With a ruling issued on August 25, 2023, the Supreme Judicial Court of Massachusetts (the “Massachusetts Supreme Court”)[i] revived the Massachusetts fiduciary duty rule (the “Rule”)[ii] that raises the fiduciary standard for broker-dealers and their agents operating in Massachusetts to a level in-line with that of investment advisers.[iii] For a quick refresher on the Rule, please review our blog posts: Massachusetts Finalizes its Fiduciary Rule, Part I: Evolution of the Massachusetts Fiduciary Rule and Massachusetts Finalizes its Fiduciary Rule, Part II: The Massachusetts Fiduciary Rule and Reg BI.

Background

The Rule was initially proposed by the Massachusetts Securities Division on December 3, 2019, and the final version of the Rule became effective on March 6, 2020. In December 2020, the Massachusetts Secretary of State (the “Secretary”) brought an administrative proceeding against an internet-based broker-dealer (the “Broker-Dealer”) registered with the Securities and Exchange Commission (“SEC”).[iv] The Secretary alleged the Broker-Dealer violated its fiduciary duties of care and loyalty under the Rule by providing investment recommendations to its customers without considering whether those recommendations were in each customer’s best interest.[v] In response to the administrative proceeding, the Broker-Dealer brought an action (the “Action”) in the Superior Court Department of Massachusetts (the “Massachusetts Superior Court”) challenging the validity of the Rule. On March 30, 2022, the Massachusetts Superior Court Judge ruled that the Secretary exceeded its authority in promulgating the Rule; thereby invalidating the Rule.

Massachusetts Supreme Court Analysis

On appeal from the Secretary, the Massachusetts Supreme Court reviewed the Action, ultimately overturning the decision of the Massachusetts Superior Court; thereby reinstating the Rule. The analysis of the Massachusetts Supreme Court focused on the following issues:

Federal Preemption

The Massachusetts Supreme Court determined that the Rule was not preempted by federal law. The Broker-Dealer argued that Regulation Best Interest (“Reg BI”), the federal standard for broker-dealers’ fiduciary obligations, was intended to set a cap on broker-dealers’ fiduciary obligations and the Rule was therefore preempted and invalid. The Massachusetts Supreme Court, noting the assumption against preemption and Congress and the SEC’s awareness of state broker-dealer fiduciary laws and lack of declared intent to preempt those laws, determined that Reg BI sets a regulatory floor that allows state regulation to provide additional protection.[vi]

The Secretary’s Authority under the Massachusetts Uniform Security Act (“MUSA”)

The Massachusetts Supreme Court determined that the Secretary had the authority to promulgate the Rule. Under MUSA, the Secretary is authorized to establish regulations "necessary or appropriate in the public interest or for the protection of investors and consistent with the purposes fairly intended by the policy and provisions of [MUSA]."[vii] The Massachusetts Supreme Court found that the Secretary has considerable leeway in interpreting statutes and the promulgation of the Rule fell within the Secretary’s authority.[viii]

Abrogation of Common Law

The Massachusetts Supreme Court determined that the Rule did not abrogate Massachusetts common law. In a 2001 decision, the Massachusetts Supreme Court determined that the scope of a broker-dealer’s fiduciary duty is a factual issue that turns on the manner in which investment decisions have been reached and transactions executed. While recognizing that the Rule may offer separate protections than Massachusetts common law, the Rule did not abrogate the common law, but stood shoulder to shoulder with Massachusetts common law.[ix]

Nondelegation Doctrine

The Massachusetts Supreme Court determined that MUSA permissibly delegates authority to the Secretary to promulgate the Rule. Massachusetts law provides a three-step analysis to determine whether a delegation of authority is lawful. Analyzing each factor, the Massachusetts Supreme Court determined that the promulgation of the Rule did not violate the nondelegation doctrine.[x]

Conclusion

Ultimately, the Massachusetts Supreme Court reversed the Massachusetts Superior Court decision and upheld the Rule’s validity. Accordingly, broker-dealers should once again take note of the Rule’s requirements.

If you have any questions about the Massachusetts Fiduciary Rule, Reg BI, the regulation of broker-dealers, or state or federally registered investment advisers generally, please feel free to contact us.

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By the Investment Management and Broker-Dealer Team at Kilpatrick Townsend & Stockton

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