The revised Department of Labor (DOL) fiduciary rule (Rule) was published in its final form in the Federal Register and can be accessed by clicking this link. Although effective starting June 7th, 2016 the DOL has granted time for affected service providers of retirement plans to adjust to fiduciary status and partial compliance is not required until April 10, 2017 with full compliance required by January 1, 2018.
The focus here is determining if fiduciary status applies to your firm based on the advice provided to retirement plans or participants, what exemptions may apply, and what steps must be taken to maintain compliance.
Definition of Fiduciary
Under the Rule a fiduciary will now include a person providing investment advice regarding money or property within the plan for a fee or other compensation, directly or indirectly, to a plan, plan participant or beneficiary, IRA or IRA owner. Investment advice relevant to this definition include the following:
- A recommendation as to the advisability of acquiring, holding, disposing of, or exchanging, securities or other investment property, or a recommendation as to how securities or other investment property should be invested after the securities or other investment property are rolled over, transferred, or distributed from the plan or IRA;
- A recommendation as to the management of securities or other investment property, including, among other things, recommendations on investment policies or strategies, portfolio composition, selection of other persons to provide investment advice or investment management services, selection of investment account arrangements (e.g., brokerage versus advisory); or recommendations with respect to rollovers, transfers, or distributions from a plan or IRA, including whether, in what amount, in what form, and to what destination such a rollover, transfer, or distribution should be made; and
- The investment advice is made, directly or indirectly (through an affiliate), by a person who:
- Represents or acknowledges that it is acting as a fiduciary within the meaning of the ERISA or the IRS Code;
- Renders the advice pursuant to a written or verbal agreement, arrangement, or understanding that the advice is based on the particular needs of the advice recipient; or
- Directs the advice to a specific advice recipient or recipients regarding the advisability of a particular investment or management decision with respect to securities or other investment property of the plan or IRA.
The definition goes on to explain what constitutes a “recommendation” and what may be excluded from that definition, such as providing certain services or information regarding the plan or IRA, such as marketing or making available to a plan fiduciary a platform or similar mechanism where the plan fiduciary may select or monitor investment alternatives; identifying investment alternatives that meet objective criteria specified by the plan fiduciary; providing objective financial data and comparisons with independent benchmarks to the plan fiduciary.
The definition also clarifies that an advisor is not a fiduciary when providing advice to an independent person who is a fiduciary of a plan or IRA, if that fiduciary is a bank, insurance carrier, registered investment adviser, broker-dealer, or other person that holds or has assets under management of at least $50 million. This means the old definition has been expanded to focus on advice given to IRA owners and people rolling over their employer sponsored plan (e.g., 401(k) account) into an IRA. Finally, education and general marketing materials that a reasonable person would not view as investment recommendations are not included in the definition of retirement investment advice, so advisors may continue to provide general materials on retirement saving without triggering fiduciary duties.
As a fiduciary, an advisor must adhere to a “best interest” standard for a client, rather than a “suitability” standard for an investment product. Therefore, an advisor cannot receive fees that could be seen as creating conflicts of interest (i.e. commission or revenue-sharing), unless a qualified exemption applies.
Best Interest Contract Exemption (BICE) and Impartial Conduct Standards
This exemption, published at this link, provides relief for compensation, such as commissions and revenue sharing, that an advisor and the advisor’s employing firm might receive in connection with investment advice to retail retirement investors. The BICE requires financial institutions and advisors to acknowledge fiduciary status for itself and its advisors, adhere to basic standards of impartial conduct by giving prudent advice in the client’s best interest, avoid misleading statements, and receive only reasonable compensation. Additionally, financial institutions must adopt policies and procedures reasonably designed to mitigate any harmful impact of conflicts of interest, disclose basic information about their conflicts of interest and the cost of their advice. Level Fee fiduciaries are subject to more streamlined conditions.
Principal Transactions Exemption
The other main exemption from the Rule is the Principal Transactions Exemption, published at this link, which permits advisors to sell or purchase certain debt securities and other investments out of their own inventories to or from plans and IRA owners. The exemption applies even though this transaction results in payment to the advisor. However, similar to the BIC exemption, the advisor must adhere to Impartial Conduct Standards and disclose to the client any conflicts of interest in order to make use of the exemption.
How should a Chief Compliance Officer respond to the Rule?
In all cases, the advisor will want to retain documentation of compliance with this new rule, including contracts, policies, procedures, and disclosures, to support your Books & Record requirements. However, there are no additional record retention requirements for detailed data on inflows, outflows, holdings, and returns for retirement plan or IRA clients.
Chief Compliance Officers should review the information in their Form ADV Part 2A and client agreements to determine whether or not they are acting as a fiduciary based on the recommendations provided to clients regarding retirement plans, participants, beneficiaries or IRAs, and ensuring that their client agreements and ADV contains all disclosures required by the Rule regarding conflicts of interest and compensation arrangements, including a statement as to whether or not they are a fiduciary.
Although an RIA may not be compensated by a commission or revenue sharing, Form ADV requires disclosure to clients regarding potential conflicts and compensation arrangements. Hybrid advisors receiving commission compensation will want to ensure they are satisfying the BICE. Therefore as a best practice we recommend that even firms without commission or revenue sharing fees should provide notice to retirement clients that they are providing their services in the client's best interest to uphold their fiduciary duty and review and update disclosures of any potential conflict of interest. This will ensure that you are availing your firm of the BICE and creating a presumption of compliance with the Rule.