On April 6th, 2016, the Department of Labor (DOL) released its much-anticipated final Conflict of Interest Rule, or more commonly referred to as the new “fiduciary rule.” (29 CFR Parts 2509, 2510, and 2550).  The final rule significantly expands the scope of services that are considered fiduciary “investment advice” under the Employee Retirement Income Security Act (ERISA) and, therefore, expands the universe of advisors who will be deemed to be fiduciaries under ERISA and the Internal Revenue Code.

The rule generally becomes applicable on April 10, 2017, with certain provisions being phased in by January 1, 2018.

Although the final rule will primarily affect financial advisors to retirement plans, employers sponsoring or administering ERISA plans should be aware of key provisions that may affect their administrative and compliance obligations as well as costs to the plan.   In addition, while government agencies are particularly focused on fiduciary responsibilities for retirement plans, it is a good time for plan sponsors to review their internal fiduciary governance practices and make any changes necessary to bring them into current best practices.

General Rule

The final rule expands the definition of what constitutes “investment advice” under Section 3(21) of ERISA.  If one is providing investment advice for a fee to a plan or plan participants, then he or she is deemed to be a fiduciary under ERISA.  Under the final rule, investment advice includes recommendations with respect to the investment of plan assets (e.g., buying, disposing or holding of securities or other investments) or investment management (e.g., investment policies or strategies, portfolio composition, selection of investment advisors or managers, recommendations on rollovers, transfers or distributions from a plan, etc.). 

The final rule also describes certain practices or communications that are not deemed to be investment advice, such as general information provided by a platform provider regarding its services and investment options, investment education, and general communications that are not directed toward particular plans or plan participants.   Moreover, the final rule excludes certain sales pitches, advice from investment advisors to large plans (generally, those with at least $50 million in assets, but only if the plan has an independent fiduciary with financial expertise and the advisor has disclaimed being a fiduciary) or recommendations to plan fiduciaries from employees of the plan sponsor made under their normal employment duties and without additional direct or indirect compensation.

Key Provisions for Employers

By expanding the class of service providers who will constitute ERISA fiduciaries, the final rules provide both benefits and burdens to employers.  On the one hand, if an adviser is obligated to meet the ERISA fiduciary duty rules (including acting prudently and exclusively for the benefit of the plan and plan participants, and not having any conflicts of interest in its dealing with the plan), the adviser may become responsible for bearing part of the burden that might otherwise fall on the employer.  On the other hand, the DOL repeatedly reiterated the fact that plan sponsors and administrators are responsible for the prudent selection and monitoring of outside fiduciaries.  Although employers must take care in monitoring the performance of all outside service providers, whether fiduciary or not, to ensure they are providing quality services at reasonable fees, the heightened duties to which ERISA fiduciaries are subject means that employers must take even greater care when selecting and monitoring them than when selecting and monitoring other service providers.

Therefore, it is important for employers to understand when an outside advisor is acting as a fiduciary and when its services are deemed to be non-fiduciary and must understand when and if any non-fiduciary services drift into becoming “investment advice” and, therefore, fiduciary services.  

Accordingly, there are a few provisions in the final rule that may affect plan sponsors:

Fiduciary Status of Outside Advisors.   Plan sponsors must know when an outside advisor is acting as a fiduciary.  Under the former rule, many advisors, particularly brokers providing limited services to smaller plans, could disclaim ERISA fiduciary status under their services agreement and were held only to a “suitability” standard under the securities laws.  Likewise, many investment advisors would assume fiduciary status under ERISA for some services provided to a plan, but disclaimed fiduciary status for other services.  The final rules may cause such advisors to become ERISA fiduciaries and could also result in the advisors being required to notify plan sponsors of their changes in fiduciary status.  Conversely, in some situations (such as with respect to investment advice to large plans), the final rules may cause advisors to attempt to explicitly disclaim any role as an ERISA fiduciary.  An employer should review any notices or other correspondence from advisors concerning their fiduciary status, as well as the current services agreements with their advisors to ensure the advisors are properly assuming fiduciary status, without somehow limiting its fiduciary responsibilities or liabilities under ERISA.  Once an advisor has assumed fiduciary status or expanded the scope of services deemed to be fiduciary in nature, plan sponsors have an increased burden to monitor the fiduciary’s performance and associated fees.

Education.  The DOL has long recognized that providing general education to plan participants is not investment advice so long as certain conditions are met.  The final rule will continue to allow service providers to provide general financial, investment or retirement education without it being considering investment advice under ERISA.  The DOL did, however, add new conditions for any education program provided through an asset allocation model, intended in part to reduce the possibility that participants might be steered toward investment advice offerings of the service provider or its affiliates.  If the model uses a specific investment as an example, the example must be a designated investment alternative under the plan and the model must identify all other designated investment alternatives that have similar risk and return characteristics.  The plan sponsor continues to be responsible for monitoring any education materials or programs provided by outside service providers to ensure that the education provided meets the requirements of the final rule and does not cross the line into “advice” by recommending (or reasonably appearing to recommend) any particular investment option or investment or distribution strategy.

Rollovers and Distributions.  The final rule provides that one is acting as an ERISA fiduciary when providing advice on rollovers or other distributions from retirement plans, including the amount and form of any distribution, whether and where it should be rolled over, and how it should be invested.  Therefore, any investment advisor who is advising a plan participant on taking a distribution or rolling over his or her account to an IRA must provide advice that is in the best interest of the participant and meets the fiduciary duties outlined above.  Potential problem areas include situations where the investment adviser or its affiliates are offering an IRA or underlying investments.  These changes may result in increased monitoring responsibilities for employers and perhaps fewer participants rolling money out of the plan.  In addition, call centers may discontinue providing advice regarding plan distributions or rollovers in order to avoid fiduciary liability.  Conversely, if call centers continue to provide advice regarding distributions and rollovers, employers will be required to monitor their performance.  Employers should also review their own procedures and communications to plan participants regarding rollovers and distributions to ensure there are no inadvertent recommendations that could be construed as fiduciary advice.

Employees.  Under the final rule, individuals acting in their capacity as an employee of a plan sponsor will not be considered fiduciaries merely for providing investment advice to a plan fiduciary, so long as the employee is not receiving fees or additional direct or indirect compensation for their advice.  An employee may still, however, be a fiduciary to the plan for another reason.  Employers should review their compensation practices for any employees who are providing investment advice to plan fiduciaries to ensure there are no special fees, bonuses or other compensation related to the investment advice they provide, and that they are not receiving any indirect compensation (which may include gifts) from plan service providers.

General Communications.   The final rule provides that a general communications that a reasonable person would not view as investment recommendations are not considered investment advice.  This would include materials such as newsletters, general marketing materials, general market data and research reports, among other general commentary.  Most communications from plan sponsors to plan participants about investment options and plan administration will not be investment advice as well.  Nevertheless, plan sponsors should continue to review any materials distributed to plan participants to ensure that the materials satisfy the general communication requirements under the final rule and do not appear to recommend any particular investment or investment strategy.

Health Savings Accounts.  The DOL clarified that advice made with respect to health and welfare plans is not subject to the new rule unless the plan has an investment component (other than a disability, health or term life insurance policy).  Therefore, recommendations made with respect to health savings accounts with an investment component may be considered “investment advice” under the final rule.  Sponsors should make sure they are prudently selecting and monitoring outside advisors for health savings accounts.

Next Steps for Employers

As mentioned above, the DOL repeatedly stressed in the final rule’s release that plan sponsors, or their delegated named fiduciaries, continue to be responsible for the prudent selection and monitoring of outside plan fiduciaries.   Although much of the media attention has focused on the increased burdens for financial advisors under the final rule, plan sponsors should be aware that they also may inherit increased responsibilities.  The DOL, which is intently focused on fiduciary matters, expects plan sponsors to understand the role of each fiduciary under the plan (including outside advisors) and maintain proper delegation and review procedures.

Employers should, therefore, consider:

  • Reviewing their plan’s current fiduciary structure, including the composition of the investment and/or administration committee, whether proper delegation was made from the plan sponsor to any fiduciaries, and whether fiduciaries are properly covered under the sponsor’s fiduciary insurance and any indemnification provisions;
  • Reviewing any service agreement with an outside advisor to determine if the advisor had disclaimed fiduciary status with respect to some or all of its services and whether the advisor limited its liabilities with respect to the plan;
  • Discussing with any outside advisor whether its fiduciary status will change under the final rule and if it might result in higher fees or costs to the plan;
  • Reviewing any communications provided by an outside advisor notifying the plan sponsor that its agreement is being updated to comply with the final rule (if the plan sponsor does not reject any changes within 30 days, the changes are deemed to be accepted);
  • Reviewing all policies and procedures regarding the monitoring of outside advisors, their fees and their materials provided to participants;
  • Considering any plan design changes that may be appropriate in light of expectations that retirees are more likely to keep their money in the plan; and
  • Reviewing or implementing fiduciary training programs for all plan fiduciaries employed at the plan sponsor to take into account the changes under the final rule.

Employers should properly document any of the steps taken above and retain all records to show the DOL proper measures were taken in case the plan is audited in the future for ERISA compliance.