By Fred Reish, Bruce Ashton, Brad Campbell, Joan Neri, and Josh Waldbeser

In our email alert on this issue, we gave our conclusions about the impact on independent registered investment advisers (RIA) of the Department of Labor’s (DOL) proposal to amend the regulation defining fiduciary investment advice and to provide conditional exemptions to certain prohibited transactions.  This paper provides the basis for our conclusions. 


The DOL’s “package” consists of (i) a proposed regulation that re-defines fiduciary investment advice for plans subject to ERISA and for IRAs and (ii) six proposed prohibited transaction exemptions.[1]  The proposal defines fiduciary advice to include an investment recommendation directed to a plan, participant or IRA owner. The sweep of this definition is broad and includes recommendations about discretionary investment managers, non-discretionary fiduciary advisers, distributions from plans, rollovers to IRAs, and certain appraisals. 

One consequence of the proposed expansion of fiduciary status is that many recommendations that did not previously result in prohibited transactions would become prohibited.  (For example, under the proposed change that would define a distribution recommendation as fiduciary advice, an adviser who receives a higher fee from a recommended IRA or its investments could be committing a prohibited transaction.) 

However, the DOL has also proposed exemptions for conditional relief from some of the prohibited transactions.  For example, the DOL proposed a new exemption labeled the “best interest contract” exemption (referred to as “BICE”).  That exemption would permit variable compensation for fiduciary advisers in limited circumstances, subject to detailed and difficult conditions.  One of the conditions of  BICE is a requirement to enter into a contract – before a recommendation is m ade – with a “retirement investor” containing specific provisions, disclosures and warranties, and to provide detailed financial disclosures on a transactional and annual basis thereafter. 

Email Alert Conclusion No. 1:  The proposal will have little impact on independent RIAs providing investment advice to plans, participants and/or IRAs because independent RIAs typically: (1) acknowledge fiduciary status; (2) charge a level fee for their services; (3) do not receive revenue sharing; and (4) do not recommend proprietary products.

In almost all cases, an independent RIA would already be considered a fiduciary to a plan, participant or IRA owner under the current definition of investment advice, so the expansion in the proposed re-definition has little or no impact on that status.  Given that the RIA is already a fiduciary, it is already subject to the self-dealing prohibited transaction rules in ERISA Section 406(b) and Internal Revenue Code section 4975.  Those rules prohibit an RIA from, among other things, using its authority as a fiduciary to cause itself or an affiliate to receive additional compensation or to receive compensation from a third party in connection with transactions involving plan assets. 

These prohibitions are avoided where the RIA charges a flat dollar fee or fixed percentage of assets that does not vary based on the advice given and does not include commissions, revenue sharing or other payments from investments or third parties.  Since, in our experience, independent RIAs are already charging fees on this basis, the proposal would not affect their practices. 

Email Alert Conclusion No. 2:  An exception to our conclusion that the proposal would have little impact on independent RIAs is that the proposed regulation defines fiduciary advice to include recommendations to participants to take distributions from retirement plans, as well as recommendations on how to invest assets to be rolled over or distributed from a plan or IRA.  RIAs who make distribution or rollover recommendations that would constitute a prohibited transaction will be required to comply with the proposed “best interest contract exemption”("BICE"),  which could be difficult or expensive.

Background:  BICE proposes to permit fiduciary advisers to receive compensation that varies based on their fiduciary recommendations so long as they act in the “best interest” of the “retirement investor” (i.e., the advice recipient) and satisfy specified conditions.  The BICE conditions are so difficult to satisfy in the context of distribution recommendations that we believe most RIAs will provide distribution education, rather than recommendations.  (The “education” should cover the four distributions options, explain the material considerations for each option, and not be biased towards a particular option.[2])

BICE permits advisers, financial institutions and their affiliates and related entities to receive “prohibited” compensation for advice given to “retirement investors” about “assets” subject to conditions.  “Retirement investors” include participants who can take distributions and IRA owners.  “Assets” is a defined term and includes most common plan and IRA investments, including insurance and annuity products, but does not include non-publicly traded securities or REITS, hedge funds, private equity funds, puts, calls, straddles or options, or real estate. 

Under BICE, when providing a distribution “recommendation,” the adviser must act in the best interest of the participant.  “Best Interest” parallels the prudent man standard of ERISA, with the added requirement that the advice be given “without regard to the financial or other interests” of the adviser, financial institution, affiliate, related entity or other party.

The exemption contains a number of conditions.  The adviser and financial institution must enter into a contract—before making the recommendation—that contains certain provisions.  While a full discussion of these conditions is beyond the scope of this paper, the institution and adviser must:  (i) acknowledge fiduciary status; (ii) agree to provide advice under the best interest standard; (iii) agree to receive no more than reasonable compensation in relation to the services provided to the retirement investor; (iv) agree that the disclosures will not be misleading; and (v) contain various “warranties.” 

In addition to the contract requirement, the exemption requires financial disclosures about the total costs of any recommended investments (the “transactional” disclosure).  There is also an annual disclosure requirement about costs and compensation.  Both the transactional and annual disclosures must be made in dollar amounts and must be formatted in a succinct manner.  Financial institutions are also required to maintain a website with detailed financial information and to file a notice of intent to use the exemption with the DOL. 

Impact:  A recommendation to a participant to take a distribution, and advice regarding the investment of assets to be rolled over to an IRA, are fiduciary investment advice under the proposed regulation.  This is in contrast to existing guidance in DOL Advisory Opinion 2005-23A, which says that the recommendation to take a distribution is not investment advice, but if a person who is already a fiduciary to the plan makes the recommendation, it is a fiduciary act.  In other words, the proposal applies to a recommendation, regardless of whether the adviser already is a fiduciary to the plan and regardless of whether the adviser is otherwise providing services to the plan or participant.

For independent RIAs that are already serving as plan fiduciaries, the proposed change would have little practical impact.  That is, the advice to take a distribution and roll it over is already a fiduciary act under the DOL Advisory Opinion.  And fiduciary advice is already subject to the prohibited transaction rules. 

For an RIA who is not already serving as a fiduciary to a plan, the proposal could be significant.  Under current guidance, if such an RIA discusses a rollover with a participant, the RIA is not engaging in a fiduciary act and is not subject to the self-dealing prohibited transaction rules.  But, under the proposal, giving advice to a participant about taking a distribution and rolling over to an IRA will be a fiduciary act, subjecting the RIA to the prohibition transaction rules (and, therefore, the RIA will need to obtain exemptive relief if the recommendation results in a prohibited transaction). 

Email Alert Conclusion No. 3:  RIAs can avoid the complexities of  BICE by providing education about plan distributions rather than making recommendations.  

The proposal includes certain “carve-outs.”  One of these is for investment education, which includes education about distributions. Distribution “education” can cover the distribution options under the plan; varying forms of distribution (including rollovers and annuitization); and advantages, disadvantages and risks of different forms of distributions. Based on FINRA guidance and our analysis, the education should be complete in material respects and void of bias towards a particular result. 

Since, under the proposal, recommendations about distributions will constitute fiduciary advice, it seems likely that RIAs will choose to provide distribution education to avoid the difficulty of complying with BICE.  If the RIA is providing advice at the plan level but not to participants, this may be impractical.  But for RIAs that are providing advice to participants, they could avoid engaging in a prohibited transaction by maintaining the same fee in the IRA charged in the plan. 

Closing Thoughts

For the most part, the DOL’s proposal should not significantly impact independent RIAs.  The only material change will be in the context of IRA rollovers where the RIA is not already a fiduciary to the plan.  In that situation, an RIA who advises a participant to take a distribution will be giving fiduciary advice.  As a result, the RIA will need to decide whether to provide only investment education or to take steps to comply with the requirements of BICE.

[1]   Definition of the Term “Fiduciary:” Conflict of Interest Rule — Retirement Investment Advice, 80 Fed. Reg. 21928; Proposed Best Interest Contract Exemption, 80 Fed. Reg. 21960; Proposed Class Exemption for Principal Transactions in Certain Debt Securities etc., 80 Fed. Reg. 21989; Proposed Amendment to Prohibited Transaction Exemption (PTE) 75-1, Part V, etc., 80 Fed. Reg. 22004; Proposed Amendment to and Proposed Partial Revocation of Prohibited Transaction Exemption (PTE) 84-24 etc., 80 Fed. Reg. 22010; Proposed Amendment and Proposed Partial Revocation of Prohibited Transaction Exemption (PTE) 86-128 etc., 80 Fed Reg. 22012; and Proposed Amendments to Class Exemptions 75-1, 77-4, 80-83 and 83-1, 80 Fed Reg. 22035 (all April 30, 2015).

[2]   See, e.g., FINRA Regulatory Notice 13-45.



Source: Client Alert