Regulatory Notice 23-20

Summary

This Notice discusses the guidance and other resources available to

assist members with their compliance efforts in connection with the

Securities and Exchange Commission’s (SEC)Regulation Best Interest

(Reg BI). In particular, FINRA highlights the SEC’s series of Staff Bulletins

(Bulletins) reiterating standards of conduct for broker-dealers (BDs or

members) and investment advisers (IAs): SEC Staff Bulletin: Standards

of Conduct for Broker-Dealers and Investment Advisers Account

Recommendations for Retail Investors; SEC Staff Bulletin: Standards

of Conduct for Broker-Dealers and Investment Advisers Conflicts of

Interest; and SEC Staff Bulletin: Standards of Conduct for Broker-Dealers

and Investment Advisers Care Obligations. FINRA encourages members

to review these Bulletins closely, along with the Reg BI Adopting Release

and the other guidance and resources identified in this Notice, as part of

their ongoing efforts to meet their best interest obligations.

This Notice does not create new legal or regulatory requirements or new

interpretations of existing requirements, nor does it relieve firms of any

existing obligations under federal securities laws and regulations.

Questions regarding this Notice should be directed to:

X James S. Wrona, Vice President and Associate General Counsel,

Office of General Counsel (OGC), byemailor (202) 728-8270;

X Joseph P. Savage, Vice President and Associate General Counsel,

OGC, by email or (240) 386-4534; or

X Alicia Goldin, Associate General Counsel, OGC, byemailor

(202) 728-8155.

Background and Discussion

Reg BI

requires a member or associated person, when making a

recommendation

to a retail customer

of any securities transaction

or investment strategy involving securities (including account

recommendations) to act in the best interest of the retail customer

Regulation Best Interest

FINRA Highlights Available Guidance and Resources

Related to Regulation Best Interest

Notice Type

X

Guidance

Suggested Routing

X

Compliance

X

Legal

X

Senior Management

Key Topics

X

Regulation Best Interest

Referenced Rules & Notices

X

Form CRS

X

Regulation Best Interest

X

Regulatory Notices 01-23, 11-02,

12-25, 19-26, 20-18, 23-08

Regulatory Notice 23-20

December 5, 2023

without placing the financial or other interest of the member or associated person

ahead of the interest of the retail customer.

This general obligation is satisfied

only by complying with four specified component obligations: the Care Obligation,

the Disclosure Obligation,

the Conflict of Interest Obligation

and the Compliance

Obligation.

Concurrent with the adoption of Reg BI, the SEC also published an

interpretation concerning IAs’ standard of conduct under the Investment Advisers

Act of 1940 (Advisers Act).

SEC Guidance and Resources

The SEC and its staff have provided guidance and other resources to assist BDs in

understanding and implementing the Reg BI requirements. Among these resources

are a Small Entity Compliance Guide, Frequently Asked Questions,

a No Action

Letter, a 2020 Risk Alert and a 2023 Risk Alert.

Additionally, in 2022 and 2023, SEC

staff published a series of three Bulletins addressing standards of conduct for BDs

and IAs.

The Bulletins emphasize that both Reg BI (for BDs) and the fiduciary standard under

the Advisers Act (for IAs) are “drawn from key fiduciary principles” that impose

an obligation to act in a retail investor’s

best interest and, although the specific

application of the two standards may differ in some respects, they “generally yield

substantially similar results in terms of the ultimate responsibilities owed to retail

investors.”

The Bulletins address three separate topics: account recommendations,

conflicts of interest and care obligations. For each of these topics, the Bulletins

reiterate the standards of conduct and provide SEC staff views, in the form of

questions and answers, on how BDs and IAs, and their associated persons, can

satisfy their obligations under Reg BI and the fiduciary duty, respectively.

SEC Staff Bulletin on Account Recommendations

The first Bulletin focuses on obligations that apply when making account

recommendations. The Bulletin is designed to assist firms and their financial

professionals with considering reasonably available alternatives and costs,

addressing conflicts of interest, and adopting and implementing reasonably

designed policies and procedures when making account recommendations. The

Bulletin also discusses issues related to investor characteristics and preferences,

account characteristics, the capacity of the registered person making the account

recommendation (i.e., whether acting as a representative of a BD or IA),

retirement

account rollovers

and documentation of the basis for account recommendations.

SEC Staff Bulletin on Conflicts of Interest

The second Bulletin addresses conflicts of interest, emphasizing SEC staff’s view that

identifying and addressing conflicts should be a “robust, ongoing process that is

tailored to each conflict.”

The Bulletin provides guidance to firms on steps they can

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take to identify conflicts of interest, as well as guidance on how firms can address

those conflicts through elimination, mitigation or disclosure, as appropriate. The

Bulletin also addresses particular topics, such as conflicts of interest associated with

product menus,

proprietary products and compensation practices.

The Bulletin reminds firms that “[d]isclosure of conflicts alone does not satisfy the

obligation to act in the retail investor’s best interest,” and that “even if conflicts are

sufficiently addressed, under both Reg BI and the IA fiduciary standard, firms and

their financial professionals can provide recommendations or advice only when

they have a reasonable basis to believe that the recommendation or advice is in the

retail investor’s best interest.”

SEC staff further advises that firms should monitor

conflicts over time and assess periodically the adequacy and effectiveness of their

policies and procedures to help ensure continued compliance with their conflicts

obligations.

SEC Staff Bulletin on Care Obligations

The third Bulletin focuses on the Care Obligation, including relevant factors in

understanding the investment or investment strategy; consideration of costs and

reasonably available alternatives; and gathering and assessing the retail investor’s

investment profile information. The Bulletin also discusses special considerations

such as recommendations of complex or risky products and recommendations by

dual registrants.

For example, with respect to considering reasonably available alternatives, which

SEC staff believes “is a key component of satisfying the care obligations of broker-

dealers and investment advisers,” the Bulletin includes discussion of the scope

of alternatives that should be considered; consideration of reasonably available

alternatives in the context of open architecture firms and, conversely, firms that

have limited product menus; consideration of the risks, rewards and costs of the

alternatives; and circumstances when a firm may want to consider documenting the

evaluation of alternatives considered.

In addressing recommendations of complex or risky products, the Bulletin states

that firms and their financial professionals generally should apply heightened

scrutiny to whether a risky or complex product is in the retail investor’s best interest,

including by considering whether lower risk or less complex alternatives can achieve

the same investment objectives.

The Bulletin also identifies recommendations of

complex or risky products among the circumstances in which firms should consider

documentation of the basis for the recommendation.

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FINRA Assistance to Firms

FINRA has also provided a variety of resources to assist members with their Reg BI

compliance efforts, such as:

X hosting a dedicated Reg BI conference, presenting Reg BI panels during other

conferences, and making past Reg BI events available to the public on-demand at

no cost;

X creating a Reg BI webpage that includes links to relevant materials concerning

Reg BI and Form CRS, including the rules, notices, FINRA and SEC enforcement

matters, and various media and news releases;

X issuing Regulatory Notices 19-26 (Regulation Best Interest), 20-18 (FINRA Amends

Its Suitability, Non-Cash Compensation and Capital Acquisition Broker (CAB)

Rules in Response to Regulation Best Interest), and 23-08 (FINRA Reminds

Members of Their Obligations When Selling Private Placements);

X developing and updating a compliance checklist;

X publishing Reg BI podcasts in 2019, 2020 and 2022; and

X providing detailed findings, effective practices and related considerations

concerning Reg BI in our annual examination and risk monitoring reports in

2021, 2022 and 2023.

Conclusion

FINRA is issuing this Notice to highlight key regulatory developments and resources

to assist members in their compliance efforts under Reg BI.

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Endnotes

1 The SEC Adopted Reg BI under the Securities

Exchange Act of 1934 (Exchange Act) on June 5,

2019. See Exchange Act Rule 15l-1; Regulation

Best Interest: The Broker-Dealer Standard of

Conduct, Exchange Act Release No. 86031 (June

5, 2019), 84 FR 33318, 33375 (July 12, 2019)

(Reg BI Adopting Release). Concurrent with

the adoption of Reg BI, the SEC also adopted

Form CRS and related rules, which require

SEC-registered BDs and IAs to deliver to retail

investors a brief customer or client relationship

summary that provides information about the

firm.SeeForm CRS Relationship Summary;

Amendments to Form ADV, Exchange Act

Release No. 86032 (June 5, 2019), 84 FR 33492

(July 12, 2019).

2 For purposes of Reg BI, whether a

“recommendation” is made is interpreted

consistent with precedent under the federal

securities laws and with how the term has been

applied under FINRA rules. See Reg BI Adopting

Release, supra note 1, at 33337. As the SEC

explained, “the determination of whether a

broker-dealer has made a recommendation

that triggers application of Regulation

Best Interest should turn on the facts and

circumstances of the particular situation and

therefore, whether a recommendation has

taken place is not susceptible to a bright line

definition. Factors considered in determining

whether a recommendation has taken

place include whether the communication

‘reasonably could be viewed as a call to action’

and ‘reasonably would influence an investor

to trade a particular security or group of

securities.’ The more individually tailored the

communication to a specific customer or a

targeted group of customers about a security

or group of securities, the greater the likelihood

that the communication may be viewed as

a recommendation.” Id. at 33335 (citation

omitted). See also Notice to Members 01-23

(March 2001); Regulatory Notice11-02 (January

2011);Regulatory Notice 12-25 (May 2012). Also,

where a BD agrees to provide a retail customer

with specified account monitoring services,

under Reg BI, such an agreement will result in

buy, sell or hold recommendations even when

the recommendation to hold is implicit. See Reg

BI Adopting Release at 33325.

3 “Retail customer” is defined in Exchange Act

Rule 15l-1(b)(1) as “a natural person, or the legal

representative of such natural person, who: (i)

[r]eceives a recommendation of any securities

transaction or investment strategy involving

securities from a broker, dealer, or a natural

person who is an associated person of a broker

or dealer; and (ii) [u]ses the recommendation

primarily for personal, family, or household

purposes.”

4 Exchange Act Rule 15l-1(a)(1).

5 The Care Obligation requires the member

or associated person, in making the

recommendation, to exercise reasonable

diligence, care and skill to:

• understand the nature of the recommended

security or investment strategy involving

a security—as well as the potential risks,

rewards and costs of the recommended

security or investment strategy—and

have a reasonable basis to believe that

the recommendation could be in the best

interest of at least some retail customers

based on that understanding;

• have a reasonable basis to believe that the

recommendation is in the best interest of

a particular retail customer based on that

retail customer’s investment profile and the

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potential risks, rewards and costs associated

with the recommendation and does not

place the financial or other interest of the

member or associated person ahead of the

interest of the retail customer;

• have a reasonable basis to believe that

a series of recommended transactions,

even if in the retail customer’s best interest

when viewed in isolation, is not excessive

and is in the retail customer’s best interest

when taken together in light of the retail

customer’s investment profile and does not

place the financial or other interest of the

member or associated person ahead of the

interest of the retail customer. Exchange Act

Rule 15l-1(a)(2)(ii).

6 The Disclosure Obligation requires the member

or associated person, prior to or at the time

of the recommendation, to provide the retail

customer, in writing, full and fair disclosure of all

material facts relating to the scope and terms

of the relationship with the retail customer and

all material facts relating to conflicts of interest

that are associated with the recommendation.

Material facts relating to the scope and terms

of the relationship with the retail customer that

must be disclosed include, but are not limited to:

• that the member or associated person is

acting in the capacity of a BD or associated

person with respect to the recommendation;

• the material fees and costs that apply to the

retail customer’s transactions, holdings and

accounts; and

• the type and scope of services provided to

the retail customer, including any material

limitations on the securities or investment

strategies involving securities that may

be recommended to the retail customer.

Exchange Act Rule 15l-1(a)(2)(i).

7 The Conflict of Interest Obligation requires

a member to identify and address conflicts

of interest that may incline the member

or its associated persons—consciously or

unconsciously—to make a recommendation that

is not disinterested. Specifically, members must

establish, maintain and enforce written policies

and procedures reasonably designed to:

• identify and at a minimum disclose, pursuant

to the Disclosure Obligation, or eliminate,

all conflicts of interest associated with

recommendations;

• identify and mitigate any conflicts of

interest associated with recommendations

that create an incentive for the member’s

associated persons to place their interest

or the interest of the member ahead of the

retail customer’s interest;

• identify and disclose any material limitations

(e.g., a limited product menu) placed on the

securities or investment strategies involving

securities that may be recommended

to a retail customer and any conflicts of

interest associated with such limitations

and prevent such limitations and associated

conflicts of interest from causing the

member or the associated person to make

recommendations that place the interest of

the member or the associated person ahead

of the retail customer’s interest; and

• identify and eliminate sales contests,

sales quotas, bonuses and non-cash

compensation that are based on the sale

of specific securities or specific types of

securities within a limited period of time.

Exchange Act Rule 15l-1(a)(2)(iii).

8 Under the Compliance Obligation, a member

must establish, maintain, and enforce written

policies and procedures reasonably designed to

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achieve compliance with Reg BI. Exchange Act

Rule 15l-1(a)(2)(iv).

9 See Investment Advisers Act Release No. 5248

(June 5, 2019), 84 FR 33669 (July 12, 2019)

(“Fiduciary Interpretation”). In addition, the SEC

adopted an interpretation concerning the “solely

incidental” prong of the BD exclusion from the

Advisers Act. Investment Advisers Act Release

No. 5249 (June 5, 2019), 84 FR 33681 (July 12,

2019) (“Solely Incidental Interpretation”).

10 The FAQs address the following topics: Retail

Customer; Recommendation; Disclosure

Obligation; Care Obligation; Conflict of Interest

Obligation; Compliance Obligation.

11 See SEC Staff Bulletin on Standards of

Conduct for Broker-Dealers and Investment

Advisers Account Recommendations for Retail

Investors(March 30, 2022) (SEC Staff Bulletin on

Account Recommendations); SEC Staff Bulletin:

Standards of Conduct for Broker-Dealers and

Investment Advisers Conflicts of Interest(Aug.

3, 2022) (SEC Staff Bulletin on Conflicts); and

SEC Staff Bulletin: Standards of Conduct for

Broker-Dealers and Investment Advisers

Care Obligations(April 20, 2023) (SEC Staff

Bulletin on Care). These resources and others

(including resources concerning Form CRS, the

Fiduciary Interpretation and the Solely Incidental

Interpretation) are available on the SEC’s

website.

12 For purposes of the Bulletins, the term “retail

investor” is used to mean any person who

qualifies as a “retail customer” under Reg BI

or a natural person client of an investment

adviser. See SEC Staff Bulletin on Account

Recommendations, supra note 11 at note 2.

13 See supra note 11.

14 See SEC Staff Bulletin on Account

Recommendations, supra note 11 at Question

1.a. (“The standard you must follow depends

on the capacity in which you are acting (i.e.,

broker-dealer, investment adviser, or both).

In addition, the antifraud provisions of the

Advisers Act apply to investment advisers in

connection with current and prospective clients.

Accordingly, in many cases, both Reg BI and the

Advisers Act apply as you assess an account type

recommendation for current and prospective

retail investors.”); Question 1.b. (“Where you

have not yet established the capacity in which

you will be acting, you should assume that both

standards applyand disclose to the investor,

prior to or at the time of the recommendation,

that you are acting in both capacities. Firms

should provide clear guidance, through policies

and procedures and other instructions to their

financial professionals, on how to disclose

capacity to retail investors.”) (citation omitted).

15 Id. at Question 4.a. (“In addition to the factors

discussed above, the staff believes that there are

specific factors potentially relevant to rollovers

that you should generally consider when making

a rollover recommendation to a retail investor.

These factors include, without limitation, costs;

level of services available; features of the existing

account, including costs; available investment

options; ability to take penalty-free withdrawals;

application of required minimum distributions;

protection from creditors and legal judgments;

and holdings of employer stock.”); Question 4.b.

(“In the staff’s view, it would be difficult to form

a reasonable basis to believe that a rollover

recommendation is in the retail investor’s best

interest and does not place your or your firm’s

interests ahead of the retail investor’s interest, if

you do not consider the alternative of leaving the

retail investor’s investments in their employer’s

plan, where that is an option.”).

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16 Id. at note 26 (“In adopting Reg BI, the

Commission determined not to require

broker-dealers to document the basis for any

recommendations, but encouraged them to take

a risk-based approach when deciding whether

to document certain recommendations.);

Question 6 (“Broker-dealers and investment

advisers are subject to recordkeeping

rules that may affect their decisions or

obligations to document the basis for account

recommendations.Additionally, in the staff’s

view, it may be difficult for a firm to assess

periodically the adequacy and effectiveness of

its policies and procedures or to demonstrate

compliance with its obligations to retail

investors without documenting the basis for

certain recommendations.”) (citation omitted);

Question 3.c. (“The existence of special features

or other potential benefits would not alone

support a reasonable belief that an account

recommendation is in an investor’s best interest.

Rather, such factors should be considered

in light of the investor’s needs, investment

objectives, and preferences, and your account

recommendation must not place your interests

or the interests of your firm ahead of the retail

investor’s interest. It is the staff’s view that it

may be difficult for a firm to assess periodically

the adequacy and effectiveness of its policies

and procedures or to demonstrate compliance

with its obligations to retail investors without

documenting the basis for such conclusions.”);

Question 4.a. (“In the staff’s view, when making a

rollover recommendation, it may be difficult for

a firm to assess periodically the adequacy and

effectiveness of its policies and procedures or

to demonstrate compliance with its obligations

to retail investors without documenting the

basis for the recommendation.”); Question 5 (“In

the staff’s view, however, if the retail investor

ultimately directs you to open an account that

is contrary to your recommendation, you would

not be required to refuse to accept the investor’s

direction. In such instances, the staff believes

that it may be difficult for a firm to assess

periodically the adequacy and effectiveness of

its policies and procedures or to demonstrate

compliance with its obligations to retail investors

without documenting the basis for opening the

account.”) (citation omitted); note 13 (“If you

determine not to obtain or evaluate information

that would normally be contained in an investor

profile, the staff believes you should consider

documenting the basis for your belief that such

information is not relevant in light of the facts

and circumstances of the particular account

recommendation.”).

17 See SEC Staff Bulletin on Conflicts, supra note 11.

18 Id. at Question 10 (“For example, firms should

evaluate whether a limited product menu or

otherwise limiting the range of products offered,

such as share classes offered, (either by the firm

or an affiliate) creates a conflict that could incline

the firm or its financial professionals to offer

advice or make recommendations that place the

interests of the firm or its financial professionals

ahead of the retail investor’s interest. In the

staff’s view, firms should consider establishing

product review processes for the products they

offer (or that are offered by an affiliate). Such

a product review process could include, for

example:

• identifying and mitigating the conflicts of

interest associated with the product, such as

payments for inclusion on a firm’s menu of

products offered (sometimes referred to as

shelf space);

• declining to recommend or provide advice

with regard to a product where the firm

cannot effectively mitigate the conflict;

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• evaluating the use of “preferred lists”;

• restricting the retail investors to whom

certain products may be recommended;

• prescribing minimum knowledge and/

or training requirements for financial

professionals who may provide

recommendations or advice with regard to

certain products; and

• conducting periodic product reviews to

identify potential conflicts of interest,

whether the measures addressing conflicts

are working as intended, and to modify the

measures or product selection accordingly.”)

(citations omitted).

19 Id. at Question 5 (asking: “My firm has identified

all of its conflicts of interest. Once the firm

discloses the conflicts to retail investors, have

we satisfied our obligations under Reg BI and

the IA fiduciary standard?” and responding:

“No. Disclosure of conflicts alone does not

satisfy the obligation to act in a retail investor’s

best interest. Further, as discussed below,

certain conflicts should (and in some cases,

must) be addressed through mitigation.Where

such conflicts cannot be effectively addressed

through mitigation, firms may need to determine

whether to eliminate the conflict or refrain from

providing advice or recommendations that are

influenced by that conflict to avoid violating the

obligation to act in a retail investor’s best interest

in light of the investor’s objectives.Moreover,

even if conflicts are sufficiently addressed,

under both Reg BI and the IA fiduciary standard,

firms and their financial professionals can

provide recommendations or advice only when

they have a reasonable basis to believe that

the recommendation or advice is in the retail

investor’s best interest.”) (citations omitted);

Question 12.c. (“While firms should disclose the

existence and potential effects of such conflicts,

the staff reminds firms that disclosure of

conflicts alone does not satisfy a firm’s obligation

to act in the retail investor’s best interest.”).

20 Id. at Question 13 (“The staff believes that

identifying and addressing conflicts is not a “set

it and forget it” exercise. Firms should monitor

conflicts over time and assess periodically the

adequacy and effectiveness of their policies

and procedures to help ensure continued

compliance with Reg BI and the IA fiduciary

standard. Reasonably designed policies and

procedures that address conflicts may later

cease to be reasonably designed based on

subsequent events or information obtained,

such as through supervision (e.g.,exception

testing of recommendations), and the actual

experience of the firm.”).

21 See SEC Staff Bulletin on Care, supra note 11 at

Question 17 (“In the view of the staff, firms and

financial professionals should consider whether

less complex, less risky or lower cost alternatives

can achieve the same objectives for their retail

customers as part of their overall reasonable

basis analysis. Moreover, firms and their financial

professionals generally should apply “heightened

scrutiny” to whether a risky or complex product

is in the retail investor’s best interest.”); Question

18 (“Examples of products where heightened

scrutiny may be necessary include, but are

not limited to, inverse or leveraged exchange-

traded products, investments traded on margin,

derivatives, crypto asset securities, penny stocks,

private placements, asset-backed securities,

volatility-linked exchange-traded products, and

reverse-convertible notes.”).

22 Id at Question 19 (“In the staff’s view, firms that

make recommendations of, or provide advice

about, complex or risky products to retail

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investors should also consider documenting

the process and reasoning behind the

particular recommendation or advice, including

consideration of less complex alternatives, and

how it fits within the retail investor’s broader

goals or strategy.”).

23 In Regulatory Notice 23-08, FINRA updated and

supplemented prior guidance concerning private

placements to highlight a member’s obligation

under Reg BI, when recommending a security,

to conduct a reasonable investigation of the

security.

24 On August 1, 2019, FINRA published a Reg BI

and Form CRS Checklist to help members assess

their obligations under Reg BI and Form CRS,

and understand key differences between FINRA

Rules and Reg BI and Form CRS. An updated

version of the checklist was published on

October 18, 2023.

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format that is easily understandable. However, please be aware that, in case of any misunderstanding,

the rule language prevails.