Financial advisors, as professionals whose clients rely on their advice to make financial decisions, are legally and financially responsible for the advice that they give. For example, if an advisor recommends an investment that prioritizes the commission they would receive rather than any benefit the client would derive from it, they could incur fines and sanctions for violating their fiduciary duty as an advisor. Or if an advisor knowingly misled a client in giving information that led them to make an investment decision, they could be penalized for giving fraudulent advice under state or Federal law.
But liability for advisors also extends to situations where they may not have intended to give false information, but nevertheless provided advice that caused the client to incur financial loss. In these situations, advisors can still be held liable – and required to pay restitution – for ‘negligent’ investment advice if they’re determined to have failed to exercise due care when making a recommendation to a client.
Which means that when an advisor recommends a certain investment strategy for a client, their standards of care should dictate that they first make sure that the strategy is within the client’s tolerance for risk. Otherwise, if the advisor doesn’t account for the client’s stated risk tolerance when making the recommendation (or doesn’t bother to assess their risk tolerance to begin with), and the portfolio declines with the client incurring losses as a result, the advisor could be required by a jury or arbitrator to pay back the client for those losses. And as courts have found over time, even types of advisors’ who do not owe a fiduciary duty to their clients – e.g., broker-dealer representatives and insurance producers in certain instances – can still be found liable for giving negligent advice if their customers rely on the information that they give to make decisions about which products to buy.
Notably, even though individual advisors are liable for the advice they give, it is often the advisory firm that employs them that ultimately pays out any liability-related payments to clients. In some cases, that might be because the firm itself is held jointly liable with the advisor (which is allowed when the advisor’s negligent advice or recommendations are given within the scope of their duties as an employee). In others, it’s because the firm has Errors & Omissions (E&O) insurance that covers the liabilities of itself and its employees. And often, the firm is simply more likely to have the resources to pay a liability claim than an individual advisor. (Although individual advisors may face further consequences, like regulatory fines and sanctions, loss of professional designations, and public disclosure of the advisor’s disciplinary history, that affect themselves and their careers.)
The key point is that advisor liability doesn’t just affect individual advisors who are held accountable for their own advice: If an advisor is found liable for giving negligent advice, it also impacts the firm they work for and, by extension, the reputations of the other advisors they work with. Which is why it’s important for advisors thinking about joining a firm to consider the firm’s culture and how well it trains its advisors (and reinforces the training) on exercising due care in giving financial advice. Because ultimately, it’s better to be surrounded by others who take care in advising their clients than to be the only one doing so!
