A quick analogy, for starts: imagine that you need a new car. While you can easily describe the features you’d like in your new vehicle, you find it hard to choose the best option because you simply are not familiar enough with the stock of newly manufactured cars. Looking for guidance, you head to your local Chevrolet dealership. At the dealership, you describe your ideal car to the salesperson. The salesperson knows that the Mazda CX-5 fits your description perfectly. But since the dealership doesn’t sell the Mazda brand, the salesperson recommends the Chevrolet Equinox, which, remarkably, is immediately available for purchase! The Equinox is actually not ideal for you (it’s a bit too bulky), but it is within your price range. Without knowing that you have better alternatives, you buy the car. The transaction is completed, the salesperson makes a commission, and you take home your new, (unknowingly) less-than-ideal, Equinox.
The above situation represents what is known throughout the financial industry as the “suitability standard,” a standard in which financial brokers may suggest investments that, while not ideal for your situation, are considered “decent”. Worthy of Note: like the Chevy Salesperson, the broker’s loyalty is often not to you, the consumer. Rather, the broker’s loyalty is to the brokerage firm, which pays his salary and provides financial incentives to sell particular investments. These incentivized investments may not be ideal for the consumer, but, as with the car salesperson, they do earn the broker his commission.
Now, suppose that the Chevy salesperson, rather than sell an inferior product for your needs, recommends you visit the Mazda dealership. By placing your best interests above his own, the salesperson is acting as a fiduciary (a fiduciary is someone who has a legal and ethical relationship of trust with you). Although he forgoes his commission in this instance, he also avoids any conflicts of interest.
This latter situation (recommending the Mazda dealership) is exactly what the Department of Labor hopes the new legislation, aptly nicknamed the “Fiduciary Rule,” will push the financial industry towards: financial advice that is in the best interests of the consumer, rather than advice driven by broker profits.
Unfortunately, the proposed rule is not without loud critics. Big life insurance and financial planning companies have fervently declared that this regulation will eliminate financial planning resources for the middle class. Don’t be fooled by their racket: these companies are simply scared that their current business models, which prey on vulnerable populations, have officially been exposed and will become obsolete. Plenty of low-cost resources—such as Betterment.com and Wealthfront.com—offer affordable, fiduciary financial planning and investment options for those with minimal (~$500) assets.
Ultimately, what you need to know about the fiduciary rule is that its purpose is to serve you, the consumer. If you are currently working with a financial broker or adviser, know your rights: ask whether s/he works under the fiduciary or suitability standard. If it’s the latter, you might want to think twice about using that particular broker. Further, when seeking financial advice, always ask why a particular investment is in your best interest. Make sure to ask what alternative, less expensive options are available. Then ask why your financial adviser recommended one investment over some other. While the fiduciary rule is certainly a step in the right direction, the onus is on you to make well-informed decisions.