DOL Proposes New Fiduciary Rule for Retirement Advisors By: Marcia WagnerEsq.

The U.S. Department of Labor (DOL) has proposed its long-awaited fiduciary rule addressing conflicts of interest in retirement advice.  Consistent with previous announcements made by the White House, the new proposal broadens the scope of retirement advisors who would become subject to the DOL fiduciary standard.  It also includes proposed exemptions that would give brokers and insurance agents (and their firms) the ability to continue to earn transaction-based compensation when advising retirement clients, subject to certain significant restrictions. 

Broad Coverage of Retirement Advisors.  Under the DOL proposal, any individual receiving compensation for providing advice that is specifically directed to a particular plan sponsor, plan participant or IRA owner would automatically be deemed a “fiduciary.”  For example, fiduciary status would be triggered by recommending what assets to purchase or sell, and whether to roll over assets from a plan to an IRA.  The DOL proposal to broaden its “fiduciary” definition would potentially apply to brokers, registered investment advisers (RIAs), insurance agents, administrative service providers and salespeople.  However, the following individuals would be excluded from the fiduciary definition:  
(1) Brokers acting strictly as order-takers for customers who are telling them exactly what to buy or sell without asking for advice
(2) Financial institutions (intending to act as counterparties) making a “sales pitch” to fiduciaries of large plans with financial expertise
(3) Providers of non-fiduciary “investment education” only to IRA clients who do not identify specific investment products 
(4) Providers of valuation services for ESOP stock

“Best Interest” Fiduciary Standard.  As proposed, all fiduciary advisors would have a duty to provide impartial advice in their client’s best interest.  Furthermore, they cannot accept any payments creating conflicts of interest, unless they qualify for an exemption intended to assure that the customer is adequately protected, such as the newly proposed “Best Interest Contract Exemption.”

Best Interest Contract Exemption.
 The DOL proposal establishes a new Best Interest Contract Exemption, giving fiduciary advisors the ability to set their own compensation practices and earn “variable compensation” including commissions. 

Written Contract.  To qualify for this exemption, the firm would need to enter into a written contract with the client that provides for the following:  
(1) The firm commits to following the “best interest” fiduciary standard
(2) The firm represents and warrants that it has adopted compliance policies designed to mitigate conflicts (and there are no differential compensation or other incentives that would tend to encourage individual advisors to make improper recommendations) 
(3) Any conflicts have been identified and disclosed (and the contract must direct the customer to a web page with additional compensation disclosures) 
(4) The customer has a private right of action against the firm for contractual breaches (and arbitration clauses are permitted so long as the client has the right to bring class action lawsuits)

A failure to adopt appropriate compliance policies would not necessarily result in a violation of the exemption, but it may give rise to a private right of action by the customer for the contractual breach.

Customer Disclosures.  In addition to the written contract requirement, the Best Interest Contract Exemption would also require various disclosures to be provided to the customer including:  
(a) A point-of-sale disclosure to the customer that includes the all-in and ongoing costs of the recommended investment
(b) Annual compensation disclosures that also list the investments purchased or sold during the year
(c) A web page with disclosures of all direct and indirect compensation
(d) Notice and other related disclosures if the advisor is unable to recommend a sufficiently broad range of investments due to platform-related or other limitations

DOL Notice.  The advisor would also need to notify the DOL of its intent to utilize the Best Interest Contract Exemption.  It is contemplated that such notice would be sent electronically or by mail.

Principal Transactions Exemption.  The DOL proposal also includes a new “Principal Transactions Exemption” that would give a financial institution the ability to recommend certain fixed income securities and sell them from the firm’s own inventory.

Potential Low-Fee Exemption.  In connection with its proposal, the DOL is asking for comments on whether it should establish a “Low-Fee Exemption” with fewer requirements than the Best Interest Contract Exemption, permitting advisors to earn variable compensation when recommending the lowest-fee product in a given product class.

Anticipated Impact on Retirement Industry.  The DOL proposal would effectively create a uniform fiduciary standard for all retirement advisors, including brokers and insurance agents.  It would impose on substantially all retirement advisors the same type of disclosure and compliance policy requirements that are already imposed on registered investment advisers under securities law.  

Impact on Brokers and Insurance Agents. Under the existing 408(b)(2) fee disclosure rules, there is no obligation requiring advisors to disclose their conflicts of interest.  Thus, the DOL proposal would require conflicts-related disclosures from many advisors who are not currently subject to this requirement, and it would also put pressure on broker-dealers and insurance firms to more closely monitor and limit the levels of variable compensation earned by their registered representatives and agents.  If adopted, the DOL proposal may significantly increase compliance costs for these firms and their retirement businesses.

Controversy of Compliance Policy Requirement. The Best Interest Contract Exemption is designed to be “principles-based” (i.e., based on general principles rather than “rules-based” with detailed requirements), giving firms the flexibility to adopt their own customized compliance policies and adapt them over time.  However, short of levelizing the firm’s payout to its individual advisors, it may be difficult for firms to determine if they have adequately mitigated the conflicts arising from the payment of differential compensation to their individual advisors (which varies with the particular investment product sold to retirement clients).  We can expect heavy comments to be submitted to the DOL with regard to this aspect of the exemption.

Impact on Advisor’s Service Models. If the DOL proposal is adopted, some individual advisors may decide to become RIAs (or investment adviser representative of RIAs), on the grounds that they would be subject to the same fiduciary standard anyway.  Those who switch to a RIA service model would, of course, have to forfeit their right to receive any commissions. In light of the newly proposed requirements, other commission-based advisors may elect to give up on advising plan clients and going after rollover assets altogether.  

Next Steps in DOL Rulemaking Process.  The public may now submit comments on the DOL proposal during the current 75-day notice and comment period.  After the close of this period, a public hearing will be scheduled and the public record will be reopened for comments.  The DOL intends to finalize its rulemaking at the conclusion of this process.

Web Link.  The DOL’s full fiduciary proposal is available online at:
http://www.dol.gov/ebsa/regs/conflictsofinterest.html
Marcia S. Wagner

Marcia Wagner is a specialist in pension and employee benefits law, and is the principal of The Wagner Law Group. The Wagner Law Group is one of the nation’s largest boutique law firms, specializing in ERISA, employee benefits, and executive compensation. Wagner founded the group over 19 years ago. ...

More about Marcia Wagner
Sign up for our Newsletter

More Articles From This Issue

Sign up for our Newsletter