Regulation Best Interest

Regulation Best Interest (Reg BI), adopted by the SEC in 2019 and implemented in 2020, is a rule requiring brokers to act in their customers’ best interest when providing investment advice. It raises the standard of care for brokers above the historical “suitability” standard (investment must be suitable for the customer) toward a “best interest” standard (the adviser recommends the best option or discloses why it is recommending something else).

The suitability problem

For decades, brokers were held to a “suitability” standard: they must recommend investments suitable for the customer’s risk tolerance, financial situation, and objectives. However, suitability is a low bar. A broker could recommend a high-fee mutual fund that underperformed alternatives, and if it was technically suitable (risk-appropriate), there was no violation.

Investment advisers, by contrast, owed a fiduciary duty — a higher standard requiring them to recommend the best option. This created a perverse incentive for financial institutions: they could pay brokers (low duty) more than advisers (high duty) to do the same work. Many investors were steered toward brokers when advisers would have been better (from a duty standpoint).

Reg BI’s four-part standard

Regulation Best Interest requires brokers to:

1. Act on a prudent basis. The broker must have a reasonable basis for recommending an investment — having researched it and understood its characteristics.
2. Disclose conflicts of interest. The broker must clearly disclose conflicts — for example, that the firm makes more commission selling one fund than another.
3. Eliminate or mitigate conflicts. The broker should structure incentives to reduce conflicts. For example, standardizing commissions across products, or disallowing directed commissions that could skew recommendations.
4. Communicate clearly. The broker must disclose the nature of its relationship with the customer and provide honest information.

These sound reasonable but are harder to implement than suitability. Under suitability, a broker just needed to ensure the investment was suitable. Under Reg BI, the broker must affirmatively seek the best option.

The conflict management problem

The hardest part of Reg BI is managing conflicts. A broker’s firm might own an in-house mutual fund. The broker has a conflict: recommending the in-house fund means more profits for the firm. Reg BI requires the broker to disclose this conflict. But disclosure alone may not eliminate it — a customer might consent to the conflict because they like the broker and trust the firm.

Reg BI thus also requires that the firm mitigate conflicts through policy. Some firms have adopted “blackout lists” (certain products the firm owns cannot be recommended). Others have standardized commissions. Still others require broker approval for recommendations in certain categories.

Advisers versus brokers: still a gap

Regulation Best Interest has narrowed the gap between broker and adviser standards, but a gap remains. Investment advisers owe a fiduciary duty at all times. Brokers owe a best-interest duty when providing investment advice, but not when simply executing orders or providing general education. This distinction can be murky — when is a broker “providing advice” versus just responding to customer requests?

Moreover, advisers can have fee structures better aligned with customer interests (e.g., fee-only, no commissions). Brokers are inherently commission-based or flat-fee-based, which can still create conflicts.

Implementation and criticism

Reg BI was controversial. Industry praised it as a reasonable standard that did not go as far as the Obama-era fiduciary rule (which would have made all brokers fiduciaries). Consumer advocates criticized it as insufficiently protective — the rule still allows conflicts, just requires disclosure and mitigation.

Implementation has been uneven. Larger brokers have built sophisticated compliance programs. Smaller brokers have struggled with the cost and complexity. The SEC has brought enforcement actions against brokers for Reg BI violations, though enforcement is still developing.

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