So You Want to Buy Your Dad's Car?
Janice J Sackley
September 22, 2009
What It Means to Be a Fiduciary
Alas, both of your parents have passed away. As the oldest of four children and the named Personal Representative (or Executor, in some states), it falls to you to dispose of the personal belongings of your folks. That 2009 Honda Accord your Dad bought for himself last year is sitting in his garage. Coincidentally, your 17 year old daughter needs a car to drive herself to school and her part-time job. Solution: you will look up the Kelley Blue Book price and simply "buy" the car from your Dad´s estate by depositing in the estate checking account, three-quarters of the amount you have decided is fair. This seems to solve two problems: eliminating an asset from the estate and getting your daughter a car.
Not so fast. As the personal representative of the estate, you are a fiduciary. Fiduciaries must act in the sole interests of those whom they represent. In this case, you are a fiduciary to your Dadīs heirs, i.e. you and your siblings (assuming the four of you are so named in the will). Even though you think your plan to dispose of the car by buying it is in the best interests of your siblings, it is not an action in the beneficiariesī sole interests because you, the Personal Representative, have a conflict of interest. A fiduciary can NEVER buy, or sell, a piece of property from the account, estate or other entity it is managing.
There is a way to remediate this conflict as your attorney can surely advise you: simply write up what you propose, cite your pricing sources to show how you arrived at a fair price, and ask each of your siblings to sign off on it. You are, in effect, making full disclosure and obtaining consent to the conflict of interest.
This is the heart of how a fiduciary must manage conflicts of interest. I use this example to illustrate a fiduciaryīs obligation because it is a real life situation faced by many of us and our friends. The principal illustrated in this scenario is the Duty of Loyalty taken from the common law of the trust world, and it is the same concept that should be followed by those who give you investment advice about your portfolio. If the person advising you, whether a registered investment adviser, a securities broker, or a financial planner, has a conflict of interest associated with their recommendation, they should disclose that conflict and obtain your consent prior to proceeding with the transaction.
Unfortunately, this process would be very difficult to implement in the world of stockbrokers who earn a commission on each transaction they recommend to you. Yet, brokers who give advice would be held to a "fiduciary standard" under the Obama Administrationīs proposal articulated in the Treasury Dept White Paper, "A New Foundation: Rebuilding Financial Supervision and Regulation". This standard is also proposed in the draft legislation, "Investor Protection Act of 2009." It is not clear if the Administration or the SEC understand the implications of turning the brokerage model on its head by imposing such a standard on commission-based brokers.
I actually think it is a good thing to impose a "Fiduciary Standard" on those who represent themselves to you as giving unbiased advice. But before such drastic changes can be made in how the investment world works for the ordinary consumer, it is important that clear disclosure of the investment professional´s role and manner of payment be made to the consumer.
For example, there is still a place in the world for the stockbroker who makes a commission from product sales and trade executions. The consumer simply needs to be told this fact up front and periodically, in clear language that also points out that the broker does not owe you a fiduciary duty. Such a disclosure might read, in bold ten point font, "Your broker is paid based on commissions charged for each transaction in your account. The broker represents the firm, not the investor." You already obtain a similar disclosure from your real estate broker when you buy a house because generally the agents represent the seller´s interests, even when both the buyer and seller have one. And then if that is the type of service the consumer wants, caveat emptor applies.
It would also be necessary for brokers to stop referring to themselves as "Advisors," "Counselors" or other terms that imply that professionals are working for your interests when they really represents their firmīs interests.
Investment professionals who want to work for the clientīs interests should either register as advisers or work under the auspices of a bank trust department, where they have managed money for more than a hundred years. But both SEC and state-registered advisers need to improve their avoidance of conflicts of interest. Today disclosures are buried in Form ADV or in multi-page agreements and few advisers realize that consent should be obtained to fulfill fiduciary obligations. In fact, an adviser who dares use an affiliated broker for trade execution is engaging in a breach of the Duty of Loyalty (failure to act in the clientīs sole interest) and should be making full disclosure and obtain consent, or still better, avoiding such a conflict altogether.
So if the proposed changes are to come about, the regulators have a lot of work to do to revise the current governing scheme. Congress needs to consider what available regulator has the most experience, with fiduciary attorneys on staff, to regulate under a fiduciary standard. And industry chiefs have a lot of work to do to figure out how to revamp their service delivery models to separate the true fiduciary advisers from brokers.
In the meantime, since these disclosures and consents are not required today by securities regulators (they are by fiduciary regulators of bank trust departments), as a wise consumer you should know who your investment professional works for and weigh any advice accordingly.
Alas, both of your parents have passed away. As the oldest of four children and the named Personal Representative (or Executor, in some states), it falls to you to dispose of the personal belongings of your folks. That 2009 Honda Accord your Dad bought for himself last year is sitting in his garage. Coincidentally, your 17 year old daughter needs a car to drive herself to school and her part-time job. Solution: you will look up the Kelley Blue Book price and simply "buy" the car from your Dad´s estate by depositing in the estate checking account, three-quarters of the amount you have decided is fair. This seems to solve two problems: eliminating an asset from the estate and getting your daughter a car.
Not so fast. As the personal representative of the estate, you are a fiduciary. Fiduciaries must act in the sole interests of those whom they represent. In this case, you are a fiduciary to your Dadīs heirs, i.e. you and your siblings (assuming the four of you are so named in the will). Even though you think your plan to dispose of the car by buying it is in the best interests of your siblings, it is not an action in the beneficiariesī sole interests because you, the Personal Representative, have a conflict of interest. A fiduciary can NEVER buy, or sell, a piece of property from the account, estate or other entity it is managing.
There is a way to remediate this conflict as your attorney can surely advise you: simply write up what you propose, cite your pricing sources to show how you arrived at a fair price, and ask each of your siblings to sign off on it. You are, in effect, making full disclosure and obtaining consent to the conflict of interest.
This is the heart of how a fiduciary must manage conflicts of interest. I use this example to illustrate a fiduciaryīs obligation because it is a real life situation faced by many of us and our friends. The principal illustrated in this scenario is the Duty of Loyalty taken from the common law of the trust world, and it is the same concept that should be followed by those who give you investment advice about your portfolio. If the person advising you, whether a registered investment adviser, a securities broker, or a financial planner, has a conflict of interest associated with their recommendation, they should disclose that conflict and obtain your consent prior to proceeding with the transaction.
Unfortunately, this process would be very difficult to implement in the world of stockbrokers who earn a commission on each transaction they recommend to you. Yet, brokers who give advice would be held to a "fiduciary standard" under the Obama Administrationīs proposal articulated in the Treasury Dept White Paper, "A New Foundation: Rebuilding Financial Supervision and Regulation". This standard is also proposed in the draft legislation, "Investor Protection Act of 2009." It is not clear if the Administration or the SEC understand the implications of turning the brokerage model on its head by imposing such a standard on commission-based brokers.
I actually think it is a good thing to impose a "Fiduciary Standard" on those who represent themselves to you as giving unbiased advice. But before such drastic changes can be made in how the investment world works for the ordinary consumer, it is important that clear disclosure of the investment professional´s role and manner of payment be made to the consumer.
For example, there is still a place in the world for the stockbroker who makes a commission from product sales and trade executions. The consumer simply needs to be told this fact up front and periodically, in clear language that also points out that the broker does not owe you a fiduciary duty. Such a disclosure might read, in bold ten point font, "Your broker is paid based on commissions charged for each transaction in your account. The broker represents the firm, not the investor." You already obtain a similar disclosure from your real estate broker when you buy a house because generally the agents represent the seller´s interests, even when both the buyer and seller have one. And then if that is the type of service the consumer wants, caveat emptor applies.
It would also be necessary for brokers to stop referring to themselves as "Advisors," "Counselors" or other terms that imply that professionals are working for your interests when they really represents their firmīs interests.
Investment professionals who want to work for the clientīs interests should either register as advisers or work under the auspices of a bank trust department, where they have managed money for more than a hundred years. But both SEC and state-registered advisers need to improve their avoidance of conflicts of interest. Today disclosures are buried in Form ADV or in multi-page agreements and few advisers realize that consent should be obtained to fulfill fiduciary obligations. In fact, an adviser who dares use an affiliated broker for trade execution is engaging in a breach of the Duty of Loyalty (failure to act in the clientīs sole interest) and should be making full disclosure and obtain consent, or still better, avoiding such a conflict altogether.
So if the proposed changes are to come about, the regulators have a lot of work to do to revise the current governing scheme. Congress needs to consider what available regulator has the most experience, with fiduciary attorneys on staff, to regulate under a fiduciary standard. And industry chiefs have a lot of work to do to figure out how to revamp their service delivery models to separate the true fiduciary advisers from brokers.
In the meantime, since these disclosures and consents are not required today by securities regulators (they are by fiduciary regulators of bank trust departments), as a wise consumer you should know who your investment professional works for and weigh any advice accordingly.
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