Category Archives: DOL

Re-Proposal of DOL Fiduciary Advice Regulation


DOL, fiduciary, prohibited transaction

As you have undoubtedly heard, the Department of Labor has pushed back the date for the re-proposal of the fiduciary advice regulation to January of next year. In addition, the SEC is working with the DOL to help determine the impact of an expanded fiduciary advice regulation on the ability of investors to continue to receive adequate investment services. Finally, the White House is also evaluating the potential impact of a regulation that expands the definition of fiduciary advice. The big question, of course, is what does all of this mean?

As you might expect, everyone has an opinion on that subject. So, depending upon your personal beliefs, you can find opinions that either agree or disagree with your position. But, the truth is that the people who know aren’t talking, and the people who are talking don’t know.

One plausible explanation is that the controversy concerning the regulation has risen to the point that it is a political liability. In other words, that line of reasoning holds that these activities are signs that the re-proposal is in danger.

However, another line of reasoning is that the regulation remains viable, and probable, but that the politicians and the regulators want to make sure that they get it right. (If that is the case, then “right” probably means that appropriate prohibited transaction exemptions are crafted so that valuable services and quality products are not prohibited.)

If I were a betting man (and, for this purpose, I am), my bet would be that the second scenario is the more likely. I have a hard time believing that all of this political and regulatory effort is being made for a proposal that will be killed. In other words, I think that there is a good chance that the DOL will issue a proposed regulation in the first half of next year. I also think that there is a good chance that the proposed prohibited transaction exemptions that accompany the guidance will be more thoughtful and practical than might be expected.

In any event, if and when we get the proposal, the first thing that I will look at is . . . the proposed prohibited transaction exemption concerning fiduciary investment advice to IRAs. In particular, I want to see what it says about variable compensation and about proprietary investments and products.

 

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Providing Compliant Services


broker-dealers, DOL, registered investment advisers

The increasing regulation of 401(k) distributions and rollovers to IRAs continues to be a subject of great interest to my clients . . . and a considerable amount of work for me. One of the benefits of concentrated work in that area has been an enhanced appreciation of the difficulty of broker-dealers, provider call centers, and RIAs in providing compliant services . . . from a practical perspective.

For example, viewed academically, it is possible to put together a compliant rollover program under FINRA’s guidance in Regulatory Notice 13-45. At the least, that would involve written materials and discussions about the seven factors listed in the guidance. The written materials would be provided to participants to both educate them and to support compliance and supervision. The conversations would be structured to provide a reasonable basis for developing a suitable recommendation, based on the individual needs and circumstances of the participant.

On a practical level, it is feasible for a financial adviser or an investment adviser to engage in that process . . . for a participant with a large account balance. However, that is only a small part of the real world of 401(k) participants. Many of the conversations are with participants with small account balances and, for a provider’s call center, are of limited duration. As a result, the compliance procedures and “scripts” for participants with small account balances are often more difficult to develop than for the individualized treatment that can be financially justified for wealthier participants.

Nonetheless, the regulators—FINRA, the SEC and the DOL—now expect broker-dealers and RIAs to have compliant procedures for “capturing” IRA rollovers. Based on my experience, this is not an easy job. I recommend that, at the least, your procedures incorporate unbiased and relatively thorough educational materials that are given to all participants who are eligible for distributions and a process that solicits the most important information about the needs and circumstances of the participants. Without that kind of approach (or something similar to it), it will be difficult to formulate a suitable or prudent distribution and rollover recommendation.

The FINRA guidance, and the SEC and FINRA 2014 Examination Priorities List, are posted under the “external resources” page on my blog at http://fredreish.wpengine.com/external-resources-2/.

 

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DOL Proposed Guide


408(b)(2), DOL, prohibited transaction

Several of my colleagues and I have provided comments to the DOL about its proposal to require a 408(b)(2) guide   Most other commentators have or will be addressing the policy issue — is it a good idea to require a guide or not?   We avoided the policy issues.   Instead, our comments focused on making the requirements clear and implementable — if the guide requirement is adopted.

For example, we asked that the DOL clarify the requirement to “furnish” a guide and “disclose” changes to the guide later on.   In raising this question, our concern is that the language in the proposal may not clearly express the DOL’s intent.  Without clarity on the meaning of these terms, a service provider might inadvertently violate the requirement.  Since the regulation is a prohibited transaction exemption, an unambiguous statement of the requirements is essential  for us to be able to properly advise our clients on how to comply.

There are a number of other areas on which we requested clarification if the proposal is finalized.  A copy of our comments can be accessed here:  http://www.scribd.com/doc/234166566/060214-Ltr-to-DOL-Re-Proposed-Guide.  The signers of the letter other than me were Bruce Ashton, Brad Campbell, Joan Neri and Josh Waldbeser.

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Advisory Opinion 2013-03A


408(b)(2), DOL, fiduciary, prudent, recordkeeper, registered investment advisers

In Advisory Opinion 2013-03A, the Department of Labor said: “This letter also does not address any fiduciary issues that may arise from the allocation of revenue sharing among plan expenses or individual participant accounts . . .”

In effect, the DOL was saying that it has not issued any guidance—and is not prepared to issue guidance—concerning the allocation of revenue sharing. That is a reminder that there isn’t any explicit guidance on how to allocate revenue sharing. As a result, fiduciaries need to engage in a prudent process to make that decision.

In most cases, revenue sharing is used to pay the cost of recordkeeping. In effect, it is arguable that, when the recordkeeper keeps the money, it is a pro rata allocation among the participants’ accounts. That is because the most common way of allocating expenses (for example, recordkeeping or RIA charges) among participants’ accounts is the pro rata method. So, when a recordkeeper keeps the revenue sharing, participants benefit on a pro rata basis. (“Pro rata” means that amounts are allocated among the participant’s account balances in proportion to the value of the account balances.)

A consequence of the 408(b)(2) disclosures and the DOL’s guidance on revenue sharing is that fiduciaries need to pay more attention to revenue sharing. For example, do fiduciaries want the recordkeepers to keep the revenue sharing or do they want to allocate the revenue sharing to participants (along with the charges for recordkeeping)? Should part of the cost of recordkeeping be allocated to participants who are invested in individual brokerage accounts or who hold company stock . . . or should the participants who invest in mutual funds bear the full cost of the recordkeeping for the plan? Those are fiduciary decisions. In the past, most plan fiduciaries have simply accepted the method used by the recordkeeper. However, even then, that was a fiduciary decision. It’s just that the fiduciaries didn’t, in many cases, know that they were making it. Going forward, there undoubtedly will be greater accountability for these fiduciary “decisions”. . . since fiduciaries have been provided with information about revenue sharing as a part of the 408(b)(2) disclosures. Forewarned is forearmed.

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408(b)(2) Guide and More


408(b)(2), DOL, fiduciary, service providers

The DOL recently issued a proposal to require a 408(b)(2) “guide.” The guide has also been referred to as a roadmap. But I think of it as an index to the disclosures.

This is the DOL’s response to their review of provider disclosures and problems the DOL has seen. The DOL has at least two more significant concerns.

The proposal is that plan sponsors be given a stand-alone guide or index to provide directions to where each of the 408(b)(2) disclosures is found in the disclosure documents. It will only apply where covered service providers use multiple or lengthy documents. As a result, it will primarily impact recordkeepers and broker-dealers (as opposed to other covered service providers, such as RIAs and TPAs).

There is time to comment on the proposal. Hopefully, the comments will enable the DOL to find the “fine line” between meaningful disclosure, on the one hand, and overly burdensome requirements on the other.

But, that’s not the end of the story. I have heard of two other DOL concerns. The first is that some covered service providers are not giving fiduciaries information that specifically applies to their plan. For example, the disclosures might instead provide a list of services or compensation amounts that might or might not apply to a particular plan. The Department’s view is that the disclosures should include only the services and compensation for the plan receiving the disclosures. The second concern is that service providers are using overly-broad ranges to make disclosures. For example, if a service provider were to disclose that the fees will be somewhere between 0% and 5%, the Department would likely take the position that the information was not specific enough to enable the responsible plan fiduciaries to evaluate the compensation of the adviser relative to the services being provided.

That’s it for now. But, be forewarned, there is more to come.

As a footnote to these comments, we anticipate that the DOL will begin their first wave of 408(b)(2) investigations in the second half of this year.

To read the Client Alert I co-wrote on this subject in March 2014, visit the Drinker Biddle website here: DOL Proposed Regulation on 408(b)(2) “Guide” – Impact on Service Providers.

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Capturing Rollovers: A Changing Environment


DOL, fiduciary, prohibited transaction, registered investment advisers

Recent developments suggest that FINRA, the SEC and the DOL are working together…or, perhaps, have independently reached the same conclusions.

In the past few months, FINRA has discussed rollover IRAs in five publications. The most important of those being Regulatory Notice 13-45, which creates a fiduciary-like process for recommendations about distributions and IRA rollovers. (By the way, I believe FINRA’s Investor Alert on rollovers is helpful and should be given to prospective rollover customers.) Then, to put an exclamation point on that guidance, both FINRA and the SEC listed rollovers to IRAs as one of its 2014 Examination Priorities for broker-dealers.

Finally, it is commonly expected that the DOL will issue its proposed regulation on the definition later this year…and that the proposal will expand its prior guidance on “capturing” rollovers. Fiduciary status alone increases the scope of the DOL’s jurisdiction and implicates it’s prior guidance (see Advisory Opinion 2005-23A). As a result, a broader definition of fiduciary advice will subject more advisers and providers to that guidance. In addition, it is possible that the Department will try to label any recommendation to take distribution as fiduciary advice (by saying, e.g., that a recommendation to take a distribution is inherently also a recommendation to liquidate a participant’s 401(k) investments – similar to what FINRA has done).

To make this even more “interesting,” we are seeing SEC examinations of RIAs where the SEC is finding ERISA prohibited transactions and asserting compliance violations by RIAs. The question is, will that theme carry over into IRA rollovers?

These changes impact broker-dealers, RIAs and their representatives. Less obviously, they also impact the rollover services of recordkeepers.

Bottom line… the rules are changing. Much more attention must be given to practices and disclosures in the distribution and rollover process.

For those of you who are interested in following me on Twitter, I can be found @fredreish, or copy and paste this URL into your browser: https://twitter.com/fredreish

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Target Date Retirement Funds–Tips for ERISA Plan Fiduciaries


DOL, fiduciary, plan sponsors

In my last post—about the selection and monitoring of target date funds (TDFs), I said that I would also discuss the DOL’s recent guidance on that subject… here it is.

Earlier this year, the DOL published “Target Date Retirement Funds—Tips for ERISA Plan Fiduciaries.” You should read the full Tips (at http://www.dol.gov/ebsa/pdf/fsTDF.pdf), but here are a few key points:

  • It is important that fiduciaries understand the asset allocations, glidepaths and expenses—and compare them to other TDFs. How many fiduciaries do that?
  • In selecting a TDF suite, fiduciaries should consider their participant demographics and other factors, for example, participation in other plans (e.g., pension plans or ESOPs), salary levels, turnover rates, contribution rates and withdrawal patterns. In other words, there is no such thing as a “one-size-fits-all” TDF. How many fiduciaries do that?
  • Plan sponsors are encouraged to consider “custom” TDFs. That would include managed accounts and asset allocation models. These vehicles have the advantage of being designed to consider the particular needs and demographics of the covered workforce.

The point of my italicized questions is that there is a significant gap between what the DOL expects plan fiduciaries (eg, plan committees) to do… and what they are actually doing. As a general premise, these kinds of “gaps” are usually red flags, and those flags are signaling changes to plan sponsors.

Of course, the DOL says more than that—and explains it in more detail. This post is just an “appetizer.” Read the Tips.

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DOL Proposed Regulation Sent to OMB


408(b)(2), DOL, fiduciary

The Office of Management and Budget (OMB) has posted that it received a proposed regulation from the Department of Labor. Unfortunately, it is not the much-anticipated proposed regulation on fiduciary advice. Instead, it is a regulation that addresses the development of a “Guide or Similar Requirement for Section 408(b)(2) Disclosures.”

Even though this is not the fiduciary advice regulation, it could have a material impact on the retirement plan community. We don’t know what the proposed regulation will say—and we won’t know for about three months (when the OMB approves and releases the proposed regulation). However, the DOL has previously given us an idea about their thinking.

When the DOL issued the final 408(b)(2) regulation on February 3, 2012, it included a Sample Guide to Initial Disclosures. The Sample Guide was not mandated, but instead was offered as an aide. The DOL explained, in the preamble to the final regulation: “Although the Department is not adopting such a requirement [for a guide] at this time, the Sample Guide published today may be useful, on a voluntary basis, to covered service providers as a format to assist responsible plan fiduciaries with the required disclosures.”

We have heard that, based on the DOL’s review of 408(b)(2) disclosures, the Department has concluded that plan fiduciaries may, in some cases, have difficulty understanding the required disclosures because of the lengthy, technical and/or multiple disclosure documents that are being distributed. As a result, we believe that the proposed regulation may require a guide (or table of contents) for the 408(b)(2) disclosures.

The Sample Guide provided for the disclosure of information at a detailed level. For example, the Guide had references to page and section numbers in specific documents. For example, under indirect compensation, the Guide provided a number of categories, including one entitled “Compensation ABC will receive from other parties that are not related to ABC (‘indirect compensation’).” The Guide then referred to “Master Service Agreement §3.3, p. 4, and Stable Value Offering Agmt §3.1, p. 4.”

If the DOL’s proposed regulation is similar to the Guide—which it may be, and if, for example, a broker-dealer makes disclosures by delivery of prospectuses, that would require references to each of the mutual fund prospectuses, together with the section and page numbers where the description of 12b-1 fees and other compensation appear. Based on our experience, most covered service providers are not providing disclosures that are that detailed or specific.

In other words, this could be a big change, which could result in additional administrative work and expense.

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Managing Plan Costs


404a-5, DOL, fiduciary, plan sponsors, recordkeeper, registered investment advisers, service providers

Many recordkeepers and bundled providers charge plans based on the number of participant accounts. Many others do not explicitly charge on a per-participant basis, but incorporate the number of accounts (and possibly the average account balances) into their pricing. It is likely that this practice will increase in the future . . . due to the new 404a-5 participant disclosures, which must be made to every eligible employee, as well as to every participant of an account balance.

With that in mind, advisers, recordkeepers and plan sponsors should consider mandatory distributions of small account balances (that is, $5,000 or less) to manage plan costs.

If a plan has the required provisions, and if the provisions have been appropriately communicated to eligible employees and beneficiaries through summary plan descriptions, plans can make distributions of account balances of $5,000 or less. If the participants don’t take those distributions, then the plans can directly roll the money over into IRAs for them. In either case, the effect of the mandatory distributions will be to improve the pricing for the plan . . . either because it reduces the number of accounts or, alternatively, because it increases the average account balance (due to the elimination of small accounts).

As you might expect, both the IRS and the DOL have issued guidance on how to do that. The combined effect of the guidance is that plan fiduciaries essentially have a safe harbor for making mandatory distributions of small accounts . . . if they follow the rules. Unfortunately, there are too many requirements for a short email like this. However, my partner, Bruce Ashton, and I have written a white paper that describes the requirements.

In writing that white paper, we took an approach that I think will be helpful to advisers and plan sponsors. The body of the white paper is a discussion of the benefits of mandatory distributions . . . in terms of plan pricing. Then, there are three appendices: the first two discuss the IRS and DOL guidance, respectively; and the third one covers adviser compensation related to a mandatory rollover program.

If this subject is interesting to you, you may want to look at the Inspira white paper. It is located at http://www.drinkerbiddle.com/resources/publications/2013/mandatory-distributions-white-paper?Section=Publications.

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Fiduciary Advice and 12b-1 Fees


broker-dealers, DOL, fiduciary, prohibited transaction, registered investment advisers, service providers

The DOL recently settled a case for $1,265,608.70 with a firm that provided investment advice to retirement plans. Based on the DOL’s press release, the firm served as a fiduciary investment adviser to ERISA plans and recommended investments in mutual funds. In addition to the firm’s advisory fee, it also received 12b-1 fees.

Based on the press release, it appears that the DOL asserted two claims. The first is that the receipt of additional fees (which could include both 12b-1 fees and some forms of revenue sharing) is a violation of the prohibited transaction rules in section 406(b) of ERISA.

The second theory appears to be that, where a fiduciary adviser receives undisclosed compensation, the adviser has, in effect, set its own compensation (to the extent of the undisclosed payments). In the past, the DOL has successfully taken the position that, by receiving undisclosed compensation, a service provider has become the fiduciary for the purpose of setting its own compensation and has used its fiduciary status for its own benefit.

In any event, RIAs and broker-dealers need to be particularly conscious of undisclosed payments and/or payments in addition to an advisory fee. In recent years, the DOL has gained a greater understanding of RIA and broker-dealer compensation and is actively investigating both.

I have reviewed the 408(b)(2) disclosures of a number of broker-dealers. In a few cases, the broker-dealers specifically state that, where they were serving as fiduciary advisers, they were also receiving additional compensation (e.g., revenue sharing). Those disclosures raise issues about prohibited transactions.

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