Improving Investment Advice for Workers & Retirees
| Citation | 85 FR 40834 |
| Record Number | 2020-14261 |
| Published date | 07 July 2020 |
| Court | Employee Benefits Security Administration,Labor Department |
Federal Register, Volume 85 Issue 130 (Tuesday, July 7, 2020)
[Federal Register Volume 85, Number 130 (Tuesday, July 7, 2020)]
[Proposed Rules]
[Pages 40834-40865]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-14261]
[[Page 40833]]
Vol. 85
Tuesday,
No. 130
July 7, 2020
Part IV
Department of Labor
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Employee Benefits Security Administration
29 CFR Part 2550
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Improving Investment Advice for Workers & Retirees; Proposed Rule
Federal Register / Vol. 85, No. 130 / Tuesday, July 7, 2020 /
Proposed Rules
[[Page 40834]]
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DEPARTMENT OF LABOR
Employee Benefits Security Administration
29 CFR Part 2550
[Application No. D-12011]
ZRIN 1210-ZA29
Improving Investment Advice for Workers & Retirees
AGENCY: Employee Benefits Security Administration, U.S. Department of
Labor.
ACTION: Notification of Proposed Class Exemption.
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SUMMARY: This document gives notice of a proposed class exemption from
certain prohibited transaction restrictions of the Employee Retirement
Income Security Act of 1974, as amended (ERISA), and the Internal
Revenue Code of 1986, as amended (the Code). The prohibited transaction
provisions of ERISA and the Code generally prohibit fiduciaries with
respect to employee benefit plans (Plans) and individual retirement
accounts and annuities (IRAs) from engaging in self-dealing and
receiving compensation from third parties in connection with
transactions involving the Plans and IRAs. The provisions also prohibit
purchasing and selling investments with the Plans and IRAs when the
fiduciaries are acting on behalf of their own accounts (principal
transactions). This proposed exemption would allow investment advice
fiduciaries under both ERISA and the Code to receive compensation,
including as a result of advice to roll over assets from a Plan to an
IRA, and to engage in principal transactions, that would otherwise
violate the prohibited transaction provisions of ERISA and the Code.
The exemption would apply to registered investment advisers, broker-
dealers, banks, insurance companies, and their employees, agents, and
representatives that are investment advice fiduciaries. The exemption
would include protective conditions designed to safeguard the interests
of Plans, participants and beneficiaries, and IRA owners. The new class
exemption would affect participants and beneficiaries of Plans, IRA
owners, and fiduciaries with respect to such Plans and IRAs.
DATES: Written comments and requests for a public hearing on the
proposed class exemption must be submitted to the Department within
August 6, 2020. The Department proposes that the exemption, if granted,
will be available 60 days after the date of publication of the final
exemption in the Federal Register.
ADDRESSES: All written comments and requests for a hearing concerning
the proposed class exemption should be sent to the Office of Exemption
Determinations through the Federal eRulemaking Portal and identified by
Application No. D-12011:
Federal eRulemaking Portal: www.regulations.gov at Docket ID
number: EBSA-2020-0003. Follow the instructions for submitting
comments.
See SUPPLEMENTARY INFORMATION below for additional information
regarding comments.
FOR FURTHER INFORMATION CONTACT: Susan Wilker, telephone (202) 693-
8557, or Erin Hesse, telephone (202) 693-8546, Office of Exemption
Determinations, Employee Benefits Security Administration, U.S.
Department of Labor (these are not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Comment Instructions
All comments and requests for a hearing must be received by the end
of the comment period. Requests for a hearing must state the issues to
be addressed and include a general description of the evidence to be
presented at the hearing. In light of the current circumstances
surrounding the COVID-19 pandemic caused by the novel coronavirus which
may result in disruption to the receipt of comments by U.S. Mail or
hand delivery/courier, persons are encouraged to submit all comments
electronically and not to follow with paper copies. The comments and
hearing requests will be available for public inspection in the Public
Disclosure Room of the Employee Benefits Security Administration, U.S.
Department of Labor, Room N-1513, 200 Constitution Avenue NW,
Washington, DC 20210; however, the Public Disclosure Room may be closed
for all or a portion of the comment period due to circumstances
surrounding the COVID-19 pandemic caused by the novel coronavirus.
Comments and hearing requests will also be available online at
www.regulations.gov, at Docket ID number: EBSA-2020-0003 and
www.dol.gov/ebsa, at no charge.
Warning: All comments received will be included in the public
record without change and will be made available online at
www.regulations.gov, including any personal information provided,
unless the comment includes information claimed to be confidential or
other information whose disclosure is restricted by statute. If you
submit a comment, EBSA recommends that you include your name and other
contact information, but DO NOT submit information that you consider to
be confidential, or otherwise protected (such as Social Security number
or an unlisted phone number), or confidential business information that
you do not want publicly disclosed. However, if EBSA cannot read your
comment due to technical difficulties and cannot contact you for
clarification, EBSA might not be able to consider your comment.
Additionally, the www.regulations.gov website is an ``anonymous
access'' system, which means EBSA will not know your identity or
contact information unless you provide it. If you send an email
directly to EBSA without going through www.regulations.gov, your email
address will be automatically captured and included as part of the
comment that is placed in the public record and made available on the
internet.
Background
The Employee Retirement Income Security Act of 1974 (ERISA) section
3(21)(A)(ii) provides, in relevant part, that a person is a fiduciary
with respect to a Plan to the extent he or she renders investment
advice for a fee or other compensation, direct or indirect, with
respect to any moneys or other property of such Plan, or has any
authority or responsibility to do so. Internal Revenue Code (Code)
section 4975(e)(3)(B) includes a parallel provision that defines a
fiduciary of a Plan and an IRA. In 1975, the Department issued a
regulation establishing a five-part test for fiduciary status under
this provision of ERISA.\1\ The Department's 1975 regulation also
applies to the definition of fiduciary in the Code, which is identical
in its wording.\2\
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\1\ 29 CFR 2510.3-21(c)(1), 40 FR 50842 (October 31, 1975).
\2\ 26 CFR 54.4975-9(c), 40 FR 50840 (October 31, 1975).
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Under the 1975 regulation, for advice to constitute ``investment
advice,'' a financial institution or investment professional who is not
a fiduciary under another provision of the statute must--(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
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advice will be individualized based on the particular needs of the Plan
or IRA. A financial institution or investment professional that meets
this five-part test, and receives a fee or other compensation, direct
or indirect, is an investment advice fiduciary under ERISA and under
the Code.
Investment advice fiduciaries, like other fiduciaries to Plans and
IRAs, are subject to duties and liabilities established in Title I of
ERISA (ERISA) and Title II of ERISA (the Internal Revenue Code or the
Code). Under Title I of ERISA, plan fiduciaries must act prudently and
with undivided loyalty to employee benefit plans and their participants
and beneficiaries. Although these statutory fiduciary duties are not in
the Code, both ERISA and the Code contain provisions forbidding
fiduciaries from engaging in certain specified ``prohibited
transactions,'' involving Plans and IRAs, including conflict of
interest transactions.\3\ Under these prohibited transaction
provisions, a fiduciary may not deal with the income or assets of a
Plan or IRA in his or her own interest or for his or her own account,
and a fiduciary may not receive payments from any party dealing with
the Plan or IRA in connection with a transaction involving assets of
the Plan or IRA. The Department has authority to grant administrative
exemptions from the prohibited transaction provisions in ERISA and the
Code.\4\
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\3\ ERISA section 406 and Code section 4975.
\4\ ERISA section 408(a) and Code section 4975(c)(2).
Reorganization Plan No. 4 of 1978 (5 U.S.C. App. (2018)) generally
transferred the authority of the Secretary of the Treasury to grant
administrative exemptions under Code section 4975 to the Secretary
of Labor. These provisions require the Secretary to make the
following findings before granting an administrative exemption: (i)
The exemption is administratively feasible; (ii) the exemption is in
the interests of the Plans and IRAs and their participants and
beneficiaries, and (iii) the exemption is protective of the rights
of participants and beneficiaries of the Plans and IRAs. The
Department is proposing this new class exemption on its own motion
pursuant to ERISA section 408(a) and Code section 4975(c)(2), and in
accordance with procedures set forth in 29 CFR part 2570, subpart B
(76 FR 66637 (October 27, 2011)).
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In 2016, the Department finalized a new regulation that would have
replaced the 1975 regulation and it granted new associated prohibited
transaction exemptions. After that rulemaking was vacated by the U.S.
Court of Appeals for the Fifth Circuit in 2018,\5\ the Department
issued Field Assistance Bulletin (FAB) 2018-02, a temporary enforcement
policy providing prohibited transaction relief to investment advice
fiduciaries.\6\ In the FAB, the Department stated it would not pursue
prohibited transactions claims against investment advice fiduciaries
who worked diligently and in good faith to comply with ``Impartial
Conduct Standards'' for transactions that would have been exempted in
the new exemptions, or treat the fiduciaries as violating the
applicable prohibited transaction rules. The Impartial Conduct
Standards have three components: A best interest standard; a reasonable
compensation standard; and a requirement to make no misleading
statements about investment transactions and other relevant matters.
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\5\ Chamber of Commerce of the United States v. U.S. Department
of Labor, 885 F.3d 360 (5th Cir. 2018). Elsewhere in this issue of
the Federal Register, the Department is publishing a technical
amendment related to the decision.
\6\ Available at www.dol.gov/agencies/ebsa/employers-and-advisers/guidance/field-assistance-bulletins/2018-02. The Impartial
Conduct Standards incorporated in the FAB were conditions of the new
exemptions granted in 2016. See Best Interest Contract Exemption, 81
FR 21002 (Apr. 8, 2016), as corrected at 81 FR 44773 (July 11,
2016).
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This proposal takes into consideration the public correspondence
and comments received by the Department since February 2017 and
responds to informal industry feedback seeking an administrative class
exemption based on FAB 2018-02. As noted in the FAB, following the 2016
rulemaking many financial institutions created and implemented
compliance structures designed to ensure satisfaction of the Impartial
Conduct Standards. These parties were permitted to continue to rely on
those structures pending further guidance. Under the exemption,
financial institutions could continue relying on those compliance
structures on a permanent basis, subject to the additional conditions
of the exemption, rather than changing course to begin complying with
the Department's other existing exemptions for investment advice
fiduciaries. In addition, the exemption would provide a defense to
private litigation as well as enforcement action by the Department,
while the FAB is limited to the latter.
This new proposed exemption would provide relief that is broader
and more flexible than the Department's existing prohibited transaction
exemptions for investment advice fiduciaries. The Department's existing
exemptions generally provide relief for discrete, specifically
identified transactions, and they were not amended to clearly provide
relief for the compensation arrangements that developed over time.\7\
The exemption would provide additional certainty regarding covered
compensation arrangements and would avoid the complexity associated
with a financial institution relying on multiple exemptions when
providing investment advice.
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\7\ See e.g., PTE 86-128, Class Exemption for Securities
Transactions involving Employee Benefit Plans and Broker-Dealers, 51
FR 41686 (Nov. 18, 1986), as amended, 67 FR 64137 (Oct. 17,
2002)(providing relief for a fiduciary's use of its authority to
cause a Plan or IRA to pay a fee for effecting or executing
securities transactions to the fiduciary, as agent for the Plan or
IRA, and for a fiduciary to act as an agent in an agency cross
transaction for a Plan or IRA and another party to the transaction
and receive reasonable compensation for effecting or executing the
transaction from the other party to the tranaction); PTE 84-24 Class
Exemption for Certain Transactions Involving Insurance Agents and
Brokers, Pension Consultants, Insurance Companies, Investment
Companies and Investment Company Principal Underwriters, 49 FR 13208
(Apr. 3, 1984) , as corrected, 49 FR 24819 (June 15, 1984), as
amended, 71 FR 5887 (Feb. 3, 2006) (providing relief for the receipt
of a sales commission by an insurance agent or broker from an
insurance company in connection with the purchase, with plan assets,
of an insurance or annuity contract).
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The proposed exemption's principles-based approach is rooted in the
Impartial Conduct Standards for fiduciaries providing investment
advice. The proposed exemption includes additional conditions designed
to support the provision of investment advice that meets the Impartial
Conduct Standards. This notice also sets forth the Department's
interpretation of the five-part test of investment advice fiduciary
status and provides the Department's views on when advice to roll over
Plan assets to an IRA \8\ could be considered fiduciary investment
advice under ERISA and the Code.
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\8\ For purposes of any rollover of assets between a Plan and an
IRA described in this preamble, the term ``IRA'' only includes an
account or annuity described in Code section 4975(e)(1)(B) or (C).
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Since 2018, other regulators have considered enhanced standards of
conduct for investment professionals as a method of addressing
conflicts of interest. At the federal level, on June 5, 2019, the
Securities and Exchange Commission (SEC) finalized a regulatory package
relating to conduct standards for broker-dealers and investment
advisers. The package included Regulation Best Interest, which
establishes a best interest standard applicable to broker-dealers when
making a recommendation of any securities transaction or investment
strategy involving securities to retail customers.\9\ The SEC also
issued an interpretation of the conduct standards applicable to
registered investment advisers.\10\ As part of the package, the SEC
adopted new Form CRS, which requires broker-dealers and registered
investment advisers to provide retail
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investors with a short relationship summary with specified information
(SEC Form CRS).\11\
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\9\ Regulation Best Interest: The Broker-Dealer Standard of
Conduct, 84 FR 33318 (July 12, 2019) (Regulation Best Interest
Release).
\10\ Commission Interpretation Regarding Standard of Conduct for
Investment Advisers, 84 FR 33669 (July 12, 2019) (SEC Fiduciary
Interpretation).
\11\ Form CRS Relationship Summary; Amendments to Form ADV, 84
FR 33492 (July 12, 2019)(Form CRS Relationship Summary Release).
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State regulators and standards-setting bodies also have focused on
conduct standards. The New York State Department of Financial Services
has amended its insurance regulations to establish a best interest
standard in connection with life insurance and annuity
transactions.\12\ The Massachusetts Securities Division has amended its
regulations for broker-dealers to apply a fiduciary conduct standard,
under which broker-dealers and their agents must ``[m]ake
recommendations and provide investment advice without regard to the
financial or any other interest of any party other than the customer.''
\13\ The National Association of Insurance Commissioners has revised
its Suitability In Annuity Transactions Model Regulation to clarify
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 in the consumer's interest in making
the recommendation.\14\
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\12\ New York State Department of Financial Services Insurance
Regulation 187, 11 NYCRR 224, First Amendment, effective August 1,
2019.
\13\ 950 Mass. Code Regs. 12.204 & 12.207 as amended effective
March 6, 2020.
\14\ NAIC Takes Action to Protect Annuity Consumers; available
at https://content.naic.org/article/news_release_naic_takes_action_protect_annuity_consumers.htm.
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The approach in this proposal includes Impartial Conduct Standards
that are, in the Department's view, aligned with those of the other
regulators. In this way, the proposal is designed to promote regulatory
efficiencies that might not otherwise exist under the Department's
existing administrative exemptions for investment advice fiduciaries.
This proposed exemption is expected to be an Executive Order (E.O.)
13771 deregulatory action because it would allow investment advice
fiduciaries with respect to Plans and IRAs to receive compensation and
engage in certain principal transactions that would otherwise be
prohibited under ERISA and the Code. The temporary enforcement policy
stated in FAB 2018-02 remains in place. The Department is proposing
this class exemption on its own motion, pursuant to ERISA section
408(a) and Code section 4975(c)(2), and in accordance with the
procedures set forth in 29 CFR part 2570 (76 FR 66637 (October 27,
2011)).
Description of the Proposed Exemption
As discussed in greater detail below, the exemption proposed in
this notice would be available to registered investment advisers,
broker-dealers, banks, and insurance companies (Financial Institutions)
and their individual employees, agents, and representatives (Investment
Professionals) that provide fiduciary investment advice to Retirement
Investors. The proposal defines Retirement Investors as Plan
participants and beneficiaries, IRA owners, and Plan and IRA
fiduciaries.\15\ Under the exemption, Financial Institutions and
Investment Professionals could receive a wide variety of payments that
would otherwise violate the prohibited transaction rules, including,
but not limited to, commissions, 12b-1 fees, trailing commissions,
sales loads, mark-ups and mark-downs, and revenue sharing payments from
investment providers or third parties. The exemption's relief would
extend to prohibited transactions arising as a result of investment
advice to roll over assets from a Plan to an IRA, as detailed later in
this proposed exemption. The exemption also would allow Financial
Institutions to engage in principal transactions with Plans and IRAs in
which the Financial Institution purchases or sells certain investments
from its own account.
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\15\ The term ``Plan'' is defined for purposes of the exemption
as any employee benefit plan described in ERISA section 3(3) and any
plan described in Code section 4975(e)(1)(A). The term ``Individual
Retirement Account'' or ``IRA'' is defined as any account or annuity
described in Code section 4975(e)(1)(B) through (F), including an
Archer medical savings account, a health savings account, and a
Coverdell education savings account.
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As noted above, ERISA and the Code include broad prohibitions on
self-dealing. Absent an exemption, a fiduciary may not deal with the
income or assets of a Plan or IRA in his or her own interest or for his
or her own account, and a fiduciary may not receive payments from any
party dealing with the Plan or IRA in connection with a transaction
involving assets of the Plan or IRA. As a result, fiduciaries who use
their authority to cause themselves or their affiliates \16\ or related
entities \17\ to receive additional compensation violate the prohibited
transaction provisions unless an exemption applies.\18\
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\16\ For purposes of the exemption, an affiliate would include:
(1) Any person directly or indirectly through one or more
intermediaries, controlling, controlled by, or under common control
with the Investment Professional or Financial Institution. (For this
purpose, ``control'' would mean the power to exercise a controlling
influence over the management or policies of a person other than an
individual) (2) Any officer, director, partner, employee, or
relative (as defined in ERISA section 3(15)), of the Investment
Professional or Financial Institution; and (3) Any corporation or
partnership of which the Investment Professional or Financial
Institution is an officer, director, or partner.
\17\ For purposes of the exemption, related entities would
include entities that are not affiliates, but in which the
Investment Professional or Financial Institution has an interest
that may affect the exercise of its best judgment as a fiduciary.
\18\ As articulated in the Department's regulations, ``a
fiduciary may not use the authority, control, or responsibility
which makes such a person a fiduciary to cause a plan to pay an
additional fee to such fiduciary (or to a person in which such
fiduciary has an interest which may affect the exercise of such
fiduciary's best judgment as a fiduciary) to provide a service.'' 29
CFR 2550.408b-2(e)(1).
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The proposed exemption would condition relief on the Investment
Professional and Financial Institution providing advice in accordance
with the Impartial Conduct Standards. In addition, the exemption would
require Financial Institutions to acknowledge in writing their and
their Investment Professionals' fiduciary status under ERISA and the
Code, as applicable, when providing investment advice to the Retirement
Investor, and to describe in writing the services to be provided and
the Financial Institutions' and Investment Professionals' material
conflicts of interest. Finally, Financial Institutions would be
required to adopt policies and procedures prudently designed to ensure
compliance with the Impartial Conduct Standards and conduct a
retrospective review of compliance. The exemption would also provide,
subject to additional safeguards, relief for Financial Institutions to
enter into principal transactions with Retirement Investors, in which
they purchase or sell certain investments from their own accounts.
The exemption requires Financial Institutions to provide reasonable
oversight of Investment Professionals and to adopt a culture of
compliance. The proposal further provides that Financial Institutions
and Investment Professionals would be ineligible to rely on the
exemption if, within the previous 10 years, they were convicted of
certain crimes arising out of their provision of investment advice to
Retirement Investors; they would also be ineligible if they engaged in
systematic or
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intentional violation of the exemption's conditions or provided
materially misleading information to the Department in relation to
their conduct under the exemption. Ineligible parties could rely on an
otherwise available statutory exemption or apply for an individual
prohibited transaction exemption from the Department. This targeted
approach of allowing the Department to give special attention to
parties with certain criminal convictions or with a history of
egregious conduct with respect to compliance with the exemption should
provide significant protections for Retirement Investors while
preserving wide availability of investment advice arrangements and
products.
The proposed exemption would not expand Retirement Investors'
ability to enforce their rights in court or create any new legal claims
above and beyond those expressly authorized in ERISA, such as by
requiring contracts and/or warranty provisions.\19\
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\19\ ERISA section 502(a) provides the Secretary of Labor and
plan participants and beneficiaries with a cause of action for
fiduciary breaches and prohibited transactions with respect to
ERISA-covered Plans (but not IRAs). Code section 4975 imposes a tax
on disqualified persons participating in a prohibited transaction
involving Plans and IRAs (other than a fiduciary acting only as
such).
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Scope of Relief
Financial Institutions
The exemption would be available to entities that satisfy the
exemption's definition of a ``Financial Institution.'' The proposal
limits the types of entities that qualify as a Financial Institution to
SEC- and state-registered investment advisers, broker-dealers,
insurance companies and banks.\20\ The proposed definition is based on
the entities identified in the statutory exemption for investment
advice under ERISA section 408(b)(14) and Code section 4975(d)(17),
which are subject to well-established regulatory conditions and
oversight.\21\ Congress determined that this group of entities could
prudently mitigate certain conflicts of interest in their investment
advice through adherence to tailored principles under the statutory
exemption. The Department takes a similar approach here, and therefore
is proposing to include the same group of entities. To fit within the
definition of Financial Institution, the firm must not have been
disqualified or barred from making investment recommendations by any
insurance, banking, or securities law or regulatory authority
(including any self-regulatory organization).
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\20\ The proposal includes ``a bank or similar financial
institution supervised by the United States or a state, or a savings
association (as defined in section 3(b)(1) of the Federal Deposit
Insurance Act (12 U.S.C. 1813(b)(1)).'' The Department would
interpret this definition to extend to credit unions.
\21\ ERISA section 408(g)(11)(A) and Code section
4975(f)(8)(J)(i).
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The Department recognizes that different types of Financial
Institutions have different business models, and the proposal is
drafted to apply flexibly to these institutions.\22\ Broker-dealers,
for example, provide a range of services to Retirement Investors,
ranging from executing one-time transactions to providing personalized
investment recommendations, and they may be compensated on a
transactional basis such as through commissions.\23\ If broker-dealers
that are investment advice fiduciaries with respect to Retirement
Investors provide investment advice that affects the amount of their
compensation, they must rely on an exemption.
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\22\ Some of the Department's existing prohibited transaction
exemptions would also apply to the transactions described in the
next few paragraphs.
\23\ Regulation Best Interest Release, 84 FR at 33319.
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Registered investment advisers, by contrast, generally provide
ongoing investment advice and services and are commonly paid either an
assets under management fee or a fixed fee.\24\ If a registered
investment adviser is an investment advice fiduciary that charges only
a level fee that does not vary on the basis of the investment advice
provided, the registered investment adviser may not violate the
prohibited transaction rules.\25\ However, if the registered investment
adviser provides investment advice that causes itself to receive the
level fee, such as through advice to roll over Plan assets to an IRA,
the fee (including an ongoing management fee paid with respect to the
IRA) is prohibited under ERISA and the Code.\26\ Additionally, if a
registered investment adviser that is an investment advice fiduciary is
dually-registered as a broker-dealer, the registered investment adviser
may engage in a prohibited transaction if it recommends a transaction
that increases the broker-dealer's compensation, such as for execution
of securities transactions. As noted above, it is a prohibited
transaction for a fiduciary to use its authority to cause an affiliate
or related entity to receive additional compensation.\27\
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\24\ Id.
\25\ As noted above, fiduciaries who use their authority to
cause themselves or their affiliates or related entities to receive
additional compensation violate the prohibited transaction
provisions unless an exemption applies. 29 CFR 2550.408b-2(e)(1).
\26\ The Department has long interpreted the requirement of a
fee to broadly cover ``all fees or other compensation incident to
the transaction in which the investment advice to the plan has been
rendered or will be rendered.'' Preamble to the Department's 1975
Regulation, 40 FR 50842 (October 31, 1975). The Department's
analysis of the five-part test's application to rollovers is
discussed below.
\27\ 29 CFR 2550.408b-2(e)(1).
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Insurance companies commonly compensate insurance agents on a
commission basis, which generally creates prohibited transactions when
insurance agents are investment advice fiduciaries that provide
investment advice to Retirement Investors in connection with the sales.
However, the Department is aware that insurance companies often sell
insurance products and fixed (including indexed) annuities through
different distribution channels than broker-dealers and registered
investment advisers. While some insurance agents are employees of an
insurance company, other insurance agents are independent, and work
with multiple insurance companies. The proposed exemption would apply
to either of these business models. Insurance companies can supervise
independent insurance agents and they can also create oversight and
compliance systems through contracts with intermediaries such as
independent marketing organizations (IMOs), field marketing
organizations (FMOs) or brokerage general agencies (BGAs).\28\ Eligible
parties can also continue to use relief under the existing exemption
for insurance transactions, PTE 84-24, as an alternative.\29\ The
Department requests comment on these suggestions, and whether there are
alternatives for oversight of investment advice fiduciaries who also
serve as insurance agents.
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\28\ Although the proposal's definition of Financial Institution
does not include insurance intermediaries, the Department seeks
comments on whether the exemption should include insurance
intermediaries as Financial Institutions for the recommendation of
fixed (including indexed) annuity contracts. If so, the Department
asks parties to provide a definition of the type of intermediary
that should be permitted to operate as a Financial Institution and
whether any additional protective conditions might be necessary with
respect to the intermediary.
\29\ Class Exemption for Certain Transactions Involving
Insurance Agents and Brokers, Pension Consultants, Insurance
Companies, Investment Companies and Investment Company Principal
Underwriters, 49 FR 13208 (Apr. 3, 1984), as corrected, 49 FR 24819
(June 15, 1984), as amended, 71 FR 5887 (Feb. 3, 2006).
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Finally, banks and similar institutions would be permitted to act
as Financial Institutions under the exemption if they or their
employees are investment advice fiduciaries with respect to Retirement
Investors. The Department seeks comment on whether banks and their
employees provide investment advice to Retirement Investors, and if so,
whether the proposal needs
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adjustment to address any unique aspects of their business models. The
Department seeks comment on other business models not listed here, and
invites commenters to explain whether other business models would be
appropriate to include in this framework.
The proposal also allows the definition of Financial Institution to
expand after the exemption is finalized based upon subsequent grants of
individual exemptions to additional entities that are investment advice
fiduciaries that meet the five-part test seeking to be treated as
covered Financial Institutions. Additional types of entities, such as
IMOs, FMOs, or BGAs, that are investment advice fiduciaries may
separately apply for relief for the receipt of compensation in
connection with the provision of investment advice on the same
conditions as apply to the Financial Institutions covered by the
proposed exemption.\30\ If the Department grants an individual
exemption under ERISA section 408(a) and Code section 4975(c) after the
date this exemption is granted, the expanded definition of Financial
Institution in the individual exemption would be added to this class
exemption so other entities that satisfy the definition could similarly
use the class exemption. The Department requests comment on the
procedural aspects, e.g., ensuring sufficient notice to Retirement
Investors, of this permitted expansion of the definition.
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\30\ Exemption relief for an insurance intermediary would only
be required if the intermediary is an investment advice fiduciary
under the applicable regulations. An exemption is not necessary for
an insurance intermediary or its insurance agents who conduct sales
transactions and are not fiduciaries under ERISA or the Code.
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The Department seeks comment on the definition of Financial
Institution in general and whether any other type of entity should be
included. The Department also seeks comment as to whether the
definition is overly broad, or whether Retirement Investors would
benefit from a narrowed list of Financial Institutions. In addition,
the Department requests comment on whether the definition of Financial
Institution is sufficiently broad to cover firms that render advice
with respect to investments in Health Savings Accounts (HSA), and about
the extent to which Plan participants receive investment advice in
connection with such accounts.
Investment Professionals
As defined in the proposal, an Investment Professional is an
individual who is a fiduciary of a Plan or IRA by reason of the
provision of investment advice, who is an employee, independent
contractor, agent or representative of a Financial Institution, and who
satisfies the federal and state regulatory and licensing requirements
of insurance, banking, and securities laws (including self-regulatory
organizations) with respect to the covered transaction, as applicable.
Similar to the definition of Financial Institution, this definition
also includes a requirement that the Investment Professional has not
been disqualified from making investment recommendations by any
insurance, banking, or securities law or regulatory authority
(including any self-regulatory organization).
Covered Transactions
The proposal would permit Financial Institutions and Investment
Professionals, and their affiliates and related entities, to receive
reasonable compensation as a result of providing fiduciary investment
advice. The exemption specifically covers compensation received as a
result of investment advice to roll over assets from a Plan to an IRA.
The exemption also would provide relief for a Financial Institution to
engage in the purchase or sale of an asset in a riskless principal
transaction or a Covered Principal Transaction, and receive a mark-up,
mark-down, or other payment. The exemption would provide relief from
ERISA section 406(a)(1)(A) and (D) and 406(b) and Code section
4975(c)(1)(A), (D), (E), and (F).\31\
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\31\ The proposal does not include relief from ERISA section
406(a)(1)(C) and Code section 4975(c)(1)(C). The statutory
exemptions, ERISA section 408(b)(2) and Code section 4975(d)(2)
provide this necessary relief for Plan or IRA service providers,
subject the applicable conditions.
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Subsection (1) of the exemption would provide broad relief for
Financial Institutions and Investment Professionals that are investment
advice fiduciaries to receive all forms of reasonable compensation as a
result of their investment advice to Retirement Investors. For example,
it would cover compensation received as a result of investment advice
to acquire, hold, dispose of, or exchange securities and other
investments. It would also cover compensation received as a result of
investment advice to take a distribution from a Plan or to roll over
the assets to an IRA, or from investment advice regarding other similar
transactions including (but not limited to) rollovers from one Plan to
another Plan, one IRA to another IRA, or from one type of account to
another account (e.g., from a commission-based account to a fee-based
account). The exemption would cover compensation received as a result
of investment advice as to persons the Retirement Investor may hire to
serve as an investment advice provider or asset manager.
Subsection (2) of the exemption would address the circumstance in
which the Financial Institution may, in addition to providing
investment advice, engage in a purchase or sale of an investment with a
Retirement Investor and receive a mark-up or a mark-down or similar
payment on the transaction. The exemption would extend to both riskless
principal transactions and Covered Principal Transactions. A riskless
principal transaction is a transaction in which a Financial
Institution, after having received an order from a Retirement Investor
to buy or sell an investment product, purchases or sells the same
investment product for the Financial Institution's own account to
offset the contemporaneous transaction with the Retirement Investor.
Covered Principal Transactions are defined in the exemption as
principal transactions involving certain specified types of
investments, discussed in more detail below. Principal transactions
that are not riskless and that do not fall within the definition of
Covered Principal Transaction would not be covered by the exemption.
The following sections provide additional information on the
proposal as it would apply to investment advice to roll over ERISA-
covered Plan assets to an IRA, and as it would apply to Covered
Principal Transactions.
Rollovers
Amounts accrued in an ERISA-covered Plan can represent a lifetime
of savings, and often comprise the largest sum of money a worker has at
retirement. Therefore, the decision to roll over ERISA-covered Plan
assets to an IRA is potentially a very consequential financial decision
for a Retirement Investor. For example, Retirement Investors may incur
transaction costs associated with moving the assets into new
investments and accounts, and, because of the loss of economies of
scale, the cost of investing through an IRA may be higher than through
a Plan.\32\ Retirement
[[Page 40839]]
Investors who roll out of ERISA-covered Plans also lose important ERISA
protections, including the benefit of a Plan fiduciary representing
their interests in selecting a menu of investment options or
structuring investment advice relationships, and the statutory causes
of action to protect their interests. Retirement Investors who are
retirees may not have the ability to earn additional amounts to offset
any costs or losses.
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\32\ See, e.g., ``IRA Investors Are Concentrated in Lower-Cost
Mutual Funds'' (Aug. 8, 2018), available at https://www.ici.org/viewpoints/view_18_ira_expenses_fees (``The data show that 401(k)
investors incur lower expense ratios in their mutual fund holdings
than IRA mutual fund investors. One reason for this is economies of
scale, as many employer plans aggregate the savings of hundreds or
thousands of workers, and often carry large average account
balances, which are more cost-effective to service. In addition,
employers that sponsor 401(k) plans may defray some of the costs of
running the plan, enabling the sponsor to select lower-cost funds
(or fund share classes) for the plan.'')
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Rollovers from ERISA-covered Plans to IRAs were expected to
approach $2.4 trillion cumulatively from 2016 through 2020.\33\ These
large sums of money eligible for rollover represent a significant
revenue source for investment advice providers. A firm that recommends
a rollover to a Retirement Investor can generally expect to earn
transaction-based compensation such as commissions, or an ongoing
advisory fee, from the IRA, but may or may not earn compensation if the
assets remain in the Plan.
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\33\ Cerulli Associates, ``U.S. Retirement Markets 2019.''
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In light of potential conflicts of interest related to rollovers
from Plans to IRAs, ERISA and the Code prohibit an investment advice
fiduciary from receiving fees resulting from investment advice to Plan
participants to roll over assets from a Plan to an IRA, unless an
exemption applies. The proposed exemption would provide relief, as
needed, for this prohibited transaction, if the Financial Institution
and Investment Professional provide investment advice that satisfies
the Impartial Conduct Standards and they comply with the other
applicable conditions discussed below.\34\ In particular, the Financial
Institution would be required to document the reasons that the advice
to roll over was in the Retirement Investor's best interest. In
addition, investment advice fiduciaries under Title I of ERISA would
remain subject to the fiduciary duties imposed by section 404 of that
statute.
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\34\ The exemption would also provide relief for investment
advice fiduciaries under either ERISA or the Code to receive
compensation for advice to roll Plan assets to another Plan, to roll
IRA assets to another IRA or to a Plan, and to transfer assets from
one type of account to another, all limited to the extent such
rollovers are permitted under law. The analysis set forth in this
section will apply as relevant to those transactions as well.
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In determining the fiduciary status of an investment advice
provider in this context, the Department does not intend to apply the
analysis in Advisory Opinion 2005-23A (the Deseret Letter), which
suggested that advice to roll assets out of a Plan did not generally
constitute investment advice. The Department believes that the analysis
in the Deseret Letter was incorrect and that advice to take a
distribution of assets from an ERISA-covered Plan is actually advice to
sell, withdraw, or transfer investment assets currently held in the
Plan. A recommendation to roll assets out of a Plan is necessarily a
recommendation to liquidate or transfer the Plan's property interest in
the affected assets, the participant's associated property interest in
the Plan investments, and the fiduciary oversight structure that
applies to the assets. Typically the assets, fees, asset management
structure, investment options, and investment service options all
change with the decision to roll money out of the Plan. Accordingly,
the better view is that a recommendation to roll assets out of a Plan
is advice with respect to moneys or other property of the Plan.
Moreover, a distribution recommendation commonly involves either advice
to change specific investments in the Plan or to change fees and
services directly affecting the return on those investments.\35\
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\35\ The SEC and FINRA have each recognized that recommendations
to roll over Plan assets to an IRA will almost always involve a
securities transaction. See Regulation Best Interest Release, 84 FR
at 33339; FINRA Regulatory Notice 13-45 Rollovers to Individual
Retirement Accounts (December 2013), available at https://www.finra.org/sites/default/files/NoticeDocument/p418695.pdf.
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All prongs of the five-part test must be satisfied for the
investment advice provider to be a fiduciary within the meaning of the
regulatory definition, including the ``regular basis'' prong and the
prongs requiring the advice to be provided pursuant to a ``mutual''
agreement, arrangement, or understanding that the advice will serve as
``a primary basis'' for investment decisions. As discussed below, these
inquiries will be informed by all the surrounding facts and
circumstances. The Department acknowledges that advice to take a
distribution from a Plan and roll over the assets may be an isolated
and independent transaction that would fail to meet the regular basis
prong.\36\ However, the Department believes that whether advice to roll
over Plan assets to an IRA satisfies the regular-basis prong of the
five-part test depends on the surrounding facts and circumstances. The
Department has long interpreted advice to a Plan to include advice to
participants and beneficiaries in participant-directed individual
account pension plans.\37\ The Department also recognizes that advice
to roll over Plan assets can occur as part of an ongoing relationship
or an anticipated ongoing relationship that an individual enjoys with
his or her advice provider. For example, in circumstances in which the
advice provider has been giving financial advice to the individual
about investing in, purchasing, or selling securities or other
financial instruments, the advice to roll assets out of a Plan is part
of an ongoing advice relationship that satisfies the ``regular basis''
requirement. Similarly, advice to roll assets out of the Plan into an
IRA where the advice provider will be regularly giving financial advice
regarding the IRA in the course of a more lengthy financial
relationship would be the start of an advice relationship that
satisfies the ``regular basis'' requirement. In these scenarios, there
is advice to the Plan--meaning the Plan participant or beneficiary--on
a regular basis. The Department is disinclined to propose an exemption
that would artificially exclude rollover advice from investment advice
when that would be contrary to the parties' course of dealing and
expectations. And it is more than reasonable, as discussed below, that
the advice provider would anticipate that advice about rolling over
Plan assets would be ``a primary basis for [those] investment
decisions.''
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\36\ Merely executing a sales transaction at the customer's
request also does not confer fiduciary status.
\37\ Interpretive Bulletin 96-1, 29 CFR 2509.96-1.
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This interpretation would both align the Department's approach with
other regulators and protect Plan participants and beneficiaries under
today's market practices, including the increasing prevalence of 401(k)
plans and self-directed accounts. Numerous sources acknowledge that a
common purpose of advice to roll over Plan assets is to establish an
ongoing relationship in which advice is provided on a regular basis
outside of the Plan, in return for a fee or other compensation. For
example, in a 2013 notice reminding firms of their responsibilities
regarding IRA rollovers, the Financial Industry Regulatory Authority
(FINRA) stated that ``a financial adviser has an economic incentive to
encourage an investor to roll Plan assets into an IRA that he will
represent as either a broker-dealer or an investment adviser
representative.'' \38\ Similarly, in 2011, the U.S. Government
Accountability Office (GAO) discussed the practice of cross-selling, in
which 401(k) service providers sell Plan participants products and
services outside of their Plans, including IRA rollovers. GAO reported
that industry professionals said
[[Page 40840]]
``cross-selling IRA rollovers to participants, in particular, is an
important source of income for service providers.'' \39\
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\38\ FINRA Regulatory Notice 13-45.
\39\ U.S. General Accountability Office, 401(k) Plans: Improved
Regulation Could Better Protect Participants from Conflicts of
Interest, GAO 11-119 (Washington, DC 2011), available at https://www.gao.gov/assets/320/315363.pdf.
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Therefore, the regular basis prong of the five-part test would be
satisfied when an entity with a pre-existing advice relationship with
the Retirement Investor advises the Retirement Investor to roll over
assets from a Plan to an IRA. Similarly, for an investment advice
provider who establishes a new relationship with a Plan participant and
advises a rollover of assets from the Plan to an IRA, the rollover
recommendation may be seen as the first step in an ongoing advice
relationship that could satisfy the regular basis prong of the five-
part test depending on the facts and circumstances.\40\
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\40\ The Department is aware that some Financial Institutions
pay unrelated parties to solicit clients for them. See Rule 206(4)-3
under the Investment Advisers Act of 1940; see also Investment
Advisers Advertisements; Compensation for Solicitations, Proposed
Rule, 84 FR 67518 (December 10, 2019). The Department notes that
advice by a paid solicitor to take a distribution from a Plan and to
roll over assets to an IRA could be part of ongoing advice to a
Retirement Investor, if the Financial Institution that pays the
solicitor provides ongoing fiduciary advice to the IRA owner.
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Further, the determination of whether there is a mutual agreement,
arrangement, or understanding that the investment advice will serve as
a primary basis for investment decisions is appropriately based on the
reasonable understanding of each of the parties, if no mutual agreement
or arrangement is demonstrated. Written statements disclaiming a mutual
understanding or forbidding reliance on the advice as a primary basis
for investment decisions are not determinative, although such
statements are appropriately considered in determining whether a mutual
understanding exists.
More generally, the Department emphasizes that the five-part test
does not look at whether the advice serves as ``the'' primary basis of
investment decisions, but whether it serves as ``a'' primary basis.
When financial service professionals make recommendations to a
Retirement Investor, particularly pursuant to a best interest standard
such as the one in the SEC's Regulation Best Interest, or another
requirement to provide advice based on the individualized needs of the
Retirement Investor, the parties typically should reasonably understand
that the advice will serve as at least a primary basis for the
investment decision. By contrast, a one-time sales transaction, such as
the one-time sale of an insurance product, does not by itself confer
fiduciary status under ERISA or the Code, even if accompanied by a
recommendation that the product is well-suited to the investor and
would be a valuable purchase.\41\
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\41\ Like other Investment Professionals, however, insurance
agents may have or contemplate an ongoing advice relationship with a
customer. For example, agents who receive trailing commissions on
annuity transactions may continue to provide ongoing recommendations
or service with respect to the annuity.
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In addition to satisfying the five-part test, a person must receive
a fee or other compensation to be an investment advice fiduciary. The
Department has long interpreted this requirement broadly to cover ``all
fees or other compensation incident to the transaction in which the
investment advice to the plan has been rendered or will be rendered.''
\42\ The Department previously noted that ``this may include, for
example, brokerage commissions, mutual fund sales commissions, and
insurance sales commissions.'' \43\ In the rollover context, fees and
compensation received from transactions involving rollover assets would
be incident to the advice to take a distribution from the Plan and to
roll over the assets to an IRA. If, under the above analysis, advice to
roll over Plan assets to an IRA is fiduciary investment advice under
ERISA, the fiduciary duties of prudence and loyalty would apply to the
initial instance of advice to take the distribution and to roll over
the assets. Fiduciary investment advice concerning investment of the
rollover assets and ongoing management of the assets, once distributed
from the Plan into the IRA, would be subject to obligations in the
Code. For example, a broker-dealer who satisfies the five-part test
with respect to a Retirement Investor, advises that Retirement Investor
to move his or her assets from a Plan to an IRA, and receives any fees
or compensation incident to distributing those assets, will be a
fiduciary subject to ERISA, including section 404, with respect to the
advice regarding the rollover.
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\42\ Preamble to the Department's 1975 Regulation, 40 FR 50842
(October 31, 1975).
\43\ Id.
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The Department requests comment on all aspects of this part of its
proposal. For instance: Are there other rollover scenarios that are not
clear and which the Department should address? Does the discussion
above reflect real-world experiences and concerns? Does it provide
enough clarity to financial entities interested in the proposed
exemption?
Principal Transactions
Principal transactions involve the purchase from, or sale to, a
Plan or IRA, of an investment, on behalf of the Financial Institution's
own account or the account of a person directly or indirectly, through
one or more intermediaries, controlling, controlled by, or under common
control with the Financial Institution. Because an investment advice
fiduciary engaging in a principal transaction is on both sides of the
transaction, the firm has a clear conflict. In addition, the securities
typically traded in principal transactions often lack pre-trade price
transparency and Retirement Investors may, therefore, have difficulty
evaluating the fairness of a particular principal transaction. These
investments also can be associated with low liquidity, low
transparency, and the possible incentive to sell unwanted investments
held by the Financial Institution.
Consistent with the Department's historical approach to prohibited
transaction exemptions for fiduciaries, this proposal includes relief
for principal transactions that is limited in scope and subject to
additional conditions, as set forth in the definition of Covered
Principal Transactions, described below. Importantly, certain
transactions would not be considered principal transactions for
purposes of the exemption, and so could occur under the more general
conditions. This includes the sale of an insurance or annuity contract,
or a mutual fund transaction.
Principal transactions that are ``riskless principal transactions''
would be covered under the exemption as well, subject to the general
conditions. A riskless principal transaction is a transaction in which
a Financial Institution, after having received an order from a
Retirement Investor to buy or sell an investment product, purchases or
sells the same investment product in a contemporaneous transaction for
the Financial Institution's own account to offset the transaction with
the Retirement Investor. The Department requests comment on whether the
exemption text should include a definition of the terms ``principal
transaction'' and ``riskless principal transaction.''
The proposal uses the defined term ``Covered Principal
Transaction'' to describe the types of non-riskless principal
transactions that would be covered under the exemption. For purchases
from a Plan or IRA, the term is broadly defined to include any
securities or other investment property.
[[Page 40841]]
This is to reflect the possibility that a principal transaction will be
needed to provide liquidity to a Retirement Investor. However, for
sales to a Plan or IRA, the proposed exemption would provide more
limited relief. For those sales, the definition of Covered Principal
Transaction would be limited to transactions involving: corporate debt
securities offered pursuant to a registration statement under the
Securities Act of 1933; U.S. Treasury securities; debt securities
issued or guaranteed by a U.S. federal government agency other than the
U.S. Department of Treasury; debt securities issued or guaranteed by a
government-sponsored enterprise (GSE); municipal bonds; certificates of
deposit; and interests in Unit Investment Trusts. The Department seeks
comment on whether any of these investments should be further defined
for clarity.
The Department intends for this exemption to accommodate new and
additional investments, as appropriate. Accordingly, the definition of
Covered Principal Transaction is designed to expand to include
additional investments if the Department grants an individual exemption
that provides relief for investment advice fiduciaries to sell the
investment to a Retirement Investor in a principal transaction, under
the same conditions as this class exemption.
For sales of a debt security to a Plan or IRA, the definition of
Covered Principal Transaction would require the Financial Institution
to adopt written policies and procedures related to credit quality and
liquidity. Specifically, the policies and procedures must be reasonably
designed to ensure that the debt security, at the time of the
recommendation, has no greater than moderate credit risk and has
sufficient liquidity that it could be sold at or near its carrying
value within a reasonably short period of time. This standard is
intended to identify investment grade securities, and is included to
prevent the exemption from being available to Financial Institutions
that recommend speculative debt securities from their own accounts.
The proposal is broader than the scope of FAB 2018-02, which did
not include principal transactions involving municipal bonds. The
Department cautions, however, that Financial Institutions and
Investment Professionals should pay special care to the reasons for
advising Retirement Investors to invest in municipal bonds. Tax-exempt
municipal bonds are often a poor choice for investors in ERISA plans
and IRAs because the plans and IRAs are already tax advantaged and,
therefore, do not benefit from paying for the bond's tax-favored
status.\44\ Financial Institutions and Investment Professionals may
wish to document the reasons for any recommendation of a tax-exempt
municipal bond and why the recommendation, despite the tax
consequences, was in the Retirement Investor's best interest.
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\44\ See e.g., Seven Questions to Ask When Investing in
Municipal Bonds, available at http://www.msrb.org/~/media/pdfs/
msrb1/pdfs/seven-questions-when-investing.ashx. (``[T]ax-exempt
bonds may not be an efficient investment for certain tax advantaged
accounts, such as an IRA or 401k, as the tax-advantages of such
accounts render the tax-exempt features of municipal bonds
redundant. Furthermore, since withdrawals from most of those
accounts are subject to tax, placing a tax exempt bond in such an
account has the effect of converting tax-exempt income into taxable
income. Finally, if an investor purchases bonds in the secondary
market at a discount, part of the gain received upon sale may be
subject to regular income tax rates rather than capital gains
rates.'')
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The Department seeks public comment on all aspects of the
proposal's treatment of principal transactions, including the proposal
to provide relief in this exemption for principal transactions
involving municipal bonds. Do commenters believe that the exemption
should extend to principal transactions involving municipal bonds? Do
commenters believe the definition of municipal bonds should be limited
to taxable municipal bonds? Should the exemption include any additional
safeguards for these transactions? Are there any other transactions
that would benefit from special care before making a recommendation in
addition to municipal bonds? The Department requests comments on
whether its proposed mechanism for including new and additional
investments through later, individual exemptions provides sufficient
flexibility.
Exclusions
Section I(c) provides that certain specific transactions would be
excluded from the exemption. Under Section I(c)(1), the exemption would
not extend to transactions involving ERISA-covered Plans if the
Investment Professional, Financial Institution, or an affiliate is
either (1) the employer of employees covered by the Plan, or (2) is a
named fiduciary or plan administrator, or an affiliate thereof, who was
selected to provide advice to the Plan by a fiduciary who is not
independent of the Financial Institution, Investment Professional, and
their affiliates. The Department is of the view that, to protect
employees from abuse, employers generally should not be in a position
to use their employees' retirement benefits as potential revenue or
profit sources, without additional safeguards. Employers can always
render advice and recover their direct expenses in transactions
involving their employees without need of an exemption.\45\ Further,
the Department does not intend for the exemption to be used by a
Financial Institution or Investment Professional that is the named
fiduciary or plan administrator of a Plan or an affiliate thereof,
unless the Financial Institution or Investment Professional is selected
as an advice provider by a party that is independent of them.\46\ Named
fiduciaries and plan administrators have significant authority over
Plan operations and accordingly, the Department believes that any
selection of these parties to also provide investment advice to the
Plan or its participants and beneficiaries should be made by an
independent party who will also monitor the performance of the
investment advice services.
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\45\ ERISA section 408(b)(5) provides a statutory exemption for
the purchase of life insurance, health insurance, or annuities, from
an employer with respect to a Plan or a wholly-owned subsidiary of
the employer.
\46\ For purposes of this exemption, the Department would view a
party as independent of the Financial Institution and Investment
Professional if: (i) The person was not the Financial Institution,
Investment Professional or an affiliate, (ii) the person did not
have a relationship to or an interest in the Financial Institution,
Investment Professional or any affiliate that might affect the
exercise of the person's best judgment in connection with
transactions covered by the exemption, and (iii) the party does not
receive and is not projected to receive within the current federal
income tax year, compensation or other consideration for his or her
own account from the Financial Institution, Investment Professional
or an affiliate, in excess of 2% of the person's annual revenues
based upon its prior income tax year.
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As reflected in Section I(c)(2), the exemption also would not
extend to transactions that result from robo-advice arrangements that
do not involve interaction with an Investment Professional. Congress
previously granted statutory relief for investment advice programs
using computer models in ERISA sections 408(b)(14) and 408(g) and Code
sections 4975(d)(17) and 4975(f)(8) and the Department has promulgated
applicable regulations thereunder.\47\ Thus, while ``hybrid'' robo-
advice arrangements \48\ would be permitted under the exemption,
arrangements in which the only investment advice provided is generated
by a computer model would not be eligible for relief under the
exemption. The Department requests comment on whether additional relief
is needed for robo-advice arrangements which do not
[[Page 40842]]
involve interaction with an Investment Professional.
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\47\ 29 CFR 2550.408g-1.
\48\ Hybrid robo-advice arrangements involve both computer
software-based models and personal investment advice from an
Investment Professional.
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Finally, under Section I(c)(3), the exemption would not extend to
transactions in which the Investment Professional is acting in a
fiduciary capacity other than as an investment advice fiduciary. This
is consistent with FAB 2018-02, which applied to investment advice
fiduciaries. For clarity, Section I(c)(3) cites to the Department's
five-part test as the governing authority for status as an investment
advice fiduciary.
Exemption Conditions
Section II of the proposal sets forth the general conditions that
would be included in the exemption. Section III establishes the
eligibility requirements. Section IV would require parties to maintain
records to demonstrate compliance with the exemption. Section V
includes the defined terms used in the exemption. These sections are
discussed below. In order to avoid a prohibited transaction, the
Financial Institution and Investment Professional would have to comply
with all of the conditions of the exemption, and could not waive or
disclaim compliance with any of the conditions. Similarly, a Retirement
Investor could not agree to waive any of the conditions.
Investment Advice Arrangement (Section II)
Section II sets forth conditions that would govern the Financial
Institution's and Investment Professionals' provision of investment
advice. As discussed in greater detail below, Section II(a) would
require Financial Institutions and Investment Professionals to comply
with the Impartial Conduct Standards by providing advice that is in
Retirement Investors' best interest, charging only reasonable
compensation, and making no materially misleading statements about the
investment transaction and other relevant matters. The Impartial
Conduct Standards would further require the Financial Institution and
Investment Professional to seek to obtain the best execution of the
investment transaction reasonably available under the circumstances, as
required by the federal securities laws.
Section II(b) would require Financial Institutions, prior to
engaging in a transaction pursuant to the exemption, to provide a
written disclosure to the Retirement Investor acknowledging that the
Financial Institution and its Investment Professionals are fiduciaries
under ERISA and the Code, as applicable.\49\ The disclosure also would
be required to provide a written description, accurate in all material
respects regarding the services to be provided and the Financial
Institution's and Investment Professional's material conflicts of
interest. Under Section II(c), the Financial Institution would be
required to establish, maintain and enforce written policies and
procedures prudently designed to ensure that the Financial Institution
and its Investment Professionals comply with the Impartial Conduct
Standards. Section II(d) would require Financial Institutions to
conduct an annual retrospective review.
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\49\ As noted above, the Department does not intend the
exemption to expand Retirement Investors' ability, such as by
requiring contracts and/or warranty provisions, to enforce their
rights in court or create any new legal claims above and beyond
those expressly authorized in ERISA. Neither does the Department
believe the exemption would create any such expansion.
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Best Interest Standard
As defined in Section V(a), the proposed best interest standard
would be satisfied if investment advice ``reflects the care, skill,
prudence, and diligence under the circumstances then prevailing that a
prudent person acting in a like capacity and familiar with such matters
would use in the conduct of an enterprise of a like character and with
like aims, based on the investment objectives, risk tolerance,
financial circumstances, and needs of the Retirement Investor, and does
not place the financial or other interest of the Investment
Professional, Financial Institution or any affiliate, related entity or
other party ahead of the interests of the Retirement Investor, or
subordinate the Retirement Investor's interests to their own.''
This proposed best interest standard is based on longstanding
concepts derived from ERISA and the high fiduciary standards developed
under the common law of trusts, and is intended to comprise objective
standards of care and undivided loyalty, consistent with the
requirements of ERISA section 404.\50\ These longstanding concepts of
law and equity were developed in significant part to deal with the
issues that arise when agents and persons in a position of trust have
conflicting interests, and accordingly are well-suited to the problems
posed by conflicted investment advice.
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\50\ Cf. also Code section 4975(f)(5), which defines
``correction'' with respect to prohibited transactions as placing a
Plan or IRA in a financial position not worse that it would have
been in if the person had acted ``under the highest fiduciary
standards.'' While the Code does not expressly impose a duty of
loyalty on fiduciaries, the best interest standard proposed here is
intended to ensure adherence to the ``highest fiduciary standards''
when a fiduciary advises a Plan or IRA owner under the Code.
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The proposal's standard of care is an objective standard that would
require the Financial Institution and Investment Professional to
investigate and evaluate investments, provide advice, and exercise
sound judgment in the same way that knowledgeable and impartial
professionals would.\51\ Thus, an Investment Professional's and
Financial Institution's advice would be measured against that of a
prudent Investment Professional. As indicated in the text, the standard
of care is measured at the time the advice is provided, and not in
hindsight.\52\ The standard would not measure compliance by reference
to how investments subsequently performed or turn Financial
Institutions and Investment Professionals into guarantors of investment
performance; rather, the appropriate measure is whether the Investment
Professional gave advice that was prudent and in the best interest of
the Retirement Investor at the time the advice is provided.
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\51\ See Regulation Best Interest Care Obligation, 17 CFR
240.15l-1(a)(2)(ii); Regulation Best Interest Release, 84 FR at
33321 (Under the Care Obligation, ``[t]he broker-dealer must
understand potential risks, rewards, and costs associated with the
recommendation.''); id., at 33326 (``We are adopting the Care
Obligation largely as proposed; however, we are expressly requiring
that a broker-dealer understand and consider the potential costs
associated with its recommendation, and have a reasonable basis to
believe that the recommendation does not place the financial or
other interest of the broker-dealer ahead of the interest of the
retail customer.''); id. at 33376 & n. 598 (discussing the Care
Obligation in the context of complex or risky securities and
investment strategies; citing FINRA Regulatory Notice 17-32 as
explaining that ``[t]he level of reasonable diligence that is
required will rise with the complexity and risks associated with the
security or strategy. With regard to a complex product such as a
volatility-linked [Exchange Traded Product], an associated person
should be capable of explaining, at a minimum, the product's main
features and associated risks.'').
\52\ See Donovan v. Mazzola, 716 F.2d 1226, 1232 (9th Cir.
1983).
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The proposal articulates the best interest standard as the
Financial Institutions' and Investment Professionals' duty to ``not
place the financial or other interest of the Investment Professional,
Financial Institution or any affiliate, related entity or other party
ahead of the interests of the Retirement Investor, or subordinate the
Retirement Investor's interests to their own.'' The standard is to be
interpreted and applied consistent with the standard set forth in the
SEC's Regulation Best Interest \53\ and the SEC's
[[Page 40843]]
interpretation regarding the conduct standard for registered investment
advisers.54 55
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\53\ Regulation Best Interest's best interest obligation
provides that a ``broker, dealer, or a natural person who is an
associated person of a broker or dealer, when making a
recommendation of any securities transaction or investment strategy
involving securities (including account recommendations) to a retail
customer, shall act in the best interest of the retail customer at
the time the recommendation is made, without placing the financial
or other interest of the broker, dealer, or natural person who is an
associated person of a broker or dealer making the recommendation
ahead of the interest of the retail customer.'' 17 CFR 240.15l-
1(a)(1).
\54\ ``An investment adviser's fiduciary duty under the Advisers
Act comprises a duty of care and a duty of loyalty. This fiduciary
duty requires an adviser `to adopt the principal's goals,
objectives, or ends.' This means the adviser must, at all times,
serve the best interest of its client and not subordinate its
client's interest to its own. In other words, the investment adviser
cannot place its own interests ahead of the interests of its
client.'' SEC Fiduciary Interpretation, 84 FR at 33671(citations
omitted).
\55\ The NAIC's updated Suitability in Annuity Transactions
Model Regulation includes a safe harbor for recommendations made by
financial professionals that are ERISA and Code fiduciaries in
compliance with the duties, obligations, prohibitions and all other
requirements attendant to such status under ERISA and the Code. NAIC
Suitability in Annuity Transactions Model Regulation, Spring 2020,
Section 6.E.(5)(c), available at https://www.naic.org/store/free/MDL-275.pdf.
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This best interest standard would allow Investment Professionals
and Financial Institutions to provide investment advice despite having
a financial or other interest in the transaction, so long as they do
not place the interests ahead of the interests of the Retirement
Investor, or subordinate the Retirement Investor's interests to their
own. For example, in choosing between two investments equally available
to the investor, it would not be permissible for the Investment
Professional to advise investing in the one that is worse for the
Retirement Investor because it is better for the Investment
Professional's or the Financial Institution's bottom line. Because the
standard does not forbid the Financial Institution or Investment
Professional from having an interest in the transaction this standard
would not foreclose the Investment Professional and Financial
Institution from being paid, nor would it foreclose investment advice
on proprietary products or investments that generate third party
payments.
The best interest standard in this proposal would not impose an
unattainable obligation on Investment Professionals and Financial
Institutions to somehow identify the single ``best'' investment for the
Retirement Investor out of all the investments in the national or
international marketplace, assuming such advice were even possible at
the time of the transaction. The obligation under the best interest
standard would be to give advice that adheres to professional standards
of prudence, and that does not place the interests of the Investment
Professional, Financial Institution, or other party ahead of the
Retirement Investor's financial interests, or subordinate the
Retirement Investor's interests to those of the Investment Professional
or Financial Institution.
Neither the best interest standard nor any other condition of the
exemption would establish a monitoring requirement for Financial
Institutions or Investment Professionals; the parties can, of course,
establish a monitoring obligation by agreement, arrangement, or
understanding. Under Section II(b), discussed below, Financial
Institutions would, however, be required to disclose which services
they will provide. Moreover, Financial Institutions should carefully
consider whether certain investments can be prudently recommended to
the individual Retirement Investor in the first place without ongoing
monitoring of the investment. Investments that possess unusual
complexity and risk, for example, may require ongoing monitoring to
protect the investor's interests. An Investment Professional may be
unable to satisfy the exemption's best interest standard with respect
to such investments without a mechanism in place for monitoring. The
added cost of monitoring such investments should also be considered by
the Financial Institution and Investment Professional in determining
whether the recommended investments are in the Retirement Investor's
best interest. The Department requests comments on this best interest
standard and whether additional examples would be useful.
Reasonable Compensation
General
Section II(a)(2) of the exemption would establish a reasonable
compensation standard. Compensation received, directly or indirectly,
by the Financial Institution, Investment Professional, and their
affiliates and related entities for their services would not be
permitted to exceed reasonable compensation within the meaning of ERISA
section 408(b)(2) and Code section 4975(d)(2).
The obligation to pay no more than reasonable compensation to
service providers has been long recognized under ERISA and the Code.
ERISA section 408(b)(2) and Code section 4975(d)(2) expressly require
all types of services arrangements involving Plans and IRAs to result
in no more than reasonable compensation to the service provider.
Investment Professionals and Financial Institutions--as service
providers--have long been subject to this requirement, regardless of
their fiduciary status. The reasonable compensation standard requires
that compensation not be excessive, as measured by the market value of
the particular services, rights, and benefits the Investment
Professional and Financial Institution are delivering to the Retirement
Investor. Given the conflicts of interest associated with the
commissions and other payments that would be covered by the exemption,
and the potential for self-dealing, it is particularly important that
Investment Professionals and Financial Institutions adhere to these
statutory standards, which are rooted in common law principles.
In general, the reasonableness of fees will depend on the
particular facts and circumstances at the time of the recommendation.
Several factors inform whether compensation is reasonable, including
the market price of service(s) provided and/or the underlying asset(s),
the scope of monitoring, and the complexity of the product. No single
factor is dispositive in determining whether compensation is
reasonable; the essential question is whether the charges are
reasonable in relation to what the investor receives. Under the
exemption, the Financial Institution and Investment Professional would
not have to recommend the transaction that is the lowest cost or that
generates the lowest fees without regard to other relevant factors.
Recommendations of the ``lowest cost'' security or investment strategy,
without consideration of other factors, could in fact violate the
exemption.
The reasonable compensation standard would apply to all
transactions under the exemption, including investment products that
bundle together services and investment guarantees or other benefits,
such as annuities. In assessing the reasonableness of compensation in
connection with these products, it is appropriate to consider the value
of the guarantees and benefits as well as the value of the services.
When assessing the reasonableness of a charge, one generally needs to
consider the value of all the services and benefits provided for the
charge, not just some. If parties need additional guidance in this
respect, they should refer to the Department's interpretations under
ERISA section 408(b)(2) and Code section 4975(d)(2). The Department
will provide additional guidance if necessary.
Best Execution
Section II(a)(2)(B) of the exemption would require that, as
required by the federal securities laws, the Financial
[[Page 40844]]
Institution and Investment Professional seek to obtain the best
execution of the investment transaction reasonably available under the
circumstances. Financial Institutions and Investment Professionals
subject to federal securities laws such as the Securities Act of 1933,
the Securities Exchange Act of 1934, and the Investment Advisers Act of
1940, and rules adopted by FINRA and the Municipal Securities
Rulemaking Board (MSRB), are obligated to a longstanding duty of best
execution. As described recently by the SEC, ``[a] broker-dealer's duty
of best execution requires a broker-dealer to seek to execute
customers' trades at the most favorable terms reasonably available
under the circumstances.'' \56\ This condition complements the
reasonable compensation standard set forth in ERISA and the Code.
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\56\ Regulation Best Interest Release, 84 FR at 33373, note 565.
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The Department would apply the best execution requirement
consistent with the federal securities laws. Financial Institutions
that are FINRA members would satisfy this subsection if they comply
with the standards in FINRA rules 2121 (Fair Prices and Commissions)
and 5310 (Best Execution and Interpositioning), or any successor rules
in effect at the time of the transaction, as interpreted by FINRA.
Financial Institutions engaging in a purchase or sale of a municipal
bond would satisfy this subsection if they comply with the standards in
MSRB rules G-30 (Prices and Commissions) and G-18 (Best Execution), or
any successor rules in effect at the time of the transaction, as
interpreted by MSRB. Financial Institutions that are subject to and
comply with the fiduciary duty under section 206 of the Investment
Advisers Act, which as described by the SEC encompasses a duty to seek
best execution, would satisfy this subsection.\57\
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\57\ SEC Fiduciary Interpretation, 84 FR at 33674-75 (Section
II.B.2 ``Duty to Seek Best Execution'').
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Misleading Statements
Section II(a)(3) would require that statements by the Financial
Institution and its Investment Professionals to the Retirement Investor
about the recommended transaction and other relevant matters are not
materially misleading at the time they are made. Other relevant matters
would include fees and compensation, material conflicts of interest,
and any other fact that could reasonably be expected to affect the
Retirement Investor's investment decisions. For example, the Department
would consider it materially misleading for the Financial Institution
or Investment Professional to include any exculpatory clauses or
indemnification provisions in an arrangement with a Retirement Investor
that are prohibited by applicable law.\58\ Retirement Investors are
clearly best served by statements and representations free from
material misstatements and omissions. Financial Institutions and
Investment Professionals best avoid liability--and best promote the
interests of Retirement Investors--by ensuring that accurate
communications are a consistent standard in all their interactions with
their customers.
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\58\ See, e.g., ERISA section 410 and see also ERISA
Interpretive Bulletin 75-4--Indemnification of fiduciaries under
ERISA Sec. 410(a). (``The Department of Labor interprets section
410(a) as rendering void any arrangement for indemnification of a
fiduciary of an employee benefit plan by the plan. Such an
arrangement would have the same result as an exculpatory clause, in
that it would, in effect, relieve the fiduciary of responsibility
and liability to the plan by abrogating the plan's right to recovery
from the fiduciary for breaches of fiduciary obligations.'')
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Disclosure--Section II(b)
Section II(b) of the exemption would require the Financial
Institution to provide certain written disclosures to the Retirement
Investor, prior to engaging in any transactions pursuant to the
exemption. The Financial Institution must acknowledge, in writing, that
the Financial Institution and its Investment Professionals are
fiduciaries under ERISA and the Code, as applicable, with respect to
any fiduciary investment advice provided by the Financial Institution
or Investment Professional to the Retirement Investor. The Financial
Institution must provide a written description of the services to be
provided and material conflicts of interest arising out of the services
and any recommended investment transaction. The description must be
accurate in all material respects.
The disclosure obligations in this proposal are designed to protect
Retirement Investors by enhancing the quality of information they
receive in connection with fiduciary investment advice. The disclosures
should be in plain English, taking into consideration Retirement
Investors' level of financial experience. The requirement can be
satisfied through any disclosure, or combination of disclosures,
required to be provided by other regulators so long as the disclosure
required by Section II(b) is included.
The proposed disclosures are designed to ensure that the fiduciary
nature of the relationship is clear to the Financial Institution and
Investment Professional, as well as the Retirement Investor, at the
time of the investment transaction. The Department does not intend the
fiduciary acknowledgment or any of the disclosure obligations to create
a private right of action as between a Financial Institution or
Investment Professional and a Retirement Investor and it does not
believe the exemption would do so.\59\ As noted above, ERISA section
502(a) provides a cause of action for fiduciary breaches and prohibited
transactions with respect to ERISA-covered Plans (but not IRAs). Code
section 4975 imposes a tax on disqualified persons participating in a
prohibited transaction involving Plans and IRAs (other than a fiduciary
acting only as such). These are the sole remedies for engaging in non-
exempt prohibited transactions.
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\59\ In Chamber of Commerce of the United States v. U.S.
Department of Labor, supra note 5, the U.S. Court of Appeals for the
5th Circuit found that the Department did not have authority to
include certain contract requirements in the new exemptions granted
as part of the 2016 fiduciary rulemaking. The Department is mindful
of this holding and has not included any contract requirement in
this proposal.
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The description of the services to be provided and material
conflicts of interest is necessary to ensure Retirement Investors
receive information to assess the conflicts and compensation
structures. The approach taken in the proposal is principles-based and
meant to provide the flexibility necessary to apply to a wide variety
of business models and practices. The proposal does not require
specific disclosures to be tailored for each Retirement Investor or
each transaction as long as a compliant disclosure is provided before
engaging in the particular transaction for which the exemption is
sought. The Department requests comments on the disclosure
requirements. In particular, the Department seeks comment on whether
the written acknowledgment of fiduciary status should be accompanied by
a disclosure of the fiduciary's obligations under the exemption to
provide advice in accordance with the Impartial Conduct Standard. The
Department also requests comment on whether the Department should
instead require this disclosure of Financial Institutions' and
Investment Professionals' obligations under the Impartial Conduct
Standards as an alternative to requiring written disclosure of their
fiduciary status.
Policies and Procedures--Section II(c)
General
Section II(c)(1) of the proposal would establish an overarching
requirement
[[Page 40845]]
that Financial Institutions establish, maintain and enforce written
policies and procedures prudently designed to ensure that the Financial
Institution and its Investment Professionals comply with the Impartial
Conduct Standards. Under Section II(c)(2), Financial Institutions'
policies and procedures would be required to mitigate conflicts of
interest to the extent that the policies and procedures, and the
Financial Institution's incentive practices, when viewed as a whole,
are prudently designed to avoid misalignment of the interests of the
Financial Institution and Investment Professionals and the interests of
Retirement Investors. In accordance with this standard, a reasonable
person reviewing the Financial Institution's incentive practices,
policies, and procedures would conclude that the policies do not give
Investment Professionals an incentive to violate the Impartial Conduct
Standards, but rather are reasonably designed to promote compliance
with the standards.
As defined in the proposal, a conflict of interest is ``an interest
that might incline a Financial Institution or Investment Professional--
consciously or unconsciously--to make a recommendation that is not in
the Best Interest of the Retirement Investor'' \60\ Conflict mitigation
is a critical condition of the exemption, and is an important factor
for the Department to make the findings under ERISA section 408(a) and
Code section 4975(d)(2), that the exemption is in the interests of, and
protective of, Retirement Investors. The requirement to avoid
misalignment means, for example, that Financial Institutions' policies
and procedures would be required to be prudently designed to protect
Retirement Investors from recommendations to make excessive trades, or
to buy investment products, annuities, or riders that are not in the
investor's best interest or that allocate excessive amounts to illiquid
or risky investments.
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\60\ This definition is consistent with the concept of a
conflict of interest in the SEC's rulemaking. Regulation Best
Interest definition of Conflict of Interest, 17 CFR 240.15l-1(b)(3);
SEC Fiduciary Interpretation, 84 FR at 33671.
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Section II(c)(3) of the exemption would establish specific
documentation requirements for recommendations to roll over Plan or IRA
assets to another Plan or IRA and to change from one type of account to
another (e.g., from a commission-based account to a fee-based account).
Financial Institutions making these recommendations would be required
to document the specific reason or reasons why the recommendation was
considered to be in the best interest of the Retirement Investor. The
Department requests comments on whether additional specific
documentation requirements would be appropriate.
To comply with the conditions in Section II(c), Financial
Institutions would identify and carefully focus on the particular
aspects of their business model that may create incentives that are
misaligned with the interests of Retirement Investors. If, for example,
a Financial Institution anticipates that conflicts of interest in its
business model will center on advice to roll over Plan assets, and
after the rollover, the Financial Institution and Investment
Professional will be compensated on a level-fee basis, the Financial
Institution's policies and procedures should focus on the rollover or
distribution recommendation. The proposed requirement in Section
II(c)(3) to document the reason for rollover and account
recommendations supports compliance with the Impartial Conduct
Standards in this context.\61\
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\61\ In general, after the rollover, the ongoing receipt of
compensation based on a fixed percentage of the value of assets
under management does not require a prohibited transaction
exemption. However, the Department cautions that certain practices
such as ``reverse churning'' (i.e. recommending a fee-based account
to an investor with low trading activity and no need for ongoing
monitoring or advice) or recommending holding an asset solely to
generate more fees may be prohibited transactions that would not
satisfy the Impartial Conduct Standards.
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On the other hand, if a Financial Institution intends to receive
transaction-based third party compensation, and compensate Investment
Professionals based on transactions that occur in a Retirement
Investor's accounts, such as through commissions, the Financial
Institution's policies and procedures would also address the incentives
created by these compensation arrangements. Financial Institutions that
provide advice regarding proprietary products or from limited menus of
products would consider the conflicts of interest these arrangements
create. Approaches to these conflicts of interest are discussed in more
detail below.
Advice To Roll Over Plan or IRA Assets
Rollover recommendations are a primary concern of the Department,
as Financial Institutions and Investment Professionals may have a
strong economic incentive to recommend that investors roll over assets
into one of their Institution's IRAs, whether from a Plan or from an
IRA account at another Financial Institution, or even between different
account types. The decision to roll over assets from an ERISA-covered
Plan to an IRA may be one of the most important financial decisions
that Retirement Investors make, as it may have a long-term impact on
their retirement security.
The Department believes the requirement in Section II(c)(3) to
document the reasons that advice to take a distribution or to roll over
Plan or IRA assets were in the Retirement Investor's best interest will
serve an important role in protecting Retirement Investors during this
significant decision. The requirement is designed to ensure that
Investment Professionals take the time to form a prudent
recommendation, and that a record is available for later review.
For purposes of compliance with the exemption, a prudent
recommendation to roll over from an ERISA-covered Plan to an IRA would
necessarily include consideration and documentation of the following:
The Retirement Investor's alternatives to a rollover, including leaving
the money in his or her current employer's Plan, if permitted, and
selecting different investment options; the fees and expenses
associated with both the Plan and the IRA; whether the employer pays
for some or all of the Plan's administrative expenses; and the
different levels of services and investments available under the Plan
and the IRA. For rollovers from another IRA or changes from a
commission-based account to a fee-based arrangement, a prudent
recommendation would include consideration and documentation of the
services that would be provided under the new arrangement.
In evaluating a potential rollover from an ERISA-covered Plan, the
Investment Professional and Financial Institution should make diligent
and prudent efforts to obtain information about the existing Plan and
the participant's interests in it. If the Retirement Investor is
unwilling to provide the information, even after a full explanation of
its significance, and the information is not otherwise readily
available, the Investment Professional should make a reasonable
estimation of expenses, asset values, risk, and returns based on
publicly available information and explain the assumptions used and
their limitations to the Retirement Investor. The Department requests
comment on whether there are any other actions the Department should or
could take with respect to disclosure or reporting that would promote
prudent rollover advice without overlapping existing regulatory
requirements.
[[Page 40846]]
Commission-Based Compensation Arrangements
Financial Institutions that compensate Investment Professionals
through transaction-based payments and incentives would need to
consider how to minimize the impact of these compensation incentives on
fiduciary investment advice to Retirement Investors, so that the
Financial Institution would be able to meet the exemption's standard of
conflict mitigation set forth in proposed Section II(c)(2). As noted
above, this standard would require the policies and procedures, and the
Financial Institution's incentive practices, when viewed as a whole, to
be prudently designed to avoid misalignment of the interests of the
Financial Institution and Investment Professionals and the interests of
Retirement Investors.
For commission-based compensation arrangements, Financial
Institutions would be encouraged to focus on both financial incentives
to Investment Professionals and supervisory oversight of investment
advice. These two aspects of the Financial Institution's policies and
procedures would complement each other, and Financial Institutions
would retain the flexibility, based on the characteristics of their
businesses, to adjust the stringency of each component provided that
the exemption's overall standards would be satisfied. Financial
Institutions that significantly mitigate commission-based compensation
incentives would have less need to rigorously oversee Investment
Professionals. Conversely, Financial Institutions that have significant
variation in compensation across different investment products would
need to implement more stringent supervisory oversight.
In developing compliance structures, the Department envisions that
Financial Institutions would implement conflict mitigation strategies
identified by the Financial Institutions' other regulators. The
following non-exhaustive examples of practices identified as options by
the SEC could be implemented by Financial Institutions in compensating
Investment Professionals: (i) Avoiding compensation thresholds that
disproportionately increase compensation through incremental increases
in sales; (ii) Minimizing compensation incentives for employees to
favor one type of account over another; or to favor one type of product
over another, proprietary or preferred provider products, or comparable
products sold on a principal basis, for example, by establishing
differential compensation based on neutral factors; (iii) Eliminating
compensation incentives within comparable product lines by, for
example, capping the credit that an associated person may receive
across mutual funds or other comparable products across providers; (iv)
Implementing supervisory procedures to monitor recommendations that
are: near compensation thresholds; near thresholds for firm
recognition; involve higher compensating products, proprietary products
or transactions in a principal capacity; or, involve the rollover or
transfer of assets from one type of account to another (such as
recommendations to roll over or transfer assets in an ERISA account to
an IRA) or from one product class to another; (v) Adjusting
compensation for associated persons who fail to adequately manage
conflicts of interest; and (vi) Limiting the types of retail customer
to whom a product, transaction or strategy may be recommended.\62\
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\62\ Regulation Best Interest Release, 84 FR at 33392.
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Financial Institutions also should consider minimizing incentives
at the Financial Institution level. Firms could establish or enhance
the review process for investment products that may be recommended to
Retirement Investors. This process could include procedures for
identifying and mitigating conflicts of interest associated with the
product and declining to recommend a product if the Financial
Institution cannot effectively mitigate associated conflicts of
interest.
Insurance companies and insurance agents that are investment advice
fiduciaries relying on the exemption would be encouraged to adopt
strategies similar to those identified above to address conflicts of
interest. Insurance companies could also supervise independent
insurance agents who provide investment advice on their products
through the mechanisms noted above. To comply with the exemption, the
insurer could adopt and implement supervisory and review mechanisms and
avoid improper incentives that preferentially push the products,
riders, and annuity features that might incentivize Investment
Professionals to provide investment advice to Retirement Investors that
does not meet the Impartial Conduct Standards. Insurance companies
could implement procedures to review annuity sales to Retirement
Investors to ensure that they were made in satisfaction of the
Impartial Conduct Standards, much as they may already be required to
review annuity sales to ensure compliance with state-law suitability
requirements.\63\
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\63\ Cf. NAIC Suitability in Annuity Transactions Model
Regulation, Spring 2020, Section 6.C.(2)(d) (``The insurer shall
establish and maintain procedures for the review of each
recommendation prior to issuance of an annuity that are designed to
ensure that there is a reasonable basis to determine that the
recommended annuity would effectively address the particular
consumer's financial situation, insurance needs and financial
objectives. Such review procedures may apply a screening system for
the purpose of identifying selected transactions for additional
review and may be accomplished electronically or through other means
including, but not limited to, physical review. Such an electronic
or other system may be designed to require additional review only of
those transactions identified for additional review by the selection
criteria''); and (e) (``The insurer shall establish and maintain
reasonable procedures to detect recommendations that are not in
compliance with subsections A, B, D and E. This may include, but is
not limited to, confirmation of the consumer's consumer profile
information, systematic customer surveys, producer and consumer
interviews, confirmation letters, producer statements or
attestations and programs of internal monitoring. Nothing in this
subparagraph prevents an insurer from complying with this
subparagraph by applying sampling procedures, or by confirming the
consumer profile information or other required information under
this section after issuance or delivery of the annuity''), available
at https://www.naic.org/store/free/MDL-275.pdf. The prior version of
the model regulation, which was adopted in some form by a number of
states, also included similar provisions requiring systems to
supervise recommendations. See Annuity Suitability (A) Working Group
Exposure Draft, Adopted by the Committee Dec. 30, 2019, available at
https://www.naic.org/documents/committees_mo275.pdf. (comparing 2020
version with prior version).
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In this regard, insurance company Financial Institutions would be
responsible only for an Investment Professional's recommendation and
sale of products offered to Retirement Investors by the insurance
company in conjunction with fiduciary investment advice, and not
unrelated and unaffiliated insurers.\64\ Insurance companies could
implement the policies and procedures by monitoring market prices and
benchmarks for their products and services, and remaining attentive to
any financial inducements they offer to independent agents that could
result in a misalignment of the interests of the agent and his or her
Retirement Investor customer. Insurers could also create a system of
oversight and compliance by contracting with an IMO to implement
policies and procedures designed to ensure that all of the agents
associated with the intermediary adhere to the conditions of this
exemption. Thus, for example, as one possible approach, the
intermediary could eliminate compensation incentives across all the
insurance
[[Page 40847]]
companies that work with the intermediary, assisting each of the
insurance companies with their independent obligations under the
exemption. This might involve the intermediary's review of
documentation prepared by insurance agents to comply with the
exemption, as may be required by the insurance company, or the use of
third-party industry comparisons available in the marketplace to help
independent insurance agents recommend products that are prudent for
the Retirement Investors they advise.\65\
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\64\ Cf. Id., Section 6.C.(4) (``An insurer is not required to
include in its system of supervision: (a) A producer's
recommendations to consumers of products other than the annuities
offered by the insurer''), available at https://www.naic.org/store/free/MDL-275.pdf.
\65\ None of the conditions of this proposal are intended to
categorically bar the provision of employee benefits to insurance
company statutory employees, despite the practice of basing
eligibility for such benefits on sales of proprietary products of
the insurance company. See Internal Revenue Code section 3121.
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The Department notes that regulators in the securities and
insurance industry have adopted provisions requiring elimination of
sales contests and similar incentives such as sales quotas, bonuses,
and non-cash compensation that are based on sales of certain
investments within a limited period of time.\66\ The Department agrees
that these practices create incentives to recommend products that are
not in a Retirement Investor's best interest that cannot be effectively
mitigated. Therefore, Financial Institutions' policies and procedures
would not be prudently designed to avoid a misalignment of interests
between Investment Professionals and Retirement Investors if they
establish or permit these practices. To satisfy the exemption's
standard of mitigation, Financial Institutions would be required to
carefully consider performance and personnel actions and practices that
could encourage violation of the Impartial Conduct Standards.
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\66\ Regulation Best Interest Release, 84 FR at 33394-97; NAIC
Suitability in Annuity Transactions Model Regulation, Spring 2020,
Section 6.C.(2)(h), available at https://www.naic.org/store/free/MDL-275.pdf.
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The Department notes Financial Institutions complying with the
exemption would need to review their policies and procedures
periodically and reasonably revise them as necessary to ensure that the
policies and procedures continue to satisfy the conditions of this
exemption. In particular, the exemption would require ongoing vigilance
as to the impact of conflicts of interest on the provision of fiduciary
investment advice to Retirement Investors. As a matter of prudence,
Financial Institutions should address any deficiencies in their
policies and procedures if, in fact, the policies and procedures are
not achieving their intended goal of ensuring compliance with the
exemption and the provision of advice that satisfies the Impartial
Conduct Standards. The Department seeks comment on the proposed policy
and procedure requirements, including whether this principle-based
method is sufficiently protective of participants and beneficiaries.
Proprietary Products and Limited Menus of Investment Products
It is important to note that the Department believes that the best
interest standard can be satisfied by Financial Institutions and
Investment Professionals that provide investment advice on proprietary
products or on a limited menu, including limitations to proprietary
products \67\ and products that generate third party payments.\68\
Product limitations can serve a beneficial purpose by allowing broker-
dealers and associated persons to develop increased familiarity with
the products they recommend. At the same time, limited menus,
particularly if they focus on proprietary products and products that
generate third party payments, can result in heightened conflicts of
interest. Financial Institutions and their affiliates may receive more
compensation than they would for recommending other products, and, as a
result, Investment Professionals' and Financial Institutions' interests
may be misaligned with the interests of Retirement Investors.
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\67\ Proprietary products include products that are managed,
issued or sponsored by the Financial Institution or any of its
affiliates.
\68\ Third party payments include sales charges when not paid
directly by the Plan or IRA; gross dealer concessions; revenue
sharing payments; 12b-1 fees; distribution, solicitation or referral
fees; volume-based fees; fees for seminars and educational programs;
and any other compensation, consideration or financial benefit
provided to the Financial Institution or an affiliate or related
entity by a third party as a result of a transaction involving a
Plan or IRA.
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Financial Institutions and Investment Professionals providing
investment advice on proprietary products or on a limited menu would
satisfy the standard provided they give complete and accurate
disclosure of their material conflicts of interest in connection with
such products or limitations and adopt policies and procedures that are
prudently designed to prevent any conflicts of interest from causing a
misalignment of the interests of the Financial Institution and
Investment Professional with the interests of the Retirement Investor.
This would include policies applicable to circumstances where the
Financial Institution or Investment Professional prudently determines
that its proprietary products or limited menu do not offer Retirement
Investors an investment option in their best interest when compared
with other investment alternatives available in the marketplace. The
Department envisions that Financial Institutions complying with the
Impartial Conduct Standards would carefully consider their product
offerings and form a reasonable conclusion about whether the menu of
investment options would permit Investment Professionals to provide
fiduciary investment advice to Retirement Investors in accordance with
the Impartial Conduct Standards. The exemption would be available if
the Financial Institution prudently concludes that its offering of
proprietary products, or its limitations on investment product
offerings, in conjunction with the policies and procedures, would not
cause a misalignment of interests. Financial Institutions and
Investment Professionals cannot use a limited menu to justify making a
recommendation that does not meet the Impartial Conduct Standards.
The Department seeks comment on this analysis. Is this preamble
guidance sufficient or do commenters believe that it is important for
the exemption text to specifically address proprietary products and
limited menus of investment products? Should the Department more
specifically incorporate provisions of Regulation Best Interest in this
respect? \69\ Should this exemption specify documentation requirements
reflecting the Financial Institution's analysis or conclusions with
respect to its adoption of a limited menu or its recommendation of
proprietary products, and its ability to comply with the conditions of
this exemption with respect to such products or menus?
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\69\ See 17 CFR 240.15l-1(a)(2)(iii)(C) describing policies and
procedures addressing material limitations placed on securities or
investment strategies.
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Retrospective Review--Section II(d)
Section II(d) of the proposal relates to the Financial
Institution's oversight of its compliance, and its Investment
Professionals' compliance, with the Impartial Conduct Standards and the
policies and procedures. While mitigation of Financial Institutions'
and Investment Professionals' conflicts of interest is critical,
Financial Institutions must also monitor Investment Professionals'
conduct to detect advice that does not adhere to the Impartial
[[Page 40848]]
Conduct Standards or the Financial Institution's policies and
procedures.
Under the proposal, Financial Institutions would be required to
conduct a retrospective review, at least annually, that is reasonably
designed to assist the Financial Institution in detecting and
preventing violations of, and achieving compliance with, the Impartial
Conduct Standards and the policies and procedures governing compliance
with the exemption. The Department envisions that the review would
involve testing a sample of transactions to determine compliance.
The methodology and results of the retrospective review would be
reduced to a written report that is provided to the Financial
Institution's chief executive officer (or equivalent officer). That
officer would be required to certify annually that:
(A) The officer has reviewed the report of the retrospective
review;
(B) The Financial Institution has in place policies and procedures
prudently designed to achieve compliance with the conditions of this
exemption; and
(C) The Financial Institution has in place a prudent process to
modify such policies and procedures as business, regulatory and
legislative changes and events dictate, and to test the effectiveness
of such policies and procedures on a periodic basis, the timing and
extent of which is reasonably designed to ensure continuing compliance
with the conditions of this exemption.
This retrospective review, report and certification would be
required to be completed no later than six months following the end of
the period covered by the review. The Financial Institution would be
required to retain the report and supporting data for a period of six
years. If the Department, any other federal or state regulator of the
Financial Institution, or any applicable self-regulatory organization,
requests the written report and supporting data within those six years,
the Financial Institution would make the requested documents available
within 10 business days of the request. The Department believes that
the requirement to provide the written report within 10 business days
will ensure that Financial Institutions diligently prepare their
reports each year, resulting in meaningful protection of Retirement
Investors. The Department requests comments about this process,
including regarding the timing and certified information.
Financial Institutions can use the results of the review to find
more effective ways to ensure that Investment Professionals are
providing investment advice in accordance with the Impartial Conduct
Standards, and to correct any deficiencies in existing policies and
procedures. Requiring the chief executive officer (or equivalent, i.e.,
the most senior officer or executive in charge of managing the
Financial Institution) to certify review of the report is a means of
creating accountability for the review. This would serve the purpose of
ensuring that more than one person determines whether the Financial
Institution is complying with the conditions of the exemption and
avoiding non-exempt prohibited transactions. If the chief executive
officer does not have the experience or expertise to determine whether
to make the certification, he or she would be expected to consult with
a knowledgeable compliance professional to be able to do so. The
proposed retrospective review is based on FINRA rules governing how
broker-dealers supervise associated persons,\70\ adapted to focus on
the conditions of the exemption. The Department is aware that other
Financial Institutions are subject to regulatory requirements to review
their policies and procedures; \71\ however, for the reasons stated
above, the Department believes that the specific certification
requirement in the proposal will serve to protect Retirement Investors
in the context of conflicted investment advice transactions.
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\70\ See FINRA rules 3110, 3120, and 3130.
\71\ See e.g., Rule 206(4)-7 under the Investment Advisers Act
of 1940.
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Eligibility (Section III)
Section III of the proposal identifies circumstances under which an
Investment Professional or Financial Institution would not be eligible
to rely on the exemption. The grounds for ineligibility would involve
certain criminal convictions or certain egregious conduct with respect
to compliance with the exemption. The proposed period of ineligibility
would be 10 years.
Criminal Convictions
An Investment Professional or Financial Institution would become
ineligible upon the conviction of any crime described in ERISA section
411 arising out of provision of advice to Retirement Investors, except
as described below. The Department includes crimes described in ERISA
section 411 for the proposal because they are likely to directly
contravene the Investment Professional's or Financial Institution's
ability to maintain the high standard of integrity, care, and undivided
loyalty demanded by a fiduciary's position of trust and confidence.
Ineligibility after a criminal conviction described in the
exemption would be automatic for an Investment Professional. However,
Financial Institutions with a criminal conviction described in the
exemption would be permitted to submit a petition to the Department and
seek a determination that continued reliance on the exemption would not
be contrary to the purposes of the exemption. Petitions would be
required to be submitted within 10 business days of the conviction to
the Director of the Office of Exemption Determinations by email at [email protected], or by certified mail at Office of Exemption
Determinations, Employee Benefits Security Administration, U.S.
Department of Labor, 200 Constitution Avenue NW, Suite 400, Washington,
DC 20210.
Following receipt of the petition, the Department would provide the
Financial Institution with the opportunity to be heard, in person or in
writing or both. Because of the 10-business day timeframe for
submitting a petition, the Department would not expect the Financial
Institution to set forth its entire position or argument in its initial
petition. The opportunity to be heard in person would be limited to one
in-person conference unless the Department determines in its sole
discretion to allow additional conferences.
The Department's determination as to whether to grant the petition
would be based solely on its discretion. In determining whether to
grant the petition, the Department will consider the gravity of the
offense; the relationship between the conduct underlying the conviction
and the Financial Institution's system and practices in its retirement
investment business as a whole; the degree to which the underlying
conduct concerned individual misconduct, or, alternately, corporate
managers or policy; how recent was the underlying lawsuit; remedial
measures taken by the Financial Institution upon learning of the
underlying conduct; and such other factors as the Department determines
in its discretion are reasonable in light of the nature and purposes of
the exemption. The Department would consider whether any extenuating
circumstances would indicate that the Financial Institution should be
able to continue to rely on the exemption despite the conviction. The
standard for the determination, as stated above, would be that
continued reliance on the exemption would not be contrary to the
[[Page 40849]]
purposes of the exemption. Accordingly, the Department will focus on
the Financial Institution's ability to fulfil its obligations under the
exemption prudently and loyally, for the protection of Retirement
Investors. The Department will provide a written determination to the
Financial Institution that articulates the basis for the determination.
The Department notes that the denial of a Financial Institution's
petition will not necessarily indicate that the Department will not
entertain a separate individual exemption request submitted by the same
Financial Institution subject to additional protective conditions.
Conduct With Respect to Compliance With the Exemption
An Investment Professional or Financial Institution would become
ineligible upon the date of a written ineligibility notice from the
Director of the Office of Exemption Determinations that they (i)
engaged in a systematic pattern or practice of violating the conditions
of the exemption; (ii) intentionally violated the conditions of this
exemption; or (iii) provided materially misleading information to the
Department in connection with the Investment Professional's or
Financial Institution's conduct under the exemption. This type of
conduct in connection with exemption compliance would indicate that the
entity should not be permitted to continue to rely on the broad
prohibited transaction relief in the class exemption.
The proposal sets forth a process governing the issuance of the
written ineligibility notice, as follows. Prior to issuing a written
ineligibility notice, the Director of the Office of Exemption
Determinations would be required to issue a written warning to the
Investment Professional or Financial Institution, as applicable,
identifying specific conduct that could lead to ineligibility, and
providing a six-month opportunity to cure. At the end of the six-month
period, if the Department determined that the conduct persisted, it
would provide the Investment Professional or Financial Institution with
the opportunity to be heard, in person or in writing, before the
Director of the Office of Exemption Determinations issued the written
ineligibility notice. The written ineligibility notice would articulate
the basis for the determination that the Investment Professional or
Financial Institution engaged in conduct warranting ineligibility.
Period and Scope of Ineligibility
The proposed period of ineligibility would be 10 years; however,
the ineligibility provisions would apply differently to Investment
Professionals and Financial Institutions. An Investment Professional
convicted of a crime would become ineligible immediately upon the date
the Investment Professional is convicted by a trial court, regardless
of whether that judgment remains under appeal, or upon the date of the
written ineligibility notice from the Office of Exemption
Determinations.
A Financial Institution's ineligibility would be triggered by its
own conviction or receipt of a written ineligibility notice, or that of
another Financial Institution in the same Control Group. A Financial
Institution is in a Control Group with another Financial Institution
if, directly or indirectly, the Financial Institution owns at least 80
percent of, is at least 80 percent owned by, or shares an 80 percent or
more owner with, the other Financial Institution. For purposes of this
provision, if the Financial Institutions are not corporations,
ownership is defined to include interests in the Financial Institution
such as profits interest or capital interests.
The Department is including Control Group Financial Institutions to
ensure that a Financial Institution facing ineligibility for its
actions affecting Retirement Investors cannot simply transfer its
fiduciary investment advice business to another Financial Institution
that is closely related and also provides fiduciary investment advice
to Retirement Investors, thus avoiding the ineligibility provisions
entirely. The proposed definition is narrowly tailored to cover only
other investment advice fiduciaries that share significant ownership. A
Financial Institution could not become ineligible based on the actions
of an entity engaged in unrelated services that happened to share a
small amount of common ownership. The 80 percent threshold is
consistent with the Code's rules for determining when employees of
multiple corporations should be treated as employed by the same
employer.\72\ The Department requests comments on this definition. Is
80 percent an appropriate threshold? Are there alternative ways of
defining ownership that would be easily applicable to all types of
Financial Institutions?
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\72\ See Code section 414(b).
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Unlike Investment Professionals, Financial Institutions would have
a one-year winding down period before becoming ineligible to rely on
the exemption, as long as they complied with the exemption's other
conditions during that year. The winding down period begins on the date
of the trial court's judgment, regardless of whether that judgment
remains under appeal. Financial Institutions that timely submit a
petition regarding the conviction would become ineligible as of the
date of a written notice of denial from the Office of Exemption
Determinations. Financial Institutions that become ineligible due to
conduct with respect to exemption compliance would become ineligible as
of the date of the written ineligibility notice from the Office of
Exemption Determinations.
Financial Institutions or Investment Professionals that become
ineligible to rely on this exemption may rely on a statutory prohibited
transaction exemption if one is available or may seek an individual
prohibited transaction exemption from the Department. The Department
encourages any Financial Institution or Investment Professional facing
allegations that could result in ineligibility to begin the application
process. If the applicant becomes ineligible and the Department has not
granted a final individual exemption, the Department will consider
granting retroactive relief, consistent with its policy as set forth in
29 CFR 2570.35(d). Retroactive exemptions may require additional
prospective compliance.
The Department seeks comment on the proposal's eligibility
provisions. Are the crimes included in the proposal properly tailored
to identify Investment Professionals and Financial Institutions that
should no longer be eligible to rely on the broad relief in the class
exemption? Is additional guidance needed with respect to any aspect of
the ineligibility section to provide clarity to Investment
Professionals and Financial Institutions?
Recordkeeping (Section IV)
Section IV would condition relief on the Financial Institution
maintaining the records demonstrating compliance with this exemption
for six years. The Department generally imposes a recordkeeping
requirement on exemptions so that parties relying on an exemption can
demonstrate, and the Department can verify, compliance with the
conditions of the exemption.
To demonstrate compliance with the exemption, Financial
Institutions would be required to provide, among other things,
documentation of rollover recommendations and their written policies
and procedures adopted
[[Page 40850]]
pursuant to Section II(c). The Department does not expect Financial
Institutions to document the reason for every investment recommendation
made pursuant to the exemption. However, documentation may be
especially important for recommendations of particularly complex
products or recommendations that might, on their face, appear
inconsistent with the best interest of a Retirement Investor.
Section IV would require that the records be made available, to the
extent permitted by law, to any authorized employee of the Department;
any fiduciary of a Plan that engaged in an investment transaction
pursuant to this exemption; any contributing employer and any employee
organization whose members are covered by a Plan that engaged in an
investment transaction pursuant to this exemption; or any participant
or beneficiary of a Plan, or IRA owner that engaged in an investment
transaction pursuant to this exemption.
The records should be made reasonably available for examination at
their customary location during normal business hours. Participants,
beneficiaries and IRA owners; Plan fiduciaries; and contributing
employers/employee organizations should be able to request only
information applicable to their own transactions, and not privileged
trade secrets or privileged commercial or financial information of the
Financial Institution, or information identifying other individuals.
Should the Financial Institution refuse to disclose information on the
basis that the information is exempt from disclosure, the Department
expects that the Financial Institution would provide a written notice,
within 30 days, advising the requestor of the reasons for the refusal
and that the Department may request such information.
Regulatory Impact Analysis
Executive Orders 12866 and 13563 Statement
Executive Orders 12866 \73\ and 13563 \74\ direct agencies to
assess all costs and benefits of available regulatory alternatives and,
if regulation is necessary, to select regulatory approaches that
maximize net benefits (including potential economic, environmental,
public health, and safety effects; distributive impacts; and equity).
Executive Order 13563 emphasizes the importance of quantifying costs
and benefits, reducing costs, harmonizing rules, and promoting
flexibility.
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\73\ Regulatory Planning and Review, 58 FR 51735 (Oct. 4, 1993).
\74\ Improving Regulation and Regulatory Review, 76 FR 3821
(Jan. 21, 2011).
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Under Executive Order 12866, ``significant'' regulatory actions are
subject to review by the Office of Management and Budget (OMB). Section
3(f) of the Executive Order defines a ``significant regulatory action''
as any regulatory action that is likely to result in a rule that may:
(1) Have an annual effect on the economy of $100 million or more or
adversely and materially affect a sector of the economy, productivity,
competition, jobs, the environment, public health or safety, or State,
local, or tribal governments or communities (also referred to as
``economically significant'');
(2) Create a serious inconsistency or otherwise interfere with an
action taken or planned by another agency;
(3) Materially alter the budgetary impacts of entitlement grants,
user fees, or loan programs or the rights and obligations of recipients
thereof; or
(4) Raise novel legal or policy issues arising out of legal
mandates, the President's priorities, or the principles set forth in
the Executive Order.
The Department anticipates that this proposed exemption would be
economically significant within the meaning of section 3(f)(1) of
Executive Order 12866. Therefore, the Department provides the following
assessment of the potential benefits and costs associated with this
proposed exemption. In accordance with Executive Order 12866, this
proposed exemption was reviewed by OMB.
If the exemption is granted, it will be transmitted to Congress and
the Comptroller General for review in accordance with the Congressional
Review Act provisions of the Small Business Regulatory Enforcement
Fairness Act of 1996 (5 U.S.C. 801 et seq.).
Need for Regulatory Action
Following the United States Court of Appeals for the Fifth Circuit
decision to vacate the Department's 2016 fiduciary rule and exemptions,
the Department issued the temporary enforcement policy under FAB 2018-
02 and announced its intent to provide additional guidance in the
future. Since then, as discussed earlier in this preamble, the
regulatory landscape has changed as other regulators, including the
SEC, have adopted enhanced conduct standards for financial services
professionals. These changes are accordingly reflected in the baseline
that the Department applies when it evaluates the benefits and costs
associated with this proposed exemption below.
At the same time, the share of total Plan participation
attributable to participant-directed defined contribution (DC) Plans
continued to grow. In 2017, 83 percent of DC Plan participation was
attributable to 401(k) Plans, and 98 percent of 401(k) Plan
participants were responsible directing some or all of their account
investments.\75\ Individual DC Plan participants and IRA investors are
responsible for investing their retirement savings and they are in need
of high quality, impartial advice from financial service professionals
in making these investment decisions.
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\75\ Private Pension Plan Bulletin Historic Tables and Graphs
1975-2017, Employee Benefits Security Administration (Sep. 2018),
https://www.dol.gov/sites/dolgov/files/ebsa/researchers/statistics/retirement-bulletins/private-pension-plan-bulletin-historical-tables-and-graphs.pdf.
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Given this backdrop, the Department believes that it is appropriate
to propose an exemption to formalize the relief provided in the FAB.
The exemption would provide Financial Institutions and Investment
Professionals broader, more flexible prohibited transaction relief than
is currently available, while safeguarding the interests of Retirement
Investors. Offering a permanent exemption based on the FAB would
provide certainty to Financial Institutions and Investment
Professionals that may currently be relying on the temporary
enforcement policy.
Benefits
This proposed exemption would generate several benefits. It would
provide Financial Institutions and Investment Professionals with
flexibility to choose between the new exemption or existing exemptions,
depending on their needs and business models. In this regard, the
proposed exemption would help preserve different business models,
transaction arrangements, and products that meet different needs in the
market place. This can, in turn, help preserve wide availability of
investment advice arrangements and products for Retirement Investors.
Furthermore, the exemption would provide certainty for Financial
Institutions and Investment Professionals that opted to comply with the
enforcement policy announced in the FAB to continue with that
compliance approach, and the exemption would ensure advice that
satisfies the Impartial Conduct Standards is widely available to
Retirement Investors without any interruption.
[[Page 40851]]
As described above, the FAB announced a temporary enforcement
policy that would apply until the issuance of further guidance. Its
designation as ``temporary'' communicated its nature as a transitional
measure following the vacatur of the Department's 2016 rulemaking.
Although the FAB remains in place following this proposal, the
Department does not envision that the FAB represents a permanent
compliance approach. This is due in part to the fact that the FAB
allows Financial Institutions to avoid enforcement action by the
Department but it does not (and cannot) provide relief from private
litigation.
In connection with the more permanent relief it would provide, the
exemption would have more specific conditions than the FAB, which
required only good faith compliance with the Impartial Conduct
Standards. The conditions in the proposal are designed to support the
provision of investment advice that meets the Impartial Conduct
Standards. For example, the required policies and procedures and
retrospective review inform Financial Institutions as to how they
should implement compliance with the standards.
Some Financial Institutions may consider whether to rely on the
Department's existing exemptions rather than adopt the specific
conditions in the new proposed exemption. The existing exemptions
generally rely on disclosures as conditions. However, the existing
exemptions are also very narrowly tailored in terms of the transactions
and types of compensation arrangements that are covered as well as the
parties that may rely on the exemption. For example, the existing
exemptions were never amended to clearly cover the third party
compensation arrangements, such as revenue sharing, that developed over
time. Investment advice fiduciaries relying on some of the existing
exemptions would be limited to the types of compensation that tend to
be more transparent to Retirement Investors, such as commission
payments.
For a number of reasons, Financial Institutions may decide to rely
on the new exemption, if it is finalized, instead of the Department's
existing exemptions. The proposed exemption does not identify specific
transactions or limit the types of payments that are covered, so
Financial Institutions may prefer this flexibility. Additionally,
Financial Institutions may determine that there is a marketing
advantage to acknowledging their fiduciary status with respect to
Retirement Investors, as would be required by the new exemption.
As the proposed exemption would apply to multiple types of
investment advice transactions, it would potentially allow Financial
Institutions to rely on one exemption for investment advice
transactions under a single set of conditions. This approach may allow
Financial Institutions to streamline compliance, as compared to relying
on multiple exemptions with multiple sets of conditions, resulting in a
lower overall compliance burden for some Financial Institutions.
Retirement Investors may benefit, in turn, if those Financial
Institutions pass their savings on to them.
This proposed exemption's alignment with other regulatory conduct
standards could result in a reduction in overall regulatory burden as
well. As discussed earlier in this preamble, the proposed exemption was
developed in consideration of other regulatory conduct standards. The
Department envisions that Financial Institutions and Investment
Professionals that have already developed, or are in the process of
developing, compliance structures for other regulators' standards will
be able to experience regulatory efficiencies through reliance on the
new exemption.
As discussed above, the Department believes that the proposed
exemption would provide significant protections for Retirement
Investors. The proposed exemption would not expand Retirement
Investors' ability, such as through required contracts and warranty
provisions, to enforce their rights in court or create any new legal
claims above and beyond those expressly authorized in ERISA. Rather,
the proposed exemption relies in large measure on Financial
Institutions' reasonable oversight of Investment Professionals and
their adoption of a culture of compliance. Accordingly, in addition to
the Impartial Conduct Standards, the exemption includes conditions
designed to support investment advice that meets those standards, such
as the provisions requiring written policies and procedures,
documentation of rollover recommendations, and retrospective review.
Finally, the proposal provides that Financial Institutions and
Investment Professionals with certain criminal convictions or that
engage in egregious conduct with respect to compliance with the
exemption would become ineligible to rely on the exemption. These
factors would indicate that the Financial Institution or Investment
Professional does not have the ability to maintain the high standard of
integrity, care, and undivided loyalty demanded by a fiduciary's
position of trust and confidence. This targeted approach of allowing
the Department to give special attention to parties with certain
criminal convictions or with a history of egregious conduct with
respect to compliance with the exemption should provide significant
protections for Retirement Investors while preserving wide availability
of investment advice arrangements and products.
Although the Department expects this proposed exemption to generate
significant benefits, it has not quantified the benefits due to a lack
of available data. However, the Department expects the benefits to
outweigh the compliance costs associated with this proposal because it
creates an additional pathway for compliance with ERISA's prohibited
transaction provisions. This new pathway is broader than existing
exemptions, and thus applies to a wider range of transaction
arrangements and products than the relief that is already available.
The Department anticipates that entities will generally take advantage
of the exemptive relief available in this proposal only if it is less
costly than other alternatives already available, including avoiding
prohibited transactions or complying with a different exemption. The
Department requests comments about the specific benefits that may flow
from the exemption and invites commenters to submit quantifiable data
that would support or disprove the Department's expectations.
Costs
To estimate compliance costs associated with the proposed
exemption, the Department takes into account the changed regulatory
baseline. For example, the Department assumes affected entities will
likely incur incremental costs if they are already subject to another
regulator's similar rules or requirements. Because this proposed
exemption is intended to align significantly with other regulators'
rules and standards of conduct, the Department expects the compliance
costs associated with this proposal to be modest. The Department
estimates that the proposed exemption would impose costs of more than
$44 million in the first year and $42 million in each subsequent
year.\76\ Over 10 years, the
[[Page 40852]]
costs associated with the proposal would be approximately $294 million,
annualized to $42 million per year (using a 7 percent discount
rate).\77\ Using a perpetual time horizon (to allow the comparisons
required under E.O. 13771), the annualized costs in 2016 dollars are
$30 million at a 7 percent discount rate. These costs are broken down
and explained below. More details are provided in the Paperwork
Reduction Act section as well. The Department requests comments on this
overall estimate and is especially interested in how different entities
will incur costs associated with this proposed exemption as well as any
quantifiable data that would support or contradict any aspect of its
analysis below.
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\76\ These estimates rely on the Employee Benefits Security
Administration's 2018 labor rate estimates. See Labor Cost Inputs
Used in the Employee Benefits Security Administration, Office of
Policy and Research's Regulatory Impact Analyses and Paperwork
Reduction Act Burden Calculation, Employee Benefits Security
Administration (June 2019), https://www.dol.gov/sites/dolgov/files/EBSA/laws-and-regulations/rules-and-regulations/technical-appendices/labor-cost-inputs-used-in-ebsa-opr-ria-and-pra-burden-calculations-june-2019.pdf.
\77\ The costs would be $357 million over 10-year period,
annualized to $42 million per year, if a 3 percent discount rate is
applied.
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Affected Entities
As a first step, the Department examines the entities likely to be
affected by the proposed exemption. The proposal would potentially
impact SEC- and state-registered investment advisers (IAs), broker-
dealers (BDs), banks, and insurance companies, as well as their
employees, agents, and representatives. The Department acknowledges
that not all these entities will serve as investment advice fiduciaries
to Plans and IRAs within the meaning of ERISA and the Code.
Additionally, because other exemptions are also currently available to
these entities, it is unclear how widely Financial Institutions will
rely upon the exemption and which firms are most likely to choose to
rely on it. To err on the side of overestimation, the Department
includes all entities eligible for this proposed relief in its cost
estimation. The Department solicits comments about which, and how many,
entities would likely utilize this proposed exemption.
Broker-Dealers (BDs)
As of December 2018, there were 3,764 registered BDs. Of those,
2,766, or approximately 73.5 percent, reported retail customer
activities,\78\ while 998 were estimated to have no retail customers.
The Department does not have information about how many BDs advise
Retirement Investors, which, as defined in the proposed exemption
include Plan fiduciaries, Plan participants and beneficiaries, and IRA
owners. However, according to one compliance survey, about 52 percent
of IAs provide advice directly to retirement plans.\79\ Assuming the
same percentage of BDs service retirement plans, nearly 2,000 BDs would
be affected by the proposed exemption.\80\ The proposal may also impact
BDs that advise Retirement Investors that are Plan participants or
beneficiaries, or IRA owners, but the Department does not have a basis
to estimate the number of these BDs. The Department assumes that such
BDs would be considered as providing recommendations to retail
customers under the SEC's Regulation Best Interest.
---------------------------------------------------------------------------
\78\ Regulation Best Interest Release, 84 FR at 33407.
\79\ 2019 Investment Management Compliance Testing Survey,
Investment Adviser Association (Jun. 18, 2019), https://higherlogicdownload.s3.amazonaws.com/INVESTMENTADVISER/aa03843e-7981-46b2-aa49-c572f2ddb7e8/UploadedImages/about/190618_IMCTS_slides_after_webcast_edits.pdf.
\80\ If this assumption is relaxed to include all BDs, the costs
would increase by $1 million for the first year and by $0.02 million
for subsequent years.
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To continue servicing retirement plans with respect to transactions
that otherwise would be prohibited under ERISA and the Code, this group
of BDs would be able to rely on the proposed exemption.\81\ Because BDs
with retail businesses are subject to the SEC's Regulation Best
Interest, they already comply with, or are preparing to comply with,
standards functionally identical to those set forth in the proposed
exemption.
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\81\ The Department's estimate of compliance costs does not
include any state-registered BDs because the exception from SEC
registration for BDs is very narrow. See Guide to Broker-Dealer
Registration, Securities and Exchange Commission (Apr. 2008),
www.sec.gov/reportspubs/investor-publications/divisionsmarketregbdguidehtm.html.
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SEC-Registered Investment Advisers (IAs)
As of December 2018, there were approximately 13,299 SEC-registered
IAs \82\ and 17,268 state-registered IAs.\83\ An IA must register with
the appropriate regulatory authorities, with the SEC or with state
securities authorities. IAs registered with the SEC are generally
larger than state-registered IAs, both in staff and in regulatory
assets under management (RAUM).\84\ SEC-registered IAs that advise
retirement plans and other Retirement Investors would be directly
affected by the proposed exemption.
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\82\ Form CRS Relationship Summary Release at 33564.
\83\ Id. at 33565. (Of these 17,268 state-registered IAs, 125
are also registered with SEC and 204 are also dual registered BDs.)
\84\ After the Dodd-Frank Wall Street Reform and Consumer
Protection Act, an IA with $100 million or more in regulatory assets
under management generally registers with the SEC, while an IA with
less than $100 million registers with the state in which it has its
principle office, subject to certain exceptions. For more details
about the registration of IAs, see General Information on the
Regulation of Investment Advisers, Securities and Exchange
Commission (Mar. 11, 2011), www.sec.gov/divisions/investment/iaregulation/memoia.htm; see also A Brief Overview: The Investment
Adviser Industry, North American Securities Administrators
Association (2019), www.nasaa.org/industry-resources/investment-advisers/investment-adviser-guide/.
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Some IAs are dual-registered as BDs. To avoid double counting when
estimating compliance costs, the Department counted dual-registered
entities as BDs and excluded them from the burden estimates of IAs.\85\
The Department estimates there to be 12,940 SEC-registered IAs, a
figure produced by subtracting the 359 dually-registered IAs from the
13,299 SEC-registered IAs.
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\85\ The Department applied this exclusion rule across all types
of IAs, regardless of registration (SEC registered versus state
only) and retail status (retail versus nonretail).
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Similar to BDs, the Department assumes that about 52 percent of
SEC-registered IAs provide recommendations or services to retirement
plans.\86\ Applying this assumption, the Department estimates that
approximately 6,729 SEC-registered IAs currently service retirement
plans. An inestimable number of IAs may provide advice only to
Retirement Investors that are Plan participants or beneficiaries or IRA
owners, rather than retirement plans. These IAs are fiduciaries, and
they already operate under conditions functionally identical to those
required by the proposed exemption.\87\ Accordingly, the proposed
exemption would pose no more than a nominal burden for these entities.
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\86\ 2019 Investment Management Compliance Testing Survey, supra
note 79.
\87\ SEC Standards of Conduct Rulemaking: What It Means for
RIAs, Investment Adviser Association (July 2019), https://higherlogicdownload.s3.amazonaws.com/INVESTMENTADVISER/aa03843e-7981-46b2-aa49-c572f2ddb7e8/UploadedImages/resources/IAA-Staff-Analysis-Standards-of-Conduct-Rulemaking2.pdf.
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State-Registered Investment Advisers
As of December 2018, there were 16,939 state-registered IAs.\88\ Of
these state-registered IAs, 13,793 provide advice to retail investors,
while 3,146 do not.\89\ State-registered IAs tend to be smaller than
SEC-registered IAs, both in RAUM and staff. For example, according to
one survey of both SEC- and state-registered IAs, about 47 percent of
respondent IAs reported 11 to
[[Page 40853]]
50 employees.\90\ In contrast, an examination of state-registered IAs
reveals about 80 percent reported only 0 to 2 employees.\91\ According
to one report, 64 percent of state-registered IAs manage assets under
$30 million.\92\ According to a study by the North American Securities
Administrators Association, about 16 percent of state-registered IAs
provide advice or services to retirement plans.\93\ Based on this
study, the Department assumes that 16 percent of state-registered IAs
advise retirement plans. Thus, the Department estimates that
approximately 2,710 state-registered, nonretail IAs provide advice to
retirement plans and other Retirement Investors.
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\88\ This excludes state-registered IAs that are also registered
with the SEC or dual registered BDs.
\89\ Form CRS Relationship Summary Release.
\90\ 2019 Investment Management Compliance Testing Survey, supra
note 79.
\91\ 2019 Investment Adviser Section Annual Report, North
American Securities Administrators Association (May 2019),
www.nasaa.org/wp-content/uploads/2019/06/2019-IA-Section-Report.pdf.
\92\ 2018 Investment Adviser Section Annual Report, North
American Securities Administrators Association (May 2018),
www.nasaa.org/wp-content/uploads/2018/05/2018-NASAA-IA-Report-Online.pdf.
\93\ 2019 Investment Adviser Section Annual Report, supra note
91.
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Insurers
The proposed exemption would affect insurers. Insurers are
primarily regulated by states, and no single regulator records a
national-level count of insurers. Although state regulators track
insurers, the sum of all insurers cannot be calculated by aggregating
individual state totals because individual insurers often operate in
multiple states. However, the NAIC estimates there were approximately
386 insurers directly writing annuities in 2018. Some of these insurers
may not sell any annuity contracts in the IRA or retirement plan
markets. Furthermore, insurers can rely on other existing exemptions
instead of the proposed exemption. Due to lack of data, the Department
includes all 386 insurers in its cost estimation, although this likely
overestimates costs. The Department invites any comments about how many
insurers would utilize this proposed exemption.
Banks
There are 5,362 federally insured depository institutions in the
United States.\94\ The Department understands that banks most commonly
use ``networking arrangements'' to sell retail non-deposit investment
products (RNDIPs), including, among other products, equities, fixed-
income securities, exchange-traded funds, and variable annuities.\95\
Under such arrangements, bank employees are limited to performing only
clerical or ministerial functions in connection with brokerage
transactions. However, bank employees may forward customer funds or
securities and may describe, in general terms, the types of investment
vehicles available from the bank and BD under the arrangement. Similar
restrictions exist with respect to bank employees' referrals of
insurance products and IAs. Because of the limitations, the Department
believes that in most cases such referrals will not constitute
fiduciary investment advice within the meaning of the proposed
exemption. Due to the prevalence of banks using networking arrangements
for transactions related to RNDIPs, the Department believes that most
banks will not be affected with respect to such transactions.
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\94\ The FDIC reports there are 4,681 Commercial banks and 681
Savings Institutions (thrifts) for 5,362 FDIC- Insured Institutions
as of March 31, 2019. For more details, see Statistics at a Glance,
Federal Deposit Insurance Corporation (Mar. 31, 2019), www.fdic.gov/bank/statistical/stats/2019mar/industry.pdf.
\95\ For more details about ``networking arrangements,'' see
Conflict of Interest Final Rule, Regulatory Impact Analysis for
Final Rule and Exemptions, U.S. Department of Labor (Apr. 2016),
www.dol.gov/sites/dolgov/files/EBSA/laws-and-regulations/rules-and-regulations/completed-rulemaking/1210-AB32-2/ria.pdf.
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The Department does not have sufficient data to estimate the costs
to banks of any other investment advice services because it does not
know how frequently banks use their own employees to perform activities
that would be otherwise prohibited. The Department invites comments on
the magnitude of such costs and welcomes submission of data that would
facilitate their quantification.
Costs Associated With Disclosures
The Department estimates the compliance costs associated with the
disclosure requirement would be approximately $1 million in the first
year and $0.3 million per year in each subsequent year.\96\
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\96\ Except where specifically noted, all cost estimates are
expressed in 2019 dollars throughout this document.
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Section II(b) of the proposed exemption would require Financial
Institutions to acknowledge, in writing, their status as fiduciaries
under ERISA and the Code. In addition, the institutions must furnish a
written description of the services they provide and any material
conflicts of interest. For many entities, including IAs, this condition
would impose only modest additional costs, if any at all. Most IAs
already disclose their status as a fiduciary and describe the types of
services they offer in Form ADV. BDs with retail investors are also
required, as of June 30, 2020, to provide disclosures about services
provided and conflicts of interest on Form CRS and pursuant to the
disclosure obligation in Regulation Best Interest. Even among entities
that currently do not provide such disclosures, such as insurers and
some BDs, the Department believes that developing disclosures required
in this proposed exemption would not substantially increase costs
because the required disclosures are clearly specified and limited in
scope.
Not all entities will decide to use the proposed exemption. Some
may instead rely on other existing exemptions that better align with
their business models. However, for the cost estimation, the Department
assumes that all eligible entities would use the proposed exemption and
incur, on average, modest costs.
The Department estimates that developing disclosures that
acknowledge fiduciary status and describe the services offered and any
material conflicts of interest would incur costs of approximately $0.7
million in the first year.\97\
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\97\ A written acknowledgment of fiduciary status would cost
approximately $0.2 million, while a written description of the
services offered and any material conflicts of interest would cost
another $0.5 million. The Department assumes that 11,782 Financial
Institutions, comprising 1,957 BDs, 6,729 SEC-registered IAs, 2,710
state-registered IAs, and 386 insurers, are likely to engage in
transactions covered under this PTE. For a detailed description of
how the number of entities is estimated, see the Paperwork Reduction
Act section, below. The $0.2 million costs associated with a written
acknowledgment of fiduciary status are calculated as follows. The
Department assumes that it will take each retail BD firm 15 minutes,
each nonretail BD or insurance firm 30 minutes, and each registered
IA 5 minutes to prepare a disclosure conveying fiduciary status at
an hourly labor rate of $138.41, resulting in cost burden of
$221,276. Accordingly, the estimated per-entity cost ranges from
$11.53 for IAs to $69.21 for non-retail BDs and insurers. The $0.5
million costs associated with a written description of the services
offered and any material conflicts of interest are calculated as
follows. The Department assumes that it will take each retail BD or
IA firm 5 minutes, each small nonretail BD or small insurer 60
minutes, and each large nonretail BDs or larger insurer 5 hours to
prepare a disclosure conveying services provided and any conflicts
of interest at an hourly labor rate of $138.41, resulting in cost
burden of $510,877. Accordingly, the estimated per-entity cost
ranges from $11.53 for retail broker-dealers and IAs to $692.07 for
large non-retail BDs and insurers.
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The Department estimates that it would cost Financial Institutions
about $0.3 million to print and mail required disclosures to Retirement
Investors,\98\
[[Page 40854]]
but it assumes most required disclosures would be electronically
delivered to plan fiduciaries. The Department assumes that
approximately 92 percent of participants who roll over their plan
assets to IRAs would receive required disclosures electronically.\99\
According to one study, approximately 3.6 million accounts in
retirement plans were rolled over to IRAs in 2018.\100\ Of those, about
half, 1.8 million, were rolled over by financial services
professionals.\101\ Therefore, prior to transactions necessitated by
rollovers, participants are likely to receive required disclosures from
their Investment Professionals. In some cases, Financial Institutions
and Investment Professionals may send required disclosures to
participants, particularly those with participant-directed defined
contribution accounts, before providing investment advice. The
Department welcomes comments that speak to the costs associated with
required disclosures.
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\98\ The Department estimates that approximately 1.8 million
Retirement Investors are likely to engage in transactions covered
under this PTE, of which 8.1 percent are estimated to receive paper
disclosures. Distributing paper disclosures is estimated to take a
clerical professional 1 minute per disclosure, at an hourly labor
rate of $64.11, resulting in a cost burden of $156,094. Assuming the
disclosures will require two sheets of paper at a cost $0.05 each,
the estimated material cost for the paper disclosures is $14,608.
Postage for each paper disclosure is expected to cost $0.55,
resulting in a printing and mailing cost of $94,954.
\99\ The Department estimates approximately 56.4 percent of
participants receive disclosures electronically based on data from
various data sources including the National Telecommunications and
Information Agency (NTIA). In light of the 2019 Electronic
Disclosure Regulation, the Department estimates that additional 35.5
percent of participants receive them electronically. In total, 91.9
percent of participants are expected to receive disclosures
electronically.
\100\ U.S. Retirement-End Investor 2019: Driving Participant
Outcomes with Financial Wellness Programs, The Cerulli Report
(2019).
\101\ Id.
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Costs Associated With Written Policies and Procedures
The Department estimates that developing policies and procedures
prudently designed to ensure compliance with the Impartial Conduct
Standards would cost approximately $1.7 million in the first year.\102\
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\102\ The Department assumes that 11,782 Financial Institutions,
comprising 1,957 BDs, 6,729 SEC-registered IAs, 2,710 state-
registered IAs, and 386 insurers, are likely to engage in
transactions covered under this PTE. For a detailed description of
how the number of entities is estimated, see the Paperwork Reduction
Act section, below. The Department assumes that it will take a legal
professional, at an hourly labor rage of $138.41, 22.5 minutes at
each small retail BD, 45 minutes at each large retail BD, 5 hours at
each small nonretail BD, 10 hours at each large nonretail BD, 15
minutes at each small IA, 30 minutes at each large IA, 5 hours at
each small insurer, and 10 hours at each large insurer to meet the
requirement. This results in a cost burden estimate of $1,664,127.
Accordingly, the estimated per-entity cost ranges from $34.60 for
small IAs to $1,384.14 for large non-retail BDs and insurers. These
compliance cost estimates are not discounted.
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The estimated compliance costs reflect the different regulatory
baselines under which different entities are currently operating. For
example, IAs already operate under a standard functionally identical to
that required under the proposed exemption,\103\ and report how they
address conflicts of interests in Form ADV.\104\ Similarly, BDs subject
to the SEC's Regulation Best Interest also operate, or are preparing to
operate, under a standard that is functionally identical to the
proposed exemption. To comply fully with the proposed exemption,
however, these entities may need to review their policies and
procedures and amend their existing policies and procedures. These
additional steps would impose additional, but not substantial, costs at
the Financial Institution level.
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\103\ See SEC Fiduciary Standard of Conduct Interpretation
(Release No. IA-5248); see also A Brief Overview: The Investment
Adviser Industry, North American Securities Administrators
Association (2019), www.nasaa.org/industry-resources/investment-advisers/investment-adviser-guide/. (According to the NASAA, the
anti-fraud provisions of the Investment Advisers Act of 1940, the
NASAA Model Rule 102(a)(4)-1, and most state laws require IAs to act
as fiduciaries. NASAA further states, ``Fiduciary duty requires the
adviser to hold the client's interest above its own in all matters.
Conflicts of interest should be avoided at all costs. However, there
are some conflicts that will inevitably occur . . . In these
instances, the adviser must take great pains to clearly and
accurately describe those conflicts and how the adviser will
maintain impartiality in its recommendations to clients.''
\104\ See Form ADV [17 CFR 279.1] (Part 2A of Form ADV requires
IAs to prepare narrative brochures that contain information such as
the types of advisory services offered, fee schedule, disciplinary
information and conflicts of interest. For example, item 10.C of
part 2A asks IAs to identify if certain relationships or
arrangements create a material conflict of interest, and to describe
the nature of the conflict and how to address it. If an IA
recommends other IAs for its clients and the IA receives
compensation directly or indirectly from those advisers that creates
a material conflict of interest or the IA has other business
relationships with those advisers that create a material conflict of
interest, Item 10.D of Part 2A requires the IA to discuss the
material conflicts of interest that these practices create and how
to address them.)
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The insurers and non-retail BDs currently operating under a
suitability standard in most states and largely relying on transaction-
based forms of compensation, such as commissions, would be required to
establish written policies and procedures that comply with the
Impartial Conduct Standards, if they choose to use this proposed
exemption. These activities would likely involve higher cost increases
than those experienced by IAs and retail BDs. To a large extent,
however, the entities facing potentially higher costs would likely
elect to rely on other existing exemptions. In this regard, the burden
estimates on these entities are likely overestimated to the extent that
many of these entities would not use this proposed exemption.
Because smaller entities generally have less complex business
practices and arrangements than their larger counterparts, it would
likely cost less for them to comply with the proposed exemption. This
is reflected in the compliance cost estimates presented in this
economic analysis.
Costs Associated With Annual Report of Retrospective Review
Section II(d) would require Financial Institutions to conduct an
annual retrospective review reasonably designed to assist the Financial
Institution in detecting and preventing violations of, and achieving
compliance with the Impartial Conduct Standards and their own policies
and procedures, and to produce a written report that is certified by
the institution's chief executive officer. The Department estimates
that this requirement will impose $1.7 million in costs each year.\105\
FINRA requires BDs to establish and maintain a supervisory system
reasonably designed to facilitate compliance with applicable securities
laws and regulations,\106\ to test the supervisory system, and to amend
the system based on the testing.\107\ Furthermore, the BD's chief
executive officer (or equivalent officer) must annually certify that it
has processes in place to establish, maintain, test, and modify written
compliance policies and written supervisory procedures reasonably
designed to achieve compliance with FINRA rules.\108\
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\105\ The Department assumes that 794 Financial Institutions,
comprising 20 BDs, 538 SEC-registered IAs, 217 state-registered IAs,
and 20 insurers, would be likely to incur costs associated with
producing a retrospective review report. The Department estimates it
will take a legal professional, at an hourly labor rate of $138.41,
5 hours for small firms and 10 hours for large firms to produce a
retrospective review report, resulting in an estimated cost burden
of $973,297. The estimate per-entity cost ranges from $692.07 for
small entities to $1,384.14 for large entities. Additionally, the
Department assumes that 9,845 Financial Institutions, comprising 20
BDs, 6,729 SEC-registered IAs, 2,710 state-registered IAs, and 386
insurers, would be likely to incur costs associated with reviewing
and certifying the report. The Department estimates it will take a
legal professional 15 minutes for small firms and 30 minutes for
large firms to review the report and certify the exemption,
resulting in an estimated cost burden of $718,806. The estimated
per-entity cost ranges from $41.41 for small entities to $82.82 for
large entities. For a detailed description of how the number of
entities for each cost burden is estimated, see the Paperwork
Reduction Act section.
\106\ Rule 3110. Supervision, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3110.
\107\ Rule 3120. Supervisory Control System, FINRA Manual,
www.finra.org/rules-guidance/rulebooks/finra-rules/3120.
\108\ Rule 3130. Annual Certification of Compliance and
Supervisory Processes, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3130.
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[[Page 40855]]
Many insurers are already subject to similar standards.\109\ For
instance, the NAIC's Model Regulation contemplates that insurers
establish a supervision system that is reasonably designed to comply
with the Model Regulation and annually provide senior management with a
written report that details findings and recommendations on the
effectiveness of the supervision system.\110\ States that have adopted
the Model Regulation also require insurers to conduct annual audits and
obtain certifications from senior managers. Based on these regulatory
baselines, the Department believes the compliance costs attributable to
this requirement would be modest.
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\109\ The previous NAIC Suitability in Annuity Transactions
Model Regulation (2010) had been adopted by many states before the
newer NAIC Model Regulation was approved in 2020. Both previous and
updated Model Regulations contain similar standards as written
report of retrospective review conditions of the proposed exemption.
\110\ NAIC Suitability in Annuity Transactions Model Regulation,
Spring 2020, Section 6.C.(2)(i), available at https://www.naic.org/store/free/MDL-275.pdf. (The same requirement is found in the
previous NAIC Suitability in Annuity Transactions Model Regulation
(2010), section 6.F.(1)(f).)
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SEC-registered IAs are already subject to Rule 206(4)-7, which
requires them to adopt and implement written policies and procedures
reasonably designed to ensure compliance with the Advisers Act and
rules adopted thereunder and review them annually for adequacy and the
effectiveness of their implementation. Under the same rule, SEC-
registered IAs must designate a chief compliance officer to administer
the policies and procedures. However, they are not required to conduct
an internal audit nor produce a report detailing findings from its
audit. Nonetheless, many seem to voluntarily produce reports after
conducting internal audits. One compliance testing survey reveals that
about 92 percent of SEC-registered IAs voluntarily provide an annual
compliance program review report to senior management.\111\ Relying on
this information, the Department estimates that only 8 percent of SEC-
registered IAs advising retirement plans would incur costs associated
with producing a retrospective review report. The rest would incur
minimal costs to satisfy the conditions related to this requirement.
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\111\ 2018 Investment Management Compliance Testing Survey,
Investment Adviser Association (Jun. 14, 2018), https://higherlogicdownload.s3.amazonaws.com/INVESTMENTADVISER/aa03843e-7981-46b2-aa49-c572f2ddb7e8/UploadedImages/publications/2018-Investment-Management_Compliance-Testing-Survey-Results-Webcast_pptx.pdf.
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Due to lack of data, the Department based the cost estimates
associated with state-registered IAs on the assumption that 8 percent
of state-registered IAs advising retirement plans currently do not
produce compliance review reports, and thus would incur costs
associated with the oversight conditions in the proposed exemption. As
discussed above, compared with SEC-registered IAs, state-registered IAs
tend to be smaller in terms of RAUM and staffing, and thus may not have
formal procedures in place to conduct retrospective reviews to ensure
regulatory compliance. If that were often the case, the Department's
assumption would likely underestimate costs. However, because state-
registered IAs tend to be smaller than their SEC-registered
counterparts, they tend to handle fewer transactions, limit the range
of transactions they handle, and have fewer employees to supervise.
Therefore, the costs associated with establishing procedures to conduct
internal retrospective reviews and produce compliance reports would
likely be low. In sum, the Department estimates that the costs
associated with the retrospective review requirement of the proposed
exemption would be approximately $1.7 million each year.
Costs Associated With Rollover Documentation
In 2018, slightly more than 3.6 million retirement plan accounts
rolled over to an IRA, while slightly less than 0.5 million accounts
were rolled over to other retirement plans.\112\ Not all rollovers were
managed by financial services professionals. As discussed above, about
half of all rollovers from plans to IRAs were handled by financial
services professionals, while the rest were self-directed.\113\ Based
on this information, the Department estimates approximately 1.8 million
participants obtained advice from financial services
professionals.\114\ Some of these rollovers likely involved financial
services professionals who were not fiduciaries under the five-part
test, thus the actual number of rollovers affected by this proposed
exemption is likely lower than 1.8 million. The proposed exemption
would require the Financial Institution to document why a recommended
rollover is in the best interest of the Retirement Investor. As a best
practice, the SEC already encourages firms to record the basis for
significant investment decisions such as rollovers, although doing so
is not required under Regulation Best Interest.\115\ In addition, some
firms may voluntarily document significant investment decisions to
demonstrate compliance with applicable law, even if not required.\116\
Therefore, the Department expects that many Financial Institutions
already document significant decisions like rollovers.
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\112\ U.S. Retirement-End Investor 2019, supra note 100. (To
estimate costs associated with documenting rollovers, the Department
did not include rollovers from plans to plans because plan-to-plan
rollovers are unlikely to be mediated by Investment Professionals.
Also plan-to-plan rollovers occur far less frequently than plan-to-
IRA rollovers. Thus, even if plan-to-plan rollovers were included in
the cost estimation, the impact would likely be small.)
\113\ Id.
\114\ Another report suggested a higher share, 70 percent of
households owning IRAs held their IRAs through Investment
Professionals. Note that this is household level data based on an
IRA owners' survey, which was not particularly focused on rollovers.
(See Sarah Holden & Daniel Schrass, ``The Role of IRAs in US
Households' Saving for Retirement, 2018,'' ICI Research Perspective,
vol. 24, no. 10 (Dec. 2018).)
\115\ Regulation Best Interest Release, 84 FR at 33360.
\116\ According to a comment letter about the proposed
Regulation Best Interest, BDs have a strong financial incentive to
retain records necessary to document that they have acted in the
best interest of clients, even if it is not required. Another
comment letter about the proposed Regulation Best Interest suggests
that BDs generally maintain documentation for suitability purposes.
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In estimating costs associated with rollover documentations, the
Department faces uncertainty with regards to the number of rollovers
that would be affected by the proposed exemption. Given this
uncertainty, below the Department discusses a range of cost estimates.
For the lower-end cost estimate, the Department estimates that the
costs for documenting the basis for investment decisions would come to
$15 million per year.\117\ This low-end estimate is based on the
assumption that most financial services professionals already
incorporate documenting rollover justifications in their regular
business practices and another assumption that not all rollovers are
handled by financial services professionals who act in a fiduciary
[[Page 40856]]
capacity.\118\ For the upper-end cost estimate, the Department assumes
that all rollovers involving financial services professionals would be
affected by the proposed exemption. Then the estimated costs would come
to $59 million per year.\119\ For the primary cost estimate, the
Department assumes that 67.4 percent of rollovers involving financial
services professionals would be affected by the proposed
exemption.\120\ Under this assumption, the estimated costs would be $40
million per year.\121\ The Department acknowledges that uncertainty
still remains as some financial services professionals who do not
generally serve as fiduciaries of their Plan clients may act in a
fiduciary capacity in certain rollover recommendations, and thus would
be affected by the proposed exemption. Alternatively, the opposite can
be true: Financial services professionals who usually serve as
fiduciaries of their Plan clients may act in a non-fiduciary capacity
in certain rollover recommendations, and thus would not be affected by
the proposed exemption. The Department welcomes any comments and data
that can help more precisely estimating the number of rollovers
affected by the exemption. In addition, the Department invites comments
about financial services professionals' practices about documenting
rollover recommendations, particularly whether financial services
professionals often utilize a form with a list of common reasons for
rollovers and how long on average it would take for a financial
services professional to document a rollover recommendation.\122\
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\117\ For those rollovers affected by this proposed exemption it
would take, on average, 10 minutes per rollover to document
justifications. Thus, the Department estimates almost 75,500 burden
hours in aggregate and slightly less than $15 million assuming
$194.77 hourly rate for personal financial advisor. The Department
assumes that financial services professionals would spend on average
10 minutes to document the basis for rollover recommendations. The
Department understands that financial services professionals seek
and gather information regarding to investor profiles in accordance
with other regulators' rules. Further, financial professionals often
discuss the basis for their recommendations and associated risks
with their clients as a best practice. After collecting relevant
information and discussing the basis for certain recommendations
with clients, the Department believes that it would take relatively
short time to document justifications for rollover recommendations.
\118\ To estimate costs, the Department further assumes that
approximately 50 percent of 1.8 million rollovers involve financial
professionals who already document rollover recommendations as a
best practice. Additionally, the Department assumes half of the
remaining half of rollovers, thus an additional quarter of the total
1.8 million rollovers, are handled by financial professionals who
act in a non-fiduciary capacity. Thus the Department assumes that
approximately three-quarters of 1.8 million rollovers would not be
affected by the proposed exemption, while one-quarter of 1.8 million
rollovers would be affected.
\119\ Assuming that it would take, on average, 10 minutes per
rollover to document justifications, the Department estimates about
301,850 burden hours in aggregate and slightly less than $59 million
assuming $194.77 hourly rate for personal financial advisor.
\120\ In 2019, a survey was conducted to financial services
professionals who hold more than 50 percent of their practice's
assets under management in employer-sponsored retirement plans.
These financial services professionals include both BDs and IAs. In
addition, 45 percent of those professionals indicated that they make
a proactive effort to pursue IRA rollovers from their DC plan
clients. According to this survey, approximately 32.6 percent
responded that they function in a non-fiduciary capacity. Therefore,
the Department assumes that approximately 67.4 percent of financial
service professionals serve their Plan clients as fiduciaries. See
U.S. Defined Contribution 2019: Opportunities for Differentiation in
a Competitive Landscape, The Cerulli Report (2019).
\121\ Assuming that it would take, on average, 10 minutes per
rollover to document justifications, the Department estimates over
203,000 burden hours in aggregate and slightly less than $40 million
assuming $194.77 hourly rate for personal financial advisor.
\122\ The Department assumes that financial services
professionals would spend on average 10 minutes to document the
basis for rollover recommendations. The Department understands that
financial services professionals seek and gather information
regarding to investor profiles in accordance with other regulators'
rules. Further, financial professionals often discuss the basis for
their recommendations and associated risks with their clients as a
best practice. After collecting relevant information and discussing
the basis for certain recommendations with clients, the Department
believes that it would take relatively short time to document
justifications for rollover recommendations. However, the Department
welcomes comments about the burden hours associated with documenting
rollover recommendations.
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Costs Associated With Recordkeeping
Section IV of the proposed exemption would require Financial
Institutions to maintain records demonstrating compliance with the
exemption for 6 years. The Financial Institutions would also be
required to make records available to regulators, Plans, and
participants. Recordkeeping requirements in Section IV are generally
consistent with requirements made by the SEC and FINRA.\123\ In
addition, the recordkeeping requirements correspond to the 6-year
period in section 413 of ERISA. The Department understands that many
firms already maintain records, as required in Section IV, as part of
their regular business practices. Therefore, the Department expects
that the recordkeeping requirement in Section IV would impose a
negligible burden.\124\ The Department welcomes comments regarding the
burden associated with the recordkeeping requirement.
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\123\ The SEC's Regulation Best Interest amended Rule 17a-
4(e)(5) to require that BDs retain all records of the information
collected from or provided to each retail customer pursuant to
Regulation Best Interest for at least 6 years after the earlier of
the date the account was closed or the date on which the information
was last replaced or updated. FINRA Rule 4511 also requires its
members preserve for a period of at least 6 years those FINRA books
and records for which there is no specified period under the FINRA
rules or applicable Exchange Act rules.
\124\ The Department notes that insurers that are expected to
use the proposed exemption are generally not subject to the SEC's
Regulation Best Interest and FINRA rules. The Department
understands, however, that some states' insurance regulations
require insurers to retain similar records for less than six years.
For example, some states require insurers to maintain records for
five years after the insurance transaction is completed. Thus, the
recordkeeping requirement of the proposed exemption would likely
impose additional burden on the 386 insurers that the Department
estimates would rely on this proposed exemption. However, the
Department expects most insurers to maintain records electronically.
Electronic storage prices have decreased substantially as cloud
services become more widely available. For example, cloud storage
space costs on average $0.018 to $0.021 per GB per month. Some
estimate that approximately 250,000 PDF files or other typical
office documents can be stored on 100GB. Accordingly, the Department
believes that maintaining records in electronic storage for an
additional year or two would not impose a significant cost burden on
the affected 386 insurers. (For more detailed pricing information of
three large cloud service providers, see https://cloud.google.com/products/calculator; or https://azure.microsoft.com/en-us/pricing/calculator/; or https://calculator.s3.amazonaws.com/index.html.) The
Department welcomes comments on this assessment and the effect of
the recordkeeping requirement on insurers.
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Regulatory Alternatives
The Department considered various alternative approaches in
developing this proposed exemption. Those alternatives are discussed
below.
No New Exemption
The Department considered merely leaving in place the existing
exemptions that provide prohibited transaction relief for investment
advice transactions. However, the existing exemptions generally apply
to more limited categories of transactions and investment products, and
they include conditions that are tailored to the particular
transactions or products covered under each exemption. Therefore, under
the existing exemptions, Financial Institutions may find it inefficient
to implement advice programs for all of the different products and
services they offer. By providing a single set of conditions for all
investment advice transactions, this proposal aims to promote the use
and availability of investment advice for all types of transactions in
a manner that aligns with the conduct standards of other regulators,
such as the SEC.
Including an Independent Audit Requirement in the Proposed Exemption
The proposal would require Financial Institutions to conduct a
retrospective review, at least annually, designed to detect and prevent
violations of the Impartial Conduct Standards, and to ensure compliance
with the policies and procedures governing the exemption. The exemption
does not require that the review be conducted by an independent party,
allowing Financial Institutions to self-review.
As an alternative to this approach, the Department considered
requiring independent audits to ensure compliance under the exemption.
The Department decided against this
[[Page 40857]]
approach to avoid the significant cost burden that this requirement
would impose. The proposal instead requires that Financial Institutions
provide a written report documenting the retrospective review, and
supporting information, to the Department and other regulators within
10 business days of a request. The Department believes this proposed
requirement compels Financial Institutions to take the review
obligation seriously, regardless of whether they choose to hire an
independent auditor to conduct the review.
Paperwork Reduction Act
As part of its continuing effort to reduce paperwork and respondent
burden, the Department conducts a preclearance consultation program to
provide the general public and Federal agencies with an opportunity to
comment on proposed and continuing collections of information in
accordance with the Paperwork Reduction Act of 1995 (PRA) (44 U.S.C.
3506(c)(2)(A)). This helps to ensure that the public understands the
Department's collection instructions, respondents can provide the
requested data in the desired format, reporting burden (time and
financial resources) is minimized, collection instruments are clearly
understood, and the Department can properly assess the impact of
collection requirements on respondents.
Currently, the Department is soliciting comments concerning the
proposed information collection request (ICR) included in the proposed
Improving Investment Advice for Workers & Retirees (``Proposed PTE'').
A copy of the ICR may be obtained by contacting the PRA addressee shown
below or at www.RegInfo.gov.
The Department has submitted a copy of the Proposed PTE to the
Office of Management and Budget (OMB) in accordance with 44 U.S.C.
3507(d) for review of its information collections. The Department and
OMB are particularly interested in comments that:
Evaluate whether the collection of information is
necessary for the proper performance of the functions of the agency,
including whether the information will have practical utility;
Evaluate the accuracy of the agency's estimate of the
burden of the collection of information, including the validity of the
methodology and assumptions used;
Enhance the quality, utility, and clarity of the
information to be collected; and
Minimize the burden of the collection of information on
those who are to respond, including through the use of appropriate
automated, electronic, mechanical, or other technological collection
techniques or other forms of information technology (e.g., permitting
electronic submission of responses).
Comments should be sent to the Office of Information and Regulatory
Affairs, Office of Management and Budget, Room 10235, New Executive
Office Building, Washington, DC, 20503; Attention: Desk Officer for the
Employee Benefits Security Administration. OMB requests that comments
be received within 30 days of publication of the Proposed PTE to ensure
their consideration.
PRA Addressee: Address requests for copies of the ICR to G.
Christopher Cosby, Office of Policy and Research, U.S. Department of
Labor, Employee Benefits Security Administration, 200 Constitution
Avenue NW, Room N-5718, Washington, DC, 20210. Telephone (202) 693-
8425; Fax: (202) 219-5333. These are not toll-free numbers. ICRs
submitted to OMB also are available at www.RegInfo.gov.
As discussed in detail below, the Proposed PTE would require
Financial Institutions and/or their Investment Professionals to (1)
make certain disclosures to Retirement Investors, (2) adopt written
policies and procedures, (3) document the basis for rollover
recommendations, (4) prepare a written report of the retrospective
review, and (5) maintain records showing that the conditions have been
met to receive relief under the proposed exemption. These requirements
are ICRs subject to the Paperwork Reduction Act.
The Department has made the following assumptions in order to
establish a reasonable estimate of the paperwork burden associated with
these ICRs:
Disclosures distributed electronically will be distributed
via means already used by respondents in the normal course of business,
and the costs arising from electronic distribution will be negligible;
Financial Institutions will use existing in-house
resources to prepare the disclosures, policies and procedures, rollover
documentations, and retrospective reviews, and to maintain the
recordkeeping systems necessary to meet the requirements of the
Proposed PTE;
A combination of personnel will perform the tasks
associated with the ICRs at an hourly wage rate of $194.77 for a
personal financial advisor, $64.11 for mailing clerical personnel, and
$138.41 for a legal professional; \125\
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\125\ The Department's 2018 hourly wage rate estimates include
wages, benefits, and overhead, and are calculated as follows: mean
wage data from the 2018 National Occupational Employment Survey (May
2018, www.bls.gov/news.release/archives/ocwage_03292019.pdf), wages
as a percent of total compensation from the Employer Cost for
Employee Compensation (December 2018, www.bls.gov/news.release/archives/ecec_03192019.pdf), and overhead cost corresponding to each
2-digit NAICS code from the Annual Survey of Manufacturers (December
2017, www.census.gov/data/Tables/2016/econ/asm/2016-asm.html)
multiplied by the percent of each occupation within that NAICS
industry code based on a matrix of detailed occupation employment
for each NAICS industry from the BLS Office of Employment
projections (2016, www.bls.gov/emp/data/occupational-data.htm).
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Approximately 11,782 Financial Institutions will take
advantage of the Proposed PTE and they will use the Proposed PTE in
conjunction with transactions involving nearly all of their clients
that are defined benefit plans, defined contribution plans, and IRA
holders.\126\
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\126\ For this analysis, ``IRA holders'' include rollovers from
ERISA plans. The Department welcomes comments on this estimate.
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Disclosures, Documentation, Retrospective Review, and Recordkeeping
Section II(b) of the Proposed PTE would require Financial
Institutions to furnish Retirement Investors with a disclosure prior to
engaging in a covered transaction. Section II(b)(1) would require
Financial Institutions to acknowledge in writing that the Financial
Institution and its Investment Professionals are fiduciaries under
ERISA and the Code, as applicable, with respect to any investment
advice provided to the Retirement Investors. Section II(b)(2) would
require Financial Institutions to provide a written description of the
services they provide and any material conflicts of interest. The
written description must be accurate in all material respects.
Financial Institutions will generally be required to provide the
disclosure to each Retirement Investor once, but Financial Institutions
may need to provide updated disclosures to ensure accuracy.
Section II(c)(1) of the Proposed PTE would require Financial
Institutions to establish, maintain, and enforce written policies and
procedures prudently designed to ensure that they and their Investment
Professionals comply with the Impartial Conduct Standards. Section
II(c)(2) would further require that the Financial Institutions design
the policies and procedures to mitigate conflicts of interest.
[[Page 40858]]
Section II(c)(3) of the Proposed PTE would require Financial
Institutions to document the specific reasons for any rollover
recommendation and show that the rollover is in the best interest of
the Retirement Investor.
Under Section II(d) of the Proposed PTE, Financial Institutions
would be required to conduct an annual retrospective review that is
reasonably designed to prevent violations of the Proposed PTE's
Impartial Conduct Standards and the institution's own policies and
procedures. The methodology and results of the retrospective review
would be reduced to a written report that is provided to the Financial
Institution's chief executive officer and chief compliance officer (or
equivalent officers). The chief executive officer would be required to
certify that (1) the officer has reviewed the report of the
retrospective review, and (2) the Financial Institution has in place
policies and procedures prudently designed to achieve compliance with
the conditions of the Proposed PTE, and (3) the Financial Institution
has a prudent process for modifying such policies and procedures. The
process for modifying policies and procedures would need to be
responsive to business, regulatory, and legislative changes and events,
and the chief executive officer would be required to periodically test
their effectiveness. The review, report, and certification would be
completed no later than 6 months following the end of the period
covered by the review. The Financial Institution would be required to
retain the report, certification, and supporting data for at least 6
years, and to make these items available to the Department, any other
federal or state regulator of the Financial Institution, or any
applicable self-regulatory organization within 10 business days.
Section IV sets forth the recordkeeping requirements in the
Proposed PTE.
Production and Distribution of Required Disclosures
The Department assumes that 11,782 Financial Institutions,
comprising 1,957 BDs,\127\ 6,729 SEC-registered IAs,\128\ 2,710 state-
registered IAs,\129\ and 386 insurers,\130\ are likely to engage in
transactions covered under this PTE. Each would need to provide
disclosures that (1) acknowledge its fiduciary status and (2) identify
the services it provides and any material conflicts of interest. The
Department estimates that preparing a disclosure indicating fiduciary
status would take a legal professional between 5 and 30 minutes,
depending on the nature of the business,\131\ resulting in an hour
burden of 1,599 \132\ and a cost burden of $221,276.\133\ Preparing a
disclosure identifying services provided and conflicts of interest
would take a legal professional an estimated 5 minutes to 5 hours,
depending on the nature of the business,\134\ resulting in an hour
burden of 3,691 \135\ and an equivalent cost burden of $510,877.\136\
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\127\ The SEC estimated that there were 3,764 BDs as of December
2018 (see Form CRS Relationship Summary Release). The IAA Compliance
2019 Survey estimates that 52 percent of IAs have a pension
consulting business. The estimated number of BDs affected by this
exemption is the product of the SEC's estimate of total BDs in 2018
and IAA's estimate of the percent of IAs with a pension consulting
business.
\128\ The SEC estimated that there were 12,940 SEC-registered
IAs that were not dually registered as BDs as of December 2018 (see
Form CRS Relationship Summary Release). The IAA Compliance 2019
Survey estimates that 52 percent of IAs have a pension consulting
business. The estimated number of IAs affected by this exemption is
the product of the SEC's estimate of SEC-registered IAs in 2018 and
the IAA's estimate of the percent of IAs with a pension consulting
business.
\129\ The SEC estimated that there were 16,939 state-registered
IAs that were not dually registered as BDs as of December 2018 (see
Form CRS Relationship Summary Release). The NASAA 2019 estimates
that 16 percent of state-registered IAs have a pension consulting
business. The estimated number of state-registered IAs affected by
this exemption is the product of the SEC's estimate of state-
registered IAs in 2018 and NASAA's estimate of the percent of state-
registered IAs with a pension consulting business.
\130\ NAIC estimates that the number of insurers directly
writing annuities as of 2018 is 386.
\131\ The Department assumes that it will take each retail BD
firm 15 minutes, each nonretail BD or insurance firm 30 minutes, and
each registered IA 5 minutes to prepare a disclosure conveying
fiduciary status.
\132\ Burden hours are calculated by multiplying the estimated
number of each firm type by the estimated time it will take each
firm to prepare the disclosure.
\133\ The hourly cost burden is calculated by multiplying the
burden hour of each firm associated with preparation of the
disclosure by the hourly wage of a legal professional.
\134\ The Department assumes that it will take each retail BD or
IA firm 5 minutes, each small nonretail BD or small insurer 60
minutes, and each large nonretail BDs or larger insurer 5 hours to
prepare a disclosure conveying services provided and any conflicts
of interest.
\135\ Burden hours are calculated by multiplying the estimated
number of each firm type by the estimated time it will take each
firm to prepare the disclosure.
\136\ The hourly cost burden is calculated by multiplying the
burden hour of each firm associated with preparation of the
disclosure by the hourly wage of a legal professional.
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The Department estimates that approximately 1.8 million Retirement
Investors \137\ have relationships with Financial Institutions and are
likely to engage in transactions covered under this PTE. Of these 1.8
million Retirement Investors, it is assumed that 8.1 percent \138\ or
146,083 Retirement Investors, would receive paper disclosures.
Distributing paper disclosures is estimated to take a clerical
professional 1 minute per disclosure, resulting in an hourly burden of
2,435 \139\ and an equivalent cost burden of $156,094.\140\ Assuming
the disclosures will require two sheets of paper at a cost $0.05 each,
the estimated material cost for the paper disclosures is $14,608.
Postage for each paper disclosure is expected to cost $0.55, resulting
in a printing and mailing cost of $94,954.
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\137\ The Department estimates the number of affected plans and
IRAs be equal to 50 percent of rollovers from plans to IRAs. Cerulli
has estimated the number of plans rolled into IRAs to be 3,622,198
(see U.S. Retirement-End Investor 2019, supra note 100).
\138\ According to data from the National Telecommunications and
Information Agency (NTIA), 37.7 percent of individuals age 25 and
over have access to the internet at work. According to a Greenwald &
Associates survey, 84 percent of plan participants find it
acceptable to make electronic delivery the default option, which is
used as the proxy for the number of participants who will not opt-
out of electronic disclosure if automatically enrolled (for a total
of 31.7 percent receiving electronic disclosure at work).
Additionally, the NTIA reports that 40.5 percent of individuals age
25 and over have access to the internet outside of work. According
to a Pew Research Center survey, 61 percent of internet users use
online banking, which is used as the proxy for the number of
internet users who will affirmatively consent to receiving
electronic disclosures (for a total of 24.7 percent receiving
electronic disclosure outside of work). Combining the 31.7 percent
who receive electronic disclosure at work with the 24.7 percent who
receive electronic disclosure outside of work produces a total of
56.4 percent who will receive electronic disclosure overall. In
light of the 2019 Electronic Disclosure Regulation, the Department
estimates that 81.5 percent of the remaining 43.6 percent of
individuals will receive the disclosures electronically. In total,
91.9 percent of participants are expected to receive disclosures
electronically.
\139\ Burden hours are calculated by multiplying the estimated
number of plans receiving the disclosures non-electronically by the
estimated time it will take to prepare the physical disclosure.
\140\ The hourly cost burden is calculated as the burden hours
associated with the physical preparation of each non-electronic
disclosure by the hourly wage of a clerical professional.
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Written Policies and Procedures Requirement
The Department assumes that 11,782 Financial Institutions,
comprising 1,957 BDs,\141\ 6,729 SEC-registered IAs,\142\
[[Page 40859]]
2,710 state registered IAs,\143\ and 386 insurers,\144\ are likely to
engage in transactions covered under this PTE. The Department estimates
that establishing, maintaining, and enforcing written policies and
procedures prudently designed to ensure compliance with the Impartial
Conduct Standards will take a legal professional between 15 minutes and
10 hours, depending on the nature of the business.\145\ This results in
an hour burden of 12,023 \146\ and an equivalent cost burden of
$1,664,127.\147\
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\141\ The SEC estimated that there were 3,764 BDs as of December
2018 (see Form CRS Relationship Summary Release). The IAA Compliance
2019 Survey estimates that 52 percent of IAs have a pension
consulting business. The estimated number of BDs affected by this
exemption is the product of the SEC's estimate of total BDs in 2018
and IAA's estimate of the percent of IAs with a pension consulting
business.
\142\ The SEC estimated that there were 12,940 SEC-registered
IAs, who were not dually registered as BDs, as of December 2018 (see
Form CRS Relationship Summary Release). The IAA Compliance 2019
Survey estimates that 52 percent of IAs have a pension consulting
business. The estimated number of IAs affected by this exemption is
the product of the SEC's estimate of SEC-registered IAs in 2018 and
IAA's estimate of the percent of IAs with a pension consulting
business.
\143\ The SEC estimated that there were 16,939 state-registered
IAs who were not dually registered as BDs as of December 2018 (see
Form CRS Relationship Summary Release). The NASAA 2019 estimates
that 16 percent of state-registered IAs have a pension consulting
business. The estimated number of state-registered IAs affected by
this exemption is the product of the SEC's estimate of state-
registered IAs in 2018 and NASAA's estimate of the percent of state-
registered IAs with a pension consulting business.
\144\ NAIC estimates that 386 insurers were directly writing
annuities as of 2018.
\145\ The Department assumes that it will take each small retail
BD 22.5 minutes, each large retail BD 45 minutes, each small
nonretail BD 5 hours, each large nonretail BD 10 hours, each small
IA 15 minutes, each large IA 30 minutes, each small insurer 5 hours,
and each large insurer 10 hours to meet the requirement.
\146\ Burden hours are calculated by multiplying the estimated
number of each firm type by the estimated time it will take each
firm to establish, maintain, and enforce written policies and
procedures.
\147\ The hourly cost burden is calculated as the burden hour of
each firm associated with meeting the written policies and
procedures requirement multiplied by the hourly wage of a legal
professional.
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Rollover Documentation Requirement
To meet the requirement of the rollover documentation requirement,
Financial Institutions must document the specific reasons that any
recommendation to roll over assets is in the best interest of the
Retirement Investor. The Department estimates that 1.8 million
retirement plan accounts \148\ were rolled into IRAs in accordance with
advice from a financial services professional. Due to uncertainty, the
Department discusses a range of cost estimates. For the lower-end cost
estimate, the Department estimates that the costs for documenting the
basis for investment decisions would come to $15 million per year.\149\
This is based on the assumption that most financial services
professionals already incorporate documenting the basis for rollover
recommendations in their regular business practices and another
assumption that not all rollovers are handled by financial services
professionals who act in a fiduciary capacity.\150\ For the upper-end
cost estimate, the Department assumes that all rollovers involving
financial services professionals would be affected by the proposed
exemption. Then the costs would be $59 million per year.\151\ For the
primary cost estimate, the Department assumes that 67.4 percent of
rollovers would be affected by the proposed exemption.\152\ Under this
assumption, the costs would be $40 million per year.\153\ The
Department invites comments and data regarding the number of rollovers
affected by the proposed exemption and the burden hours associated with
documenting the basis for rollover recommendations. The Department
estimates that documenting each rollover recommendation will take a
personal financial advisor 10 minutes,\154\ resulting in 203,447 \155\
burden hours and an equivalent cost burden of $39,626,306.\156\
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\148\ Cerulli has estimated the number of plans rolled into IRAs
to be 3,622,198 (see U.S. Retirement-End Investor 2019, supra note
100). The Department estimates that 50 percent of these rollovers
will be handled by a financial professional.
\149\ See supra note 117.
\150\ See supra note 118.
\151\ See supra note 119.
\152\ See supra note 120.
\153\ See supra note 121.
\154\ See supra note 122.
\155\ Burden hours are calculated by multiplying the estimated
number of rollovers affected by this proposed exemption by the
estimated hours needed to document each recommendation.
\156\ The hourly cost burden is calculated as the burden hour of
each firm associated with meeting the rollover documentation
requirement multiplied by the hourly wage of a personal financial
advisor.
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Annual Retrospective Review Requirement
Under the internal retrospective review requirement, a Financial
Institution is required to (1) conduct an annual retrospective review
reasonably designed to assist the Financial Institution in detecting
and preventing violations of, and achieving compliance with the
Impartial Conduct Standards and their policies and procedures and (2)
produce a written report that is certified by the Financial
Institution's chief executive officer.
The Department understands that, as per FINRA Rule 3110,\157\ FINRA
Rule 3120,\158\ and FINRA Rule 3130,\159\ broker dealers are already
held to a standard functionally identical to that of the retrospective
review requirements of this proposed exemption. Accordingly, in this
analysis, the Department assumes that broker dealers will incur minimal
costs to meet this requirement. In 2018, the Investment Adviser
Association estimated that 92 percent of SEC-registered IAs voluntarily
provide an annual compliance program review report to senior
management.\160\ The Department estimates that only 8 percent, or
538,\161\ of SEC-registered IAs advising retirement plans would incur
costs associated with producing a retrospective review report. Due to
lack of data, the Department assumes that state-registered IAs exhibit
similar retrospective review patterns and estimates that 8 percent, or
217,\162\ of state-registered IAs would also incur costs associated
with producing a retrospective review report.
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\157\ Rule 3110. Supervision, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3110.
\158\ Rule 3120. Supervisory Control System, FINRA Manual,
www.finra.org/rules-guidance/rulebooks/finra-rules/3120.
\159\ Rule 3130. Annual Certification of Compliance and
Supervisory Processes, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3130.
\160\ 2018 Investment Management Compliance Testing Survey,
Investment Adviser Association (Jun. 14, 2018), https://higherlogicdownload.s3.amazonaws.com/INVESTMENTADVISER/aa03843e-7981-46b2-aa49-c572f2ddb7e8/UploadedImages/publications/2018-Investment-Management_Compliance-Testing-Survey-Results-Webcast_pptx.pdf.
\161\ The SEC estimated that there were 12,940 SEC-registered
IAs that were not dually registered as BDs as of December 2018 (see
Form CRS Relationship Summary Release). The IAA Compliance 2019
Survey estimates that 52 percent of IAs have a pension consulting
business. The IAA Investment Management Compliance Testing Survey
estimates that 92 percent of SEC-registered IAs provide an annual
compliance program review report to senior management. The estimated
number of IAs affected by this exemption who do not meet the
retrospective review requirement is the product of the SEC's
estimate of SEC-registered IAs in 2018, the IAA's estimate of the
percent of IAs with a pension consulting business, and IAA's
estimate of the percent of IA's who do not provide an annual
compliance program review report.
\162\ The SEC estimated that there were 16,939 state-registered
IAs that were not dually registered as BDs as of December 2018 (see
Form CRS Relationship Summary Release). The NASAA 2019 estimates
that 16 percent of state-registered IAs have a pension consulting
business. The IAA Investment Management Compliance Testing Survey
estimates that 92 percent of SEC-registered IAs provide an annual
compliance program review report to senior management. The
Department assumes state-registered IAs exhibit similar
retrospective review patterns as SEC-registered IAs. The estimated
number of state-registered IAs affected by this exemption is the
product of the SEC's estimate of state-registered IAs in 2018,
NASAA's estimate of the percent of state-registered IAs with a
pension consulting business, and IAA's estimate of the percent of
IA's who do not provide an annual compliance program review report.
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As SEC-registered IAs are already subject to SEC Rule 206(4)-7 the
Department assumes these IAs would incur minimal costs to satisfy the
conditions related to this requirement. Insurers in many states are
already subject state insurance law based on the
[[Page 40860]]
NAIC's Model Regulation, \163\ Thus, the Department assumes that
insurers would incur negligible costs associated with producing a
retrospective review report. This is estimated to take a legal
professional 5 hours for small firms and 10 hours for large firms,
depending on the nature of the business. This results in an hour burden
of 7,032 \164\ and an equivalent cost burden of $973,297.\165\
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\163\ NAIC Suitability in Annuity Transactions Model Regulation,
Spring 2020, Section 6.C.(2)(i), available at https://www.naic.org/store/free/MDL-275.pdf. (The same requirement is found in the
previous NAIC Suitability in Annuity Transactions Model Regulation
(2010), section 6.F.(1)(f).)
\164\ Burden hours are calculated by multiplying the estimated
number of each firm type by the estimated time it will take each
firm to review the report and certify the exemption.
\165\ The hourly cost burden is calculated by multiplying the
burden hours for reviewing the report and certifying the exemption
requirement by the hourly wage of a legal professional.
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In addition to conducting the audit and producing a report,
Financial Institutions will need to review the report and certify the
exemption. This is estimated to take a financial professional 15
minutes for small firms and 30 minutes for large firms, depending on
the nature of the business. This results in an hour burden of 4,340
\166\ and an equivalent cost burden of $718,806.\167\ The Department
welcomes any comments about burden hours associated with producing an
annual review report and certifying it.
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\166\ Burden hours are calculated by multiplying the estimated
number of each firm type by the estimated time it will take each
firm to review the report and certify the exemption.
\167\ The hourly cost burden is calculated by multiplying the
burden hours for reviewing the report and certifying the exemption
requirement by the hourly wage of a financial professional.
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Overall Summary
Overall, the Department estimates that in order to meet the
conditions of this PTE, 11,782 Financial Institutions will produce 1.8
million disclosures and notices annually. These disclosures and notices
will result in 234,565 burden hours during the first year and 217,253
burden hours in subsequent years, at an equivalent cost of $43.9
million and $41.5 million respectively. The disclosures and notices in
this exemption will also result in a total cost burden for materials
and postage of $94,954 annually.
These paperwork burden estimates are summarized as follows:
Type of Review: New collection (Request for new OMB
Control Number).
Agency: Employee Benefits Security Administration,
Department of Labor.
Title: Improving Investment Advice for Workers & Retirees.
OMB Control Number: 1210-NEW.
Affected Public: Business or other for-profit institution.
Estimated Number of Respondents: 11,782.
Estimated Number of Annual Responses: 1,811,099.
Frequency of Response: Initially, Annually, and when
engaging in exempted transaction.
Estimated Total Annual Burden Hours: 234,565 during the
first year and 217,253 in subsequent years.
Estimated Total Annual Burden Cost: $94,954 during the
first year and $94,954 in subsequent years.
Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) \168\ imposes certain
requirements on rules subject to the notice and comment requirements of
section 553(b) of the Administrative Procedure Act or any other
law.\169\ Under section 603 of the RFA, agencies must submit an initial
regulatory flexibility analysis (IRFA) of a proposal that is likely to
have a significant economic impact on a substantial number of small
entities, such as small businesses, organizations, and governmental
jurisdictions. The Department determines that this proposed exemption
will likely have a significant economic impact on a substantial number
of small entities. Therefore, the Department provides its IRFA of the
proposed exemption, below. The Department welcomes comments regarding
this assessment.
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\168\ 5 U.S.C. 601 et seq.
\169\ 5 U.S.C. 601(2), 603(a); see also 5 U.S.C. 551.
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Need for and Objectives of the Rule
As discussed earlier in this preamble, the proposed class exemption
would allow investment advice fiduciaries to receive compensation and
engage in transactions that would otherwise violate the prohibited
transaction provisions of ERISA and the Code. As such, the proposed
exemption would grant Financial Institutions and Investment
Professionals the flexibility to address different business models, and
would lessen their overall regulatory burden by coordinating
potentially overlapping regulatory requirements. The exemption
conditions, including the Impartial Conduct Standards and other
conditions supporting the standards, are expected to provide
protections to Retirement Investors. Therefore, the Department expects
the proposed exemption to benefit Retirement Investors that are small
entities and to provide efficiencies to small Financial Institutions.
Affected Small Entities
The Small Business Administration (SBA),\170\ pursuant to the Small
Business Act,\171\ defines small businesses and issues size standards
by industry. The SBA defines a small business in the Financial
Investments and Related Activities Sector as a business with up to
$41.5 million in annual receipts. Due to a lack of data and shared
jurisdictions, for purpose of performing Regulatory Flexibility
Analyses pursuant to section 601(3) of the Regulatory Flexibility Act,
the Department, after consultation with SBA's Office of Advocacy,
defines small entities included in this analysis differently from the
SBA definitions.\172\ For instance, in this analysis, the small-
business definitions for BDs and SEC-registered IAs are consistent with
the SEC's definitions, as these entities are subject to the SEC's rules
as well as the ERISA.\173\ As with SEC-registered IAs, the size of
state-registered IAs is determined based on total value of the assets
they manage.\174\ The size of insurance companies is based on annual
sales of annuities. The Department requests comments on the
appropriateness of the size standard used to evaluate the impact of the
proposed exemption on small entities.
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\170\ 13 CFR 121.201.
\171\ 15 U.S.C. 631 et seq.
\172\ The Department consulted with the Small Business
Administration Office of Advocacy in making this determination as
required by 5 U.S.C. 603(c).
\173\ 17 CFR parts 230, 240, 270, and 275, https://www.sec.gov/rules/final/33-7548.txt.
\174\ Due to lack of available data, the Department includes
state-registered IAs managing assets less than $30 million as small
entities in this analysis.
---------------------------------------------------------------------------
In December 2018, there were 985 small-business BDs and 528 SEC-
registered, small-business IAs.\175\ The Department estimates that
approximately 52 percent of these small-businesses will be affected by
the proposed exemption.\176\ In December 2018, the Department estimates
there were approximately 10,840 small state-registered IAs,\177\ of
which about 1,700
[[Page 40861]]
are estimated to be affected by the proposed exemption.\178\ There were
approximately 386 insurers directly writing annuities in 2018,\179\ 316
of which the Department estimates are small entities.\180\ Table 1
summarizes the distribution of affected entities by size.
---------------------------------------------------------------------------
\175\ See Form CRS Relationship Summary; Amendments to Form ADV,
84 FR 33492 (Jul. 12, 2019).
\176\ 2019 Investment Management Compliance Testing Survey,
Investment Adviser Association (Jun. 18, 2019), https://higherlogicdownload.s3.amazonaws.com/INVESTMENTADVISER/aa03843e-7981-46b2-aa49-c572f2ddb7e8/UploadedImages/about/190618_IMCTS_slides_after_webcast_edits.pdf.
\177\ The SEC estimates there were approximately 17,000 state-
registered IAs (see Form CRS Relationship Summary; Amendments to
Form ADV, 84 FR 33492 (Jul. 12, 2019)). The Department estimates
that about 64 percent of state-registered IAs manage assets less
than $30 million, and it considers such entities small businesses.
(See 2018 Investment Adviser Section Annual Report, North American
Securities Administrators Association (May 2018), www.nasaa.org/wp-content/uploads/2018/05/2018-NASAA-IA-Report-Online.pdf.) Therefore,
the Department estimates there were about 10,840 small, state-
registered IAs.
\178\ Of the small, state-registered IAs, the Department
estimates that 16 percent provide advice or services to retirement
plans (see 2019 Investment Adviser Section Annual Report, North
American Securities Administrators Association, (May 2019)).
\179\ NAIC estimates that the number of insurers directly
writing annuities as of 2018 is 386.
\180\ LIMRA estimates in 2016, 70 insurers had more than $38.5
million in sales. (See U.S. Individual Annuity Yearbook: 2016 Data,
LIMRA Secure Retirement Institute (2017)).
Table 1--Distribution of Affected Entities by Size
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
BDs
SEC-registered IAs
State-registered IAs
Insurers
--------------------------------------------------------------------------------------------------------------------------------------------------------
Small........................................... 985 26% 528 4% 10,840 64% 316 82%
Large........................................... 2,779 74% 12,412 96% 6,099 36% 70 18%
-------------------------------------------------------------------------------------------------------
Total....................................... 3,764 100% 12,940 100% 16,939 100% 386 100%
--------------------------------------------------------------------------------------------------------------------------------------------------------
Projected Reporting, Recordkeeping, and Other Compliance Requirements
As discussed above, the proposed exemption would provide Financial
Institutions and Investment Professionals with the flexibility to
choose between the new proposed exemption or existing exemptions,
depending on their individual needs and business models. Furthermore,
the proposed exemption would provide Financial Institutions and
Investment Professionals broader, more flexible prohibited transaction
relief than is currently available, while safeguarding the interests of
Retirement Investors. In this regard, this proposed exemption could
present a less burdensome compliance alternative for some Financial
Institutions because it would allow them to streamline compliance
rather than rely on multiple exemptions with multiple sets of
conditions.
This proposed exemption simply provides an additional alternative
pathway for Financial Institutions and Investment Professionals to
receive compensation and engage in certain transactions that would
otherwise be prohibited under ERISA and the Code. Financial
Institutions would incur costs to comply with conditions set forth in
the proposed exemption. However, the Department believes the costs
associated with those conditions would be modest because the proposed
exemption was developed in consideration of other regulatory conduct
standards. The Department believes that many Financial Institutions and
Investment Professionals have already developed, or are in the process
of developing, compliance structures for similar regulatory standards.
Therefore, the Department does not believe the proposed exemption will
impose a significant compliance burden on small entities. For example,
the Department estimates that a small entity would incur, on average,
an additional $1,000 in compliance costs to meet the conditions of the
proposed exemption. These additional costs would represent 0.4 percent
of the net capital of BD with $250,000. A BD with less than $500,000 in
net capital is generally considered small, according to the SEC.
Duplicate, Overlapping, or Relevant Federal Rules
ERISA and the Code rules governing advice on the investment of
retirement assets overlap with SEC rules that govern the conduct of IAs
and BDs who advise retail investors. The Department considered conduct
standards set by other regulators, such as SEC, state insurance
regulators, and FINRA, in developing the proposed exemption, with the
goal of avoiding overlapping or duplicative requirements. To the extent
the requirements overlap, compliance with the other disclosure or
recordkeeping requirements can be used to satisfy the exemption,
provided the conditions are satisfied. This would lead to overall
regulatory efficiency.
Significant Alternatives Considered
The RFA directs the Department to consider significant alternatives
that would accomplish the stated objective, while minimizing any
significant adverse impact on small entities.
External Audit
Under section II(d) of the proposed exemption, Financial
Institutions would be required to conduct an annual retrospective
review that is reasonably designed to detect and prevent violations of,
and achieve compliance with, the Impartial Conduct Standards and the
institution's own policies and procedures. The Department considered
the alternative of requiring a Financial Institution to engage an
independent party to provide an external audit. The Department elected
not to propose this requirement to avoid the increased costs this
approach would impose. Smaller Financial Institutions may have been
disproportionately impacted by such costs, which would have been
contrary to the Department's goals of promoting access to investment
advice for Retirement Investors. Further, the Department is not
convinced that an independent, external audit would yield useful
information commensurate with the cost, particularly to small entities.
Instead, the proposal requires that Financial Institutions to document
their retrospective review, and provide it, and supporting information,
to the Department and other regulators within 10 business days of such
request.
Unfunded Mandates Reform Act
Title II of the Unfunded Mandates Reform Act of 1995 \181\ requires
each federal agency to prepare a written statement assessing the
effects of any federal mandate in a proposed or final rule that may
result in an expenditure of $100 million or more (adjusted annually for
inflation with the base year 1995) in any 1 year by state, local, and
tribal governments, in the aggregate, or by the private sector. For
purposes of the Unfunded Mandates Reform Act, as well as Executive
Order 12875, this proposed exemption does not include any Federal
mandate that will result in such expenditures.
---------------------------------------------------------------------------
\181\ Public Law 104-4, 109 Stat. 48 (1995).
---------------------------------------------------------------------------
Federalism Statement
Executive Order 13132 outlines fundamental principles of
federalism. It also requires federal agencies to adhere to specific
criteria in formulating and implementing policies that have
``substantial direct effects'' on the states,
[[Page 40862]]
the relationship between the national government and states, or on the
distribution of power and responsibilities among the various levels of
government. Federal agencies promulgating regulations that have these
federalism implications must consult with state and local officials,
and describe the extent of their consultation and the nature of the
concerns of state and local officials in the preamble to the final
regulation. The Department does not believe this proposed class
exemption has federalism implications because it has no substantial
direct effect on the states, on the relationship between the national
government and the states, or on the distribution of power and
responsibilities among the various levels of government.
General Information
The attention of interested persons is directed to the following:
(1) The fact that a transaction is the subject of an exemption
under ERISA section 408(a) and Code section 4975(c)(2) does not relieve
a fiduciary, or other party in interest or disqualified person with
respect to a Plan, from certain other provisions of ERISA and the Code,
including any prohibited transaction provisions to which the exemption
does not apply and the general fiduciary responsibility provisions of
ERISA section 404 which require, among other things, that a fiduciary
act prudently and discharge his or her duties respecting the Plan
solely in the interests of the participants and beneficiaries of the
Plan. Additionally, the fact that a transaction is the subject of an
exemption does not affect the requirement of Code section 401(a) that
the Plan must operate for the exclusive benefit of the employees of the
employer maintaining the Plan and their beneficiaries;
(2) Before the proposed exemption may be granted under ERISA
section 408(a) and Code section 4975(c)(2), the Department must find
that it is administratively feasible, in the interests of Plans and
their participants and beneficiaries and IRA owners, and protective of
the rights of participants and beneficiaries of the Plan and IRA
owners;
(3) If granted, the proposed exemption is applicable to a
particular transaction only if the transaction satisfies the conditions
specified in the exemption; and
(4) The proposed exemption, if granted, is supplemental to, and not
in derogation of, any other provisions of ERISA and the Code, including
statutory or administrative exemptions and transitional rules.
Furthermore, the fact that a transaction is subject to an
administrative or statutory exemption is not dispositive of whether the
transaction is in fact a prohibited transaction.
Improving Investment Advice for Workers & Retirees
Section I--Transactions
(a) In general. ERISA and the Internal Revenue Code prohibit
fiduciaries, as defined, that provide investment advice to Plans and
individual retirement accounts (IRAs) from receiving compensation that
varies based on their investment advice and compensation that is paid
from third parties. ERISA and the Code also prohibit fiduciaries from
engaging in purchases and sales with Plans or IRAs on behalf of their
own accounts (principal transactions). This exemption permits Financial
Institutions and Investment Professionals who provide fiduciary
investment advice to Retirement Investors to receive otherwise
prohibited compensation and engage in riskless principal transactions
and certain other principal transactions (Covered Principal
Transactions) as described below. The exemption provides relief from
the prohibitions of ERISA section 406(a)(1)(A), (D), and 406(b), and
the sanctions imposed by Code section 4975(a) and (b), by reason of
Code section 4975(c)(1)(A), (D), (E), and (F), if the Financial
Institutions and Investment Professionals provide fiduciary investment
advice in accordance with the conditions set forth in Section II and
are eligible pursuant to Section III, subject to the definitional terms
and recordkeeping requirements in Sections IV and V.
(b) Covered transactions. This exemption permits Financial
Institutions and Investment Professionals, and their affiliates and
related entities, to engage in the following transactions, including as
part of a rollover from a Plan to an IRA as defined in Code section
4975(e)(1)(B) or (C), as a result of the provision of investment advice
within the meaning of ERISA section 3(21)(A)(ii) and Code section
4975(e)(3)(B):
(1) The receipt of reasonable compensation; and
(2) The purchase or sale of an asset in a riskless principal
transaction or a Covered Principal Transaction, and the receipt of a
mark-up, mark-down, or other payment.
(c) Exclusions. This exemption does not apply if:
(1) The Plan is covered by Title I of ERISA and the Investment
Professional, Financial Institution or any affiliate is (A) the
employer of employees covered by the Plan, or (B) a named fiduciary or
plan administrator with respect to the Plan that was selected to
provide advice to the Plan by a fiduciary who is not independent of the
Financial Institution, Investment Professional, and their affiliates;
or
(2) The transaction is a result of investment advice generated
solely by an interactive website in which computer software-based
models or applications provide investment advice based on personal
information each investor supplies through the website, without any
personal interaction or advice with an Investment Professional (i.e.,
robo-advice);
(3) The transaction involves the Investment Professional acting in
a fiduciary capacity other than as an investment advice fiduciary
within the meaning of the regulations at 29 CFR 2510.3-21(c)(1)(i) and
(ii)(B) or 26 CFR 54.4975-9(c)(1)(i) and (ii)(B) setting forth the test
for fiduciary investment advice.
Section II--Investment Advice Arrangement
Section II requires Investment Professionals and Financial
Institutions to comply with Impartial Conduct Standards, including a
best interest standard, when providing fiduciary investment advice to
Retirement Investors. In addition, the exemption requires Financial
Institutions to acknowledge fiduciary status under ERISA and/or the
Code, and describe in writing the services they will provide and their
material Conflicts of Interest. Finally, Financial Institutions must
adopt policies and procedures prudently designed to ensure compliance
with the Impartial Conduct Standards when providing fiduciary
investment advice to Retirement Investors and conduct a retrospective
review of compliance.
(a) Impartial Conduct Standards. The Financial Institution and
Investment Professional comply with the following ``Impartial Conduct
Standards'':
(1) Investment advice is, at the time it is provided, in the Best
Interest of the Retirement Investor. As defined in Section V(a), such
advice reflects the care, skill, prudence, and diligence under the
circumstances then prevailing that a prudent person acting in a like
capacity and familiar with such matters would use in the conduct of an
enterprise of a like character and with like aims, based on the
investment objectives, risk tolerance, financial circumstances, and
needs of the Retirement Investor, and does not place
[[Page 40863]]
the financial or other interests of the Investment Professional,
Financial Institution or any affiliate, related entity, or other party
ahead of the interests of the Retirement Investor, or subordinate the
Retirement Investor's interests to their own;
(2)(A) The compensation received, directly or indirectly, by the
Financial Institution, Investment Professional, their affiliates and
related entities for their services does not exceed reasonable
compensation within the meaning of ERISA section 408(b)(2) and Code
section 4975(d)(2); and (B) as required by the federal securities laws,
the Financial Institution and Investment Professional seek to obtain
the best execution of the investment transaction reasonably available
under the circumstances; and
(3) The Financial Institutions' and its Investment Professionals'
statements to the Retirement Investor about the recommended transaction
and other relevant matters are not, at the time statements are made,
materially misleading.
(b) Disclosure. Prior to engaging in a transaction pursuant to this
exemption, the Financial Institution provides the following disclosure
to the Retirement Investor:
(1) A written acknowledgment that the Financial Institution and its
Investment Professionals are fiduciaries under ERISA and the Code, as
applicable, with respect to any fiduciary investment advice provided by
the Financial Institution or Investment Professional to the Retirement
Investor; and
(2) A written description of the services to be provided and the
Financial Institution's and Investment Professional's material
Conflicts of Interest that is accurate and not misleading in all
material respects.
(c) Policies and Procedures.
(1) The Financial Institution establishes, maintains and enforces
written policies and procedures prudently designed to ensure that the
Financial Institution and its Investment Professionals comply with the
Impartial Conduct Standards in connection with covered fiduciary advice
and transactions.
(2) Financial Institutions' policies and procedures mitigate
Conflicts of Interest to the extent that the policies and procedures,
and the Financial Institution's incentive practices, when viewed as a
whole, are prudently designed to avoid misalignment of the interests of
the Financial Institution and Investment Professionals and the
interests of Retirement Investors in connection with covered fiduciary
advice and transactions.
(3) The Financial Institution documents the specific reasons that
any recommendation to roll over assets from a Plan to another Plan or
IRA as defined in Code section 4975(e)(1)(B) or (C), from an IRA as
defined in Code section 4975(e)(1)(B) or (C) to a Plan, from an IRA to
another IRA, or from one type of account to another (e.g., from a
commission-based account to a fee-based account) is in the Best
Interest of the Retirement Investor.
(d) Retrospective Review.
(1) The Financial Institution conducts a retrospective review, at
least annually, that is reasonably designed to assist the Financial
Institution in detecting and preventing violations of, and achieving
compliance with, the Impartial Conduct Standards and the policies and
procedures governing compliance with the exemption.
(2) The methodology and results of the retrospective review are
reduced to a written report that is provided to the Financial
Institution's chief executive officer (or equivalent officer) and chief
compliance officer (or equivalent officer).
(3) The Financial Institution's chief executive officer (or
equivalent officer) certifies, annually, that:
(A) The officer has reviewed the report of the retrospective
review;
(B) The Financial Institution has in place policies and procedures
prudently designed to achieve compliance with the conditions of this
exemption; and
(C) The Financial Institution has in place a prudent process to
modify such policies and procedures as business, regulatory and
legislative changes and events dictate, and to test the effectiveness
of such policies and procedures on a periodic basis, the timing and
extent of which is reasonably designed to ensure continuing compliance
with the conditions of this exemption.
(4) The review, report and certification are completed no later
than six months following the end of the period covered by the review.
(5) The Financial Institution retains the report, certification,
and supporting data for a period of six years and makes the report,
certification, and supporting data available to the Department, within
10 business days of request.
Section III--Eligibility
(a) General. Subject to the timing and scope provisions set forth
in subsection (b), an Investment Professional or Financial Institution
will be ineligible to rely on the exemption for 10 years following:
(1) A conviction of any crime described in ERISA section 411
arising out of such person's provision of investment advice to
Retirement Investors, unless, in the case of a Financial Institution,
the Department grants a petition pursuant to subsection (c)(1) below
that the Financial Institution's continued reliance on the exemption
would not be contrary to the purposes of the exemption; or
(2) Receipt of a written ineligibility notice issued by the Office
of Exemption Determinations for (A) engaging in a systematic pattern or
practice of violating the conditions of this exemption in connection
with otherwise non-exempt prohibited transactions; (B) intentionally
violating the conditions of this exemption in connection with otherwise
non-exempt prohibited transactions; or (C) providing materially
misleading information to the Department in connection with the
Financial Institution's conduct under the exemption; in each case, as
determined by the Director of the Office of Exemption Determinations
pursuant to the process described in subsection (c).
(b) Timing and Scope of Ineligibility.
(1) An Investment Professional shall become ineligible immediately
upon (A) the date of the trial court's conviction of the Investment
Professional of a crime described in subsection (a)(1), regardless of
whether that judgment remains under appeal, or (B) the date of the
Office of Exemption Determinations' written ineligibility notice
described in subsection (a)(2), issued to the Investment Professional.
(2) A Financial Institution shall become ineligible following (A)
the 10th business day after the conviction of the Financial Institution
or another Financial Institution in the same Control Group of a crime
described in subsection (a)(1) regardless of whether that judgment
remains under appeal, or, if the Financial Institution timely submits a
petition described in subsection (c)(1) during that period, upon the
date of the Office of Exemption Determination's written denial of the
petition, or (B) the Office of Exemption Determinations' written
ineligibility notice, described in subsection (a)(2), issued to the
Financial Institution or another Financial Institution in the same
Control Group.
(3) Control Group. A Financial Institution is in a Control Group
with another Financial Institution if, directly or indirectly, the
Financial Institution owns at least 80 percent of, is at least 80
percent owned by, or shares an 80 percent or more owner with, the other
Financial Institution. For purposes of
[[Page 40864]]
this provision, if the Financial Institutions are not corporations,
ownership is defined to include interests in the Financial Institution
such as profits interest or capital interests.
(4) Winding Down Period. Any Financial Institution that is
ineligible will have a one-year winding down period during which relief
is available under the exemption subject to the conditions of the
exemption other than eligibility. After the one-year period expires,
the Financial Institution may not rely on the relief provided in this
exemption for any additional transactions.
(c) Opportunity to be heard.
(1) Petitions under subsection (a)(1).
(A) A Financial Institution that has been convicted of a crime may
submit a petition to the Department informing the Department of the
conviction and seeking a determination that the Financial Institution's
continued reliance on the exemption would not be contrary to the
purposes of the exemption. Petitions must be submitted, within 10
business days after the date of the conviction, to the Director of the
Office of Exemption Determinations by email at [email protected], or by
certified mail at Office of Exemption Determinations, Employee Benefits
Security Administration, U.S. Department of Labor, 200 Constitution
Avenue NW, Suite 400, Washington, DC 20210.
(B) Following receipt of the petition, the Department will provide
the Financial Institution with the opportunity to be heard, in person
or in writing or both. The opportunity to be heard in person will be
limited to one in-person conference unless the Department determines in
its sole discretion to allow additional conferences.
(C) The Department's determination as to whether to grant the
petition will be based solely on its discretion. In determining whether
to grant the petition, the Department will consider the gravity of the
offense; the relationship between the conduct underlying the conviction
and the Financial Institution's system and practices in its retirement
investment business as a whole; the degree to which the underlying
conduct concerned individual misconduct, or, alternately, corporate
managers or policy; how recent was the underlying lawsuit; remedial
measures taken by the Financial Institution upon learning of the
underlying conduct; and such other factors as the Department determines
in its discretion are reasonable in light of the nature and purposes of
the exemption. The Department will provide a written determination to
the Financial Institution that articulates the basis for the
determination.
(2) Written ineligibility notice under subsection (a)(2). Prior to
issuing a written ineligibility notice, the Director of the Office of
Exemption Determinations will issue a written warning to the Investment
Professional or Financial Institution, as applicable, identifying
specific conduct implicating subsection (a)(2), and providing a six-
month opportunity to cure. At the end of the six-month period, if the
Department determines that the conduct persists, it will provide the
Investment Professional or Financial Institution with the opportunity
to be heard, in person or in writing or both, before the Director of
the Office of Exemption Determinations issues the written ineligibility
notice. The opportunity to be heard in person will be limited to one
in-person conference unless the Department determines in its sole
discretion to allow additional conferences. The written ineligibility
notice will articulate the basis for the determination that the
Investment Professional or Financial Institution engaged in conduct
described in subsection (a)(2).
(d) A Financial Institution or Investment Professional that is
ineligible to rely on this exemption may rely on a statutory prohibited
transaction exemption if one is available or seek an individual
prohibited transaction exemption from the Department. To the extent an
applicant seeks retroactive relief in connection with an exemption
application, the Department will consider the application in accordance
with its retroactive exemption policy as set forth in 29 CFR
2570.35(d). The Department may require additional prospective
compliance conditions as a condition of retroactive relief.
Section IV--Recordkeeping
(a) The Financial Institution maintains for a period of six years
records demonstrating compliance with this exemption and makes such
records available, to the extent permitted by law including 12 U.S.C.
484, to the following persons or their authorized representatives:
(1) Any authorized employee of the Department;
(2) Any fiduciary of a Plan that engaged in an investment
transaction pursuant to this exemption;
(3) Any contributing employer and any employee organization whose
members are covered by a Plan that engaged in an investment transaction
pursuant to this exemption; or
(4) Any participant or beneficiary of a Plan, or IRA owner that
engaged in an investment transaction pursuant to this exemption.
(b)(1) None of the persons described in subsection (a)(2)-(4) above
are authorized to examine records regarding a recommended transaction
involving another Retirement Investor, privileged trade secrets or
privileged commercial or financial information of the Financial
Institution, or information identifying other individuals.
(2) Should the Financial Institution refuse to disclose information
to Retirement Investors on the basis that the information is exempt
from disclosure, the Financial Institution must, by the close of the
thirtieth (30th) day following the request, provide a written notice
advising the requestor of the reasons for the refusal and that the
Department may request such information.
Section V--Definitions
(a) Advice is in a Retirement Investor's ``Best Interest'' if such
advice reflects the care, skill, prudence, and diligence under the
circumstances then prevailing that a prudent person acting in a like
capacity and familiar with such matters would use in the conduct of an
enterprise of a like character and with like aims, based on the
investment objectives, risk tolerance, financial circumstances, and
needs of the Retirement Investor, and does not place the financial or
other interests of the Investment Professional, Financial Institution
or any affiliate, related entity, or other party ahead of the interests
of the Retirement Investor, or subordinate the Retirement Investor's
interests to their own.
(b) A ``Conflict of Interest'' is an interest that might incline a
Financial Institution or Investment Professional--consciously or
unconsciously--to make a recommendation that is not in the Best
Interest of the Retirement Investor.
(c) A ``Covered Principal Transaction'' is a principal transaction
that:
(1) For sales to a Plan or IRA:
(A) Involves a U.S. dollar denominated debt security issued by a
U.S. corporation and offered pursuant to a registration statement under
the Securities Act of 1933; a U.S. Treasury Security; a debt security
issued or guaranteed by a U.S. federal government agency other than the
U.S. Department of Treasury; a debt security issued or guaranteed by a
government-sponsored enterprise; a municipal security; a certificate of
deposit; an interest in a Unit Investment Trust; or any
[[Page 40865]]
investment permitted to be sold by an investment advice fiduciary to a
Retirement Investor under an individual exemption granted by the
Department after the effective date of this exemption that includes the
same conditions as this exemption, and
(B) If the recommended investment is a debt security, the security
is recommended pursuant to written policies and procedures adopted by
the Financial Institution that are reasonably designed to ensure that
the security, at the time of the recommendation, has no greater than
moderate credit risk and sufficient liquidity that it could be sold at
or near carrying value within a reasonably short period of time; and
(2) For purchases from a Plan or IRA, involves any securities or
investment property.
(d) ``Financial Institution'' means an entity that is not
disqualified or barred from making investment recommendations by any
insurance, banking, or securities law or regulatory authority
(including any self-regulatory organization), that employs the
Investment Professional or otherwise retains such individual as an
independent contractor, agent or registered representative, and that
is:
(1) Registered as an investment adviser under the Investment
Advisers Act of 1940 (15 U.S.C. 80b-1 et seq.) or under the laws of the
state in which the adviser maintains its principal office and place of
business;
(2) A bank or similar financial institution supervised by the
United States or a state, or a savings association (as defined in
section 3(b)(1) of the Federal Deposit Insurance Act (12 U.S.C.
1813(b)(1));
(3) An insurance company qualified to do business under the laws of
a state, that: (A) Has obtained a Certificate of Authority from the
insurance commissioner of its domiciliary state which has neither been
revoked nor suspended; (B) has undergone and shall continue to undergo
an examination by an independent certified public accountant for its
last completed taxable year or has undergone a financial examination
(within the meaning of the law of its domiciliary state) by the state's
insurance commissioner within the preceding 5 years, and (C) is
domiciled in a state whose law requires that an actuarial review of
reserves be conducted annually and reported to the appropriate
regulatory authority;
(4) A broker or dealer registered under the Securities Exchange Act
of 1934 (15 U.S.C. 78a et seq.); or
(5) An entity that is described in the definition of Financial
Institution in an individual exemption granted by the Department after
the date of this exemption that provides relief for the receipt of
compensation in connection with investment advice provided by an
investment advice fiduciary under the same conditions as this class
exemption.
(e) ``Individual Retirement Account'' or ``IRA'' means any account
or annuity described in Code section 4975(e)(1)(B) through (F).
(f) ``Investment Professional'' means an individual who:
(1) Is a fiduciary of a Plan or IRA by reason of the provision of
investment advice described in ERISA section 3(21)(A)(ii) or Code
section 4975(e)(3)(B), or both, and the applicable regulations, with
respect to the assets of the Plan or IRA involved in the recommended
transaction;
(2) Is an employee, independent contractor, agent, or
representative of a Financial Institution; and
(3) Satisfies the federal and state regulatory and licensing
requirements of insurance, banking, and securities laws (including
self-regulatory organizations) with respect to the covered transaction,
as applicable, and is not disqualified or barred from making investment
recommendations by any insurance, banking, or securities law or
regulatory authority (including any self-regulatory organization).
(g) ``Plan'' means any employee benefit plan described in ERISA
section 3(3) and any plan described in Code section 4975(e)(1)(A).
(h) ``Retirement Investor'' means--
(1) A participant or beneficiary of a Plan with authority to direct
the investment of assets in his or her account or to take a
distribution;
(2) The beneficial owner of an IRA acting on behalf of the IRA; or
(3) A fiduciary of a Plan or IRA.
Jeanne Klinefelter Wilson,
Acting Assistant Secretary, Employee Benefits Security Administration,
U.S. Department of Labor.
[FR Doc. 2020-14261 Filed 7-2-20; 8:45 am]
BILLING CODE 4510-29-P
