Why you should care about the Labor Department’s re-proposal of guidelines
Many plan sponsors have not paid much attention to the U.S. Department of Labor’s current effort to substantially broaden the definition of a plan fiduciary, agrees Lynn Dudley, Senior Vice President, Policy, at the Washington-based American Benefits Council. They do it at their peril, she suggests. “Because there are so many lawsuits based on investment menus and investment choices, this is not something to take lightly,” she says.
In September, the Labor Department announced that it will re-propose regulation, which is expected to happen in 2012. That follows the issue of the original proposal in October 2010 to expand the meaning of the fiduciary term, defining it as “a person who provides investment advice to plans for a fee or other compensation.”
The far-reaching original proposal faced lots of opposition. It “would fundamentally change the entire body of law that governs $6 trillion of ERISA assets,” says Bradford Campbell, who is Of Counsel at law firm Schiff Hardin LLP in Washington. David Bellaire, General Counsel at the Roswell, Georgia-based Financial Services Institute, says the decision to re-propose “is a move by the Department to remove the political pressure they were feeling, to give them a little time and space” to come up with a revision.
Dudley has talked to Labor Department officials about their rationale for making a change. “Their view is that a lot has changed since the definition of ‘fiduciary’ was originally done, and the role of service providers has changed a lot,” she says. “In their view, it is not always easy to tell who is a fiduciary and who is not. If they want to hold someone accountable, it is harder to do, if they do not know whom exactly to hold accountable and for what.”
The definition under ERISA always has been complex, says Roberta Ufford, a Washington-based Principal at Groom Law Group. “It is all facts and circumstances, and a five-part test. It has never been an easy test to apply, an easy test for people in the industry to understand,” she says. The original Labor Department proposal made sweeping changes to that definition, she says. Says Dudley, “The approach they felt more comfortable with is that you are not a fiduciary only if you fit an exemption. You would have to be exempted out.”
The current regs are “making it far too easy for today’s advisers to avoid fiduciary responsibility,” says Phyllis Borzi, Assistant Secretary of Labor for the Employee Benefits Security Administration (EBSA). “The result is all too often that plan sponsors must solely bear the responsibility for advice they received from the adviser that was flawed due to bias or conflicts of interest, and are often the sole targets of legal actions that may follow. Workers also suffer when the advisers they relied on for unbiased advice failed to live up to this standard, and the funds they were counting upon were eviscerated due to shoddy advice.”
Despite deciding to revise its proposal, it seems clear that the Labor Department still intends to broaden the definition significantly, says Donald Myers, a Washington-based Partner at law firm Morgan, Lewis & Bockius LLP. “It does look like they do not plan to go back to the original version,” he says. The DoL apparently wants everybody providing advice to plans to do so on the same terms, Campbell says.
Service providers will reevaluate their offerings when a proposal ultimately becomes final, Ufford says. The idea that some providers will stop working with plans because they do not want to become fiduciaries seems less likely to her, given that the retirement system makes up a big part of the investment industry, but they might limit their services in some ways, she says.
Making Exceptions to the Rule
Employers need clarity about whether new rules would apply in a bunch of situations, Dudley says. If an employee asks a company bookkeeper if a plan option is a good investment, does that make the bookkeeper a fiduciary? Do these new rules mean that non-employees, such as legal counsel and third-party benchmarking companies, will become plan fiduciaries? If a participant contacts the call center and talks with a staffer about how to diversify, does that cross the fiduciary line? Do sponsors need to renegotiate vendor agreements?
“The DoL has suggested that one of the fixes is to propose exemptions to permit some of the conduct that would have been prohibited under the previous proposal,” Campbell says. “However, I am not terribly optimistic that what they propose will adequately address some of the questions. The ideological underpinning of the initial proposal is at odds with the exemptions they now say that they are going to provide,” he says of the belief that giving investment advice has inherent conflicts.
In the next round, look for Labor to spell out more clearly the sales exemption for those marketing their products and services to sponsors. “They have said that they will make an exemption when a buyer should know that they are not a fiduciary because they are selling something to the buyer,” Campbell says. With the original proposal, he says, “It is not clear when the sales exemption is applied and how broadly. For instance, does it apply if a plan has signed on to a platform but not yet picked investments?” The initial proposal gave many the impression that someone would not have to provide a plan individualized advice to become a fiduciary, and the DoL has indicated it plans to clarify that. “What if you create generic fund menus or asset allocations that are used by plans?” Ufford asks. “The test always has said that the advice has to be individualized to the plan.”
Likewise, routine appraisals for ERISA purposes of plan assets not publicly traded—such as real estate holdings and private equity—previously have not been treated as fiduciary acts, Ufford says. Under the original proposal, that apparently would have changed. For appraisers, it would add another layer of regulation and potential liability, she says. If appraisers continuing to work with plans must become fiduciaries, she adds, “My guess is that some of the service providers currently providing valuations would be unwilling to do so.” Those that kept doing it would need to take extra steps such as getting fiduciary insurance, in turn leading to additional potential fees for plans.
Much of the ire around the original proposal centered on its potential impact on IRA rollovers and distribution planning. EBSA’s Borzi says that IRA assets now exceed those in 401(k) plans, and IRA holders do not have the benefit of a plan sponsor to help them. They need good investment advice, she says. “As millions of Baby Boomers are nearing or entering into retirement and rolling their assets out of the plan environment, these protections are needed more now than ever,” she adds.
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