Did My Financial Advisor Breach a Fiduciary Duty?

First question: did a fiduciary duty exist at all

The answer turns on the advisor's registration, not on the title on the business card. "Financial advisor," "wealth manager" and "financial consultant" are marketing labels. Three legal categories sit behind them.

• Registered investment adviser. A firm or person registered under the Investment Advisers Act of 1940 (or with the Texas State Securities Board) that charges a fee for advice. Under federal law an investment adviser is a fiduciary to every client. The SEC's 2019 interpretation of the Advisers Act standard of conduct states that this duty comprises a duty of care and a duty of loyalty, follows the scope of the relationship the parties agreed to, and may not be waived.
• Broker-dealer representative. A registered representative of a brokerage firm paid by commission. Since June 2020, Regulation Best Interest requires a broker who recommends a securities transaction or strategy to a retail customer to act in that customer's best interest at the time the recommendation is made, without placing the firm's interest ahead of the customer's. That is a point-in-time standard. It is not an ongoing duty to monitor unless the broker agreed to monitor.
• Dual registrant. Many advisors are both. Which duty applies depends on which hat the advisor was wearing for the account and the recommendation in question, and the firm's Form CRS and account agreement usually say which.

Texas common law adds a layer. A formal fiduciary relationship arises from the role itself, as with a trustee or an agent with discretionary authority. An informal fiduciary relationship can arise from a relationship of trust and confidence, but Texas courts require that relationship to have existed before, and apart from, the transaction in dispute. A broker handling a nondiscretionary account for a customer who makes the final decisions is usually not a fiduciary under Texas law; a broker with discretionary trading authority, or one who cultivated a long relationship of reliance, may be. The guide on how adviser and broker duties differ works through the registration question in detail.

What the duty of care requires

For an investment adviser, the SEC's interpretation describes three parts. The adviser must provide advice that is in the client's best interest, based on a reasonable understanding of the client's objectives, which for a retail client means a reasonable inquiry into financial situation, experience, time horizon, liquidity needs and risk tolerance. The adviser must seek best execution of client trades when it chooses the brokers. And the adviser must provide advice and monitoring over the course of the relationship, at a frequency that fits the services agreed to.

For a broker under Regulation Best Interest, the care obligation requires reasonable diligence, care and skill to understand the risks, rewards and costs of the recommendation, a reasonable basis to believe it is in the particular customer's best interest in light of the customer's investment profile, and, for a series of recommended transactions, a reasonable basis to believe the series is not excessive when taken together. Cost is an express factor, so a higher-cost product recommended when a cheaper equivalent was available needs a reason.

What the duty of loyalty requires

Loyalty is where most real cases live. The SEC's interpretation says an adviser must eliminate, or make full and fair disclosure of, all conflicts of interest that might incline it, consciously or unconsciously, to render advice that is not disinterested, so that the client can give informed consent. Disclosure buried in a 60-page brochure can be enough legally if it is specific; a generic sentence that the adviser "may receive compensation from third parties" often is not. Section 206 of the Advisers Act separately makes it unlawful for an adviser to act as principal in a trade with a client without written disclosure and consent before the trade is completed.

Conflicts that produce claims:

• Revenue sharing, 12b-1 fees or trailing commissions from the funds recommended, when a cheaper share class of the same fund was available.
• Proprietary products of the adviser's parent company placed ahead of comparable outside products.
• Recommending a rollover or an account type that increases the advisor's compensation without a client-side reason.
• Undisclosed outside compensation from an issuer, which is also selling away when a broker does it without the firm's approval.
• Trading for the adviser's own account ahead of client orders.

Breach, or just a bad year

A portfolio that fell with the market is not evidence of a breach. Courts and arbitrators ask what the advisor knew and did at the time, not what happened afterward. The signs that point toward a breach are different in kind:

• The allocation did not match the stated objectives and risk tolerance in the account documents.
• Concentration in one issuer, sector or illiquid product that no written rationale supports.
• Fees or commissions that are high relative to the account, or that the client cannot find in any disclosure.
• Products the advisor could not explain when asked, or that paid the advisor more than the alternatives.
• Promises of safety or income that the product's own documents contradict.
• Silence: an adviser who agreed to manage the account and did not review it for years.

Example

Suppose a Plano physician gives a registered investment adviser discretionary authority over a $900,000 retirement account with a written objective of "moderate growth, retirement in 12 years." Over three years the adviser moves 40 percent of the account into two non-traded real estate programs sponsored by an affiliate of the adviser's firm, each paying the firm a placement fee that appears only in a footnote of the sponsor's prospectus, not in the adviser's brochure. The programs suspend redemptions. The physician's claim is not that real estate fell. It is that the adviser placed an affiliate's interest ahead of hers without full and fair disclosure, and that a 40 percent illiquid position was inconsistent with the objective the adviser accepted. Both are loyalty and care failures that exist whether or not the programs eventually recover.

Which law you actually sue under

The Investment Advisers Act defines the federal duty but gives private investors no general damages claim; its antifraud section is enforced by the SEC, and private suits under it are limited to rescission of the advisory contract. So a Texas investor's case is built from state law and the Texas Securities Act:

• Texas common-law breach of fiduciary duty. The investor proves the fiduciary relationship, the breach and resulting injury or benefit to the fiduciary. Once the relationship is shown, Texas law places on the fiduciary the burden of proving the transaction was fair. The federal standard described above is strong evidence of what the duty required.
• Texas Securities Act. If the advisor sold the security by means of an untrue statement or misleading omission, Government Code section 4008.052 gives the buyer rescission or damages without proof of intent.
• Negligence and negligent misrepresentation for a broker who owed care but not loyalty.
• Common-law fraud when the advisor knew. The guide on suing an investment advisor for fraud covers that claim and its proof.

What you can recover

Compensatory damages measured by the loss the breach caused, often compared against how a suitable portfolio would have performed. Because the claim is for breach of fiduciary duty, Texas equity adds remedies that contract and negligence claims do not have: disgorgement of the fees and commissions the advisor earned from the breach, forfeiture of advisory fees for the period of disloyalty even without proof of loss, and a constructive trust over property acquired with the client's money. Exemplary damages are available on clear and convincing proof of fraud or malice. The guide on remedies for breach of fiduciary duty explains each.

Deadlines and forum

Texas Civil Practice and Remedies Code section 16.004 gives four years for breach of fiduciary duty and for fraud, and the discovery rule and fraudulent concealment can delay the start when the breach was hidden. Texas Securities Act claims have their own three- and five-year limits. Claims against a brokerage firm and its representatives generally go to FINRA arbitration under the account agreement; claims against a stand-alone investment adviser go to court unless the advisory agreement names a private arbitration provider. A dual registrant can be in both.

When to involve a litigator

When the advisor cannot or will not explain a fee, a concentration or a product, and when you suspect the adviser was paid by someone other than you. The first step is not a lawsuit. It is gathering the account agreement, the Form ADV brochure, Form CRS, every statement and the email trail, so that a litigator can tell you whether the duty existed, what it required and whether what happened fits a claim. Tina Wysk represents investors and advisory firms in fiduciary-duty and securities and investment disputes in Dallas state and federal courts and in arbitration.