That's the good news, and there is a lot of it as lawmakers realize that Americans, especially those of us aging en masse, need as many nudges and incentives as they can provide to help us achieve financial self-sufficiency.

While these incentives will provide a plethora of opportunity for advisors, there are challenges on the horizon, too. The greatest among them is who will regulate planners and what that regulation will look like, especially in contrast to how competitors are regulated.

These issues will be pivotal as the Securities and Exchange Commission floats the notion of a new self-regulator for advisors. At the same time, the SEC is pushing to exempt many wirehouse brokers from advisor registration, even if they engage in advisory activities.

"It's an interesting time for just about everyone," says Barry Barbash, the former director of the SEC's Division of Investment Management and a partner in the law firm of Shearman and Sterling. "The world is changing," adds Barbash, a current director of the CFP Board of Standards, who predicts that the three-year bear market is starting to generate interesting fallout for advisors and the financial services industry at large.

Blurring Lines Of Advisor Regulation

Advisors will likely find life a little harder, at least inside the Beltway. Frankly, three years of bearish stock market returns aren't helping the reputations of any financial service providers, especially those who profess to offer investment advice.

In fact, as the FPA attempts to define the industry and profession of planning for its 28,000 members, resources-strapped regulators are intent on making investment advisor regulation more efficient and effective for the entire industry-and not necessarily in an advisor-friendly way.

Several controversial initiatives are likely to test the mettle of the FPA and its four-person Washington, D.C., lobbying group. In fact, the organization was delivered a blow at the end of January when the SEC, under outgoing Chairman Harvey Pitt, announced without warning it was seeking comment on the creation of a self regulatory organization (SRO) for investment advisors.

Not two weeks before, a high-level FPA contingent had sat with top cops from the SEC, the National Association of Securities Dealers and the North American Securities Administrators Association to cement relationships and lines of communications.

"One of the messages that we took to all three regulators is that while we appreciate the importance of their jobs, we think it's important for them to understand that what they regulate is often a tiny slice of what our members do," says FPA President David Yeske, who attended the meetings with FPA Executive Director Janet McCallen and Director of Government Relations Duane Thompson.

Yeske admits that while regulators seemed receptive, some also used his words against him, asking whether the industry needs more oversight if only "a tiny slice" of planners' work is regulated. That was not exactly the reaction the FPA hoped for. Some advisors believe that regulation is focused heavily on transactions, when they do so much more, says Yeske.

Less than two weeks later and without warning, the SEC announced it was considering recommendations "on ways to involve the private sector in fostering compliance by investment advisors with the federal securities law."

To most eyes, "involve the private sector" means one thing: The SEC wants to appoint an SRO as the first-line regulator for advisors, and worse, it may well be the existing cop on the sales regulation front, the National Association of Securities Dealers (NASD). Because the NASD has suffered more than its share of internal scandals and the majority of its members compete against advisors, many in the profession view them as an unwelcome interloper.

The new flap is the latest incident in a saga that started late last summer, when the SEC's Pitt allegedly admonished NASD Chairman and CEO Robert Glauber for not taking over retail investment advisor regulation. The FPA publicly rebuffed the notion that they would lightly accept NASD regulation in a letter to Pitt, who seemed to deny the allegation. Glauber, too, denied the allegation that he had any interest in becoming advisors' new SRO.

Flash forward to February and, in his waning days as chairman, the beleaguered Pitt manages to get the idea of creating an SRO for advisors on the SEC's public meeting agenda. Among Pitt's other alleged brainchilds: a draft proposal that all advisors be required to create written compliance policies and that firms appoint a chief compliance officer. Some regulators also asked if advisors should be required to have annual outside compliance audits and be required to obtain fidelity bonds.

"We have and would continue to oppose the appointment of NASD as a regulator," says FPA's Thompson. "Frankly, we had hoped the issue of an SRO would die with Pitt's chairmanship, and it still might."

Pitt resigned in the midst of a firestorm after several questionable judgment calls, including the failure to apprise the SEC that his appointment to lead an accounting oversight board, William Webster, recently had chaired the audit committee of a public company now under SEC investigation for accounting shenanigans.

Planning groups are hopeful that the idea for this SRO may never make it onto the agenda of Bush's nominee for SEC Chairman, William H. Donaldson. They are also hoping that as they work on their own regulatory agenda, any SRO that may be created will be within their span of control. The CFP Board of Standards' name, for instance, has been tossed around for years. Still, the next year will be a critical one for the group to decide who and what they want to be in regulators' eyes.

Despite a flurry of rule making in Pitt's waning days, several other crucial advisor rules apparently were still on the burner. Rules specifying securities custody and Form ADV II requirements for advisors have been neglected for a couple years, and there is still no timetable for their finalization.

Equally critical, perhaps, is the pending rule that would exempt brokers from investment advisor registration. Since the SEC said it would not bring enforcement actions against broker-dealers or registered reps who were offering fee-based services for advice they believe to be incidental, the proposal has become a de facto rule, which is the worst of all worlds for advisors, says the FPA's Thompson. "[Wirehouse] reps don't have the same level of disclosure nor do they have a fiduciary duty to clients. It's just confusing to consumers to offer so many different types of protection."

Off the record, however, proponents of the rule say SEC staffers believe it's a kind of Faustian deal-a clear-cut way to stop commission churning because it requires that reps offer fee-based accounts to qualify for the exemption. "If they believe they can eliminate the incentives for churning, then it's a good deal and more important than differentiating advisors from others," says a source.

Real Tax Relief

At the core of the Bush budget proposal are tax breaks. The bid to eliminate double taxation on dividends brought out opponents, including some leading Republicans, even before actual language was formally released. Among other things, critics contend tax-free dividends would decrease retirement savings incentives in favor of regular investing. To counter that, the White House is advancing a proposal to boost tax-free savings and retirement investments in three new accounts: the Lifetime Savings Account (LSA), the Retirement Savings Account (RSA) and the Employer Retirement Savings Account (ERSA).

The changes, if enacted, would change the face of investing and retirement savings immediately, advisors say. Under the Bush plan, the new accounts would replace IRAs, not have income caps as existing IRAs do, and ratchet up annual contribution limits so that everyone, regardless of income, can contribute $7,500 to both the LSA and RSA.

Together, LSAs and RSAs would allow each taxpayer to sock away $15,000 annually tax-free. There would be no tax deductions for LSA contributions, but investors would get tax-free earnings and could make tax-free withdrawals for any reason during the life of the account. RSAs would work the same way, except they would limit tax-free withdrawals to investors age 58 or older or in the case of disability or death. Contribution limits would be tied to future inflation.

ERSAs would replace a variety of employer-sponsored retirement accounts. The account would allow annual contributions per individual of up to $12,000 initially, and that level would increase to $15,000 in 2006. Individuals who are age 50 or older could contribute another $2,000 annually, beginning this year. The ERSAs would follow 401(k) rules, but simplify them by easing discrimination testing and other employer challenges-something the Bush White House believes would provide incentives to employers, especially smaller companies, to offer workplace plans.

"We support expanding and accelerating investment and retirement accounts and raising contribution levels," says Alfred Campos, assistant director of government affairs in the FPA's Washington office.

Still, even proponents admit that the fate of the three new savings and retirement accounts is cloudy, given the looming budget deficit and the fact that they would cost the Treasury billions over the next decade. The reaction of state governments, as they grapple with dwindling coffers, is also uncertain. Democrats, meanwhile, are using a broad brush to paint the proposals as pro-wealthy.

Other interesting news is in the making for advisors and investors regarding workplace retirement advice. As part of Congress's efforts to shore up retirement savings, Senate Minority Leader Tom Daschle (D-S.D.) introduced "The Pension Protection and Expansion Act of 2003" on the first day of the new 108th Congress. The bill would lift long-held Department of Labor restrictions on who can offer advice to retirement plan participants, as long as the advice comes from an independent source. House Education & Workforce Committee Chairman John Boehner (R-Ohio), introduced a similar bill that would open the floodgates of 401(k) advice even further by allowing just about everyone to offer employees advice regarding investment diversification, provided they disclose fees and conflicts of interest first. Both lawmakers introduced their bills last year as well.

While the legislation would open the door for planners, it would also give a green light to representatives of mutual funds, insurers, banks and national brokerages, many of which are exempted from having to register as investment advisors.

That irks the FPA and the CFP Board of Standards, which believe the Boehner bill in particular gives the financial services industry too much leeway to develop its own standards and restraints. "Who will do enforcement?" asks Michael Herndon, director of Public and Government Affairs in the CFP Board's Washington office. Herndon also expresses concern that if nonadvisors are allowed to offer advice in the workplace, they may also be allowed to offer advice on employees' outside investments. "Where will the line be drawn?" he asks.

LTC Tax Incentives

In other action designed to benefit and shore up retirees and their families, Senator Susan Collins (R-Me.) intro-duced a sprawling health-care bill that includes a tax break and other changes to encourage the purchase of long-term care insurance. Among the benefits, the bill calls for individuals to get an above-the-line federal income tax deduction for long-term care insurance premiums. The legislation would also permit LTC policies to be offered for the first time under employee-sponsored cafeteria plans and flexible spending accounts. It also gives individuals with long-term care needs a $3,000 tax credit phased in over four years. The Bush budget is proposing similar LTC insurance tax breaks. The President advanced these changes last year, as well.

"We'd really like to see a stand-alone bill, and we're working with the LTC Coalition to try to find a sponsor for it," says Suzanne Morgan, who specializes in insurance issues as the FPA's assistant director of government relations. The belief is that a streamlined bill will have a better shot at passage. Last summer, a bill that limited the break to lower- and middle-income households passed the House, but was never taken up by the Senate. While the Republican-controlled Congress may look seriously at passing a broader LTC tax credit, it remains a pricey measure that is expected to cost more than $10 billion over a decade.

Collins' bill also provides tax credits for buying health-care insurance, including one to small employers who offer workers coverage. The health-care hot button for this Congress, however, appears to be expanding Medicare to include prescription coverage for seniors.

With the slumping economy, the volatile stock market and the potential cost of war with Iraq looking pricey (military experts expect the assault to cost as much as $200 billion), domestic spending problems may find it tough going in the 108th Congress.