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May You Live in Interesting Times

Can the financial services industry survive regulatory change?

Judith A. Hasenauer, 10/21/2010

There is an urban legend that an ancient Chinese curse is: "May you live in interesting times." If so, financial service sales professionals can certainly feel cursed because these are interesting times--times where the very survival of their businesses may be at risk. Once upon a time we thought we knew all the answers to all the questions affecting our financial service sales professional clients and their licensing, compliance and ethical issues. This is certainly no longer the case.

At every level, the laws, regulations, and standards applicable to purveyors of financial service products are changing and usually becoming more restrictive or making it more difficult to continue doing business as it has been done in the past.

Insurance regulations are requiring determinations of suitability before life insurance and annuity products can be sold. Similar regulations seem to be heading toward requiring disclosure of compensation on sales of insurance products. At the same time, it is very likely that securities sales people (including those that sell variable annuities and variable life insurance) will have greater fiduciary responsibilities to their customers than has been the case in the past. FINRA, the SEC, state securities regulators, and state insurance regulators are all toughening their requirements on the sale of financial services products and on those who sell them. The question arises: Can the financial services industry survive these changes?

Although it often appears that government and its agencies are hostile toward financial services products and those that sell them, they have to admit that both the products and sellers of such products are necessary if the consuming public is to have any hope of saving and investing for future financial security. The requirement that insurance commissions be disclosed to purchasers of life insurance products all but killed the life insurance industry in Australia and in other countries that have imposed them.

There have been several recent articles in the Wall Street Journal regarding the lack of life insurance coverage for middle and lower income Americans. Yet, the media and government officials seem to forget that it is highly unlikely that the average American will wake up in the morning with the thought "I need to buy some life insurance or an annuity today." Although most people have an atavistic understanding that they need the end results such products produce, the impetus to purchase them is seldom self-generated. Life insurance is not bought, it is sold! We dare say that this is also true with other financial services products. The need for a simple approach to investing is what has made the mutual fund industry so successful. Yet, even with the successful growth of mutual funds and their much easier understandability, it should not be lost on anyone that more people rely on professional sales people to assist them with their mutual fund purchases than do it themselves without help.

All of this leaves the financial services professional with a quandary: what to do about the myriad of licenses that are required and that will be expanding in the future. More importantly, what do these licensing requirements do to a person trying to walk the tightrope between making a living and complying with all the requirements?

We have several clients and friends who are financial services sales professionals who regularly ask whether they should continue to be licensed as insurance agents or as FINRA registered representatives receiving their primary compensation in the form of commissions, or if they should all convert to some form of investment advisors who receive their income in the form of fees. From the lawyer's point of view, there is no easy answer to this question. Certainly, if registered representatives are treated as "fiduciaries" in the same manner as trustees and lawyers are treated as fiduciaries, it is difficult to reconcile the concept of receiving a commission for selling a financial product with the commonly understood concept of fiduciary duty.

There are many court cases that have held that a FINRA registered representative has some form of fiduciary duty toward his customers. However, this form of fiduciary duty has never risen to the same level of fiduciary duty owed by trustees and lawyers to their clients. The fiduciary duty owed by a FINRA registered representative is pretty much limited the duty to fairly disclose the risks and costs inherent in the products they sell and to determine that such products are suitable for their customer's needs. The duty has never prohibited receiving commissions for such sales as would be the case with lawyers and trustees. Hopefully, any new imposition of fiduciary duty on FINRA registered representatives would exclude any prohibition of commissions, but it is not clear that such would be the case.

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