HIGHLIGHTS:

  • The U.S. Department of Labor (DOL) has released regulations defining who is a fiduciary investment adviser, along with related prohibited transaction class exemptions and amendments to current prohibited transaction class exemptions.
  • The regulations define a "fiduciary," describe the types of communication that rises to the level of "investment advice" and describe the types of relationship that must be present in order to constitute a fiduciary relationship.
  • The Final Rule will be effective June 7, 2016, but it will become applicable after a one-year transition period; the prohibited transaction class exemptions and amendments will have a phased-in implementation period beginning in April 2017.

On April 6, 2016, the U.S. Department of Labor (DOL) released its long-awaited final regulations defining who is a fiduciary investment adviser (the Final Rule), along with related prohibited transaction class exemptions and amendments to current prohibited transaction class exemptions. The Final Rule revises the definition of 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). The Final Rule will be effective June 7, 2016, but it will become applicable after a one-year transition period further described below.

The Final Rule comes almost seven years after the DOL began its initiative to strengthen the legal protections from conflicts of interest in investment advice with respect to retirement savings. The DOL issued proposed rules defining a fiduciary investment adviser for purposes of employee benefit plans in October 2010. After receiving substantial comments to such proposed rules, the DOL announced in September 2011 that it was withdrawing its proposal. The DOL issued a new proposed rule in April 2015 that provided the framework for the Final Rule.

Definitions of "Fiduciary" and "Investment Advice"

ERISA and the Code broadly define a "fiduciary" to include any person who renders investment advice for a fee or other compensation with respect to any moneys or other property of a plan. The Final Rule clarifies and describes the types of communication that rises to the level of "investment advice" and describes the types of relationship that must be present in order to constitute a fiduciary relationship.

Under the Final Rule, a person renders investment advice if they provide certain categories or types of advice for a fee or other compensation. Those categories are the following:

  • a recommendation as to the advisability of acquiring, holding, disposing of or exchanging investment property, or a recommendation as to how such investment property should be invested after it is rolled over, transferred, or distributed from a plan or an individual retirement account (IRA)
  • a recommendation as to the management of investment property, including recommendations on investment policies or strategies, portfolio compensation, selection of other persons to provide investment advice or services, selection of investment account arrangements, or recommendations with respect to rollovers, distributions or transfers from a plan or IRA

In order for the investment advice to give rise to fiduciary duties, the individual or entity who renders investment advice as described above must meet one of the following requirements:

  • represent or acknowledge that it is acting as a fiduciary
  • render the advice pursuant to either a written or verbal agreement, arrangement or understanding that the advice is based on the particular investment needs of the advice recipient
  • direct the advice to a specific advice recipient regarding the advisability of a particular investment or management decision with respect to investment property of a plan or IRA

What Constitutes Fiduciary "Recommendation"

The Final Rule also defines when a communication constitutes a "recommendation" versus when such communication does not. If a communication is not a recommendation, such communication would not rise to the level of a fiduciary communication under the Final Rule. A recommendation includes a communication that would reasonably be viewed as a suggestion that the advice recipient engage in or refrain from taking certain action. A communication that has been tailored for a specific advice recipient is more likely to be viewed as a recommendation. The Final Rule provides non-exhaustive examples of what does not constitute a recommendation, including the following:

  • marketing or making available to a plan fiduciary a platform of investments
  • providing selection and monitoring assistance such as identifying investment alternatives, responding to requests for proposals, or providing objective financial data and comparisons with independent benchmarks
  • furnishing general communications that a reasonable person would not view as an investment recommendation
  • furnishing or making available investment education materials, such as plan information, general financial, investment and retirement information, asset allocation models or interactive investment materials

Additional Activities Not Considered Investment Advice

Finally, the Final Rule contains a list of additional activities that the DOL does not consider to be investment advice activity even if such activities otherwise meet the recommendation and investment advice criteria described above. Included in these activities are carve-outs for transactions with independent fiduciaries with financial expertise, swap and security-based swap transactions, and advice that an employee of an organization provides to a plan fiduciary, other employee or independent contractor if such advice is provided in connection with the individual's role as an employee.

Transaction Class Exemptions and Amendments

As noted above, the DOL also published additional prohibited transaction class exemptions, including a Best Interest Contract (BIC) Exemption and a Class Exemption for Principal Transactions, and a number of amendments to other prohibited transaction exemptions in connection with its publication of the Final Rule. The BIC Exemption will allow fiduciary investment advisers to receive certain types of compensation, such as revenue sharing and commissions, if the fiduciary commits to 1) provide 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 designed to ensure that advisers provide best interest advice, and prohibit financial incentives for advisers to act contrary to the client's best interest; and 3) disclose conflicts of interest. The Principal Transactions Exemption (PTE) will permit fiduciary investment advisers to purchase or sell certain investments out of their own inventories. The DOL also will finalize amendments to PTE 84-24 to provide relief to insurance agents and brokers and insurance companies in connection with advice regarding fixed rate annuity contracts.

The Final Rule and the related prohibited transaction class exemptions and amendments to current prohibited transaction class exemptions will have a phased-in implementation period. The definition of fiduciary generally will be applicable as of April 10, 2017. However, with respect to the BIC Exemption, only limited conditions will apply, including acknowledging their fiduciary status, adhering to the best interest standard and making basic disclosures of conflicts of interest, until the full requirements of the exemption go into effect on Jan. 1, 2018. Because compliance with the Final Rule and the exemptions will not be required until April 10, 2017, we anticipate providing more details on the Final Rule and the prohibited transaction exemptions in subsequent Client Alerts.