Do the CFP Board's New Standards of Conduct Go Far Enough?
The short answer is no. Here's why.
This article originally appeared in Morningstar Direct Cloud and Morningstar Office Cloud.
I'll start with a disclaimer: There are few subjects in the financial-services industry that get me more worked up than fiduciary responsibilities.
Yes, it may seem self-interested in that I'm a fee-only financial planner whose business model involves helping clients understand the benefits of fiduciary advice. (We have an entire page on our website dedicated to explaining why being a fiduciary matters.)
But I also really believe that all investors are best served by having conflict-free advice, and unless that's the case, advisors are fiduciaries in name only.
So, it's through that lens that I view the Certified Financial Planner Board of Standards' new Standards of Conduct, which the organization began enforcing on June 30, 2020. While it has come out with the new catch-phrasey requirement of "fiduciary at all times" for CFPs, from what I see, these obligations fall far short on multiple counts when it comes to providing investors with the true fiduciary protections they need.
The new standards are broken down into 15 categories, which include Fiduciary Duty, Disclose and Manage Conflicts of Interest, and Duties When Representing Compensation Method.
For me, the trouble starts right away with the with the preamble to the standards, the CFP Code of Ethics. Included in the six rules are requirements to "act in the client's best interests" and to "avoid or disclose and manage conflicts of interest."
But how can an advisor truly act in the client's best interests when the Code doesn't require the avoidance of conflicts of interest? Instead the bar merely asks the advisor to "disclose and manage" conflicts of interest.
Here's a more detailed look at three important sections:
The new standards provide that "At all times when providing Financial Advice to a Client, a CFP professional must act as a fiduciary, and therefore, act in the best interests of the Client." It is true that acting as a fiduciary at all times is a new obligation for CFPs. As Michael Kitces notes on his blog, "a fiduciary duty for CFP professionals is not new ... but the original fiduciary obligation applied only when CFP certificants were doing financial planning ... [which] created what was often criticized as a 'loophole'." CFP professionals could "engage in product sales and evade the fiduciary obligation ... by claiming they were not doing financial planning to trigger the rule."
These new rules have words that sound fiduciary: place the client's interests first and act without regard to the advisor's financial interests. But we have to go back to this (italics mine): Avoid Conflicts of Interest, or fully disclose Material Conflicts of Interest to the Client ..."
In other words, the rules do not forbid conflicts of interest. They're supposed to be "managed" and clients are supposed to give "consent" to those conflicts. And by the way, there is no requirement that disclosures are to be made in writing.
Disclose and Manage Conflicts of Interest
So, what are CFPs supposed to disclose and what does managing mean? There are plenty of loopholes.
A CFP professional must now make full disclosure of "all material conflicts of interest" that "could affect the professional relationship," providing "sufficiently specific facts" so that a "reasonable client" would be able to understand. The client must give "informed consent" and the disclosures must be "sufficient to infer that a client has consented."
Talk about vague. Disclosure only applies to conflicts "that could affect the professional relationship." How about if the conflict could affect the client's financial situation? Required disclosure is only "sufficiently specific facts" that a "reasonable client" would understand. In other words, advisors don't have to disclose any and all conflicts, just ones that they believe are sufficient. Importantly, the CFP Board says that "written consent to a conflict is not required." Think how that will play out in arbitration.
Duties When Representing Compensation Method
This section clarifies that advisors can use the label "fee-only" only if the advisor, the advisor's firm, or a related party does not receive any sales-related compensation. Advisors that are "fee-based" must disclose that they are not "fee-only" and that they receive commissions. Sales-related compensation "is more than a de minimis economic benefit ... [and] includes, for example, commissions, trailing commissions, 12b-1 fees, spreads, transaction fees, revenue sharing, referral or solicitor fees, or similar consideration."
Clearly, the CFP Board has crafted an all-inclusive list of sales-related compensation categories. That's good news. It is concerning, though, that there are not strict rules for these disclosures. The standards state that written disclosure or consent is not required. The standards also do not require disclosure of the dollar amount or percentage of compensation. So again, nothing in writing, and no mandated specifics.
While the CFP universe included planners that are not fee-only advisors, it's worth contrasting the CFP standards with the clarity of those of The National Association of Personal Financial Advisors.
NAPFA's Fiduciary Oath states that the advisor shall act in the best interests of the client. Critically, "The advisor shall provide written disclosure to the client prior to the engagement of the advisor, and thereafter throughout the term of the engagement, of any conflicts of interest, which will or reasonably may compromise the impartiality or independence of the advisor."
Finally, a NAPFA advisor is prohibited from receiving any compensation that is contingent on any client's purchase or sale of a financial product.
The new CFP Standards of Conduct certainly take a big leap by requiring a fiduciary duty at all times. Unfortunately, since a CFP professional does not have to be fee-only, these rules cannot possibly ensure that non-fee-only CFP professionals will truly place the interests of their clients first. What if the rules called for full disclosure, including actual dollar or percentage amounts, as well as written disclosure in an easily understandable format and written consent? How many clients would sign that consent?
The bottom line is that by including all advisors within the CFP fold, the Board's choice must weigh between truly protecting end clients or cutting into the profitability of their non-fee-only advisors. That's because, in my opinion, to truly be a fiduciary requires the elimination of financial conflicts of interest--not merely disclosing them.
Sheryl Rowling, CPA, is head of rebalancing solutions for Morningstar and principal of Rowling & Associates, an investment advisory firm. She is a part-time columnist and consultant on advisor-focused products for Morningstar, and she continues to actively run her advisory business, from which Morningstar acquired the Total Rebalance Expert software platform in 2015. The opinions expressed in her work are her own and do not necessarily reflect the views of Morningstar.