The Department of Labor (DOL) has announced its highly anticipated final fiduciary rule, which is intended to help ensure that Americans saving for retirement get investment advice that is in their best interest. The DOL’s fiduciary rule (sometimes referred to as the conflicts of interest rule) and its exemptions can be accessed on the DOL’s website located here.
Following its initial proposal in April 2015, which was highly criticized by many in the securities industry as being overly burdensome to investment advisors and likely to cause more harm than good to investors, the DOL went back to the drawing board. In the 11 months since its 2015 proposal, the DOL conducted a lengthy comment period and received extensive feedback through four days of public hearings, thousands of comment letters, and more than 100 meetings. Upon considering this input, the DOL issued its final rule, which specifically addresses many of the comments and concerns raised concerning its 2015 proposal but leaves in place the general structure and format of the proposal and its stated exemptions.
The DOL’s final fiduciary rule and related exemptions are intended to protect investors by requiring all who provide retirement investment advice to retirement plans and IRAs to abide by a “fiduciary” standard—putting their clients’ best interest before their own profit. The basic structure of the fiduciary rule is that financial advisors and institutions are not permitted to receive payments creating conflicts of interest with their retail retirement investors without meeting a prohibited transaction exemption. In other words, without the exemption, firms cannot continue to set their own compensation structures.
This prohibited transaction exemption is referred to as the Best Interest Contract Exemption (BICE). An advisor or firm who wishes to receive compensation that would otherwise be prohibited must meet the proposed BICE. The DOL received tremendous criticism for the 2015 proposal’s lack of clarity with regard to the BICE requirements. In issuing its final rule and exemptions, the DOL amended the proposal to provide firms and their advisors with clarity on when the BICE comes into play and how institutions are to ensure compliance with the regulations.
One of the DOL’s primary concerns that the rule is intended to address is a pervasive propensity of firms and individuals offering investment advice to market themselves on “trust” and “fidelity.” However, when issues arose between investors and advisosr and investors claimed that the advisor breached his or her duty of trust, advisors would pull the rug out in litigation and rely on state laws that generally provide that there is no common law fiduciary duty between advisor and client absent extraordinary circumstances. One of those extraordinary circumstances, of course, was where there was a contract between advisor and client where the advisor acknowledged a fiduciary duty to the client. Such contracts, until now, have been rare to non-existent in the context of IRAs and non-ERISA plans.
The BICE is intended to implement a contractual fiduciary duty between advisor and customer. In order to qualify under the BICE and receive compensation that would otherwise be prohibited under the final rule, institutions and advisors must acknowledge their fiduciary status in their written agreement with the client. This requires advisors and institutions to adhere to fiduciary standards of conduct and to engage in fair dealing when giving investment advice to their clients. Per the DOL, this means that the advisor must agree in writing to give the recipient advice that is based on the recipient’s particular investment needs, and make recommendations directed to a specific recipient “regarding the advisability of a particular investment or management decision.” This fiduciary standard for advisors and their institutions also includes a reasonable compensation standard; disclosing the cost of their advice to their advice recipients; and disclosing basic information about their conflicts of interest to their customers.
The final rule is applicable to communications that constitute “fiduciary investment advice.” Covered investment advice includes a “recommendation” to a plan, plan participant or beneficiary, plan fiduciary, or IRA owner for a fee or other compensation (whether direct or indirect), as to the advisability of buying, holding, selling or exchanging securities or other investment property. It also includes a “recommendation” with respect to rollovers, transfers, or distributions from a plan or IRA. Given America’s aging population and all of the complications that go along with that, this latter category of “recommendations” regarding distributions will likely receive heightened scrutiny across the regulatory and enforcement platform in the coming years.
In response to industry concerns, the final rule also described communications that would not be considered fiduciary investment advice and, therefore, fall outside of this regulatory regime. Examples of communications not covered by the rule include: general communications and commentary regarding investment products, such as financial newsletters; marketing materials; investment education; retirement education; and providing a menu of available investment alternatives from which a plan fiduciary could choose.
With its release of the final rule, the DOL also released a plethora of helpful information about the final rule and exemptions and a chart illustrating the key changes from its 2015 proposal to the present final rule.
The final rule will begin to take effect in part by April 2017, with full implementation due in January 2018.
The Securities Industry and Financial Markets Association (SIFMA), the securities industry’s primary trade association, has issued a statement that it remains “concerned that the DOL’s rule could force significant changes to current relationships, which may leave clients without the help they need to prepare for retirement, at a time when we all agree that more can and should be done.”
To close, the final rule is both lengthy and complicated. All industry sectors and consumer groups are in the processing of studying the details and analyzing the implications of the rule and its exemptions. We should expect much more by way of analysis and critique of the final rule from all sectors in the coming months.
Republished with permission. This article first appeared in InsideCounsel on April 18, 2016.