Conflicts of Interest

Part 7:  The Investment Advisors Guide to Errors & Omissions Insurance

  By Gary Sutherland, CIC, MLIS

Conflicts of interest are three words which can make underwriters cringe, especially when referenced in the context of a claim. Conflicts of interest – like suit for fees – are almost always avoidable.

Underwriters use the application as a tool to properly try to assess risk. Questions regarding potential conflict of interest include, but are not limited to:

– Do you advise clients in investments in which you also have an ownership interest?
– Do you act as both trustee and advisor to any client?
– Do you advise clients in investments where you also serve as a director or officer?

The reason underwriters have heightened concern regarding conflicts of interest is the inherent guilt that is implied from the initial relationship. Even when a conflict is fully disclosed and consented to it is rare that an allegation resolves in favor of the advisor.

Attorneys, who handle advisor claims dealing with conflicts of interest, tell us – no matter how good the disclosures, outcomes, and communications – they generally have an unwinnable defense. Plaintiff attorneys will therefore use conflicts of interest, as well as breach of fiduciary duties, to enhance their claims narrative, putting pressure on defense attorneys. These issues are compounded when part of an ERISA claim.

In addition, current litigation trends imply that conflicts of interest will undergo more detailed SEC scrutiny in the near future.* This trend only heightens the concerns underwriters have for this peril.

*The Securities and Exchange Commission plans to take a close look at potential conflicts of interest in the investment-advisor practices. (Investment News Monday, February 25, 2013)

Conclusion

Regardless of your explanation, conflicts of interest will create heightened concern for underwriters. Whenever possible, they should be avoided in your business practices.

Our suggestions include:

1. Conflicts of interest claims are inherently difficult to defend and often unwinnable.

2. Try to anticipate what your client might think now and in the future, and make sure that there is full transparency and disclosure.

3. Disclosure forms should be signed in advance and updated annually.

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Contact us for additional information:

Gary Sutherland, MLIS, CIC    Garys@mcgowanprofessional.com    508-656-1350