Commission

B is correct. This scenario illustrates the core conflict created by commission-based compensation. David paid $12,000 (4% of account value) for 65 trades that significantly underperformed the market, while Emily paid $3,000 (1%) for 8 trades that matched market performance. The broker's per-transaction compensation created an incentive to trade excessively, likely constituting churning given the control, excessive activity (65 trades for a conservative investor), and commission-generation motive.

A is incorrect because positive absolute returns do not justify excessive trading that generates high commissions and underperforms benchmarks. The 8% underperformance is significant. C is incorrect because the compensation structures are NOT equivalent: David paid 4x more in costs and received inferior results, demonstrating how commission incentives can harm clients. D is incorrect because legal and disclosed compensation does not eliminate suitability or fiduciary violations. excessive trading driven by commission incentives violates the reasonableness standard and potentially constitutes churning.

B is correct. The fundamental difference is the payment structure and resulting incentives. Commission-based compensation pays the agent for each individual transaction, creating an incentive to maximize trading frequency (even when unnecessary). Fee-based advisory compensation typically charges a percentage of assets under management (AUM) annually, aligning the adviser's interests with the client's since both benefit from portfolio growth rather than transaction volume.

A is incorrect because commission-based compensation is legal and widely used by broker-dealers; it simply creates different conflicts than fee-based compensation. C is incorrect because BOTH commission arrangements and advisory fee structures require disclosure to clients. commissions must be disclosed per transaction or in advance, and advisory fees must be disclosed in Form ADV Part 2A. D is incorrect because commissions have no specific regulatory percentage cap; they must be "reasonable" based on industry standards, services provided, and transaction complexity.

C is correct. This question highlights the critical difference between suitability (broker-dealer standard) and fiduciary duty (investment adviser standard). The bond itself is suitable: it matches the client's conservative profile and income objectives. Under broker-dealer suitability rules, the recommendation is appropriate even though a lower-cost alternative exists, as long as the commission is reasonable. However, if the broker were acting as an investment adviser with fiduciary duty, they would be required to recommend the lower-cost identical bond because fiduciary duty requires acting in the client's BEST interest, not just making appropriate recommendations.

A is partially true but incomplete: the bond is suitable, but this doesn't address the compensation issue or the existence of a better alternative. B is incorrect because the $500 commission itself is not necessarily "excessive" in absolute terms for a bond transaction, and the existence of a lower-cost alternative does not automatically make the recommendation unsuitable under broker-dealer standards. D is incorrect because disclosure alone does not satisfy best interest or eliminate all conflicts; the question is whether the recommendation meets applicable standards, not just whether it's disclosed.

C is correct (the EXCEPT answer). Commission-based compensation does NOT eliminate suitability requirements. Regardless of how a broker-dealer or agent is compensated (commissions, fees, or other arrangements), they must still ensure that recommendations are suitable for the client based on the client's investment profile, objectives, risk tolerance, and financial situation. The compensation structure is irrelevant to the suitability obligation.

A is accurate: Commission-based compensation inherently creates a conflict because the agent earns more by executing more transactions, which may not align with the client's best interest of minimizing unnecessary trading costs. B is accurate: Churning (excessive trading to generate commissions) is a prohibited practice that violates both fiduciary duty and suitability standards, particularly when the agent has control over the account and trades excessively with intent to generate commissions. D is accurate: While no specific percentage cap exists for commissions, they must be "reasonable" based on the complexity of the transaction, services provided, and prevailing industry standards for similar transactions.

B is correct. Statements 1, 3, and 4 are accurate.

Statement 1 is TRUE: The agent faces a clear conflict of interest. recommending the load fund generates a 4% commission, while recommending the identical no-load fund generates no commission. This creates an incentive to recommend the higher-cost option despite it being financially worse for the client.

Statement 2 is FALSE: The recommendation does not automatically violate broker-dealer suitability standards merely because a lower-cost alternative exists. Under suitability (as opposed to fiduciary duty), the recommendation must be appropriate for the client's objectives and risk tolerance, which the load fund may satisfy. Broker-dealers are held to a suitability standard (appropriate), not a best interest standard (optimal), though the commission must be reasonable and disclosed.

Statement 3 is TRUE: Under broker-dealer suitability standards, the agent can recommend the load fund if it meets the client's investment objectives, risk tolerance, and financial situation, the 5.75% load is reasonable for the industry and services provided, and the commission/load is properly disclosed. Suitability does not require recommending the absolute lowest-cost option.

Statement 4 is TRUE: Under investment adviser fiduciary duty, the adviser would be required to recommend the no-load fund. Fiduciary duty requires acting in the client's BEST interest, and when two funds are identical except for cost, the lower-cost option is always in the client's best interest. Disclosure of the conflict does not eliminate the duty to recommend the optimal choice.