Attempting to assess the impact of DOL’s newly proposed fiduciary “prohibited transaction exemption” (let’s call it the “Fiduciary PT”) is almost like trying to figure out a Rubik Cube, given all of the moving pieces. But ultimately there may not be many parties who actually will need it. Consider the following when trying to figure how this new rule affects things:
- Broker/dealers and registered reps who are not dually registered as Investment Advisers. The new Fiduciary PT may not be needed at all by this class of “adviser.”
- This new Fiduciary PT permits investment fiduciaries to receive variable compensation.
- However, the SEC’s “solely incidental” rules only permits the “non-IA” registered rep to give investment “recommendations” to a fiduciary which are “solely incidental” to the actual investment transaction.
- To be an ERISA fiduciary, the recommendations must be made on a regular basis pursuant to a mutual understanding that the advice will serve as a primary basis for the investment decisions with respect to plan assets.
- It would seem that providing on advice on a “regular basis” may well violate the SEC’s “solely incidental” exemption under the Investment Advisers Act of 1940, and may cause that registered rep to be required to register as an Investment Adviser. So, the rep, legally, may not even be able to act as an ERISA fiduciary to a plan if it never becomes dually registered.
- Note how this compares to the vacated fiduciary rule (let’s call it the “Borzi Rule”). Under the Borzi Rule, a rep giving “solely incidental” recommendations would be considered a fiduciary, even though they would not have to register as an Investment Adviser under the SEC rules.
- Though registered reps will not need to comply with the Impartial Conduct Standards (ICS) under the Fiduciary PT, they will, however, still be required to comply with the SEC’s Best Interest Standards which apply to the rest of their non-plan business.
- Therefore, I think this may mean that no registered rep who is not dually registered (or at least one who complies with the SEC rules) can ever really be an ERISA fiduciary, which means they will never need this new Fiduciary PT in order to receive comp which varies based on their “recommendations.” So, at least in the retirement plan market, is there even going to be much of an effect?
- Investment Advisers. Again, there may not be much of an impact.
- Under the Pre-Borzi Rules, the prohibited transaction rules forced IAs to adopt compensation practices which did not include variable comp. This mostly impacted those who were paid through revenue sharing: their comp was at a set level, and their agreements with the plan called for the plan (or the employer) to make up the difference if there was a shortfall in the revenue sharing, or to cap their pay if there was excess revenue sharing.
- I was always amazed at the pushback in the retirement plan world to the Borzi rule, because it actually (unlike registered reps) helped IAs: that rule permitted IAs to receive variable comp as long as they met the Impartial Conduct Standards and complied with all of those implementation rules.
- However, my experience was that IAs did not generally change their comp practices to permit variable comp. It will be interesting to see if variable comp is reintroduced into the IA market.
- The unique nature of a prohibited transaction exemption is that it only permits the transaction, as long as everything else is kosher. The IA will still have to meet ERISA’s prudence and exclusive benefit standards, and be able to prove that the advice was prudent, and that they did not take into account their own pecuniary interests in providing the advice-which, I guess, is the purpose of the Impartial Conduct standards in the Fiduciary PT (or at least it helps).
- Existing Prohibited Transaction Class Exemptions 75-1, 77-4, 80-83, 83-1, 84-24, and 86-128. It is the lack of the rule that will have an impact, but not the new Fiduciary PT itself.
- There is a whole host of prohibited transaction class exemptions (listed above) under which the Borzi Rule imposed an Impartial Conduct Standard as a condition of those exemptions (these include, for example, authorizing the payment of insurance company commissions).
- When the Borzi Rule was vacated, it also meant that the ICS requirement was removed as a condition from those PTEs.
- The new Fiduciary PT did not re-impose that ICS as a condition of the exemptions.
- There is a downside to the ICS not applying to those old PTEs. The ICS did have the effect of documenting that compliance with ERISA’s prudence and exclusive benefit rules, which is still required under some of these exemptions. Those parties involved in those arrangements will now be compelled to establish standards which may look something like the ICS in order to demonstrate ERISA compliance.
The ERISA marketplace is complex, with a plethora of different sorts of arrangements which will be affected in a variety of different ways by this Fiduciary PT. In general, however, I would be little surprised if it ends up being that not many parties will have the need to take advantage of this new exemption.