The Department of Labor (“DOL”) recently issued a new rule setting forth a frame work by which a plan sponsor or an IRA owner can ascertain whether a person providing investment advice for a fee is a fiduciary. Investment advisors that are fiduciaries must make recommendations that are prudent, loyal and untainted by conflicts of interest.
The new rule replaces one that was issued in 1975, when defined benefit plans outnumbered profit sharing plans and 401(k) retirement plans did not exist. With the proliferation of participant directed 401(k) plans, and new investment products such as target date funds and exchange traded funds, the DOL concluded that its restrictive five-part test from 1975 was not providing the protections from conflicts of interest that ERISA was enacted to provide.
Under the new rule, certain types of advice, when provided in exchange for a fee or other compensation (including indirect compensation), and given in connection with certain relationships described in the rule, will be fiduciary investment advice unless an exemption applies. The listed types of advice include a recommendation as to the advisability of acquiring, holding, or disposing of securities or other investment property. In a change from prior guidance, the rule includes in the listed types of advice a recommendation with respect to rollovers, distributions, or transfers from a plan or IRA, including whether such a rollover should be made and to what destination should such a rollover, transfer or distribution be made.
A “recommendation” is defined as a communication that, based on its content, context, and presentation, would reasonably be viewed as a suggestion that the advice recipient engage in or refrain from taking a particular course of action. The more individually tailored the communication is to a specific advice recipient; the more likely the communication will be viewed as a recommendation.
The types of relationships that must exist for the recommendation to give rise to fiduciary investment advice include relationships where the advice is rendered pursuant to a written agreement or understanding that the advice is based on the particular investment needs of the advice recipient. Of course, if the advisor acknowledges that he or she is acting as a fiduciary within the meaning of ERISA or the Code, then any recommendation by the advisor would be fiduciary investment advice.
The rule continues to allow general financial, investment and retirement information, and interactive investment materials to be provided to plan participants or IRA owners without such material being fiduciary investment advice. Also, an exception from the definition of fiduciary investment advice is included for incidental advice provided in connection with an arm’s length sale, purchase, loan, or contract between an expert plan investor and an advisor. An expert plan investor is any independent fiduciary that holds or has under management or control, total assets of at least $50 million.
The new rule is causing certain investment advisors to re-think their business model, including whether they will be using the “best interest contract” exemption provided under the rule.
Prudent plan sponsors will want to review their agreements with their investment advisors to confirm that the advisor is acting as a fiduciary with respect to the advice being provided, even if the plan’s investment committee qualifies as an expert plan investor. The new rule has not changed ERISA’s underlying rule that the plan sponsor, or its designated investment committee, must act prudently when selecting advisors to the plan, and has an ongoing obligation to monitor the continuing selection of that individual.
Finally, with the extension of the fiduciary rule to IRAs, including rollovers to an IRA, an astute IRA owner may want his or her advisor to confirm in writing that the advisor is acting as a fiduciary with respect to the investment advice being provided.