The Department of Labor’s fiduciary rule is in limbo, and while some advisors and financial services firm welcome that change of status, it can cause compliance problems for others who handle IRA rollovers from 401(k) plans. I recently asked Joan Neri, counsel with law firm Drinker Biddle & Reath LLP in Florham Park, N.J., for her advice on how plan consultants and advisors should proceed in the post-fiduciary rule environment. Neri, a member of Drinker Biddle’s Best Interest Compliance Team, shared her insights in a phone interview. The first part of that interview is below; the second part will follow in a subsequent column.
WealthManagement: From an advisor’s perspective, what is the current status of the regulations regarding IRA rollovers from 401(k) plans?
Joan Neri: There are really three regulatory bodies that need to be considered. One is the Department of Labor and that governs the ERISA fiduciary issues. Then there is the SEC and then there is also FINRA, which regulates broker/dealers. I’ll talk first about the DOL. With the DOL, we have the reinstatement of the existing fiduciary rules because there were always fiduciary rules; it’s just the new rule had modified the existing rule. The reinstated rule says you’re a fiduciary if you meet a five-part test. Under that five-part test, you are a fiduciary if you’re providing advice for a fee, on a regular basis, under a mutual understanding that the advice is going to form the primary basis for the plan’s decisions and the advice is individualized based upon the plan’s needs. The services provided by registered investment advisors to ERISA plans typically meets these five factors.
That’s important for rollovers because there’s a 2005 Department of Labor advisory opinion that makes a distinction between advisors that are fiduciaries to a plan and advisors that are not. If you’re a plan fiduciary and you recommend a rollover to the plan participant, that’s a fiduciary act. If you’re not a plan fiduciary—if you’re not meeting that five-part test—then, if you recommend a rollover to the plan participant, there’s no fiduciary act.
WM: Why is that distinction important?
Joan Neri: If it’s a fiduciary act to make a rollover recommendation, then the advisor is subject to the ERISA duties of prudence and loyalty, and most significantly, could be committing a prohibited transaction. When you recommend a rollover and you’re a fiduciary and if it causes you to make additional compensation that you wouldn’t have received otherwise (namely, the IRA advisory fee), then you’re committing a prohibited self-dealing transaction. And, the problem is that because the DOL fiduciary rule was vacated, an advisor that’s in that position is left with no prohibited transaction exemption to use because the Best Interest Contract exemption was thrown out as part of the vacating of the DOL fiduciary rule.
The good news is, if an advisor is in that position, he can take advantage of the DOL’s nonenforcement policy, which, by the way, the IRS has also signed on to. Under the policy, the DOL is saying we’re not going to enforce the prohibited transaction rules in this scenario if the advisor complies with the impartial conduct standards that were in the BIC exemption. Those standards basically say you have to act in the best interest of the investor, which means you have to satisfy the duty of prudence and duty of loyalty. Also, you have to make sure your fee is reasonable, and you can’t make misleading statements. The DOL has said if you make a good faith effort to comply with those standards, they’re not going to enforce the prohibited transaction rules against you and the IRS has said they won’t either.
I do want to point out that the nonenforcement policy doesn’t protect an advisor from ERISA fiduciary breach claims by a private party. Now from a practical standpoint, if the advisor acted in the plan participant’s best interest, meaning the advisor acted prudently and complied with the duty of loyalty, the claimant would not have a very strong case.
The second half of WealthManagement’s conversation will cover non-fiduciary advisors’ rollover responsibilities and advisors’ best practices for avoiding compliance problems.