Due to the inadequacy of the prevailing ERISA definition of fiduciary, the DOL has recently issued a proposed regulation that would expand the conditions under which consultants, advisers and others who provide investment advice to retirement plans can be considered fiduciaries. Today’s fiduciary standard was developed under the DOL regulations shortly after the passage of ERISA. The current regulatory environment has severely lagged the marketplace, as a lot has changed in the retirement industry since 1974. Foremost is the transition from defined benefit plans to 401(k)s (and other participant directed plans) becoming the preferred retirement funding vehicles.
ERISA Section 3(21) delineates what functions translate into a fiduciary role within an ERISA covered retirement plan. It states that, other than when discretion exists or control of plan assets is exercised, a multiple part test must be satisfied for advice to reach a fiduciary standard. The advice service must be provided for a fee and the following must be met:
- Given as to the value or suitability of investing in property or securities; and
- Provided on a regular basis; and
- Made pursuant to a mutual agreement, understanding or arrangement of both parties; and
- Serve as the primary basis for plan investment decisions; and
- Individualized for the plan.
The present 35 year old regulation is overly narrow and serves to shield many advice providers from a fiduciary role for their services. What results is, what critics call, a system that harms plan sponsors and their participants.
The proposed regulations simplify the current five-part test by significantly expanding the categories of services resulting in a fiduciary act. If passed, this would inflate the number of consultants and advisers that are liable for their advice to retirement plan sponsors. As more services would be considered fiduciary acts, an elevated fiduciary standard would be required or more advice providers. In the proposed definition, fiduciary status for investment advice is reached when a person provides a plan, a plan fiduciary or a plan participant with:
- Advice or appraisal of the value of securities and other properties, or
- Recommendations as to the advisability of investing in securities or other properties, or
- Advice or recommendations as to the management of securities or other properties.
Additionally, the person must also meet at least one of the following conditions:
- They represent or acknowledge that they are acting as a fiduciary
- They are a fiduciary by reason of having discretionary authority or exercising control over plan assets;
- They are an investment adviser as defined in the Investment Advisers Act of 1940;
A significant change to the regulation is that advice is no longer required to be provided on a ‘regular’ basis. Further, the advice does not have to serve as a primary basis for plan investment decisions.
The regulations clarify that fees resulting from advisory services offered to a plan would include commissions emanating from brokerage, mutual fund and insurance sales; and would include commissions based on multiple transactions involving different parties
Plan Distribution Advice
The DOL also made clear that fiduciary standing “may result from the provision of advice or recommendations not only to a plan fiduciary, but also to a plan participant or beneficiary.” Previously, the DOL took the position that participant distribution recommendations did not trigger fiduciary status. Retirement distribution services have been hotly debated, as many hold concerns that participants may not be adequately protected from advisors that subordinate participants’ interest to their own financial gains.
These new regulations have caused quite a stir in the advisory community. Wall Street brokerage houses, large consulting organizations, advisory firms and other interested parties will be greatly affected, causing many advice providers to restructure their ERISA services or be relegated to a non-fiduciary role for their plan sponsor services. Many of these same organizations have historically evaded fiduciary responsibility and maintained conflicted practices that are not consistent with a fiduciary stance. These changes will ultimately serve to clean up many of the questionable business practices that still plague the retirement consulting industry.
Plan sponsors also have work to do. Equipped with this information, it is advisable for sponsors to reevaluate their advisory relationships. Properly exercised due diligence on the fiduciary role of their advice providers should yield a clear, accountable, higher value service – free from tainted advice.