SAMPLE QUESTIONS FOR EXPERT MASON A. DINEHART

 WHEN BROKERS SHOULD BE HELD TO A FIDUCIARY STANDARD

PLEASE STATE YOUR OCCUPATION

BRIEFLY DESCRIBE YOUR EDUCATIONAL BACKGROUND

PLEASE DESCRIBE YOUR EMPLOYMENT EXPERIENCE

WHICH SECURITIES LICENSES DO YOU HOLD OR HAVE YOU HELD

DO YOU HAVE ANY PRIORS ON YOUR RECORD

YOU WERE ASKED TO REVIEW THE ACCT. HISTORY OF MR.

WHAT DOCUMENTS HAVE YOU REVIEWED

DID YOU REVIEW ANY BACKGROUND INFORMATION ON MR.

DID YOU HAVE AN OPPORTUNITY TO SPEAK WITH MR.

WHAT IS YOUR UNDERSTANDING OF HIS BACKGROUND

WHAT IS YOUR UNDERSTANDING OF HIS PRIOR INVESTMENT EXPERIENCE

IN YOUR OPINION DOES A BROKER OWE ANY  DUTY TO HIS CLIENT

WHAT IS YOUR UNDERSTANDING OF  THAT DUTY (FIDUCIARY DUTY)

HAVE YOU HEARD OF THE TERM "DUE DILIGENCE"

WHAT DOES THIS MEAN IN THE CONTEXT OF THE SECURITIES SOLD TO MR. 

BASED ON YOUR TRAINING AND EXPERIENCE, YOUR REVIEW OF THE DOCUMENTS IN THIS CASE AND YOUR DISCUSSIONS WITH THE CLAIMANT, HAVE YOU FORMED ANY OPINIONS AS TO WHETHER THERE HAS BEEN A BREACH OF FIDUCIARY DUTY WITH RESPECT TO MR.

WHAT ARE THEY (FAILURE TO KNOW YOUR CUSTOMER, EXCESSIVE TRADING, EXCESSIVE UNDISCLOSED COMPENSATION, OVER CONCENTRATION IN NASDAQ MICRO-CAP STOCKS, UNSUITABILITY & FAILURE TO SUPERVISE).

WHEN DEALING WITH UNSUITABILITY, ARE THE INVESTMENT OBJECTIVES OF AN INVESTOR IMPORTANT

WHY

WHEN HE OPENED HIS ACCOUNT WITH XYZ SECURITIES,  WHAT WERE HIS INVESTMENT OBJECTIVES

WHAT WAS HIS AGE & INCOME

WHAT WAS HIS TOTAL AND LIQUID NET WORTH

DO YOU BELIEVE THAT THIS ACCOUNT WAS CHURNED.

WHAT IS CHURNING

WHAT ELEMENTS ARE CONSIDERED TO BRING A CASE FOR CHURNING AGAINST A BROKER/BROKERAGE FIRM

WERE THESE ELEMENTS PRESENT DURING THE RESPECTIVE MONTHS THAT THESE ACCOUNTS WERE ACTIVELY TRADED AT HIS FIRM(S)

WAS CONTROL INDICATED HERE IN EACH CASE

WHAT KIND OF CONTROL

WAS SCIENTER PRESENT HERE

WHAT IS SCIENTER

WAS EXCESSIVE TRADING INDICATED

WHAT WAS THE ANNUALIZED TURNOVER RATIO

WHAT WAS THE COST TO EQUITY RATIO

WHAT WAS THE BREAKDOWN, BY PERCENTAGE,  OF THE NASDAQ AND PENNY STOCKS

WERE MANY OF THESE HIGHLY SPECULATIVE

DID YOU PERFORM ANY INDIVIDUAL ANALYSIS TO DETERMINE THIS TO BE TRUE (SCORECARD MASTER - BACKGROUND AND INDIVIDUAL SCORECARDS - COMMON STOCKS/IPO'S/MUTUAL FUNDS/REITS/L.P.S)

HOW LONG WERE THE ISSUES HELD BY THE BROKER, ON AVERAGE BEFORE SELLING THEM

DO YOU BELIEVE THAT THOSE RECOMMENDATIONS WERE SUITABLE FOR HIM

WAS THE ACCOUNT 0VERCONCENTRATED IN ONE ASSET CLASS, TYPE OF SECURITY OR DIVERSIFIED

WAS THE TOTAL COMPENSATION TO XYZ SECURITIES REFLECTED ON THE CONFIRMATIONS I.E. SALES CREDITS TO THE BROKER

DOES THE SEC REQUIRE ALL COMPENSATION TO BE DISCLOSED (SEC RULE 10B-10)

DO YOU HAVE AN OPINION AS TO WHETHER THIS ACCOUNT WAS PROPERLY SUPERVISED

WERE ANY ACTIVITY LETTERS SENT TO THE INVESTOR 

DID THEY REQUIRE ANY INITIALS, SIGNATURE OR POSITIVE RESPONSE FROM MR.(I.E. WERE THEY NEGATIVE CONSENT LETTERS)

DID THE BROKERAGE FIRM (BR. MGR.) FOLLOW UP ON THE LETTER(S) BY DIRECT CONTACT WITH THE INVESTOR

WHEN THE FIRM BECAME AWARE OF THIS SPECULATIVE ACTIVITY IN HIS ACCOUNT, DID THEY TAKE APPROPRIATE ACTION TO STOP SUCH ACTIVITY

WERE ANY OF THE TRADES  LABELED "UNSOLICITED" ON THE CONFIRMS

WHAT IS THE IMPORTANCE OF THIS

IS LABELING A TRADE "UNSOLICITED" WHEN ITS ACTUALLY SOLICITED A VIOLATION OF ANY SEC OR NASD RULE

HAVE  ANY RULES IN THE FIRMS COMPLIANCE MANUAL BEEN VIOLATED

WERE PHONE CALLS/LETTERS SENT TO THE BROKER/BROKERAGE FIRM

BASED ON YOUR TRAINING AND EXPERIENCE AND YOUR REVIEW OF THE WRITTEN MATERIALS IN THIS CASE, DO YOU BELIEVE THAT THE INVESTOR HAS SUFFERED ANY DAMAGES AS A RESULT OF THE CONDUCT THAT YOU HAVE DESCRIBED HERE

DID YOU PERFORM ANY CALCULATIONS TO DETERMINE THE EXTENT OF THOSE DAMAGES (GO THROUGH CALCULATIONS)

DID YOU TAKE INTO CONSIDERATION DISTRIBUTIONS & LOST OPPORTUNITY

WHAT IS TOTAL RETURN ANALYSIS

DO YOU FEEL IT WOULD BE APPROPRIATE IN THIS CASE

YOU WERE HIRED BY MR. TO REVIEW HIS ACCOUNT AND TESTIFY HERE TODAY

WHAT ARE YOU CHARGING HIM

                       WHEN BROKERS SHOULD BE HELD TO A FIDUCIARY STANDARD

     Broker/Dealers, who support the industry's 658,000 financial advisors, have maintained over the past 65 to 70 years that their brokers have had no fiduciary responsibility for any advice their brokers might render, and that any advice is just incidental to the trade execution services provided by the broker/dealer.  This stance has come to be known as the "Merrill Lynch Rule".   The distinction between brokers and advisors has always been that brokers only make the customer aware of their investment alternatives and execute trades, while advisors provide both implementing and monitoring services, thereby adding value.  

     The SEC has ruled (SEC Rule 202 (a) (11)-1) that on April 15, 2005 (1) a broker who charges a separate fee or enters into a separate contract for advisory services is held to a fiduciary standard.  (2) a broker who provides financial planning services is held to a fiduciary standard and (3) a broker who has discretion over any  brokerage account is held to a fiduciary standard.  New disclosure requirements have also been passed.  Essentially, the rules now require that brokers who "are" offering investment advice be held to the same fiduciary standard as advisors.  .  

     The SEC has thereby established three criteria that will determine whether the broker who "is" providing advice will be held to a fiduciary standard: (1) the services being offered, (2) the brokers relationship with the client, and (3) how brokers and their supporting broker/dealers represent their services.  In other words, brokers who directly control (on a de facto basis) accounts might well be subject to the same fiduciary standard 

     Through time, customers of brokerage firms have demanded this clarification.  Every client wants their advisor to evaluate their holdings before they make an investment recommendation so that they can determine if the recommendation adds value.  Every client wants their broker/advisor to disclose their role and responsibilities, and that of the money manager and other vendors, along with any conflicts and to clarify the duties of the client.  Every client wants full disclosure and their best interests to be put first, ahead of all others.  Every client wants their advisor to continuously and comprehensively monitor their holdings as required by regulatory mandate.  Given, every client wants and expects these basic fiduciary services, it is difficult to imagine how a broker would compete without providing these services.  It seems clear that brokers and advisors both would have to be held to a fiduciary standard, if the broker is to compete in the free marketplace of financial services. The law is already on the books for advisors.  The Investment Advisors Act of 1940 charges advisors with the obligation for those advisors to "exclusively act in the best interests of the consumer with the skill, care and diligence of a prudent expert".  Brokers who do fee business, made possible by holding a Series 65 or Series 66 license (Investment Advisor Representative - IAR license), should fall under the same fiduciary standard. 

     The reality of all of this is that brokers who "are" providing advice should be held to a fiduciary standard and therefore, their broker/dealers will be obligated to create a prudent process which will "continuously and comprehensively" address and manage the full range of investment and administrative values, as required by regulatory mandate and client directive.  Clearly, when a broker has a relationship of trust and confidence with their client (the only type of client relationship worth having) the broker should be held to a fiduciary standard.  There are tens of thousands of brokers within large full service brokerage firms, that characterize their services as  being financial planning - which the SEC now holds to an objective fiduciary standard.  If the SEC is to enforce the fiduciary status of broker/advisors who are in a trust position, who are providing financial planning services and/or providing investment advice, the broker/advisors firm has two choices.  Either to absolutely ban those activities, which would cause a significant backlash from broker/advisors who are ethically compelled to do the right thing, or create and support a prudent process that promulgates fiduciary counsel in the truest sense.  

     There are six financial services that make up the prudent process of fiduciary counsel.  They are (1) asset/liability study, (2) investment policy, (3) strategic asset allocation, (4) manager/vendor search and selection, (5) performance monitoring and (6) tactical asset allocation.  Only through these critical steps, can a broker/advisor truly add value in ways not possible without a total understanding the client and their holdings.  In other words, without the rule clarification and these steps, it is impossible for the broker/advisor to meet the responsibility of NYSE Rule 405, the "know your customer rule".  

     Clients know that it is the process, or what the broker/advisor does with the investment products, that adds the value, not the investment products themselves.  And by extension, this also means that the prudent process designed to add value and fulfill fiduciary responsibility, preempts investment products, which when sold, as isolated disjointed transactions, make it impossible for the broker/advisor to add value.  

     The SEC finds itself having to strike a balance between two countervailing forces: the best interests of the broker/dealer versus that of the customer - which by definition compromises consumer protection.  The fiduciary responsibilities of advisors are already on the books, they are just waiting to be enforced.  To date, the consumers best interests have not been placed before that of supporting broker/dealers.  We are in an environment where leadership is demanded, where doing the right thing is more important than creating legal constructs that cleverly circumvent fiduciary responsibility.  The SEC is now shifting the balance of the scale of consumer protection back to the customer, which ultimately is in the best interests of the advisor and the industry. Without question, brokers do render investment advice ........just ask them.  They should be held to a fiduciary standard.  Fiduciary responsibility is in the investors best interest, is a preemptive value proposition for the broker/advisor, is required by regulatory mandate and is the right thing to do.   

     Brokers are now required to register with the SEC as investment advisors if, as described above, they hold themselves out to the public as financial planners or as providing financial services.  They are further required to register as investment advisors if they offer discretionary accounts to their customers.  .  

     Clarification of SEC Rule 202 (a) (11)-1 -  William Mack, a senior assistant administrator of regulation with the SEC's Philadelphia district office clarified the following aspects of the rule.  "If a B/D's rep had merely assisted a client in reviewing their current financial situation, they could avoid registering as an investment advisor.  However, if the advisor had prepared a comprehensive program for the client, then the advisor would have to register".  

                         BACKGROUND & IMPLICATIONS OF THE MERRILL LYNCH RULE

     Under Federal Law, there are two sets of statutes in place for regulating financial service professionals.  The Securities Exchange Act of 1934 controls the activities of broker-dealers while the Investment Advisers Act of 1940 regulates investment advisers.  It is important to distinguish the two from each other in order to understand their functions, the requirements they lay out as obligations to the client as well as how they are affected by the Merrill Lynch Rule.  

     The U.S. congress passed the Securities Exchange Act in 1934 in response to the "Great Depression" and loss of confidence in the financial markets.  The Securities Exchange Act defines a broker as a person "engaged in the business of effecting transactions in securities for the account of others."  Conversely, a dealer is defined as a person "engaged in the business of buying and selling securities for [its] own account.  "Brokerage services" have been interpreted by the SEC to encompass:

     "services provided throughout the execution of a securities transaction, including providing research and advice prior to a decision to buy or sell, implementing that decision on the most advantageous terms and executing the transaction, arranging for delivery of securities by the seller and payment by the buyer, maintaining custody of customer funds and securities and providing record-keeping services."  

     Only a broker-dealer may perform these tasks of executing securities for clients.  

     The Investment Advisors Act of 1940 (the '40 Act) was enacted with the purpose of protecting investors and the general public from receiving poor securities advice.  See Johnston v. CIGNA Corp. 916 P.2d 643, 646 (Colo. Ct. App. 1996) (stating the purpose of the Investment Advisers Act of 1940).  The Advisers Act provided regulation in a highly unregulated securities market after the Commission submitted the "Investment Council Report" to Congress.  The Report recognized two main problems among investment advisers:  "(a) the problem of distinguishing between bona fide investment counselors and 'tipster' organizations; and (b) those problems involving the organization and operation of investment counsel institutions.  The Advisers Act helped resolve these problems and sought to distinguish certain professionals from investment advisers.  

     As background, up until the end of World War I, customers paid fixed commissions for investment advice.  Later, in 1920, investment advice was offered for a separate and specific fee.  As a result, it was easy to differentiate broker-dealers from those who received "special compensation."  However, in today's environment, the line between brokers and financial advisors has been blurred.  

     The Advisers Act defines "investment adviser" as "[A]ny person who, for compensation engages in the business of advising others, either directly or through publications or writing, as to the value of securities or as to the advisability of investing, in, purchasing, or selling securities, or who for compensation and as part of a regulator business, issues or promulgates analyses or reports concerning securities..."

     This appears to include a variety of professionals, from those who publish stock tips online to those who manage complex investment portfolios.  In SEC v. Capital Gains Research Bureau, the Supreme Court stated that an investment adviser's function is "furnishing to clients on a personal basis competent, unbiased, and continuous advice regarding the sound management of their investments."  See, SEC v. Capital Gains Research Bureau, 375 U.S. 180 187 (1963).  

     The fundamental purpose of this and other legislation adopted at the time was to "substitute a philosophy of full disclosure for the philosophy of caveat emptor and thus achieve a standard of business ethics in the securities industry."  The Investment Advisors Act in particular arose from a "consensus between industry and the SEC that investment advisers could not completely perform their basic function - furnishing to clients on a personal basis competent, unbiased, and continuous advice regarding the sound management of their investments - unless all conflicts of interest between investment counsel and their client were removed.  Then, what is the significance of being registered as an "investment adviser"?  The law is clear that investment advisers are fiduciaries.  As a fiduciary, the investment advisers must place the client's interest ahead of his own interest.  The duty of care, the duty of loyalty and the duty of fair dealing capture much of the essence of what it means to be a fiduciary.  Additionally, it is worth noting that the fiduciary duties  of investment adviser's is governed by  rules other than contract rules.  Whenever the two conflict, fiduciary rules trump contract rules.  

     In the beginning, there was Leib v. Merrill Lynch.  Though written in 1978 by a federal district court judge sitting in the Eastern District of Michigan, and though contradicted by some court decisions rendered since then, brokerage firms continue to cite the case in securities arbitration proceedings to this day.  Brokerage firms seize upon the court's language that, in a non-discretionary account, "all duties to the customer cease when the transaction is closed."  Moreover, brokerage firms quote Leib's language that a broker "has no continuing duty to keep abreast of financial information which could influence his investments."  In short, this view stands for the proposition that brokers are responsible only for executing trades properly, with no duty to offer advice or warnings about investments.  

     In today's environment of "full service" firms, it would seem that virtually every broker at a major wire-house would be deemed a financial advisor.  However, Section 80b-2(a)(11)of the Advisors Act provides exceptions under which  these professionals can avoid its provisions.  The Broker-Dealer Exception provides that "any broker or dealer whose performance of such services is solely incidental to the conduct of his business as a broker or dealer and who receives no special compensation therefore..." is exempt from the Advisors Act.  It is this exemption that the Merrill Rule discusses and it clearly favors Wall Street and its continual attempts to receive high commissions with no responsibility.  

      The Merrill Rule was created to determine when a broker-dealers activities are subject to the Advisers Act.  The rule was developed in response to the increased use of fee-based wrap accounts.  Fee-based brokerage programs provide brokerage services packages for an asset-based fee or a fixed-fee.  Packages normally include investment advice.  The benefit of fee-based programs if that they discourage churning of accounts.  Churning is a problem in commission-based compensation because broker-dealers are tempted to sell packages that will provide them with the greatest commission rather than acting in what is necessarily the customer's best interests.  Contrarily, the fee-based programs often result in an increase in "reverse churning".  Broker-dealers under this program no longer have greater commissions as motivation to act so it is common that they remain idle when account activity would actually be more proper.  

     The trend towards the use of "wrap accounts" gained significant momentum when Merrill Lynch announced its new Unlimited Advantage program in 1999-- a change to traditional brokerage programs because it was to charge an asset-based fee in lieu of a commission.  The program was necessary because other brokerage firms were offering services for under $10 per each trade, and the public was no longer as willing to pay Merrill's hefty commissions.  Although many were happy that customer and broker interests would be more appropriately aligned due to a decrease in churning, Merrill Lynch soon realized that its new program would subject it to the Advisers Act.  Merrill was obviously selling advice when it advertised that a "Financial Consultant 'will help you develop investment strategies', including including retirement planning, saving for college, estate preservation and liability-management strategies.  In an attempt to increase the usage of these programs, then SEC Chairman Arthur Levitt proposed to exempt broker-dealer advisory services from the Adviser's Act regulation.  thus, the new Rule 202(a)(11)-1 has been dubbed the "Merrill Rule."  

     The SEC first proposed the Merrill Rule on November 4, 1999 under the name "Certain Broker-Dealers Deemed Not To Be Investment Advisors."  Under this new rule, those broker-dealers who are not excepted from the Advisers Act must register under the Act and treat their clients with advisory accounts as advisory clients rather than regular brokerage customers.  

     Under this initial proposal, the Rule provided that broker-dealers are not considered investment advisers under the Advisers Act regardless of any compensation received as long as 1) the advice given is not discretionary; 2) the advice given is solely incidental to the brokerage services provided and 3) the broker-dealer discloses to his customers that their accounts are brokerage rather than advisory accounts.  Immediately after its proposal in 1999, the Merrill Rule became the source of significant controversy.  In fact, after the first proposal, the Commission received more than 1,700 comment letters.  Not surprisingly, a strong majority of broker-dealers supported the Rule under the guise that the new fee-based brokerage programs better consider customer interests.  Moreover, broker-dealers believed that the Rule encouraged development of these new programs because the industry would not be susceptible to the more stringent rules of the Advisers Act.  In opposition, financial planners, investment advisors, and those groups who represent investors were against the Rule because it decreases the level of investor protection.  The SEC allowed different parties to comment on the proposal for an additional month in August 2004 in order to accommodate late letters, and then considered them for approximately three months. 

     After reviewing the many comment letters, the SEC revised the Rule and submitted a re-proposal in January 2005.  The re-proposed rule included a few notable changes.  For example, under the re-proposal, the Merrill Rule now includes greater disclosure requirements in response to commenters' concerns about investor confusion on the differences between broker-dealers and investment advisers.  In addition, the Merrill Rule now requires that "all advertisements for, and all agreements, contracts, applications and other forms governing the operation of, a fee-based brokerage account contain a prominent statement that the account is a brokerage account and not an advisory account.  The disclosure must also include an explanation of the customer's rights and the firm's duties to the customer, including the appropriate standard of obligation.  The following statement must be displayed clearly on all client documents:

     "Your account is a brokerage account and not an advisory account.  Our interests may not always be the same as yours.  Please ask us questions to make sure you understand your rights and our obligations to you, including the extent of our obligations to disclose conflicts of interest and to act in your best interest.  We are paid by both you and, sometimes, by people who compensate us based on what you buy.  Therefore, our profits, and our salespersons' compensation, may vary by product and over time.."  

     Furthermore, broker-dealers are now required to make available a person within their firm to answer any customer questions on the above issues.  The re-proposed rule also attempted to appease commenters' who worried about when, specifically, advisory services are not "solely incidental to" brokerage services.  The SEC  responded by stating that investment advice is "solely incidental to" brokerage services when the advice is reasonably related to the regular brokerage services (which of course, provided no real guidance).  The Commission also interpreted that financial planning services are not necessarily "solely incidental to" brokerage services.  Finally, the Commission mandated that when a broker-dealer exercises investment discretion over a client's account, he is no longer providing advice that is "solely incidental to"  the business of brokerage under the Advisers Act.  

     In relation to financial planning, the re-proposed Merrill Rule states that a broker-dealer's advice is not solely incidental to brokerage services if it provides some type of financial plan or services "and (i) holds itself out generally to the public as a financial planner or as providing financial planning services; or (ii) delivers to its customer a financial plan; or (iii) represents to the customer that the advice is provided as part of a financial plan or financial planning services."  In sum, if a broker-dealer advertises financial planning services, he must register under the Advisers Act.  

     Surprisingly, other than the above restriction, there are no other restrictions on how a broker holds himself out to the public.  A broker may creatively title himself any way he chooses without facing liability under the Advisers Act.  Even the illusory terms "financial advisor" and "financial consultant" are allowed under the new Rule.  The Commission came to the this conclusion based on the fact that professionals in other related industries such as banks and insurance companies typically utilize such "generic" terms to describe a wide variety of different services.  The SEC has determined that requiring broker-dealers to notify advisory clients of the stricter legal obligations is sufficient to protect investors.  

     In the final analysis, the SEC concluded, the role that the broker plays depends on the circumstances.  

     In its SEC filing, UBS (PaineWebber) took the position that while its financial reports for customers "contain some elements of investment advice", nonetheless. "the planning analysis and recommendations cover a variety of other topics that do not involve general or specific investment advice at all and for which investment adviser regulation is neither appropriate or required."  Likewise, Citigroup Global Markets (Smith Barney) took the position that its fee-based (not commissioned-based) AssetOne account "is a brokerage account and not an investment adviser account."  

     Since those declarations in in 2004 and 2005, brokers have filed class action lawsuits alleging that their brokerage firms violated the Fair Labor Standards Act and state wage hour statutes in failing to pay them overtime.  Many cases are still pending and some cases have settled.  For example, Citigroup Global Markets and UBS agreed to settle nationally, paying $98 million and $89 million, respectively.  Morgan Stanley and Merrill Lynch settled in California but in no other states, paying $43.5 million and $37 million, respectively.  

     However, one firm, A.G. Edwards, filed a motion for summary judgment.  A.G. Edwards argued that commission-based brokers are not entitled to overtime.  The federal; district court in California denied the motion for summary judgment in its entirety.  

     As background, the Fair Labor Standards Act (FLSA) exempts certain employees from overtime pay requirements, so long as the employer proves that the employee meets both of two tests:  the salary-basis test and the duties test.  In its motion for summary judgment, A.G. Edwards argued that its brokers were paid a guaranteed salary, in effect, because the firm paid them a draw against future commissions.  The court rejected that argument that the draw was the equivalent of a guaranteed salary, reasoning that, "Case law and the DOL [Department of Labor] letters cited by both parties, therefore, appear to support that deduction of Plaintiff's draw salary from a subsequent paycheck is an impermissible offset."  

     Turning to the duties test, A.G. Edwards attempted to convince the court that the primary duties of its brokers were "administrative", as distinguished from "sales", such that they fell within one of the duties exemptions to overtime pay requirements.  A.G. Edwards claimed, among other things, that that its brokers underwent extensive training on management of client portfolios, "only a small portion of which focused on prospecting."  Of course, the argument that brokers had a duty to manage client portfolios flew in the face of Leib and was inconsistent with positions taken more recently that investment advice is "solely incidental" to the brokerage (sales) function.  In any event, the court relied on testimony and documents suggesting that the primary duty of A.G. Edwards' brokers was to sell.  Accordingly, the court found that there was a genuine issue of material fact "regarding whether Plaintiffs are engaged in work that results from the product that Defendant profits from, in this case sales of securities and other financial offerings, rather than in the administration of Defendant's business or that of its existing customers."  

What then are the roles and responsibilities of brokers?  Yes, the answer (that brokerage firms provide) depends upon the circumstances.  But one thing is clear.  What brokerage firms for years have claimed about their brokers' limited duties to customers, now, in the context of broker class action lawsuits for overtime pay, may come back to haunt them.  

On March 30, 2007, the Merrill Lynch Rule was overturned in a 2-1 decision released by the U.S. Court of Appeals for the District of Columbia Circuit in Washington.  The decision is a big win for the Financial Planning Association of Denver, which challenged the SEC when it issued its rule in 2005 exempting brokerage firms that charge asset-based fees from investment advisory regulations under specified conditions.  The ruling issued by Judge Judith Rogers for herself and Judge Brett Kavanaugh said the SEC exceeded its authority by exempting brokerage firms that charge asset-based fees from regulation under the Investment Advisors Act of 1940.  "The rules is inconsistent with the IAA", Judge Rogers wrote, because it fails to meet the law's requirements for exemptions. 

Under that law, she wrote, brokers can only be exempt from advisory regulation if they do not receive "special compensation" for giving advice.  Charging asset-based fees (special compensation) means they must register as advisers.  "No...indicators of congressional intent support the SEC's interpretation of its authority," Judge Rogers wrote.  Judge Merrick Garland, who dissented, said that the SEC's interpretation of the IAA was reasonable and courts are bound by legal precedent to give government regulators the benefit of the doubt in interpreting the law.       

The ruling is "very straightforward" and a "clean decision" commented David Tittsworth, executive director of the Investment Advisors Association in Washington.  "This is throwing the rule out."  The decision opens the door for Congress to re-examine the securities laws in light of changes that have taken place in the industry since those laws were enacted in the Depression era.  "It looks to me like Congress probably will need to get into this fray to sort it out," Mr.Tittsworth said.  "This rule should have died a quick and merciful death six years ago," said FPA  President Nicholas A. Nicolette.  "It would not be the best use of taxpayer dollars to prolong a policy that is contrary to the public interest.".  

The appeals court's decision forces the broker-dealer to stop selling  fee-based accounts and advice without having to register as advisors.  Brokers have sold an estimated whopping $300 billion in fee-based accounts in the past eight-plus years under the SEC-ordered exemption.  currently, broker-dealers will only have three months to "re-paper" these accounts.  "What we're going back to is the bright-line test that existed for consumers before 1999," says FPA Director of Government Relations Duane Thompson. "if a broker is offering advice for fees, they must be registered."

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