Journal of Financial Planning: September 2019
interview by Michael A. Branham, CFP®
Michael A. Branham, CFP®, is 2019 chair of the FPA Member Advocacy Council (MAC), which serves as FPA’s official mechanism to gather feedback from members on activities and programs of regulatory and certifying bodies. He is a partner and senior financial planner at The Planning Center, Inc. He served as president of FPA in 2013.
Leo G. Rydzewski is general counsel, corporate secretary, and managing director of professional standards and legal at CFP Board. He served as the CFP Board staff liaison to the Commission on Standards, the volunteer group that recommended to CFP Board’s Board of Directors what the Code of Ethics and Standards of Conduct should include. He also serves as the staff liaison to the Standards Resource Commission, the volunteer body charged with developing proposed Code and Standards guidance materials.
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CFP Board’s new Code of Ethics and Standards of Conduct go into effect Oct. 1. The FPA Member Advocacy Council surveyed FPA members in June to gauge their readiness for complying with the new Code and Standards and to field questions. The following is an edited transcript of an Aug. 5 interview, during which FPA’s Mike Branham, CFP®, on behalf of FPA members, asked CFP Board’s Leo Rydzewski a selection of questions members shared in the survey.
Branham: The first question is: it’s my understanding that as a fee-only RIA, there’s really nothing our firm needs to do differently. Is that a correct assumption?
Rydzewski: We should start the conversation by referring FPA members to the guidance resources that CFP Board already has issued, which includes a guide for fee-only CFP® professionals. The guidance materials are collected and stored online at CFP.net/code. There you will find a wide variety of materials, including the Code of Ethics and Standards of Conduct, the “Roadmap to the Code and Standards,” answers to some frequently asked questions, and case studies applying the Code and Standards. That website will be updated as we release additional information.
A guidance document CFP Board issued back in May that’s particularly relevant to the question you’ve asked is titled “Implications of the Code and Standards for Fee-Only CFP® Professionals.” CFP Board issued this document in response to a request from the National Association of Personal Financial Advisors.
As set forth in this guidance document, when the Code and Standards becomes effective, all CFP® professionals will be committed to acting as a fiduciary when providing financial advice to their clients. It’s important to know what the fiduciary duty requires. It’s an objective standard that requires a CFP® professional providing financial advice to a client to fulfill the duty of loyalty, the duty of care, and the duty to follow client instructions. The Code and Standards provides explanations for each of those duties. There may be circumstances where CFP Board’s fiduciary duty is broader than what the law requires.
Our Code and Standards also requires a CFP® professional to make full disclosure of all material conflicts of interest with their client that could affect the professional relationship and obtain the consent of the client before providing any financial advice regarding which the professional has a material conflict of interest. A CFP® professional is required to manage material conflicts of interest by adopting and following business practices reasonably designed to prevent material conflicts from compromising their ability to act in the client’s best interest.
There is no business model or compensation method that eliminates all conflicts of interest. CFP® professionals who provide financial advice to clients on a fee-only basis also must disclose and manage their material conflicts of interest. We’ve pointed out a couple of circumstances where those conflicts may arise. One way may be when a CFP® professional is compensated based on a percentage of assets under management and is considering whether to recommend that the client either contribute to investments not managed by the CFP® professional or use investments to pay debt. In each circumstance the interest of the professional and the client are adverse because the advice may reduce the value of assets under management and the fee that the CFP® professional may earn.
Another way that a conflict may emerge is when the CFP® professional is providing financial planning for an hourly fee and is determining the number of hours to charge for the services provided. In that circumstance, the interest of the CFP® professional and the client are adverse, because the more hours billed, the more compensation the client must pay. The CFP® professional needs to exercise due care in determining the amount of time necessary to complete the work and charge the client only for the time spent providing those professional services.
Fee-only CFP® professionals likely also would be interested in the duties when representing the compensation method standard set forth in our Code and Standards. I won’t describe that in detail here; it’s largely the same as CFP Board’s interpretation of the existing standard. However, the revised standard goes into much greater detail and makes a few updates.
Fee-only CFP® professionals also should be aware that our standard for determining when financial planning is required also has been updated. We’ve identified three circumstances in which that’s the case. One of our guidance resources, the “Roadmap to the Code and Standards,” provides a decision-making tool that CFP Board developed to assist in making that determination.
The Code and Standards also addresses the situation when a CFP® professional is required to comply with the Practice Standards for the Financial Planning Process, but the client does not agree to engage the professional to provide financial planning. The Code and Standards identifies four options should that situation arise.
The Code and Standards also has an extensive list of circumstances—we call them the “Relevant Elements of the Client’s Personal and Financial Circumstances”—that a CFP® professional may want to address with the client, including in a financial planning engagement.
The revised Practice Standards have more detailed requirements for the financial planning process, and it makes other important structural refinements. We’ve expanded the financial planning process from six to seven steps.
The Code and Standards also requires CFP® professionals to provide eight categories of information to the client, some of which may not be required under the existing regulatory structure. We also identify whether the information must be provided orally or in writing, and the Code and Standards identifies when a CFP® professional must disclose material changes or updates.
Some other standards warrant special mention. These include the duty of confidentiality and privacy; the duties when recommending, engaging, and working with additional persons; the duties when selecting, using, and recommending technology; how CFP Board will handle bankruptcy; and obligation to report information to the CFP Board. I won’t go through them in detail right now but they are discussed in the “Implications for Fee-Only CFP® Professionals” guidance document that we’ve issued.
Branham: Great, thank you. As a fee-only planner working within a fee-only RIA, we received the “Implications for Fee-Only CFP® Professional” guidance document in May and found it incredibly useful.
The second question that was posed to us is this: I am confused about what constitutes a financial plan. I provide an investment policy statement (IPS) to my clients that appears to me to fulfill the requirements of a financial planning document, but it is not titled as such. Notably, it only covers the areas in which we will be offering advice. For example, if the client is satisfied with their insurance coverage, it does not address that area. Would that be considered deficient?
Rydzewski: This appears to raise three issues. The first issue is whether the CFP® professional must deliver a document titled “financial plan” to meet the requirements in CFP Board’s Code and Standards. The Code and Standards recognizes that financial planning does not necessarily constitute a document or written deliverable. The Code and Standards focuses on financial planning and uses the term “financial plan” only once, in the definition of financial advice, to make clear that a recommendation that a client take or refrain from taking a course of action with respect to the development or implementation of a financial plan constitutes financial advice. There is no requirement in the Code and Standards that a CFP® professional deliver to the client a document titled “financial plan.”
The second issue concerns the circumstances in which a CFP® professional must provide financial planning to a client. The Code and Standards includes a standard for when a CFP® professional must comply with the Practice Standards for the Financial Planning Process and therefore must provide financial planning. This is in section B of the Standards of Conduct.
There are three circumstances in which a CFP® professional must comply with the Practice Standards. The first circumstance is when the CFP® professional agrees to provide or provides financial planning. The second is when a client has a reasonable basis to believe that a CFP® professional will provide or has provided financial planning. And the third circumstance is when the CFP® professional is providing financial advice that requires integration of relevant elements of the client’s personal and financial circumstances in order to act in the client’s best interest.
It appears that the individual who submitted this question has not explicitly agreed to provide financial planning. The facts don’t suggest that the client would have a reasonable basis to believe that the CFP® professional is providing financial planning. So the question becomes: is the individual providing financial advice that would require integration of relevant elements of the client’s personal financial circumstances?
CFP Board has developed a series of five “integration factors” we would examine in making that determination: (1) the number of relevant elements of the client’s personal and financial circumstances that the financial advice may affect; (2) the portion and amount of the client’s financial assets that the financial advice may affect; (3) the length of time the client’s personal financial circumstances may be affected by the financial advice; (4) the effect on the client’s overall exposure to risk if the client implements the financial advice; and (5) the barriers to modifying the action taken to implement the financial advice.
In this individual’s situation, we don’t have the facts that would allow us to make that determination, but the client and the CFP® professional appear to have deliberately limited the scope of the engagement, and the client may not want to engage the professional for financial planning. In that circumstance, a CFP® professional has a number of choices: (1) to not enter into the engagement; (2) to limit the engagement to services that do not require application of the Practice Standards and describe to the client the services the client requests that the CFP® professional will not be performing; or (3) provide the requested services after informing the client how financial planning would benefit the client and how the decision not to engage a CFP® professional to provide financial planning may limit the financial advice, in which case the CFP® professional is not required to comply with the Practice Standards. Of course, a fourth option is to terminate the agreement.
The third issue is whether the CFP® professional is required to define the scope of engagement in writing. If the CFP® professional is providing or required to provide financial planning, then they’re also required to provide information to a client in writing, in one or more documents.
One of the categories of information that a CFP® professional who is providing financial planning must provide to the client is the terms of the engagement between the client and the CFP® professional—including the scope of the engagement and any limitations, the periods during which the services will be provided, and the client’s responsibility. It’s important to note that a CFP® professional is responsible for implementing, monitoring, and updating the recommendations unless they’re excluded from the scope of the engagement.
With respect to this question, if the CFP® professional will not provide insurance services, then they must not include insurance services in the scope of the engagement. If the CFP® professional is required to provide financial planning, and the client does not want the financial planning to include insurance services, then the client should be informed that the decision not to include insurance services may limit the financial advice.
Branham: This next question follows a similar track: we are discretionary investment advisers/portfolio managers. Because we manage a large portion of client funds for a long period of time, it seems that according to the new Code and Standards we’d always be providing financial planning, and I will always have to follow the Standards unless the client and I agree otherwise. What would be the best way for me to follow the Practice Standards and show that I have, but within the limited scope of what we do?
Rydzewski: This question and the preceding question raise very similar issues. We have provided, and will continue to provide, guidance materials that address the line between financial advice and financial planning and evaluate particular factual circumstances against the factors I’ve just described.
These case studies are hypotheticals that we’re issuing to show CFP® professionals how CFP Board would apply the Code and Standards to specific circumstances so that they may use the guidance materials to determine, under their own sets of facts, when they are required to provide financial planning.
So here, we would need to know additional information to determine whether financial planning is required, but the individual is correct that the portion and amount of the client’s financial assets that the financial advice may affect is one of the five factors CFP Board would evaluate in making that determination. And once financial planning is required, there is information that must be provided to the client in writing.
Here, the individual appears to be asking: what do I need to do about documentation? What do I need to do to show that I have followed the Practice Standards?
The best way to demonstrate that you’ve followed the Practice Standards is through documentation. The Code and Standards provides that a CFP® professional must act prudently in documenting information as the facts and the circumstances require, taking into account the significance of the information, the need to preserve the information in writing, the obligation to act in the client’s best interest, and the firm’s policies and procedures.
There are myriad ways in which a CFP® professional might be providing financial planning. It would be impractical for CFP Board to be prescriptive in describing each circumstance in which documentation is required. It is for that reason that CFP Board adopted a principles-based standard for requiring documentation.
Even when CFP Board’s Code and Standards does not require documentation, a CFP® professional should consider, as a best practice, documenting the steps that they have taken in providing financial planning to a client. In response to this particular question, the best way for them to demonstrate that they’ve provided financial planning is to maintain internal documentation reflecting what work has been performed.
Branham: Why is there a distinction between financial advice and financial planning? How does it help our clients to separate them out?
Rydzewski: CFP Board has developed different standards for financial advice and financial planning. The definitions of financial advice and financial planning are available in the glossary to the Code and Standards. Financial planning is a collaborative process that helps maximize a client’s potential for meeting life goals through financial advice that integrates relevant elements of the client’s personal and financial circumstances.
A CFP® professional provides financial planning through financial advice. Financial advice includes communications about a wide range of matters that reasonably would be viewed as a recommendation that the client take, or refrain from taking, a particular course of action.
In short, the scope of financial advice is broader than the scope of financial planning. Not all financial advice requires financial planning, but all financial planning requires financial advice. Some clients may want to receive a limited scope of financial advice without the comprehensiveness of financial planning.
CFP Board’s “Roadmap to the Code and Standards” contains several pages that describe the difference between financial advice and financial planning. We’ve also issued some case studies that analyze a hypothetical set of facts and ask whether the CFP® professional in the hypothetical is required to provide financial planning.
The difference between financial advice and financial planning is important to a client, because a client needs to be able to understand what advice it is that they’re receiving and how the scope of that advice might be different from financial planning.
Branham: The next question reads: 90 percent of my business is advisory under the CFP Board fiduciary rules; 10 percent is commission. What documents can we provide to clients to disclose our fiduciary role or lack thereof?
Rydzewski: The new Code and Standards provides that a CFP® professional is required to act as a fiduciary at all times when providing financial advice to a client. This requirement applies regardless of whether a CFP® professional is paid through a fee or through sales compensation, which includes commissions.
When providing financial planning to a client, a CFP® professional is required to provide certain information to the client in writing. The “Roadmap to the Code and Standards” includes a financial advice engagement disclosure guide and a financial planning engagement disclosure guide that describe what information a CFP® professional must provide and how that information must be provided. CFP Board has not been prescriptive with respect to how that information is provided to the client. These guides identify existing documents that may contain the required information. You may find these guides helpful in determining whether your firm’s existing documents already contain the information that must be provided to a client.
Branham: The next question is: if I am providing financial planning, does an official agreement (with compensation arrangement) need to be signed, or can the service be free of charge or included with other paid services without official documentation, if I am acting in the client’s best interest?
Rydzewski: The short answer is no. An official agreement does not need to be signed. But let’s walk through this one a little bit more.
When providing, or required to provide financial planning in accordance with CFP Board’s Practice Standards, a CFP® professional is required to provide to the client, in writing, the terms of the engagement between the client and the CFP® professional or their firm, including the scope of engagement and any limitations, the periods during which the services will be provided, and the client’s responsibilities.
This information may be provided to the client in one or more documents. It does not have to be contained within the same document. A CFP® professional is required to provide this information in writing even if the financial planning is being provided free of charge or is included with other paid services.
The Code and Standards does not require a client’s signature. However, obtaining the client’s signature may be a useful practice for a CFP® professional to follow, at least in some circumstances.
Branham: For my own edification, would it be fair to say that it’s a best practice for FPA members to have an agreement specific to any pro bono work that they’re doing to ensure that they meet this standard?
Rydzewski: The standards that apply to pro bono work are the same standards that apply to work for which a CFP® professional is being compensated. Under CFP Board’s Code and Standards, a CFP® professional is required to provide the pro bono client with certain information. If financial planning is being provided, then most of that information must be provided in writing. The fact that the client is not paying does not alter the CFP® professional’s duties under the Code and Standards.
Branham: The next FPA member-submitted question states: I’m not clear about documentation when a question is asked of me and I answer (give advice), but the person has not “engaged” me to provide services. For example, what if I’m riding on a golf cart with someone I’ve never met before, and they ask me what I do? Then they ask me questions pertaining to their personal situation, and I know I’m probably never going to see them again?
Rydzewski: CFP Board’s Code and Standards does not have a documentation requirement for non-clients. Therefore, if the person riding in the golf cart is not a client, then there is no documentation requirement.
The new Code and Standards requires a CFP® professional to act as a fiduciary when providing financial advice to a client. The glossary defines a “client” as any person to whom the CFP® professional provides or agrees to provide professional services through an engagement. An “engagement” under CFP Board Standards is an oral or a written agreement, arrangement, or understanding. So if there is no agreement, arrangement, or understanding that the professional will be providing professional services, then the person receiving the information is not a client and the CFP® professional does not have a fiduciary duty.
The glossary also defines financial advice to include a communication that, based on its content, context, and presentation, would reasonably be viewed as a recommendation that the client take, or refrain from taking, a particular course of action with respect to a variety of financial matters.
Here, based upon the information provided, it’s not reasonable to believe that the communication with the golf cart rider was a recommendation to take a particular action or that this communication established a client relationship. CFP Board is not attempting in the Code and Standards to rewrite contract law; general principles of contract law will inform whether or not there is an engagement under CFP Board’s Code and Standards.
Branham: Okay, next question. Where do I get these different types of documentation to provide to clients? Do I create these documents myself? Is my broker-dealer going to provide them? Is CFP Board going to provide these documents?
Rydzewski: CFP Board’s “Roadmap to the Code and Standards” discusses the information a CFP® professional must provide to a client. It includes a chart that shows, both for financial advice and financial planning, the categories of information to be provided, and whether the information must be provided in writing.
The roadmap also includes a financial advice engagement disclosure guide and a financial planning engagement disclosure guide. These guides provide examples of existing documents that already may contain the information that is required to be provided to a client under the Code and Standards.
It’s possible that existing documents from a CFP® professional’s firm already provide the information that is required by CFP Board’s Code and Standards. Many firms also are updating their documents so that the information the Code and Standards requires will be contained in the firm’s documents.
CFP Board’s Code and Standards is not prescriptive in describing a particular document that must contain the information. Instead, CFP Board’s Board of Directors opted to be flexible to allow CFP® professionals to decide where best to provide that information.
Branham: In addition to the resources available at CFP Board’s website, CFP.net/code, the FPA MAC (OneFPA.org/advocacy) is developing a toolkit in conjunction with some of our members, so when it comes to documentation or disclosures or agreements, we will make templates available to FPA members over the coming weeks and months that will help in the compliance of the new Code and Standards.
The last question that was submitted by an FPA member reads: in my role as a broker for other professionals who may be CFP® professionals, does my interacting with their clients create a fiduciary relationship by extension?
Rydzewski: It would be helpful to have some additional facts. If a CFP® professional is providing financial advice to a client, then the fiduciary duty applies. Here, it’s unclear what the broker is doing. Is the broker being provided a directed order and then filling that order? CFP Board has made clear that responses to directed orders are not financial advice, and thus are not subject to the fiduciary duty. To the extent financial advice is provided, the fiduciary duty would apply to the client.
Branham: I want to build on this one a little bit with additional facts. Let’s give an example of a CFP® professional working with somebody who specializes both in the sale and analysis of long-term care insurance. As a practitioner, I recognize that they can add value in a conversation with my client, so I engage them to discuss with me and the client all of the different options that client might have with respect to putting in place long-term care insurance.
So based on the question that was asked, does that long-term care broker have a fiduciary duty to my client when it comes to delivering or guiding that advice? And if so, who is held accountable? Do you hold me accountable for their actions or advice, or is the professional—who may not be a CFP® professional—accountable to that advice?
Rydzewski: It sounds as though you described a situation in which you brought in another CFP® professional to interact directly with the client to provide insurance services. That CFP® professional is providing financial advice to the client and has a fiduciary duty when doing so.
In this circumstance, the scope of engagement with the client would not include the financial advice provided by the third party. The scope of engagement would include recommending or engaging the third party. In that instance, the CFP® professional must satisfy the duties when recommending, engaging, and working with additional persons standard. More particularly, the CFP® professional must have a reasonable basis for the engagement or recommendation based upon the person’s reputation, experience, and qualifications. But the CFP® professional does not have a fiduciary duty with respect to the financial advice being provided by the third party provided that the financial advice is specifically excluded from your scope of engagement, and the client is provided with information that would enable him or her to understand that the advice is being provided by a third party and not by you.
Branham: Thanks Leo, I appreciate you clarifying that for me.
Rydzewski: You’re welcome, Mike. Thank you for the valuable work that you’re doing on behalf of FPA and the MAC and for inviting me into this conversation.