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After more than five years of development and revision, the US Department of Labor (DOL) released final regulations to redefine a “fiduciary” under the Employee Retirement Income Security Act of 1974, as amended (ERISA) and the Internal Revenue Code of 1986, as amended (the Code). Calling these “conflict of interest” rules, the DOL sought to expand ERISA protections for participants by expanding the category of persons treated as a fiduciary by rending investment advice for a fee. Although the DOL did not deviate from its stated goal of expanding the communications that constitute fiduciary investment advice, it incorporated feedback from public comments into the final regulations.
The final regulations require investment advisers for ERISA-governed retirement plans and individual retirement accounts (IRA) to act in the best interest of their clients as “fiduciaries” within the meaning of ERISA and the Code, and provides carve-outs to these rules in certain situations. While the regulations hold many implications for advisers and their firms, this summary focuses on the relevant provisions for plan sponsors.
Investment Advice Covered in the Fiduciary Definition
Under the final regulations, only when an adviser makes recommendations to plans, plan fiduciaries, plan participants or beneficiaries, and IRA owners are they considered a fiduciary rendering investment advice. Consistent with the approach of the Financial Industry Regulatory Authority (FINRA), an adviser recommendation is advice when, based on its content, context and presentation, it would reasonably be viewed as a suggestion to engage in or avoid certain actions. The more individually tailored the communication, the more likely it is to be considered a recommendation. Recommendations are provided in exchange for a “fee or other compensation, direct or indirect.”
Investment Advice Not Covered in the Fiduciary Definition
The DOL has identified multiple exclusions from the fiduciary definition which are of great interest to plan sponsors, including:
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Employees of plan sponsors, affiliates, employee benefit plans, employee organizations, or plan fiduciaries, as long as they receive only their normal compensation for the work performed for their employers;
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Health and welfare plans are not subject to the rules, to the extent that these plans lack an investment component;
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Education about retirement savings and general investment information;
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General communications that would not reasonably be viewed as investment recommendations;
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General platforms of investment alternatives that service providers offer to participants, as long as the provider represents in writing to the plan fiduciary that it is not providing impartial investment advice or giving advice in a fiduciary capacity; and
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Asset valuations. While an earlier DOL proposal included in the definition of fiduciary appraisers of privately held stock for an employee benefit plan, such as an employee stock ownership plan (ESOP), this rule was eliminated from the final regulations. The DOL states that it is looking into another regulation project to address issues related to these valuations.
Best Interest Contract Exemption
Under ERISA and the Code, advisers who provide fiduciary investment advice to plan sponsors, plan participants and IRA owners engage in prohibited transactions if they receive payments for the investments because it creates a conflict of interest. The “best interest contract exemption” allows advisers recommending any asset to continue many current compensation practices, as long as they (1) commit to providing “advice in the client’s best interest, charge only reasonable compensation, and avoid misleading statements about fees and conflicts of interest”; (2) adopt policies and procedures to ensure providing best interest advice and eliminating financial incentives for advisers to act against the client’s best interest; and (3) disclose conflicts of interest.
Implementation
Although the final regulations will have the greatest impact on the investment adviser marketplace, they will also impact advisers to plan sponsors, and therefore affect plan sponsors themselves.
The final regulations will be effective April 10, 2017, but the DOL will allow advisers and their firms through January 1, 2018, to comply with the best interest contract exemption. However, the House of Representatives passed a resolution repealing the regulations on April 29, 2016. Though a repeal of the regulations during the current Congressional session is extremely unlikely as opponents are unlikely to obtain the votes to override a presidential veto, there is a possibility the rules are repealed after the 2016 election.
