On April 14, 2015, the DOL issued a new proposed rule to expand the definition of “fiduciary” under ERISA. This is the second time in recent years that the DOL has gone down this path. The first proposed rule (issued in 2010) was met with strong resistance from the financial services industry, which claimed that anticipated additional compliance costs and increased legal liability for advisors would result in fewer education and advice arrangements that were largely beneficial to investors. The DOL withdrew the 2010 proposed rule in 2011.
In short, this latest proposal takes a holistic approach to determining whether an individual or entity is acting in a fiduciary capacity towards a funded ERISA benefit plan, including a pension or 401(k) plan or IRA. The DOL has also proposed new and revised class exemptions from certain prohibited transactions resulting from a fiduciary engaging in self-dealing and receiving compensation from third parties in connection with transactions involving a plan or IRA.
The new proposal is primarily focused third party service providers to retirement plans that make recommendations on the selection, retention or disposition of plan assets but are not necessarily “fiduciaries” under the current rule. Consequently, the proposal may not affect the relationship between a plan and its fiduciaries who are employees of the plan sponsor, but those individuals may need to consider revisiting the plan’s existing relationships with certain service providers.
The DOL’s current fiduciary rules were created before 401(k) plans and IRAs became common. The market for financial services and investment advice has become more diverse, with more individuals directing the investment of their own retirement income — frequently, based on the advice of professional brokers, consultants and financial planners. Under the current DOL “fiduciary” definition, any person who renders investment advice for a fee or other compensation is a fiduciary, but the definition of “investment advice” is very narrow. An individual who’s not otherwise a fiduciary only provides “investment advice” if he/she satisfies a highly-specific five part test. The preamble to the new proposed rule cites arrangements in which investment professionals make recommendations to plans regarding the allocation of a significant portion of plan assets on an irregular basis, or provide regular advice but subject to a disclaimer that no mutual agreement exists. These types of arrangements are not covered by the current definition of “investment advice.”
The new proposal replaces the old rule’s five-part test with a list of communications and relationships that would be investment advice if provided in exchange for a fee or other direct or indirect compensation, unless a specific carve-out exists:
- A recommendation on acquiring, holding or disposing of or exchanging plan assets, including whether to take a distribution of benefits and, if so, how to invest the amount distributed;
- A recommendation as to the management of plan investments, including amounts to be rolled over or otherwise distributed;
- An appraisal or valuation of plan assets in connection with the acquisition, disposition or exchange of such assets; or
- A recommendation of a person who would also receive a fee or other compensation for one of the types of advice described in the first three bullets.
Carve-outs exist for certain services/arrangements, including many that are utilized by employer-sponsored 401(k) plans: (i) arm’s length transactions in which the plan fiduciary has financial expertise and the investment advisor does not receive fees directly from the plan or the plan fiduciary for providing the advice; (ii) certain “swap” or “security-based swap” transactions involving a benefit plan; (iii) services by recordkeepers or third-party administrators that offer a platform of investment vehicles to 401(k) plans or IRAs; and (iv) investment education that doesn’t rise to the level of providing specific recommendations or advice.
In addition, if even a carve-out does not apply, the DOL has proposed class exemptions for select arrangements, including (i) advice provided to small 401(k) plan participants and IRA beneficiaries by a financial institution or its independent agents that’s in the participants’ and beneficiaries’ best interests, not misleading and for reasonable compensation; and (ii) advice by a financial institution or its independent agents regarding the purchase of certain debt securities.
Obviously these new rules raise potential concerns from an ERISA litigation perspective as well. It remains to be seen whether this seeming expansion in certain circumstances of the definition of fiduciary will give rise to new claims by the plaintiffs’ bar. If that occurs, one can certainly expect defendants to attempt to dismiss these new claims early through testing of the legal definition of fiduciary. That said, the potentially fact-intensive nature of the fiduciary status inquiry under these new rules may make it problematic for plan sponsors and alleged fiduciaries to dismiss litigation at the motion to dismiss stage.