When Is An Accountant An Investment Fiduciary?

Our topic is a critical question that has become even more acute as Washington, DC and New York seek ways to restore the confidence of investors and retirement plan participants. One area, in particular, that is receiving considerable attention concerns the roles and responsibilities of the investment fiduciary.

At the risk of oversimplifying a complex subject, an investment fiduciary generally is defined as a person who has the responsibility for managing someone else's assets. If one accepts the premise that a large majority of accountants provide investment advice, then when might an accountant be considered an investment fiduciary?

In an attempt to answer the question, we should first qualify and refine the previously stated general definition of an investment fiduciary to make it more industry-specific: An accountant may be considered an investment fiduciary when the accountant provides comprehensive and continuous investment advice.

The advantages of this industry-specific definition are that it is applicable whether the accountant: (1) is a registered representative, or a registered investment advisor; (2) is compensated by fees or commissions; and, (3) is operating with or without client discretion. However, as simple and as straightforward as this definition may appear, the determination of fiduciary status is still very difficult, and ultimately is decided by the courts or arbitration boards who review the facts and circumstances of each situation. A financial planner may be deemed an investment fiduciary with one client, but not with another. To illustrate:

Example One: A client has several different brokers and money managers, as well as a portfolio of stocks and bonds that the client has managed on her own. The client asks the financial planner to review her existing portfolio of stocks and bonds, and to make recommendations as to which securities are no longer appropriate and should be sold. The financial planner utilizes several different rating agencies to evaluate the portfolio, and makes several suggested "sell" recommendations, which the client accepts.

Question: Is it likely the financial planner will be considered an investment fiduciary in this example?

Answer: Probably not. The financial planner did not develop a comprehensive investment strategy that reviewed and included all of the client's investment holdings (the services were not comprehensive). It also is implied that the investment review was a one-time or occasional request, and was not an ongoing service provided by the planner (the investment advice was not continuous).

Example Two: A client sells his business for a sizable fortune and, for the first time, has considerable investable assets to manage. He turns to his financial planner for assistance. The financial planner develops an asset allocation study; prepares an investment policy statement; implements the investment strategy with appropriate money managers and mutual funds; and, on a periodic basis, provides performance reports showing how the client is progressing towards meeting his goals.

Question: Is it likely that the financial planner will be considered an investment fiduciary in this example?

Answer: Very likely. The investment advice is comprehensive and continuous.

Example Three: A financial planner is hired by a 401k investment committee to provide specific investment advice to the plan's participants. The planner meets with each participant and shows the participant several different asset allocation models. The participant selects the model that best meets the participant's risk/return profile. The planner then suggests a mutual fund from among the plan's investment options to implement each asset class in the model. The planner and participant agree to periodically meet to review the participant's investment performance.

Question: Is it likely that the financial planner will be considered an investment fiduciary in this example?

Answer: Maybe, and in fairness, this example is included as a trick question. This is a difficult question to answer today, but the ambiguity is likely to be resolved by Congress in the foreseeable future. There are several pension reform bills being debated. One theme that runs through each of the bills is a provision under which plan sponsors would be encouraged to hire investment advisors to provide specific investment advice to plan participants; the scenario outlined in the example above. The explicit or implicit caveat associated with each of the bills is that the advice provider will be considered an investment fiduciary, and the advice provided must meet a fiduciary standard of care.

The specific industry challenge is to clearly identify the demarcation between executing a brokered transaction and investment advice. The compliance regulations and suitability standards of the NASD and various market exchanges adequately address the practices associated with the selling of an investment product and/or the execution of a brokered transaction. But when the investor is provided comprehensive and continuous investment advice, a higher standard of care is justified and warranted - specifically a fiduciary standard of care.

It is worth repeating an earlier statement - the courts and arbitration boards ultimately determine whether or not the financial planner is a fiduciary. Service agreements and contracts that state the financial planner is not assuming fiduciary responsibility may provide some relief and defense. However, in certain situations, such as when the financial planner is providing investment advice to a qualified retirement plan, fiduciary status will be difficult, if not impossible, to shed.

While the determination of fiduciary status is the first challenge, the second is to identify the practices that define the details of an investment process that meet a fiduciary standard of care. The investment fiduciary has the important duty to manage a prudent investment process, without which the components of an investment strategy cannot be defined, implemented, or evaluated. A critical concept for the financial planner to understand is that fiduciary conduct is not evaluated, and fiduciary liability is not determined, by investment performance; but rather by whether a prudent investment process was followed.

Statutes, case law, and regulatory opinion letters dealing with investment fiduciary responsibility provide a good outline of the fiduciary's roles and responsibilities. However, we're still missing the details on the practices that constitute a prudent investment process. For example, we have yet to reach an industry consensus as to whether the fiduciary should prepare a written investment policy statement, let alone the minimum content.

The Foundation for Fiduciary Studies has attempted to fill this breech by identifying the practices that define the details of a prudent process for investment fiduciaries. To date, twenty-seven practices have been identified, each of which is substantiated by legislation, case law, and/or regulatory opinion letters. The practices address the procedures for:

1. analyzing a client's current investment position;
2. diversifying the client's portfolio;
3. preparing an investment policy statement;
4. implementing an investment strategy; and
5. monitoring the investment strategy.

The practices are intentionally written to be equally applicable to investment committee members, trustees, and investment advisors. [The practices can be reviewed and critiqued at the Foundation's website, www.fi360.com.]

In summary, the pension and investment reform initiatives have the same primary objective - the restoration of investor and retirement plan participant confidence. Meaningful reform will have to include the professionals who are ultimately responsible for the prudent management of investment decisions - the investment fiduciaries. Financial planners that provide investment advice should review the services they are providing to determine whether the planner could be considered to have fiduciary responsibility for the management of their clients' investment decisions.

1. The authors of this position paper are not attorneys, and are not rendering legal advice. The subject of investment fiduciary responsibility should be discussed with legal counsel that is knowledgeable in this area of the law.
2. The legal substantiation was provided by the law firm of Reish Luftman McDaniel & Reicher.

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