What are Fiduciary Responsibilities?  And, why you need to understand them.

Fiduciary responsibility refers to the obligation that one party has in relationship with another one to act entirely on the other party’s behalf and best interest.

What is Fiduciary Responsibility?

Fiduciary responsibility refers to the obligation that one party has in relationship with another one to act entirely on the other party’s behalf and best interest. It is considered to be the standard of the highest care.

The individual who has the responsibility of being a fiduciary is referred to as the fiduciary. The individual that the duty of a fiduciary is owed, is usually designated the principal or beneficiary.

The fiduciary is given a legal responsibility to the beneficiary, and it must be ensured that there is no conflict of interest between them. Most situations provide no profit to the fiduciary unless agreed upon from the outset.

If fiduciary duties are breached, an accounting would be required for the profit. The beneficiaries would also be entitled to various damages, even if no harm was done.

Fiduciary duties have been created to encourage people to specialize and to take up fiduciary responsibilities. The various laws were created to reduce beneficiaries from being abused. They will also give beneficiaries greater assurance of that protection.

A fiduciary who handles investments manages someone else’s money for them. They are given a position of responsibility and they will face consequences if they betray that trust.

This type of relationship is generally only given when the beneficiary trusts the other person. It generally is not enough for mere respect of the other person’s character or judgment.

A fiduciary is responsible to be loyal and provide reasonable care to the assets under their control. Every action performed with the beneficiary’s assets is entirely for the beneficiary’s advantage.

It is expected that a potential fiduciary has more knowledge and actual expertise in the assets being controlled. In all matters, such as in the purchase of a piece of property or in a business venture, the focus must always be on the best interest of the principal. This requires that the fiduciary be absolutely candid with the beneficiary.

What are some corporate and fiduciary duties?

Where the duties of a corporate fiduciary are concerned, it is generally a good idea to refer to the corporate laws of Delaware. This is because more than half of all companies that are publicly traded are incorporated in that State. Different rules may apply if a company is incorporated in another State.

As the director of a corporation who is expected to fulfill their duties as a manager, they are charged with specific fiduciary responsibilities. Their main concern is the duty of loyalty and care. The duty of Care means that before making any kind of decision for the company, that they must inform themselves of all available information.

The accuracy of the decision made will be affected by the amount of information, whether or not there was ample time to gather sufficient information before a decision had to be made, and what advice was available. All information cannot simply be accepted as is, but it must be looked at critically in order to protect the corporation’s assets and stockholders.

The term Duty of Loyalty, the Delaware Supreme Court explains, states that the directors and officers are not allowed to use their office and confidence others place in them to promote their own personal interests.

Public policy that has existed for many years, established rules that places a demand on corporate officers, that they give the best possible attention to their duties to:

Protect the general interests of the corporation.

Avoid doing anything that would bring harm to the corporation.
Not deprive the corporation of possible profit by not using their best skills, or not enabling it to make the most profit possible.
The term Duty of Good Faith demands that the corporate director seeks to promote the corporation’s interests, avoid breaking the law, and faithfully fulfills the duties of the office.

The term Duty of Confidentiality means that corporate directors must keep information belonging to the company confidential and not use it for their own profit.

The term Duty of Prudence means that a trustee administers a trust with caution, care and skill.

Duty of Disclosure requires that directors act with “complete candor.” At times, this may mean revealing to the stockholders all circumstances and facts surrounding a decision made by the directors.

If the decision is questioned in a court, the court will typically presume that the corporate directors had acted from an informed basis with good faith and believing that it was in the company’s best interests. This means that a court will often refrain from inquiring into the reason, assuming that the director thought it was in the best interest of the corporation.

In some cases, courts have allowed officers of a charity to operate by different rules. They may be permitted to make decisions that are personally advantageous. This has often been allowed as long as there was no cost to the charity. It does not grant permission to an officer to divert the earning potential of the charity into his own pocket.

In some cases, certain types of relationships automatically assume that a fiduciary responsibility is in place. This is true between a doctor and patient, a pastor and member of the congregation, a lawyer and a client, etc. It is also true in the case when a contract is made. This permits the one person to have some dominance over the other.

Although states look at fiduciary transactions differently, they do typically show favor toward the beneficiary. Transactions made between a fiduciary and a beneficiary can be voided, declared to be void, or a contract can be canceled. If there is a problem and the matter is taken to court, the fiduciary needs to prove that the transaction had been fair.

Who is Considered as a Fiduciary?

If you are on an investment committee, some of your responsibility can be shared with the investment adviser on the committee. If the adviser is Registered Investment Adviser, then he does possess fiduciary responsibility along with other committee members. A broker does not have liberty to do this, which is why a number of brokerage firms will not permit their brokers to become fiduciaries.

Whether or not an adviser is a fiduciary depends on their actions. If they provide advice on an ongoing basis, then they are considered to be a fiduciary. If they merely sell products, they are not a fiduciary.

A Fiduciary’s Responsibilities

The primary responsibility of a fiduciary is to be prudent in the investment process. Prudence is demonstrated in the process used concerning how they make investment decisions. They must have guidelines.

A fiduciary needs to demonstrate prudence by the process through which they make and manage their investment decisions. This means fiduciaries need to have a basic plan determining how they will go about their responsibilities. One group that has provided guidance for fiduciaries is the nonprofit organization Foundation for Fiduciary Studies.

They directed fiduciaries to follow several prudent practices while making investment choices. The first guideline is to self-educate concerning the laws that apply. Investment fiduciaries that deal with retirement plans need to familiarize themselves with the Employees Retirement and Income Security Act (ERISA) and the guidelines and laws in it. After understanding their own roles, they must provide the responsibilities and roles of everyone else who is involved. If they are going to use service providers for their investments, then service agreements will need to be in writing.

What are the steps a fiduciary should take?

Once the laws and roles are understood, the next step is to create the goals and objectives of the investment program. The fiduciary then needs to identify various factors, such as:

The investment horizon.
The desired level of risk.
The return on the investment.
After these things are determined, the fiduciary has the framework needed to evaluate various investment options.

Determining asset classes that lets them create a diversified portfolio can then be made by using some type of methodology. In most cases, a fiduciary will choose the asset classes by using modern portfolio theory (MPT) because it is the one most commonly used. It enables them to choose asset classes based on targeting specific risk and return levels.

Creating an investment policy statement should be made by formalizing the above steps. The statement will provide the details necessary to follow a specific strategy of investment.

Implementing the policy statement involves choosing selected investments or particular investment managers to obtain the requirements detailed in the statement. Evaluating any potential investment requires due diligence and a process must be developed for it. It should establish the criteria desired to evaluate and choose options for investment.

An investment adviser is often chosen to assist in implementing the policies because fiduciaries often do not have sufficient knowledge, skill, or resources to complete this step. Communication between the fiduciaries and advisers are essential in this step to ensure that due diligence is being applied when selecting the investments or the managers.

The last step is often ignored because it consumes the most time. A fiduciary, however, can be liable in any and all of these steps due to negligence if they ignore this part of their responsibility.

Monitoring of the investments properly requires that a fiduciary periodically reviews the reports that show a comparison between the performance of their investment with the correct index and peer group, and decide whether or not the objectives of the investment policy statement are being carried out.

Monitoring performance data is not sufficient. A fiduciary also needs to monitor the qualitative data. This includes when changes occur within an investment manager’s organizational structure. When the management changes, or when others begin making the decisions, it becomes necessary to understand how this will affect the future performance.

Expenses also have to be reviewed in relation to implementing the process used. A fiduciary is responsible for how money is invested, and also how the funds are used.

Understanding how various fees affect the performance is important and the fiduciary needs to determine whether or not they are reasonable, as well as fair.

When the above steps are properly carried out, investment committee members and trustees can have confidence that they are fulfilling their duties in a faithful manner. The important thing is that they use prudence in each step.

What are some examples of Fiduciary Duty?

The duties of a fiduciary come in various forms under the current legal system. This includes the duties of a principal and agent, a trustee and a beneficiary, and a lawyer and the client.

A trust created from an estate involves a fiduciary duty between the trust and the designated beneficiary. The person who is designated as the trustee holds legal ownership of the property and assets that are under the trust. It is the responsibility of the trustee to make all decisions for the best benefit of the beneficiary, because the beneficiary has the equitable title on the property. A comprehensive estate plan requires careful consideration of the individual who will become the trustee.

Another example of a fiduciary duty occurs between a principal and an agent. Many types of principals and agents can be made, as long as there is a legal ability to do it. This could be between an individual, a partnership, a corporation, or a government agency. An agent is selected to act on the part of the principal, and there must not be a conflict of interest.

One example that demonstrates a principal and agent relationship that involves a fiduciary responsibility occurs when shareholders elect C-suite individuals or managers to act as their agents. Another example is when investors become principals when they choose a fund manager to manage their funds. The manager then acts as an agent.