In a complaint filed this week, a group of seven states (plus the District of Columbia) sued the SEC for having adopted a rule that allegedly does not comply with the mandate in the 2010 Dodd-Frank law for broker-dealers to make recommendations “without regard to” the broker-dealers’ own interests, similar to the fiduciary obligation investment advisers owe their clients.

The standard the SEC adopted instead — that broker-dealers cannot put their interests “ahead of the interest of the retail customer” — is below the standard required by law, according to the complaint, for multiple reasons:

First, the Final Rule’s failure to adopt the “without regard to” standard, and adoption of language which only requires that these interests not be placed “ahead of” investors’ interests, means that the Final Rule expressly countenances broker-dealers considering their own interests in making a recommendation. That is a far cry from the fiduciary standard authorized in Section 913(g) [of Dodd-Frank].

Second, in its attempt to accommodate the different business models of broker-dealers, the Commission also left undefined key terms in the Final Rule, including the term “best interest” itself. This ambiguity, in contrast to the clear, uniform fiduciary standard set out in Section 913(g), creates the risk of disparate or ineffective application and enforcement.

Third, the failure to adopt a uniform standard and instead rely on a new and amorphous “best interest” standard will result in continued investor confusion as to the duties applicable to broker-dealers and investment advisers. Indeed, the Final Rule leaves investors in a more vulnerable position because the Final Rule’s “best interest” language will exacerbate investors’ mistaken belief that broker-dealers must put aside their own financial interests and actually do what is best for investors, when the Final Rule expressly disclaims that obligation.

The case is before Judge Marrero.