The Fiduciary Journey

“My grandmother used to call me 'the tortoise,'” Ms. Borzi said. “I was very tenacious. I was very patient. I was very deliberative.” Others might describe her as calculating. That's because the story of the rule's journey from a proposal that was almost universally detested to a rule change that proponents are quick to hail as a necessary safeguard to all retirees, has been meticulously woven into a narrative designed to temper opposition. “The DOL and the White House used their detailed knowledge of the proposed rule to create a narrative before it was even released,” said David Bellaire, executive vice president of the Financial Services Institute. “They did the same with the final rule, creating a narrative that it is vastly improved before anyone had a chance to thoroughly analyze it.” Standing at the center of that narrative is a woman with a hard-shell concept of right and wrong and who was beat back by those who didn't see the black-and-white nature of her ideal. After patching up the battle scars from an early defeat, she regrouped with a powerful duo and conceded to the reality of gray, in one last drive to change the financial advice business forever. Ms. Borzi, a former high school English teacher who stands about five feet tall, is hardly an imposing figure. In fact, she looks more like a favorite grandmother than the tough nut who has sometimes rubbed opponents the wrong way. In a room full of brokers in 2014, Ms. Borzi didn't pull any punches about her take on their business practices. She told them that if their profits depended on conflicted advice, they'd better change the model. The audience seethed. The same unvarnished approach came through in one-on-one meetings with industry representatives, some of whom said she held so tight to her convictions that conversations were often at loggerheads from the get go. The tortoise was largely immovable. Often, though, these qualities are the very ones that help a person endure the darkest days. One day that stood in stark contrast to the April 6 celebration was the post-mortem held in Ms. Borzi's office on Oct. 26, 2011, a few weeks after the original proposal was withdrawn. That measure, introduced the previous year, had been met with a hail of criticism from the financial services industry. It was not only ripped by Wall Street but also generated doubts among investor advocates as to whether it could work. “They weren't aware of the extent of the regulation going on the securities side,” said Felicia Smith, vice president of the Financial Services Roundtable, about the DOL's knowledge in general. “We were never given a consistent answer on what problem they were trying to solve.” Though Ms. Borzi pulled back the proposal, she had no intentions of quitting. Instead, she would fix problems critics highlighted and try again, as she made clear to the visitors in her office in the fall of 2011. “I would characterize her body language as leaning forward and saying, 'This is an important fight to win. This is an important injustice to rectify,'” said Scott Puritz, managing director of Rebalance IRA and one of the 2011 meeting attendees. “'We're going to up our game. We're going to come back.' It was like a great football-coach speech.” Ms. Borzi, who has headed the Employee Benefits Security Administration since the beginning of the Obama administration, was even willing to stake her livelihood on the regulation. “In that meeting, she said, 'What are they going to do? Fire me?'” Mr. Puritz said. Her lengthy congressional experience as a legislative aide on the House Subcommittee on Labor-Management Relations, where Ms. Borzi developed her tortoise-like style of “raging incrementalism,” gave her an idea of how big a challenge it would be to achieve a final rule. (More: Coverage of the DOL rule from every angle) “I knew from my days on Capitol Hill how ferocious the financial services industry is in opposing something,” Ms. Borzi said. “This will sound too Pollyannaish, but I'll say it anyway: It was just the right thing to do. People were being harmed.” Her father once told her, based on advice from his commanding officer in World War II, that a person has to “choose the hill you're going to die on.”

Ms. Borzi selected the fiduciary hill based on insights from DOL career staffers who almost unanimously put investment advice to retirement plans at the top of their fix lists, Ms. Borzi said, because they had seen many small businesses and their employees suffer due to poor guidance from the plans' financial advisers. “It just didn't seem fair,” she said. “I can't say enough about my career people.” But Ms. Borzi and her staff couldn't get the rule over the finish line alone. The biggest difference between 2011 and 2016 — and the decisive factor in making the rule a reality — was winning the strong, public support of President Barack Obama. Although Ms. Borzi knew Mr. Obama from her deep involvement with the health care reform law, the person who was instrumental in bringing him on board was Labor Secretary Thomas Perez, who was confirmed by the Senate in the summer of 2013. Mr. Perez quickly became the “good” cop — the one who listened — to Ms. Borzi's “bad” cop. He promised lawmakers he would talk to all stakeholders about the DOL fiduciary proposal and decide how to proceed. But, no mistaking it, he embraced the rule and gave it the political momentum Ms. Borzi, the policy wonk, couldn't. “It didn't succeed until they wrapped the politics around it,” said Brian Graff, chief executive of the American Retirement Association. “The whole thing wouldn't have gotten started unless Phyllis initiated it. [But] she didn't have the political firepower to get the ball down the field. That's where Perez came in.” Mr. Perez and Ms. Borzi make a good team, according to Dallas Salisbury, president emeritus and resident fellow at the Employee Benefits Research Institute. Both regulators have spent their careers working on issues that center on an individual's rights and protections: Ms. Borzi on workplace benefits and Mr. Perez, as an assistant U.S. attorney general for civil rights, on mortgage lending. “You're talking about a labor secretary and an assistant labor secretary who are two peas in a pod,” Mr. Salisbury said. Their coupling was augmented by deputy assistant secretary Judy Mares, a former director of benefits at big corporations, and deputy assistant secretary Tim Hauser, who deftly conducted four days of hearings on the rule last August. The DOL team achieved a breakthrough in investment advice oversight with their fiduciary rule — which had stymied regulators for decades. Advice first became a top issue during the Great Depression. In response to the financial collapse of 1929, Congress passed the Securities and Exchange Act of 1934, which set the rules for broker-dealers and led to creation of the Securities and Exchange Commission. In 1940, Congress approved the Investment Advisers Act, which is mostly a registration, disclosure and fraud-prevention law that notes an adviser's fiduciary obligation to clients. But the statute does not specify what constitutes fiduciary duty. Instead, the concept has been developed over decades through case law, beginning with the Supreme Court's 1963 decision in SEC v. Capital Gains Research Bureau. The high court held that advisers have a fiduciary relationship with their clients. “You have a standard that's a Supreme Court case,” said Norm Champ, partner at Kirkland & Ellis and former director of the SEC Division of Investment Management. “It's not written down. You can't find a statement in the rules about fiduciary duty” in terms of how to be one. The nebulous concept required advisers to adhere to a best-interests standard with their clients. Brokers, however, would operate under the less-stringent suitability standard, which meant they had to sell products that were appropriate for the individual but also could provide the highest payout to the broker. The difference between the two “has become blurred in people's minds because we allow broker-dealers to call themselves financial advisers,” Mr. Champ said. The confusion persisted as brokerages such as Merrill Lynch started offering fee-based accounts in the 1990s. The SEC proposed a regulation, known as the “Merrill Lynch rule,” that would exempt these accounts from a fiduciary requirement because — based in part on a study it commissioned on compensations conflicts in 1995 — fee-based brokerage accounts benefit investors “by aligning their interests more closely” with the firm and individual broker. But the Financial Planning Association, seeing an uneven playing field and a threat to fee-only advisers, sued the SEC, and in 2007 won. Fee-based brokerage accounts, no matter what type of adviser handled them, would need to involve a fiduciary standard of care going forward. In 2009, the Treasury Department in the new Obama administration issued a report proposing that the SEC establish a fiduciary duty for brokers, no matter the account type, and harmonize it with the regulation for advisers. Momentum continued in 2010, when Congress passed the Dodd-Frank financial reform law. Instead of outlining the fiduciary concept in legislation though, Congress punted to the SEC by including a provision — Section 913 — authorizing the agency to promulgate a uniform fiduciary standard for retail investment advice. “A lot of what is going on is making an old regulatory system work in a new environment,” said Robert Plaze, attorney at Stroock & Stroock & Lavan and former deputy director of the SEC's Division of Investment Management. “Congress tried to do it, and that didn't work out well, and threw it back in the SEC's lap.” But over the last six years, the SEC has failed to act, despite a staff report in 2011 recommending the agency proceed with a fiduciary rule. After studying the issue intensely for the first two years of her tenure, SEC Chairwoman Mary Jo White announced in March 2015 that she personally favors a uniform fiduciary standard for retail investment advice. But she also has repeatedly stressed that she cannot bring a rule to fruition on her own. Proposing a regulation requires the support of at least three of the five SEC commissioners — a tough task given the fact that the two Republican members of the commission have opposed such an action over the years, and some Democratic members have proven skittish as well. Ms. White also is careful to acknowledge the industry's arguments when she talks about a potential rule. "If we do end up at the end of the day really depriving, particularly, retail investors of reliable, reasonably priced advice, then I would consider [us] to have failed in our purpose there,” she told lawmakers in March 2015.

Ms. White has indicated in congressional testimony that the SEC staff has prepared a document outlining a potential rule that is being circulated among the commissioners. She has been careful not to criticize the DOL effort, saying the two agencies operate under different statutes. But the fact that the DOL stepped into this vacuum with an investment advice rule that only covers retirement accounts has incensed financial industry trade groups and some vocal members of Congress. The Securities Industry and Financial Markets Association argues that the Labor Department is not the right agency to regulate investment advice, because its jurisdiction is over a federal retirement law, the Employee Retirement Income Security Act of 1974. “ERISA was not designed to regulate broker-dealers and investment advisers,” said Kevin Carroll, SIFMA managing director and associate general counsel. “When you attempt to do it, [the DOL rule] is what you get.” SIFMA and other industry groups like the Financial Services Institute also have criticized proposed versions of the DOL rule as too complex and costly, and have asserted such a measure would make advice too expensive for investors with modest assets. They have yet to comment in any depth on the final version released April 6. But Congress isn't holding its fire. Threats to the rule came early from this body — and keep coming. Last year, the House approved a bill written by Rep. Ann Wagner, R-Mo., that would halt the DOL rule until the SEC proposes its own fiduciary duty regulation. Other GOP colleagues sought to replace the regulation with legislative language. And in the last few weeks, a resolution moved through the House to kill it outright. Senate action is pe‎nding. Despite the Obama administration's declaration that it would veto such attempts, Capitol Hill is likely to keep the heat on through the appropriations process this fall. Some critics say legislators and Wall Street have insisted the SEC go first on a fiduciary regulation because political divisions at the agency will stall the process. “The industry is unfairly accused of secretly opposing forward progress under [Dodd-Frank Section] 913,” Mr. Carroll said. “That's never been the case. SIFMA and our members have continued to support [a fiduciary standard], even after a cost-benefit analysis showing substantial costs.” But some industry lobbyists, as well as advocates for the DOL rule, said industry intransigence served as a catalyst for the regulation to begin with. “Industry kept insisting there was no problem,” said Barbara Roper, director of investor protection at the Consumer Federation of America. “Their overstatement made [Secretary Perez] skeptical. They overplayed their hand with him.” Between 2011, when the DOL rule was withdrawn, and 2015, when it was re-proposed, the industry missed a chance to offer alternative proposals, according to one financial services lobbyist. “The industry did a happy dance over what it thought was the cadaver,” said the lobbyist, who asked not to be identified. “As an industry, we should have come forward with our own positive vision for legislation to help protect and preserve the best interests of clients in the retirement area.” But another industry lobbyist called that analysis “20/20 hindsight,” and said stopping a determined DOL was always going to be difficult. “I don't know if we would say we missed an opportunity, knowing that the department was working on its re-proposal all along,” said Judi Carsrud, director of federal relations at the National Association of Insurance and Financial Advisors. The DOL and its allies also were ramping up their advocacy game plan. “We formed a more formal coalition at the beginning of 2015,” said David Certner, director of legislative policy at AARP. “We did a better job of communicating than we did in 2010. We did a better job of responding to the criticism.” In fact, Mr. Obama made his presence felt at a February 2015 event at AARP, where he directed the DOL to re-propose the fiduciary rule. It was a major turning point because Mr. Obama's unequivocal support helped keep wavering Democrats on board. “The message at some point shifted from 'That's the DOL's rule' to 'That's the president's rule,'” said Damon Silvers, policy director and special counsel at the AFL-CIO. “It sent a powerful message of who you're messing with if you are against the rule.” Ms. Borzi described the moment of Mr. Obama's speech as “surreal.” “To have the president tell you to do something that you've been trying to do, that's as good as it gets,” she said. “There was the president using the same words we had been using for years to describe the task at hand. It was inspirational. It was invigorating.” But Mr. Obama's appearance rankled the financial industry; it signaled that the fight against the rule would become much tougher. Despite the added White House muscle, it's Ms. Borzi who gets most of the credit for standing firm among industry objections. “They did not bargain on Phyllis Borzi's spine of steel,” Ms. Roper said.  Or her hard shell, which protected each determined step along the rule's considerable journey. The tortoise has emerged not only as a regulator with an accomplishment that defines her career, but also as a more discerning recipient of investment advice. In the middle of April, Ms. Borzi said she was about to fire her broker because he wouldn't provide her with a breakdown of the fees she was being charged. “I don't think he's giving me the best advice,” she said. “I'm going to get a fiduciary.”