Fiduciary duties appear in a wide variety of common business relationships, including the following:

• Trustee and beneficiary (the most common type)
• Corporate board members and shareholders
• Executors and legatees
• Guardians and wards
• Promoters and stock subscribers
• Lawyers and clients
• Investment corporations and investors
• Insurance companies/agents and policyholders

Fiduciary Relationship Between Trustee and Beneficiary

Estate arrangements and trusts involve both a trustee and a beneficiary. An individual named as a trust or estate trustee is the fiduciary, and the beneficiary is the principal. Under a trustee/beneficiary duty, the fiduciary has legal ownership of the property or assets and holds the power necessary to handle assets held in the name of the trust. In estate law, the trustee may also be known as the estate’s executor.

Trustees must make decisions that are in the best interest of the beneficiary, as the latter holds equitable title to the property. The trustee/beneficiary relationship is an important aspect of estate planning, and special care should be taken to determine who is to be the trustee.4

Politicians often set up blind trusts to avoid real or perceived conflict-of-interest scandals. A blind trust is a relationship in which a trustee is in charge of all investments of a beneficiary’s assets without the beneficiary knowing how the assets are being invested. Even though the beneficiary has no knowledge, the trustee has a fiduciary duty to invest according to the prudent person standard of conduct.56

Fiduciary Relationship Between Board Members and Shareholders

A similar fiduciary duty can be held by corporate directors, as they can be considered trustees for stockholders if on the board of a corporation, or trustees of depositors if they serve as the director of a bank.7 Specific duties include the following:

Duty of care

Duty of care applies to how the board makes decisions that affect the future of the business. The board has the duty to thoroughly investigate all possible decisions and how they might affect the business.8 If the board is voting to elect a new chief executive officer, for example, the decision should not be based solely on the board’s knowledge or opinion of one possible candidate; it is the board’s responsibility to investigate all viable applicants to ensure that the best person for the job is chosen.

Duty to act in good faith

Even after the board reasonably investigates all the options before it, it has the responsibility to choose the option it believes best serves the interests of the business and its shareholders.9

Duty of loyalty

Duty of loyalty means the board is required to put no other cause, interest, or affiliation above its allegiance to the company and the company’s investors. Board members must refrain from personal or professional dealings that might put their own self-interest or that of another person or business above the interests of the company.10

If a member of a board of directors is found to be in breach of their fiduciary duty, they can be held liable in a court of law by the company or its shareholders.11

More Examples of Fiduciaries

Fiduciary relationship between executor and legatee

Fiduciary responsibilities can also apply to specific or one-time transactions. For example, a fiduciary deed is used to transfer property rights in a sale when a fiduciary must act as an executor of the sale on behalf of the property owner. A fiduciary deed is useful when a property owner wishes to sell but can’t handle their affairs due to illness, incompetence, or other circumstances and needs someone to do so for them.

A fiduciary is required by law to disclose to the potential buyer the true condition of the property being sold, and they cannot receive any financial benefits from the sale. A fiduciary deed is also useful when the property owner has died, and their property is part of an estate that needs oversight or management.

Fiduciary relationship between guardian and ward

Under a guardian/ward relationship, the legal guardianship of a minor is transferred to an appointed adult. As the fiduciary, the guardian is tasked with ensuring the minor child or ward has appropriate care, which can include deciding where the minor attends school, that the minor has suitable medical care, that they are disciplined in a reasonable manner, and that their daily welfare remains intact.

A guardian is appointed by the state court when the natural guardian of a minor child can’t care for the child. In most states, a guardian/ward relationship remains intact until the minor child reaches the age of majority.

Fiduciary relationship between attorney and client

The attorney/client fiduciary relationship is one of the most stringent and well-known. The U.S. Supreme Court states that the highest level of trust and confidence must exist between an attorney and a client and that an attorney, as a fiduciary, must act with complete fairness, loyalty, and fidelity when dealing with and representing their clients.

Attorneys are held liable for breaches of their fiduciary duties to the client and are accountable to the court, where that client is represented when a breach occurs.11

Fiduciary relationship between principal and agent

A more generic example of fiduciary duty lies in the principal/agent relationship. Any person, corporation, partnership, or government agency can act as a principal or agent as long as the person or business has the legal capacity to do so. Under a principal/agent duty, an agent is legally appointed to act on behalf of the principal without conflict of interest.

A common example of a principal/agent relationship with a fiduciary duty is a group of shareholders acting as principals and electing management to act as agents. Similarly, investors act as principals when selecting investment fund managers as agents to manage assets.

Investment fiduciary

An investment fiduciary need not be a financial professional (money manager, banker, and so on) but is any person with the legal responsibility for managing somebody else’s money.

That means you have a fiduciary responsibility if you volunteered to sit on the investment committee of the board of your local charity or other organization. You have been placed in a position of trust, and there may be consequences for betraying that trust. Also, hiring a financial or investment expert does not relieve the committee members of all their duties. They still have an obligation to prudently choose and monitor the activities of the expert.

Regulation Best Interest and the Suitability Rule

Broker-dealers were once allowed to adhere to a less stringent suitability standard but are now subject to a heightened standard of conduct when recommending investments to retail customers. In 2019, the SEC adopted Regulation Best Interest (BI), which requires broker-dealers to act in the best interest of the retail customer at the time a recommendation is made. This goes beyond the previous suitability standard, which required that recommendations be suitable given the customer’s financial situation.12

Under Regulation BI, broker-dealers must disclose material conflicts of interest; exercise reasonable diligence, care, and skill when making a recommendation; and establish policies and procedures to mitigate conflicts of interest. They are prohibited from putting their financial interests ahead of the customer’s interests. This establishes a “best interest” standard like the fiduciary duty investment advisors owe their clients.

Broker-dealers can still be compensated through commissions. However, Regulation BI requires them to consider cost and other factors in the recommendation process, not just suitability. Recommendations, importantly, cannot place the broker-dealer’s interests ahead of the client’s.13

Regulation BI raises the standard of conduct for broker-dealers when recommendations are made to retail investors. While not a fiduciary duty, it goes beyond the old suitability standard to require broker-dealers to act in their customers’ best interest.

Regulation Best Interest vs. the fiduciary standard

Regulation BI and the fiduciary standard are two codes of conduct that apply to financial professionals providing investment advice to clients. Regulation BI mostly applies to broker-dealers compensated by commission, while the fiduciary standard applies to investment advisors paid a fee for their services. The main difference between the two standards is the level of duty and loyalty the financial professional owes to the client.

Regulation BI requires broker-dealers to act in the client’s best interest at the time of the recommendation without placing their own interest ahead of the client’s interest. However, this does not mean that broker-dealers must eliminate all conflicts of interest or always recommend the lowest-cost or best-performing product. Broker-dealers can still receive commissions, incentives, or other benefits from their recommendations as long as they disclose them to the client and mitigate any material conflicts of interest. Regulation BI also does not impose a continuous duty of care or loyalty to the client, meaning that broker-dealers are not required to monitor the client’s account or update their recommendations.13

The fiduciary standard, meanwhile, requires investment advisors to act with the highest level of duty and loyalty to the client, putting the client’s interest above their own at all times. This means that investment advisors have to avoid or eliminate any conflicts of interest that could compromise their objectivity or impartiality, and they cannot receive any compensation or benefit that is contrary to the client’s best interest. Investment advisors must also review and update their recommendations based on the client’s changing needs and circumstances.

Here are the main points:

• Fiduciary duties are ongoing, while Regulation BI applies only at the time of the investment recommendation.
• Regulation BI still allows commissions and certain conflicts of interest.
• Fiduciary duty prohibits favoring the advisor’s interests over the client’s.
• Regulation BI does not impose a fiduciary duty.14

Clients should be aware of the differences between the two standards and the potential conflicts arising from the financial professional’s compensation structure. Clients should also read the Form CRS Relationship Summary that the financial professional is required to provide, which summarizes the nature and scope of the relationship, the services offered, the fees and costs, the conflicts of interest, the standard of conduct, and the disciplinary history of the financial professional and their firm.15

The Short-Lived Fiduciary Rule

While “suitability” was the standard for transactional accounts or brokerage accounts, the U.S. Department of Labor Fiduciary Rule proposed to toughen things up for brokers. Anyone with retirement money under management, who made recommendations or solicitations for an individual retirement account or other tax-advantaged retirement accounts, would be considered a fiduciary required to adhere to that standard, rather than to the suitability standard that was otherwise in effect.16

The fiduciary rule had a long and yet unclear implementation. Originally proposed in 2010, it was scheduled to go into effect between April 10, 2017, and Jan. 1, 2018. After then-President Donald Trump took office, its effective date was postponed to June 9, 2017, including a transition period for certain exemptions extending through Jan. 1, 2018.17

Later, the implementation of all elements of the rule was pushed back to July 1, 2019. Before that could happen, the rule was vacated following a June 2018 decision by the Fifth U.S. Circuit Court.18 In June 2020, a new proposal, Proposal 3.0, was released by the Department of Labor, which “reinstated the investment advice fiduciary definition in effect since 1975 accompanied by new interpretations that extended its reach in the rollover setting and proposed a new exemption for conflicted investment advice and principal transactions.”19

After taking office in 2021, the Biden administration didn’t revive the defunct fiduciary rule. While President Biden has expressed support for holding Wall Street to higher standards of accountability, his administration has not pursued new rulemaking on reinstating the fiduciary rule. More recently, the Department of Labor under President Biden proposed a new fiduciary rule aimed at strengthening standards for retirement plan advice. However, this would be the fourth attempt to do so since the Obama administration, and there will likely be legal challenges like those of the previous efforts.20

Risks of Being a Fiduciary

The possibility of a trustee/agent not optimally performing in the beneficiary’s best interests is called “fiduciary risk.” This does not necessarily mean that the trustee is using the beneficiary’s resources for their own benefit; this could be the risk that the trustee is not achieving the best value for the beneficiary.

For example, a fund manager (agent) making more trades than necessary for a client’s portfolio is a fiduciary risk because the fund manager is slowly eroding the client’s gains by incurring higher transaction costs than needed.

In contrast, when an individual or entity legally appointed to manage another party’s assets uses their power in an unethical or illegal fashion to benefit financially or to serve their self-interest in some other way, this is called “fiduciary abuse” or “fiduciary fraud.”

Fiduciary Insurance

A business can insure the fiduciaries of a qualified retirement plan, such as the company’s directors, officers, employees, and other natural person trustees.

Fiduciary liability insurance is meant to fill in the gaps in traditional coverage offered through employee benefits liability or director’s and officer’s policies. It provides financial protection when litigation arises due to purported mismanagement of funds or investments, administrative errors or delays in transfers or distributions, a change or reduction in benefits, or erroneous advice surrounding investment allocations.

Investment Fiduciary Guidelines

Responding to the need for better guidance for investment fiduciaries, the nonprofit Foundation for Fiduciary Studies was established to define the following prudent investment practices:21

Step 1: Organize

The process begins with fiduciaries educating themselves on the laws and rules that will apply to their situations. Once fiduciaries identify their governing rules, they then need to define the roles and responsibilities of all parties involved in the process. If investment service providers are used, then any service agreements should be in writing.

Step 2: Formalize

The investment process starts by creating the investment program’s goals and objectives. Fiduciaries should identify the investment horizon, an acceptable level of risk, and expected return. By identifying these factors, fiduciaries create a framework for evaluating investment options.

Fiduciaries then need to select the appropriate asset classes that will enable them to create a diversified portfolio through some justifiable method. Most fiduciaries go about this by employing modern portfolio theory, because it’s one of the most accepted methods for creating investment portfolios that target a desired risk/return profile.

Finally, the fiduciary should formalize these steps by creating an investment policy statement that provides the necessary details for implementing a specific investment strategy. Now the fiduciary is ready to proceed with the implementation of the investment program, as identified in the first two steps.

Step 3: Execute

Specific investments or investment managers can now be selected to fulfill the investment policy statement. A due diligence process must be designed to evaluate potential investments. The due diligence process should identify criteria and filter potential investment options.

The implementation phase is usually performed with the assistance of an investment advisor because many fiduciaries lack the skill or resources to perform this step. When an advisor assists in the implementation phase, fiduciaries and advisors must communicate to ensure that an agreed-upon due diligence process is used while selecting investments or managers.

Step 4: Monitor

The final step can be the most time-consuming and the most neglected part of the process. Fiduciaries should not neglect continuous monitoring since they could be equally liable for negligence here as elsewhere in these steps.

To properly monitor the investment process, fiduciaries must periodically review reports that benchmark their investments’ performance against the appropriate index and peer group and determine whether the investment policy statement objectives are being met. Simply monitoring performance statistics is not enough.

Fiduciaries must also monitor qualitative data, such as changes in the organizational structure of investment managers used in the portfolio. If the investment decision-makers in an organization have left, or if their level of authority has changed, then investors must consider how this information may impact future performance.

In addition to performance reviews, fiduciaries must review the expenses involved. Fiduciaries are responsible not only for how funds are invested but also for how funds are spent. Investment fees directly impact performance, and fiduciaries must ensure that fees paid for investment management are fair and reasonable.

The Bottom Line

A fiduciary is a person or other entity in a position of control and influence over another person’s property or finances. The concept of fiduciaries can be found in a wide array of legal contexts in the United States and throughout the world. Fiduciary relationships are most often found when individuals are entrusted with carrying out a particular act for another, such as a trustee handling assets on behalf of a trust beneficiary.

The term “fiduciary” is widely used in the context of financial advising and brokerage relationships when the client’s best interests must be put first. Because of the significance of these fiduciary relationships, new legal challenges often arise concerning properly carrying out one’s fiduciary responsibilities.