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The Department of Labor Answers Some Questions About the New Fiduciary Rule

In the May 2016 edition of this newsletter, we discussed the Department of Labor’s (“DOL”) newly introduced regulation, (the “advice rule”), that implemented significant changes to the rules governing when a person or entity who provides investment advice to a retirement plan, plan participant, or IRA owner is considered to be a fiduciary. This rule, issued on April 8, 2016, is intended to expand the definition of investment advice under ERISA and the Internal Revenue Code (“Code”). The DOL and the proponents of the rule are concerned that advisers may have a conflict of interest when they receive certain types of compensation in exchange for providing advice.

One major expansion of the current regulation applies when an adviser provides investment advice for a fee to a retirement plan participant regarding a distribution from the plan or a rollover to an IRA. The advice rule treats the adviser as a fiduciary and causes that advice to be subject to the prohibited transaction rules of ERISA and the Code. This generally means that advisers can no longer receive some forms of compensation in connection with that advice unless they meet the terms of an exemption. The advice rule also expanded the definition of ERISA covered advice given to retirement plans, provided guidance on the distinction between education and advice, and made other significant changes to the relationship between retirement plans and their investment advisers.

The advice rule introduced a major new exemption, the Best Interest Contract Exemption (“BIC Exemption”), to provide a means for advisers to continue to receive certain types of compensation when they serve as advice fiduciaries. Under the BIC Exemption, the advisor must comply with a variety of requirements, including entering into a written contract with IRA participants promising to comply with the exemption, the adoption and adherence to certain standards of conduct, and meeting significant disclosure obligations.

Even if you have not been following the introduction of the advice rule very closely, you may have noticed that it has been very controversial, with vocal proponents on both sides. It has been discussed in the context of the Presidential election and now during the transition to the new administration. There is a possibility that the rule may be delayed, altered in some way, or, less likely, revoked altogether. In the meantime, plan sponsors and their advisors need to prepare for the current effective date of the rule, which is April 10, 2017.

To that end, at the end of October, the DOL released 34 FAQs further explaining how the rule works and answering some questions that have been raised since its issuance earlier this year, particularly focusing on the BIC Exemption. While most of the FAQs describe the requirements that need to be followed by advisers and their firms, it is important for plan sponsors to know how the advice rule affects their relationships with their service providers.

Some of the key issues addressed by the DOL in the FAQs are as follows:

  • The Obama administration DOL does not intend to delay the effective date of the rule, despite requests for a delay. The DOL said that, in light of the importance of the advice rule’s consumer protections and the monetary harm to retirement investors without the new rule, the April 10, 2017 applicability date remained appropriate and provided adequate time for plans and financial service providers to adjust to the new requirements. The DOL also pointed out that there is a transition period that applies to the implementation of the BIC Exemption: between April 10, 2017 and December 31, 2017, fewer requirements will apply in order to comply with the BIC Exemption. But as noted above, the effective dates could be changed once the new administration takes over.

  • Although the rule now covers advice with respect to rollovers, the DOL explained that a person or firm is not a fiduciary for just executing a rollover transaction without advice or for recommending a particular investment without receiving direct or indirect compensation.

  • An adviser generally won’t be considered as having a conflict of interest with the participant if the compensation received is measured as a fixed percentage of assets under management or a set fee that does not vary with the particular investment recommended (a “level-fee.”) This is because the amount of compensation won’t vary depending upon the advice given. Level fees do not include commissions or other transaction-based fees. However, the DOL explained that an advisor might still become a fiduciary under the advice rule even while receiving level-fee compensation when the advisor recommends a distribution or a rollover. For example, if the adviser recommends that a participant roll retirement savings out of a plan into a fee-based account that will generate ongoing fees for the adviser that she would not otherwise receive, it could be a conflict even though the compensation is based on a level-fee. Or, investment advice to switch from a commission-based account to an account that charges a fee based on a level-fee could, in some cases, create a conflict. In these situations, the rule requires that the adviser follow the BIC Exemption in order to receive compensation. A “streamlined” version of the BIC Exemption is available for level-fee advisers under some circumstances.

  • One of the requirements of the “streamlined” version of the BIC Exemption is that advisers and their firms document the reason why the advice to roll over assets from an ERISA plan to an IRA was considered to be in the best interest of the participant. The rule provides that the documentation must take into account the fees and expenses associated with both the existing plan and the IRA, whether the employer pays for some or all of the existing plan’s administrative expenses, and the different level of services and investments available under each option. It is the adviser’s responsibility to obtain this information about the existing plan. The DOL notes that most of the necessary information should be available in the annual fee disclosure notice, or otherwise through alternative data sources such as the latest Form 5500. Therefore, plan sponsors may find that they are being asked for information about their plans from advisers trying to comply with this requirement. The DOL also notes that, while this requirement is only contained in the “streamlined” section of the BIC exemption, the analysis of whether a rollover appropriate applies even where the advisor is not a level-fee advisor. It is the DOL’s view that all advisors should be obtaining plan information so that they can determine whether a rollover is more appropriate than leaving assets in the plan.

The FAQs also provide guidance on some of the other exemptions that are available to advisors and about other issues related to advice, including the use of so-called robo-advice (an interactive website in which computer software based models provide recommendations based on input from the investor without any personal interaction or advice from an individual advisor.)

The new fiduciary rule is quite detailed and technical, and how it applies to a particular plan or participant is dependent upon the specific facts relating to the services provided and compensation of the advisor. If you have any questions about how the rule might apply to your plan, please contact us. We will of course be monitoring developments and will let you know if there is any change made to the rule after the new administration takes over.

© Boutwell Fay LLP 2016, All Rights Reserved. This handout is for information purposes only, and may constitute attorney advertising. It should not be construed as legal advice and does not create an attorney-client relationship. If you have questions or would like our advice with respect to any of this information, please contact us. The information contained in this article is effective as of December 31, 2016.

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