Broker-dealers, investment advisors and insurance distributors realize that they must prepare to comply with the Department of Labor’s investment advice guidance, but what do they need to do?
The key thing is not to assume that following standards at the Securities and Exchange Commission and FINRA means that they have the DOL covered, according to participants in a webinar presented by compliance consultants Faegre Drinker and Oyster Consulting on Tuesday.
It is clear almost anybody recommending an ERISA plan or IRA rollover will be considered a fiduciary, according to the analysts. If advisors or agents recommending a rollover have or will have an ongoing relationship with the client, they are considered a fiduciary under the DOL’s rules and guidance, said Fred Reish, a Faegre Drinker partner participating in the webinar.
“If an advisor or an agent makes a rollover recommendation today, and it satisfies that regular basis test, or the five-part test, that is a fiduciary act today and you have to engage in a prudent process under ERISA to make the recommendation,” Reish said, referring to the impartial conduct standard. “But that’s today, there’s no delay on that.”
(The five parts of the test are: “(1) render advice as to the value of securities or other property, or make recommendations as to the advisability of investing in, purchasing, or selling securities or other property (2) on a regular basis (3) pursuant to a mutual agreement, arrangement, or understanding with the Plan, Plan fiduciary or IRA owner, that (4) the advice will serve as a primary basis for investment decisions with respect to Plan or IRA assets, and that (5) the advice will be individualized based on the particular needs of the Plan or IRA.”)
When there is a rollover recommendation under those circumstances, any compensation would require a prohibited transaction exemption.
Broker-dealers and investment advisors would usually fall under PTE 2020-02. For insurance agents, the older PTE 84-24 would be the likely choice. But the DOL says it will revisit older exemptions with an eye toward amending or eliminating them.
PTE 2020-02 went into effect on Feb. 16, but the DOL postponed enforcement until Dec. 20.
Reish warned that broker-dealers and investment advisors should not ignore compliance with PTE 2020-02 just because they are abiding by the SEC’s Regulation Best Interest rule.
Although the DOL’s rules and guidance were meant to harmonize with Reg BI, they are more like a two-part harmony – you need both.
So, what does it mean to comply with PTE 2020-02?
First comes the PTE’s bedrock, the impartial conduct standard, which sellers must already be complying with as a fiduciary starting Feb. 16, Reish said. Compliance means providing best interest standard of care, charging only reasonable compensation and avoiding materially misleading statements.
“The hard part of that is getting the information required to satisfy the best interest standard of care, which would include, among other things, information about the investments, cost and services in the plan, as well as the proposed IRA,” Reish said, adding that the requirements kick in even if it is a rollover from plan to plan or IRA to IRA, not just plan to IRA.
After Dec. 20, the impartial conduct standard will include another prong, best execution.
The next requirement is a series of written disclosures to the investor, which the DOL will start enforcing until Dec. 20:
Fiduciary. Sellers will need to disclose in writing that they are acting as fiduciaries. That disclosure will have little effect if sellers realize later that they meet the definition of a fiduciary under the new guidance and try to do it retroactively. Brad Campbell, also a Faegre Drinker partner, recommended against saying that the seller “may” become a fiduciary in the relationship at some point, but to be definitive in the disclosure.
Conflicts of interest. Next is disclosures of the services to be provided to the retirement investor and of the material conflicts of interest that could affect the retirement investor, along with disclosing policies and procedures that ensure compliance with the impartial conduct standards and mitigates conflicts of interest for both the financial institution and the investment professional.
Rollover reasoning. A written statement of why the rollover recommendation is in the best interest of the retirement investor.
Retrospective annual review. Each year, the financial institution (investment advisors, broker-dealers, banks and insurance companies) will be required to provide at least once a year a retrospective review of their compliance with the exemption. That review should be written into a report within six months after the end of the year and signed off by a senior executive at that financial institution. The report must be available to the DOL upon request.
Where To Start?
Ed Wegener, managing director at Oyster Consulting, agreed that firms and advisors cannot assume their compliance with the SEC’s Reg BI will automatically cover them under the DOL rules. But they have a leg up because of that compliance.
“The DOL did say that you can leverage certain aspects of those efforts,” Wegener said. “But they also specifically stated in their in their FAQ that compliance with other regulatory requirements isn’t a safe harbor. They also said that they expect full compliance out of the gate.”
Firms could use those Reg BI practices as a building block to complying with the DOL guidelines, said Wegener, who was with FINRA for more than 20 years before joining Oyster. He added that broker-dealers following FINRA requirements would have a head start on the DOL requirements.
“Take a look at your existing conflicts inventory, and your conflict mitigation plans and assess where you’re at currently,” Wegener said. “Look at current procedures for things like costs and fees and compensation. If you’re a broker dealer and you’re subject to FINRA requirements, there are already rules in place.”
Other existing policy for B-Ds to review are advertising and communications policies and procedures, form CRS and Reg BI disclosures.
Beyond those, firms can start developing the fiduciary acknowledgement disclosure that they would need to create a process for disclosing the services and conflicts.
Next would be reviewing current mitigation efforts and how those might have to change under the DOL requirements.
Wegener said the most important step is examining how firms assess recommendations for rollovers. The firm would need to standardize the financial information sellers gather from clients and how they are kept.
“Create a system, if you don’t have one in place, to capture that information in your books and records, and importantly, disclose that information to customers,” Wegener said. “But like any significant regulatory change, this is going to be something that people are going to have to change behaviors.”
That behavior change does not mean simply abiding by checklists but requires training and oversight.
“In preparation for the implementation of this, you should be creating a system for monitoring for non-compliance and overseeing activities to identify where there might be compliance issues that you need to address,” Wegener said.
Once those holes have been spotted, firms will need procedures on how they would deal with those deficiencies and self-correct.
“Those are some of the things,” Wegener said, “that I think firms really need to focus on between now and December to have a plan to get there.”
Steven A. Morelli is a contributing editor for InsuranceNewsNet. He has more than 25 years of experience as a reporter and editor for newspapers and magazines. He was also vice president of communications for an insurance agents’ association. Steve can be reached at email@example.com.
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