RED Fl AG REMINDER
By NATioNAL ETHicS ASSociATioN
E&O insurance after the DOL fiduciary rule:
higher costs ahead?
ThE DEPARTMEN T OF l ABOR’S
proposed fiduciary rule is looming
on the horizon. For months, well,
years, the industry has debated
the wisdom (or folly) of this new
regulatory initiative. And it has
blanketed the DOl with comments
intended to lessen the new rule’s
impact on companies, advisors
and clients. But the department
seems intent on promulgating its
final rule next year. Are you ready?
Many observers have worried
about the rule’s impact on investor
choice and access to retirement
education. They have also expressed
concern about how it may increase
the cost of investment advice for
middle-income clients, as well as
increase the administrative and
compliance burdens on financial
product manufacturers and
advisors. But few have discussed
the impact on advisor liability
and costs for errors-and-omission
(E&O) insurance. until now.
The problem, industry observers
suggest, is that the rule includes a
new feature called the Best Interest
Contract (BIC) exemption. This
is designed to allow advisors to
receive compensation, including
commissions, that would likely
create conflicts of interest. It
allows these forms as long as
advisors agree to operate under
the so-called “best interest
To become eligible for the BIC exemption
advisors must promise, via contract, to:
• Provide only advice that serves the client’s best interests.
• Implement policies and procedures that prevent conflicts of interest.
• Clearly disclose all conflicts of interest that make it difficult to meet the
“best interests” standard.
What’s more, the BIC exemption no longer allows companies to require
that customers sign a class-action lawsuit waiver or to limit an advisor’s
liability for breach of contract. This means companies and advisors will
likely face increased litigation costs in the future.
In addition, investment advisors may face higher risks since advice
rendered to individual retirement-plan investors — not just to plan
sponsors — will fall under the purview of the new fiduciary rule. The same
is true for securities brokers and insurance agents who will now be expected
to operate under a higher standard of care without having received much,
if any, prior training.
For these two reasons, some E&O insurers are expecting an increase in
losses due to more advisors operating in a riskier environment. Furthermore, a higher number of class-action lawsuits may likely push E&O claim
costs even higher, resulting in higher insurance costs for advisors.
Bottom line? Financial advisors of all stripes will likely face mounting
E&O premiums following adoption of the new fiduciary rule. Advice from
the National Ethics Association? Advisors should:
• Prepare to adhere to the new
fiduciary rule if it is released
as expected next year.
• Assess and tighten their
business procedures in
order to reduce
client complaints and
resulting E&O exposures.
• Prepare to shop for less
expensive coverage, including
group-sponsored plans and
those designed especially for
low-risk financial professionals. RA