Robo-advisors are adding human planners in call centers to aid their clients—but they’re still falling short of existing regulations, industry officials say.

Most robo-advisors still fail to meet the requirements of the fiduciary standard and the Advisers Act of 1940, but the industry should learn to live with those  shortcomings, says Scott MacKillop, CEO of Denver-based First Ascent Asset Management.

The Advisers Act states that fiduciary investment advisors owe clients a duty of loyalty, to place a client’s interests ahead of the advisor’s, and a duty of care, to act with competence and diligence that would normally be exercised by a fiduciary in similar circumstances. MacKillop says the key to fulfilling both of these duties is knowledge of client.

Kevin Keller, CEO of the CFP Board, said robo-advisors easily meet that first requirement as they generally lack self-interest.

“Unless, to borrow an idea from Google, they’re programmed to be evil, I don’t see a robo-advisor having a problem,” Keller says. “A digital platform can deliver advice in a way that meets that duty of loyalty, but the duty of care is a much higher hurdle to clear. There’s still a debate to be settled.”

Digital advice providers are being bought by traditional financial firms and external interests, opening up the possibility that these once consumer-friendly platforms may one day be used for more self-serving purposes, says MacKillop.

“The worst that can happen is that we all come to accept that a mechanical portfolio management process that doesn’t involve personalized advice somehow satisfies the Advisers Act’s requirements,” MacKillop says. “As soon as we do that, we open the door for market timers, high-fee product makers, bad actors and anyone else who can get out there with a risk tolerance questionnaire and an internet connection to start providing financial advice.”

MacKillop says that most robo-advisors should not be treated as advisors: Robos lack the ability to make diligent, competent judgments and aren’t able to sufficiently know and serve clients because they’re limited in their ability to collect information.

Robo-advisors typically collect demographic information about the client, then use a risk tolerance questionnaire to select an allocation for a retirement portfolio. But Matt McGrew, chief operations officer for Ada, Mich.-based USA Financial, argues that the questionnaires lack the human intuition required to accomplish the task.

“I don’t know if I’ve ever seen a questionnaire get to the heart of risk tolerance,” says McGrew. “They can provide answers in terms of clients’ feelings about downside risk, but risk tolerance is a more complex question. Most people might end up moderately risk tolerant, but do they understand what that means for their allocations?”

Because robo-advisors are severely limited by the amount of client information they can gather, their recommendations lack the “reasonable basis” required by a fiduciary standard, he said.

Companies like New York-based Betterment, once a purely digital robo-advisor, are now offering access to credentialed financial planners to their clients, he noted. Rather than assigning an individual advisor to each client, inquiries are handled by phone banks staffed by a team of advisors—in Betterment’s case, CFP certification holders.

McGrew says it's possible that the call centers will have enough client information to meet the various fiduciary standards imposed upon advice providers, but firms like Betterment have a long way to go.

“The rule out there is to know your client and understand your client’s needs and goals, but when there’s a phone bank it’s not going to document issues like a change in health status or a change in employment status or an inheritance,” says McGrew. “These call banks are going to be faced with a heavy load to lift if they’re going meet the regulation.”

Even if robo-advisors are ultimately deemed fiduciaries, they may not qualify for safe harbors in another area of the Advisers Act that would require them to register as mutual funds.

The Advisers Act of 1940 is interpreted by Rule 3a-4, an SEC regulation which establishes guidelines distinguishing a mutual fund from an advisory account. The rule allows a pool of investments to be exempt from registering as a mutual fund if it meets certain requirements.

Robo-advisors fall short of the requirements in two areas, says MacKillop.

Rule 3a-4 requires that client accounts be managed on the basis of their individual financial situation and investment goals, and also that advisors make “some personnel” who are knowledgeable about a client’s account and its management “reasonably available” to the client upon request.

While robo-advisors typically make their investment philosophy available online, provide clients with tools and information about their accounts and have started call centers to meet the SEC’s requirements, MacKillop argues that many mutual fund companies do the same and they still have to register as mutual funds under the law.

“Under the Adviser’s Act, they’re either fiduciaries or they’re not, and they’re either mutual funds or they’re not,” MacKillop says. “These are not trivial distinctions. Somehow or another, regulators have to find a niche for them to operate in without violating existing laws.”

MacKillop proposes that a new regulatory niche should cover robos as a type of product platform regulated more like a mutual fund than a financial advisor.

Ideally, new regulations would establish standards for disclosures, portfolio management, fees, marketing and the protection of client data on robo-advisory platforms, while still allowing them to service clients accumulating a retirement nest egg at low cost, he says.

Under MacKillop’s scheme, anything that results in the creation of an investment portfolio and includes a measure of human advice, including hybrid services incorporating both robots and humans, would continue to register as investment advisors.

“Pure” technology providers that offer robo-advisory services solely to advisors would register as investment advisors, while those who simply offer calculators, account aggregation tools and account opening functionality would be exempt from registration. The pure technology providers would be held to the fiduciary standard for all services provided to advisors, while advisors would assume all of the fiduciary responsibility to the client.

McGrew disagrees, arguing that robo-advisors should adapt and evolve to meet the requirements of the Advisers Act and the fiduciary standard.

“I think robo-advisors need to be reconciled with existing law, rather than having a regulatory carve-out that suits them,” McGrew says. “I believe that they should be used hand-in-hand with actual advisors. That human component, the ability to understand and consistently track a client and their goals, is what makes fiduciary advice possible.”

That reconciliation would require not just a call center of advisors, says McGrew, but full personalization of advice and, potentially, a one-on-one relationship with a human planner—but such a move would be costly.

As robo-advice platforms add humans into the equation, it may spoil the robo-advisor’s primary draw: low minimums and low fees. Betterment’s recent announcement was accompanied by a raise in asset-based fees from 15 to 25 basis points.

That’s a shame, says MacKillop, as the low-cost robo-advisor deserves a place in the financial industry.

“We need a niche for these kinds of programs and to regulate them accordingly,” MacKillop says. “I think that robo-advisors are great technology and they provide a good service. When you come down to it, they can’t be fiduciaries because of their nature. They can’t have the kind of knowledge that’s necessary to exercise true fiduciary duties or to build trust with a client.”