United States: DOL Proposes Sweeping Expansion Of Fiduciary-Duty Rules

Proposed new guidance from the U.S. Department of Labor ("DOL") would significantly alter the regulation of investment advice to employee plans and IRAs. The guidance aims to reshape the marketplace for retirement-related individual and small-plan investment products and services. 

Background

Under Section 3(21) of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), a person can be an investment fiduciary not only by actively managing a plan's assets but also by "rendering investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or having any authority or responsibility to do so." A key part of the DOL's comprehensive new guidance is a proposed regulation construing "investment advice."

An ERISA plan fiduciary is subject to affirmative duties of loyalty and care under Section 404 of ERISA and to prohibitions under Section 406 of ERISA against specified transactions that present conflict-of-interest potential. Violations can result in liability to the fiduciary and equitable remedies. A violation of similar prohibited-transaction rules under Section 4975 of the Internal Revenue Code can result in significant excise taxes.

Shortly after ERISA was enacted in 1974, the DOL prescribed a five-part test for determining "investment advice" fiduciary status. Over time, the DOL came to view its original regulations as inadequate. In 2010 it proposed more comprehensive rules that were later withdrawn in response to concerns about scope and potential for market disruption. The 2015 proposal retains certain aspects of the 2010 proposal and jettisons others, while at the same time offering exemptive relief to create a more complex and nuanced regulatory regime than that presented by the 2010 proposal. 

"Investment Advice" under the Proposed Regulation

The proposed regulation would replace the current test for determining "investment advice" fiduciary status. The chart below compares the requirements of the existing regulation with the requirements that would apply under the new proposal.

Issue Existing Requirement Proposed Requirement
Nature of Advice Valuation advice or investment recommendations. Similar but includes advising as to plan or IRA distributions and rollovers and recommending other paid advisors.
Frequency of Advice Must be provided on a regular basis. A single instance of advice would suffice, e.g., one-time advice to take a rollover distribution.
How the Advice Will Be Used Requires a mutual understanding that the advisor's services will serve as the primary basis for investment decisions. No "primary basis" mutuality of understanding required. Advice need only be offered for consideration in making investment decisions.
Customization of Advice Must be based on the client's particular needs. Similar but no tailoring required (directing the advice to a client for consideration in making investments is enough).

The Carve Outs

Importantly, however, the new proposal presents several exceptions (or "carve outs") that would apply if the person has not otherwise acknowledged fiduciary status. 

Name Description
"Seller's Carve Out" A counterparty to an ERISA plan with at least 100 participants can market to an independent plan fiduciary without thereby becoming an "investment advice fiduciary" if certain disclosure and independence requirements are satisfied and the counterparty is not paid directly for investment advice. A slightly simpler carve out applies if the independent plan fiduciary manages at least $100 million in plan assets.
Swaps Certain swap parties dealing with an ERISA plan are carved out if they do not advise the plan in the transaction and obtain an advance representation that the fiduciary will not rely on them for recommendations.
Platform Providers; Selection and Monitoring A person who markets securities or other property to an ERISA plan through a platform or similar mechanism will not be considered an "investment advice" fiduciary if the marketing is not individualized to the plan and the person discloses that it is not undertaking to provide impartial investment advice. A platform provider will not become an investment advice fiduciary merely by identifying investment alternatives that meet objective criteria or providing objective financial data and comparisons with independent benchmarks.
Investment Education Generalized investment education is carved out (but not recommendations as to specific investments or decisions). The proposal contains specific safe harbors for providing generalized plan and investment information, asset-allocation models, interactive investment materials and similar information, subject in each case to specific limitations. Provision of other investment advice would be evaluated on a facts and circumstances basis.
Financial Reports and Valuations The proposed rules carve out appraisals, fairness opinions and the like for ESOPs (as to employer securities), investment funds with more than one unaffiliated plan investor, or plans, IRAs and their fiduciaries or owners for purposes of complying with reporting and disclosure requirements under applicable law rules or regulations.
Employees An employee of a plan sponsor providing advice to a plan fiduciary who receives no fee or other compensation beyond his or her normal compensation from the plan sponsor would not be an investment advice fiduciary.

Proposed New Class Exemptions

Best Interest Contract Exemption 

The proposed "Best Interest Contract Exemption" (the "BIC Exemption") would permit advisers and financial institutions that are fiduciaries to receive compensation for services rendered in connection with the purchase, sale and holding of certain assets as a result of the fiduciary's advice but only if specified conditions are met. One key requirement of the exemption is a written contract that would give the advice recipient a remedy in the event of breach, even where the breach does not impair the exemption itself.

The BIC Exemption would apply in respect of IRAs, participants and beneficiaries of self-directed plans and plan sponsors of non-participant directed plans with fewer than 100 participants. The BIC Exemption would also not be available for principal transactions (transactions for the financial institution's own account) or with respect to compensation received as a result of "robo advice" (e.g., advice provided by an interactive website).

The principal requirements of the BIC Exemption are as follows:

  • Impartial Conduct Standards. The adviser and the financial institution must agree that:
    • Fiduciary Standard. Investment advice will be in the best interest of the investor (i.e., advice that reflects the care, skill, prudence and diligence under the circumstances then prevailing that a prudent person would exercise based on investment objectives, risk tolerance, financial circumstances, and needs of the investor) – a standard similar to ERISA's fiduciary duty standard but made applicable by the BIC Exemption to IRAs.
    • Reasonable Compensation. The adviser and the financial institution will not recommend an asset with respect to which it would receive more than reasonable compensation for services rendered.
    • No Misleading Statements. Statements about the assets, fees, material conflicts of interest and other matters relevant to the investor's investment decisions will not be misleading.
  • Contract Terms. 
    • Required Warranties. The adviser and the financial institution must promise to comply with all applicable federal and state laws relating to the investment advice, investment, and payment of related compensation. The financial institution must give certain warranties regarding conflicts of interest and acting in the best interest of the plan, IRA or participant.
    • Transparency. The contract must disclose material conflicts of interest, the offering of proprietary products, and the receipt of third party payments with respect to an asset. The investor also must be informed of its right to obtain fee information about the assets.
    • Prohibited Contract Terms. The contract may not include provisions barring investor participation in class action suits against the adviser or financial institution, exculpatory provisions or limitations of liability in favor of the adviser or financial institution.
  • Required Disclosures. 
    • Initial and Annual Disclosure. Fiduciaries relying on the exemption must provide certain disclosures prior to the transaction and other disclosures on an annual basis during the reliance period. 
    • Webpage. A public webpage must disclose certain information regarding the adviser's compensation.
  • Notification of the DOL. Before relying on the BIC Exemption, the financial institution must notify the DOL of its intent to do so.
  • Recordkeeping and Access to Records. The financial institution must maintain certain data for six years from the date of each transaction.
  • Asset Limitations
    • Only advice with respect to certain assets types (e.g., mutual funds, ETFs, registered bonds, agency debt, Treasury securities, insurance or annuity contracts, GICs and certain equity securities) qualifies for the exemption.

The financial institution generally must offer a range of assets broad enough to enable the adviser to make recommendations in the best interest of the investor. A limited range may be offered if the adviser satisfies a set of more stringent conditions.

Exemption for Principal Transactions

This proposed exemption would permit an investment advice fiduciary to engage in principal transactions with respect to certain debt securities where the buyer or seller is an IRA, participant or beneficiary of a self-directed plan, or a plan sponsor of a non-participant directed plan, and would permit the fiduciary to receive a mark-up, mark-down or other payment for itself or its affiliates, even where the transaction results from the fiduciary's advice. Like the BIC Exemption, the exemption would impose Impartial Conduct Standards on the adviser and financial institution, contains recordkeeping and disclosure requirements, and provides a list of required and prohibited contract terms. 

Proposed Changes to Existing Exemptions

Amendments are proposed to existing Prohibited Transaction Exemptions dealing with certain transactions involving employee benefit plans and broker-dealers and banks (PTE 75-1, PTE 86-128); the investment of plans in open-end mutual funds (PTE 77-4); securities transactions where the proceeds may be used to retire certain indebtedness (PTE 80-83); the acquisition of interests in mortgage pools by plans (PTE 83-1); and certain transactions involving insurance agents, insurance companies, and certain other parties (PTE 84-24). In most cases, the DOL has proposed imposing Impartial Conduct Standards on fiduciaries relying upon the exemptions.

Possible "Low Fee" Exemption

The DOL mentioned and solicited advice with regard to, but did not formally propose, a "streamlined" exemption which would allow advisers to receive compensation in connection with a plan's or IRA's purchase of certain high-quality, low-fee investment options, which might include mutual funds which are index funds or certain target date funds. 

*  *  *  *

If the proposed guidance is finalized in a form similar to the proposal, the new rules will require compliance within eight months following finalization, a timeline that is likely to present significant practical market challenges. Further, while the proposal responds to certain concerns raised by the withdrawn 2010 proposal, there are many open questions that will require close analysis as the regulatory process unfolds. 

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions