In a move President Joe Biden and key administration officials said would help Americans better prepare for retirement, the Department of Labor on Oct. 31 unveiled a new rule proposal to amend the definition of the term "fiduciary" and require rollover advice be in the best interest of the saver.
But some industry stakeholders think the proposal is a rehash of a similar 2016 rule that was struck down in court and will ultimately hurt financial professionals and savers.
In its proposed Retirement Security Rule, the department calls for changing its fiduciary definition by removing three prongs in the five-part test used to determine when a financial professional is considered an investment advice fiduciary under ERISA. The three prongs at issue require that the person providing the advice does so on a regular basis; the advice is pursuant to a mutual understanding; and that the advice will serve as a primary basis for decision-making.
The five-part test, which was established in 1975, too often works to "defeat legitimate retirement investor expectations of impartial advice and allow(s) some advice relationships to occur where there is no best interest standard," the department said in the proposal's preamble.
Instead, the department proposes that a person should be an investment advice fiduciary under the Employee Retirement Income Security Act if they provide investment advice or make an investment recommendation to a retirement investor, like to a plan participant or the plan itself; the advice or recommendation is provided "for a fee or other compensation, direct or indirect;" and if the recommendation is made in at least one of several contexts.
Those contexts include:
The changes would lead one-time advice, such as rollovers to individual retirement accounts or annuity purchases, to fall under the fiduciary definition if the other parts of the test are met.
"Most financial advisers give their clients good advice at a fair price and are honest with them," Biden said during an Oct. 31 White House event announcing the proposal. "But that's not always the case. Some advisers and brokers steer their clients toward certain investments not because it's the best interest of the client, because it means the best payout for the broker. I get it, understand it. But I just want you to know we're watching."
The proposal would also apply a best interest standard to advice that plan sponsors receive about which investments to include in 401(k) and other employer-sponsored plan lineups.
In issuing the proposed fiduciary definition changes, the department said it was a more narrowly tailored approach than the 2016 fiduciary rule, which was promulgated under the Obama administration, broadened the definition of a person or entity taking on fiduciary responsibilities and replaced the five-part test.
In 2018, a three-judge panel at the 5th U.S. Circuit Court of Appeals in New Orleans vacated the rule in a 2-1 decision, saying the department exceeded its legal authority.
The judges in that decision ruled against the department in part because they didn't buy that there could be fiduciary status established when there wasn't a relationship of trust and confidence between an adviser and client, according to Fred Reish, a partner at Faegre Drinker Biddle & Reath. The judges thought that a sales pitch was not a relationship of trust and confidence and that participants would know that, he added.
In an Oct. 30 call with reporters, an administration official said: "This time around, the test itself is much more targeted to only include those circumstances where, to use the 5th Circuit's terminology, they're relationships of 'trust and confidence.'"
Jason Berkowitz, chief legal and regulatory affairs officer at the Insured Retirement Institute, a trade group representing members that account for 90% of annuity assets in the U.S., disagrees with that characterization.
"They're playing around with some words to try and shoehorn this into something that they can argue is consistent with the 5th Circuit decision and the text of ERISA, but as I look at it, they are trying to bring advisers under the fiduciary umbrella without a real true relationship of trust and confidence as required by the 5th Circuit," he said on a call with reporters. "I struggle to see how this is a more narrowly tailored, carefully crafted approach. It seems to me that they've reshuffled the deck chairs on the Titanic, but we're still headed for that same iceberg."
Kent Mason, a Washington-based partner with law firm Davis & Harman LLP who has worked for groups who opposed the 2016 fiduciary rule, said the proposed fiduciary definition is "effectively the same as the 2016 fiduciary rule that was invalidated. DOL only made cosmetic changes. A lawsuit challenging this proposal — if finalized as is — does not even seem too difficult. (It's) sad that we have to do this again."
While it's still early in the process, Berkowitz said that if the proposal is enacted largely as is, IRI and its sister trade organizations will consider all options to oppose it, including litigation.
Reish said a lawsuit challenging the proposal is almost guaranteed, and if Biden wins re-election next year the case could ultimately be decided by the U.S. Supreme Court. He noted that when the 5th Circuit decision was handed down in 2018, the Trump administration did not appeal the decision.
Consumer groups welcomed the latest proposal. In a joint statement, steering group members of the Save Our Retirement coalition, which includes organizations like AARP, AFL-CIO, Consumer Federation of America and the Pension Rights Center, said the proposal is "a major milestone in the long fight to bring millions of Americans one step closer to a secure, dignified retirement."
The proposal, which will have a 60-day public comment period upon publication in the Federal Register, would align with the Securities and Exchange Commission's Regulation Best Interest to stipulate that retirement advisers must provide advice in the saver's best interest, regardless of whether they are recommending a security or insurance product.
Currently, the SEC's rule package, which took effect in 2020, does not generally cover advice regarding commodities or insurance products, so that is governed by state law. For example, Reg BI does not cover advice when an IRA owner purchases an annuity, but such a purchase would be covered by the department's proposal.
"Investment professionals deserve to be paid for their advice and able to compete on a level playing field for business," Acting Secretary of Labor Julie Su said in a statement. "Our proposal would end the unfair and unbalanced playing field that exists today where advisers are held to different standards depending on what products they recommend."
In a fact sheet, the White House said that advice to purchase insurance products like fixed index annuities is governed by state law, which often varies. "These inadequate protections and misaligned incentives have helped drive sales of fixed index annuities up 25% year-to-date," according to the White House.
The National Association of Insurance Commissioners, which has developed conduct standards for insurance agents and insurance companies recommending annuities that's been adopted in more than 40 states, said the White House's characterization "suggests either ignorance of, or willful disregard for, the hard work of the 43 states and counting that have worked diligently to enhance protections for consumers by" adopting NAIC's standards.
Similar in scope, the NAIC standards require that all recommendations by agents and insurers must be in the best interest of the consumer, and that agents and carriers may not place their financial interest ahead of the consumer's interest in making a recommendation.
The proposal affects an adviser's ability to provide assistance to a plan participant or IRA owner regarding whether to annuitize or which annuity to pick, as long as it relates to money in the plan or IRA, according to Mason. It does not affect annuity advice outside the context of a plan or IRA.
As part of the Oct. 31 proposal package, the department is also offering amendments to several prohibited transaction exemptions, including PTE 2020-02 and PTE 84-24, so that fiduciaries who use them must follow consistent and protective compliance requirements, including an obligation to act in retirement investors' best interest, according to administration officials.
The department said it intends to hold a public hearing about 45 days after the proposals are published in the Federal Register.
