United States: Nevada Imposes Fiduciary Obligations On Broker-Dealers And Investment Advisers

Last Updated: July 3 2017
Article by Mark D. Fitterman, Monica L. Parry and Amy Natterson Kroll

Broker-dealers and investment advisers with clients in Nevada should review the fiduciary obligations contained in new amendments to the Nevada financial planner statute that go into effect on July 1, 2017.

On June 2, Nevada Governor Brian Sandoval approved amendments (the "June 2017 Amendments") to the Nevada financial planner statute (NRS 628A) to remove the current exemptions for broker-dealers, investment advisers, and their representatives from the definition of "financial planner"1—thereby imposing a fiduciary duty on these entities and persons in connection with advice provided to clients. The June 2017 Amendments also deem violations of fiduciary duty by financial planners to be violations of the Nevada Securities Act. These changes will go into effect on July 1, 2017.

The Nevada financial planner law was adopted in the 1990s to regulate unregulated individuals who held themselves out as financial planners. Broker-dealers and investment advisers (and their representatives) were expressly excluded from the definition of "financial planner" and were not subject to the provisions of the financial planner law. As a result of the June 2017 Amendments, broker-dealers, investment advisers, and their representatives will now be classified as "financial planners" for purposes of the Nevada Securities Act and will become subject to the following provisions of the financial planner law:

  • Duties—A financial planner has the duty of a fiduciary toward a client. Accordingly, a financial planner shall disclose to a client, at the time advice is given, any gain the financial planner may receive, such as profit or commission, if the advice is followed. A financial planner shall make diligent inquiry of each client to ascertain initially, and keep currently informed, concerning the client's financial circumstances and the client's present and anticipated obligations to and goals for his or her family.
  • Liability—If loss results from following a financial planner's advice under any of the following circumstances, the client may recover from the financial planner in a civil action the amount of the economic loss and all costs of litigation and attorney fees.2 The circumstances giving rise to liability are that the financial planner (1) violated any element of his or her fiduciary duty;3 (2) was grossly negligent in selecting the course of action advised, in light of all of the client's circumstances known to the financial planner; or (3) violated any law of Nevada in recommending the investment or service.

In addition, the June 2017 Amendments amend the Nevada Securities Act (NRS 90) to (1) provide that a broker-dealer, sales representative, investment adviser, or investment adviser representative shall not violate the fiduciary duty toward a client imposed by the financial planner law and (2) authorize the Nevada securities administrator to (a) define or exclude an act, practice, or course of business of a broker-dealer sales representative as a violation of the fiduciary duty toward a client imposed by the financial planner law and (b) prescribe means reasonably designed to prevent broker-dealers, sales representatives, investment advisers, and investment adviser representatives from engaging in acts, practices, and courses of business defined as a violation of such fiduciary duty.

The June 2017 Amendments only would impose a fiduciary duty with respect to advice provided to Nevada clients. This duty, which is currently undefined and subject to future state rulemaking (with the exception of disclosure of compensation), would be in addition to any current client obligations under federal or state law. The June 2017 Amendments also would appear to require broker-dealers and investment advisers to monitor the results of their advised investments in light of clients' financial circumstances, and would create civil liability for broker-dealers and investment advisers based on violations of this new state fiduciary duty.

Thus, any broker-dealer or investment adviser with clients in Nevada that provides investment advice after July 1, 2017 runs the risk of civil suits and state enforcement actions based on a yet-to-be-defined fiduciary obligation that duplicates (and possibly conflicts with) existing obligations to clients.

As noted below, the June 2017 Amendments may conflict with preemption provisions in the federal securities laws, and as a result, it is possible that the June 2017 Amendments may be susceptible to challenge in the federal courts.

Implications for Investment Advisers

The prior law exempted both state-registered and federally registered advisers from the definition of "financial planner." The revised law removes both exemptions. Although it is clear that Nevada can remove the exemption for advisers registered in Nevada, it is unclear whether Nevada has the authority under the Investment Advisers Act of 1940 (Advisers Act) to create a private right of action against, and impose recordkeeping duties on, federally registered advisers. Section 203A of the Advisers Act prohibits a US state from requiring the registration, licensing, or qualification as an investment adviser of any person that is registered with the US Securities and Exchange Commission (SEC) as an adviser, and further provides that state securities commissions may investigate and bring fraud actions against an adviser or person associated with an adviser. The SEC has stated that this provision prevents states from adopting rules governing federally registered advisers.4

Of course, both state-registered and federally registered investment advisers already are subject to a fiduciary standard, which means (among other things) acting in a client's best interest and meeting a duty of loyalty and utmost good faith. Form ADV already requires an adviser to disclose the range of compensation that the adviser will receive in connection with management of a client's assets. Advisers and investment adviser representatives also are expected to inquire about clients' financial condition, risk tolerance, and future financial goals and needs in order to meet the duty of suitability.

However, there are still some uncertainties that arise from this determination by Nevada to apply a statute intended for financial planners to broker-dealers and investment advisers. These include the following:

  • Duties—The June 2017 Amendments could be read to create a continuing fiduciary duty after delivering a financial plan. Registered investment advisers now deliver the plan and state that delivery ends the relationship (i.e., no continuing duty).
  • Delivery of Compensation Information—Delivery timing may be slightly off from Form ADV delivery. Form ADV is delivered to a client at or before the opening of the account, while the June 2017 Amendments call for delivery at the time advice is given.
  • Point of Sale Disclosure—It is not clear if the point of sale disclosure of compensation is intended to be different from the level of disclosure currently provided. In this regard, use of the term "gain" can be viewed as involving a different calculation than fees charged.
  • Broader Inquiry—The obligation under the June 2017 Amendments to "keep currently informed, concerning the client's financial circumstances and the client's present and anticipated obligations and goals for his or her family" arguably is a greater burden than is currently required.

Implications for Broker-Dealers

For registered broker-dealers and their sales representatives, except for advice provided to retirement account clients that is subject to the new US Department of Labor (DOL) fiduciary rule, the obligations under the revised Nevada law go beyond what is required under the federal securities laws and Financial Industry Regulatory Authority (FINRA) rules.5 For non-retirement business, broker-dealers—under current federal law and FINRA rules—are subject to a suitability standard requiring that a recommendation to a client be suitable for that client based on the information provided by the client with respect to his/her financial condition, risk tolerance, and financial goals. Although broker-dealers already are required under SEC Rule 10b-10 to disclose compensation received in connection with securities transactions effected for a client's account, the revised Nevada law appears to require the provision of compensation disclosure at the time advice is given. This may require broker-dealers to provide additional disclosure to the client at account opening indicating the range and type of compensation that may be received by the broker-dealer in connection with recommended transactions. It is unclear at this time whether the new Nevada requirement that a broker-dealer keep informed regarding a client's financial circumstances means that the broker-dealer must constantly monitor the results of its advice against the client's financial needs and objectives.6

State Rulemaking

Finally, there is the possibility of rulemaking by the Nevada securities administrator to define the fiduciary duty imposed by the June 2017 Amendments and to prescribe means reasonably designed to prevent violations of this fiduciary duty. The results of this rulemaking could impose additional obligations on broker-dealers and investment advisers (and their representatives) that differ from, or conflict with, existing or possible new standards under the federal securities laws, FINRA rules, or rules of the DOL with respect to advice provided for retirement assets.

Footnotes

1 The term "financial planner" means "a person who for compensation advises others upon the investment of money or upon provision for income to be needed in the future, or who holds himself or herself out as qualified to perform either of these functions." The definition continues to exclude attorneys, accountants, and insurance agents.

2 It is not clear how this provision would apply if there are no damages.

3 Because the June 2017 Amendments leave the definition of fiduciary duty to subsequent rulemaking by the Nevada securities administrator, it is also not clear at this point what the elements of the fiduciary duty are for purposes of the civil liability provision.

4 See Investment Advisers Act Release No. 1633 (May 15, 1997) ("On its face, section 203A(b)(2) preserves only a state's authority to investigate and bring enforcement actions under its anti-fraud laws with respect to Commission-registered advisers. The Coordination Act does not limit state enforcement of laws prohibiting fraud. Rather, states are denied the ability to reinstitute the system of overlapping and duplicative regulation of investment advisers that Congress sought to end." (text at nn.155-56)).

5 In addition to the current change in Nevada law, courts in a few states have imposed fiduciary standards on broker-dealers. In a 2012 study published in the Journal of Financial Planning, authors Michael Finke and Thomas Langdon reported that courts in four states have imposed fiduciary obligations on broker-dealers:

"Four states have imposed an unambiguous fiduciary standard on broker-dealers (fiduciary states): California, Missouri, South Dakota, and South Carolina. California, Missouri, and South Dakota courts expressly impose a fiduciary duty on broker-dealers. California courts, for example, have held that a broker's fiduciary duty requires that he or she act in the highest good faith toward the customer (Hobbs v. Bateman Eichler, Hill Richards Inc. 1985). Missouri courts have held that 'stockbrokers owe customers a fiduciary duty. This fiduciary duty includes at least these obligations: to manage the account as directed by the customer's needs and objectives, to inform of risks in particular investments, to refrain from self-dealing, to follow order instructions, to disclose any self-interest, to stay abreast of market changes, and to explain strategies' (State ex rel Paine Webber v. Voorhees 1995). South Dakota courts have held that securities brokers owe the same fiduciary duties to customers as those owed by real estate brokers, including a duty of utmost good faith, integrity, and loyalty, and a duty to act primarily for the benefit of another (Dismore v. Piper Jaffray Inc. 1999). While South Carolina courts have not expressly stated that broker-dealers must live up to a fiduciary standard, the courts have imposed duties commensurate with those required when a fiduciary duty applies, including a duty to refrain from acting contrary to a customer's best interest, avoid fraud, and communicate information to the customer that would be in the customer's advantage (Cowburn v. Leventis 2005). South Carolina courts have clearly imposed a duty of care commensurate with the duty required by a fiduciary that exceeds the suitability standard that applies under federal law to broker-dealers."

Michael Finke and Thomas P. Langdon, The Impact of the Broker-Dealer Fiduciary Standard on Financial Advice, Journal of Financial Planning (July 2012).

6 We note that Section 15(i) of the Exchange Act prohibits a state from establishing, among other things, rules requiring a broker or dealer to make and keep records. As a result, to the extent that the June 2017 amendments can be viewed as creating recordkeeping obligations, they may violate this preemption provision. We also note that other preemption issues may be implicated if this actiion is viewed by courts as an attempt to bootstrap violations of the federal securities laws into state violations.

This article is provided as a general informational service and it should not be construed as imparting legal advice on any specific matter.

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