Prohibited Transaction Exemption 2020-02, Improving Investment Advice for Workers & Retirees
| Published date | 18 December 2020 |
| Citation | 85 FR 82798 |
| Record Number | 2020-27825 |
| Section | Rules and Regulations |
| Court | Employee Benefits Security Administration |
Federal Register, Volume 85 Issue 244 (Friday, December 18, 2020)
[Federal Register Volume 85, Number 244 (Friday, December 18, 2020)]
[Rules and Regulations]
[Pages 82798-82866]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-27825]
[[Page 82797]]
Vol. 85
Friday,
No. 244
December 18, 2020
Part VDepartment of Labor-----------------------------------------------------------------------Employee Benefits Security Administration-----------------------------------------------------------------------29 CFR Part 2550Prohibited Transaction Exemption 2020-02, Improving Investment Advice
for Workers & Retirees; Rule
Federal Register / Vol. 85 , No. 244 / Friday, December 18, 2020 /
Rules and Regulations
[[Page 82798]]
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DEPARTMENT OF LABOR
Employee Benefits Security Administration
29 CFR Part 2550
[Application No. D-12011]
ZRIN 1210-ZA29
Prohibited Transaction Exemption 2020-02, Improving Investment
Advice for Workers & Retirees
AGENCY: Employee Benefits Security Administration, U.S. Department of
Labor.
ACTION: Adoption of class exemption and interpretation.
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SUMMARY: This document contains a class exemption from certain
prohibited transaction restrictions of the Employee Retirement Income
Security Act of 1974, as amended (the Act). Title I of the Act codified
a prohibited transaction provision in title 29 of the U.S. Code
(referred to in this document as Title I). Title II of the Act codified
a parallel provision now found in the Internal Revenue Code of 1986, as
amended (the Code). These prohibited transaction provisions of Title I
and the Code generally prohibit fiduciaries with respect to ``plans,''
including workplace retirement 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 exemption allows investment advice fiduciaries to
plans under both Title I 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 Title I and the Code.
The exemption applies to Securities and Exchange Commission--and state-
registered investment advisers, broker-dealers, banks, insurance
companies, and their employees, agents, and representatives that are
investment advice fiduciaries. The exemption includes protective
conditions designed to safeguard the interests of Plans, participants
and beneficiaries, and IRA owners. The class exemption affects
participants and beneficiaries of Plans, IRA owners, and fiduciaries
with respect to such Plans and IRAs. This notice also sets forth the
Department's final interpretation of when advice to roll over Plan
assets to an IRA will be considered fiduciary investment advice under
Title I and the Code.
DATES: The exemption is effective as of: February 16, 2021.
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:
Background
The Employee Retirement Income Security Act of 1974 (the Act)
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. Title I of the Act (referred to herein as
Title I), which generally applies to employer-sponsored Plans (Title I
Plans), includes this provision in section 3(21)(A)(ii).\1\ The Act's
Title II (referred to herein as the Code), includes a parallel
provision in section 4975(e)(3)(B), which defines a fiduciary of a tax-
qualified plan, including IRAs.\2\
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\1\ Section 3(21)(A)(ii) of the Act is codified at 29 U.S.C.
1002(3)(21)(A)(ii). As noted above, Title I of the Act was codified
in Title 29 of the U.S. Code. As a matter of practice, this preamble
refers to the codified provisions in Title I by reference to the
sections of ERISA, as amended, and not by its numbering in the U.S.
Code.
\2\ As noted above, Title II of the Act was codified in the
Internal Revenue Code.
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In 1975, the Department issued a regulation establishing a five-
part test for fiduciary status under this provision of Title I.\3\ The
1975 regulation also applies to the definition of fiduciary in the
Code, which is identical in its wording.\4\ 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 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 Title I and
under the Code.
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\3\ 29 CFR 2510.3-21(c)(1), 40 FR 50842 (October 31, 1975).
\4\ 26 CFR 54.4975-9(c), 40 FR 50840 (October 31, 1975).
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Investment advice fiduciaries, like other fiduciaries to Plans and
IRAs, are subject to duties and liabilities established in Title I and
the Code. Fiduciaries to Title I Plans must act prudently and with
undivided loyalty to the plans and their participants and
beneficiaries. Although these statutory fiduciary duties are not in the
Code, both Title I and the Code contain provisions forbidding
fiduciaries from engaging in certain specified ``prohibited
transactions,'' involving Plans and IRAs, including conflict of
interest transactions.\5\ Under these prohibited transaction
provisions, a fiduciary may not deal with the income or assets of a
Plan or an 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 in ERISA
section 408(a) and Code section 4975(c)(2) to grant administrative
exemptions from the prohibited transaction provisions in Title I and
the Code.\6\
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\5\ ERISA section 406 and Code section 4975. Cf. Code section
4975(f)(5), which defines ``correction'' with respect to prohibited
transactions as placing a Plan or an IRA in a financial position not
worse than it would have been in if the person had acted ``under the
highest fiduciary standards.''
\6\ Reorganization Plan No. 4 of 1978 (5 U.S.C. App. 1 (2018))
generally transferred the authority of the Secretary of the Treasury
to grant administrative exemptions under Code section 4975 to the
Secretary of Labor.
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In 2016, the Department finalized a new regulation that would have
replaced the 1975 regulation, and granted new associated prohibited
transaction exemptions.\7\ After the U.S. Court of Appeals for the
Fifth Circuit vacated that rulemaking, including the new exemptions, in
Chamber of Commerce of the United States v. U.S. Department of Labor in
2018 (the Chamber opinion),\8\ the Department issued Field Assistance
Bulletin (FAB) 2018-02, a temporary enforcement policy providing
prohibited transaction relief to investment advice fiduciaries.\9\
[[Page 82799]]
In the FAB, the Department stated it would not pursue prohibited
transaction 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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\7\ See Definition of the Term ``Fiduciary''; Conflict of
Interest Rule--Retirement Investment Advice, 81 FR 20945 (Apr. 8,
2016).
\8\ 885 F.3d 360 (5th Cir. 2018).
\9\ 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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On July 7, 2020, the Department proposed this class exemption,
which took into consideration the public correspondence and comments
received by the Department since February 2017 and responded to
informal industry feedback seeking an administrative class exemption
based on FAB 2018-02.\10\ On the same day, the Department issued a
technical amendment to 29 CFR 2510-3.21, instructing the Office of the
Federal Register to remove language that was added in 2016 and reinsert
the text of the 1975 regulation.\11\ This ministerial action reflected
the Fifth Circuit's vacatur of the 2016 fiduciary rule.\12\ The
technical amendment also reinserted into the CFR Interpretive Bulletin
96-1 relating to participant investment education, which had been
removed and largely incorporated into the text of the 2016 fiduciary
rule.\13\ The Department received 106 written comments on the proposed
exemption, and on September 3, 2020, held a public hearing at which the
commenters were permitted to give additional testimony.\14\
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\10\ 85 FR 40834 (July 7, 2020).
\11\ 85 FR 40589 (July 7, 2020).
\12\ The amendment also corrected a typographical error in the
original text of the 1975 regulation, at 29 CFR 2510-3.21(e)(1)(ii).
\13\ 29 CFR 2509.96-1.
\14\ Hearing on Improving Investment Advice for Workers &
Retirees, 85 FR 52292 (August 25, 2020).
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After careful consideration of the comments and testimony on the
proposed exemption, the Department is granting the exemption. While the
final exemption makes a number of significant changes in response to
comments, it retains the proposal's broad protective framework,
including the Impartial Conduct Standards; disclosures, including a
written acknowledgment of fiduciary status; policies and procedures
prudently designed to ensure compliance with the Impartial Conduct
Standards and that mitigate conflicts of interest; and a retrospective
compliance review. The exemption, like the proposal, also specifies the
circumstances in which Financial Institutions and Investment
Professionals are ineligible to rely upon its terms.
In response to commenters, the Department made a number of
important changes. First, the final exemption's recordkeeping
requirements have been narrowed to allow only the Department and the
Department of the Treasury to obtain access to a Financial
Institution's records as opposed to plan fiduciaries and other
Retirement Investors. Second, the final exemption's disclosure
requirements have been revised to include written disclosure to
Retirement Investors of the reasons that a rollover recommendation was
in their best interest. Third, the final exemption's retrospective
review provision has been revised to provide that certification can be
made by any Senior Executive Officer, as defined in the exemption,
rather than requiring certification by the chief executive officer (or
equivalent officer) as proposed. Fourth, a self-correction provision
has also been added to the final exemption.
This document also sets forth the Department's final interpretation
of the five-part test of investment advice fiduciary status for
purposes of this exemption, and provides the Department's views on when
advice to roll over Title I Plan assets to an IRA will be considered
fiduciary investment advice under Title I and the Code.\15\ Comments on
the interpretation, which was proposed in the notice of proposed
exemption, are discussed below.
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\15\ For purposes of any rollover of assets from a Title I Plan
to an IRA described in this preamble, the term ``Plan'' only
includes an employee pension benefit plan described in ERISA section
3(2) or a plan described in Code section 4975(e)(1)(A), and the term
``IRA'' only includes an account or annuity described in Code
section 4975(e)(1)(B) or (C).
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The Department has also provided explanation in the preamble to
respond to issues raised during the comment period. Additionally, to
the extent public comments were based on concerns about compliance and
interpretive issues with the final exemption or the Act, the Department
intends to support Financial Institutions, Investment Professionals,
plan sponsors and fiduciaries, and other affected parties, with
compliance assistance following publication of the final exemption.
The Department further announces that FAB 2018-02 will remain in
effect until December 20, 2021. This will provide a transition period
for parties to develop mechanisms to comply with the provisions in the
new exemption.
The Department grants this exemption, which was proposed on its own
motion, pursuant to its authority under 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)). The
Department finds that the exemption is administratively feasible, in
the interests of Plans and their participants and beneficiaries and of
IRA owners, and protective of the rights of participants and
beneficiaries of Plans and IRA owners. The Department has determined
that the exemption is an Executive Order (E.O.) 13771 deregulatory
action because it provides broader and more flexible exemptions that
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 Title I and the Code.
Overview of the Final Exemption and Discussion of Comments Received
This exemption is 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.\16\ The exemption defines Retirement Investors as Plan
participants and beneficiaries, IRA owners, and Plan and IRA
fiduciaries.\17\ Under the exemption, Financial Institutions and
Investment Professionals can 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 extends
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
exemption. The
[[Page 82800]]
exemption also allows 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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\16\ References in the preamble to registered investment
advisers include both SEC- and state-registered investment advisers.
\17\ As defined in Section V(i) of the exemption, the term
``Plan'' means any employee benefit plan described in ERISA section
3(3) and any plan described in Code section 4975(e)(1)(A). In
Section V(g), 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, Title I 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 an 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 \18\ or related
entities \19\ to receive additional compensation violate the prohibited
transaction provisions unless an exemption applies.\20\
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\18\ As defined in Section V(a) of the exemption, an
``affiliate'' includes: (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'' means 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.
\19\ As defined in Section V(j) of the exemption, a ``related
entity'' is an entity that is not an affiliate, but in which the
Investment Professional or Financial Institution has an interest
that may affect the exercise of its best judgment as a fiduciary.
\20\ 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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This exemption conditions relief on the Investment Professional and
Financial Institution investment advice fiduciaries providing advice in
accordance with the Impartial Conduct Standards. In addition, the
exemption requires Financial Institutions to acknowledge in writing
their and their Investment Professionals' fiduciary status under Title
I 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. Financial Institutions must document
the reasons that a rollover recommendation is in the best interest of
the Retirement Investor and provide that documentation to the
Retirement Investor. Financial Institutions are 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 also provides, 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.
In order to ensure that Financial Institutions provide reasonable
oversight of Investment Professionals and adopt a culture of
compliance, the exemption provides that Financial Institutions and
Investment Professionals will 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 will also be ineligible if they engaged in systematic
or 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 are permitted to
rely on an otherwise available statutory exemption or administrative
class exemption, or they can 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 will provide meaningful
protections for Retirement Investors.
While the exemption's eligibility provision provides an incentive
to maintain an appropriate focus on compliance with legal requirements
and with the exemption, it does not represent the only available
enforcement mechanism. The Department has investigative and enforcement
authority with respect to transactions involving Plans under Title I of
ERISA, and it has interpretive authority as to whether exemption
conditions have been satisfied. Further, ERISA section 3003(c) provides
that the Department will transmit information to the Secretary of the
Treasury regarding a party's violation of the prohibited transaction
provisions of ERISA section 406. In addition, participants,
beneficiaries, and fiduciaries with respect to Plans covered under
Title I have a statutory cause of action under ERISA section 502(a) for
fiduciary breaches and prohibited transactions under Title I. The
exemption, however, does not expand Retirement Investors' ability to
enforce their rights in court or create any new legal claims above and
beyond those expressly authorized in Title I or the Code, such as by
requiring contracts and/or warranty provisions.
Exemption Approach and Alignment With Other Regulators' Conduct
Standards
This exemption provides relief that is broader and more flexible
than the other prohibited transaction exemptions currently available
for investment advice fiduciaries. Those exemptions generally provide
relief to specific types of financial services providers, for discrete,
specifically identified transactions, and often do not extend to
compensation arrangements that developed after the Department first
granted the exemptions.\21\ In comparison, this new exemption provides
relief for multiple categories of Financial Institutions and Investment
Professionals, and extends broadly to their receipt of reasonable
compensation as a result of the provision of fiduciary investment
advice. The conditions are principles-based rather than prescriptive,
so as to apply across different financial services sectors and business
models. The exemption provides additional certainty regarding covered
compensation arrangements and avoids the complexity associated with
requiring a Financial Institution to rely upon a patchwork of different
exemptions when providing investment advice.
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\21\ 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 an 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 an IRA and another party to the transaction and receive
reasonable compensation for effecting or executing the transaction
from the other party to the transaction); 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 exemption's principles-based approach is rooted in the
Impartial Conduct Standards for fiduciaries providing investment
advice. The Impartial Conduct Standards include a best interest
standard, a reasonable compensation standard, and a requirement to make
no misleading statements about investment transactions and other
relevant matters.
[[Page 82801]]
In the proposed exemption, the Department noted that the best interest
standard was based on concepts of law and equity ``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, the standard is well-suited to the problems posed by
conflicted investment advice.\22\ The Department believes that
conditioning the exemption on satisfaction of the Impartial Conduct
Standards protects the interests of Retirement Investors in connection
with this broader grant of exemptive relief.
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\22\ 85 FR 40842.
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The best interest standard in the exemption is broadly aligned with
recent rulemaking by the Securities and Exchange Commission (SEC), in
particular. On June 5, 2019, the 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.\23\ The SEC also
issued an interpretation of the fiduciary conduct standards applicable
to investment advisers under the Investment Advisers Act of 1940 (SEC
Fiduciary Interpretation).\24\ In addition, as part of the package, the
SEC adopted new Form CRS, which requires broker-dealers and SEC-
registered investment advisers to provide retail investors with a short
relationship summary with specified information (SEC Form CRS).\25\
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\23\ Regulation Best Interest: The Broker-Dealer Standard of
Conduct, 84 FR 33318 (July 12, 2019) (Regulation Best Interest
Release).
\24\ Commission Interpretation Regarding Standard of Conduct for
Investment Advisers, 84 FR 33669 (July 12, 2019).
\25\ Form CRS Relationship Summary; Amendments to Form ADV, 84
FR 33492 (July 12, 2019) (Form CRS Relationship Summary Release). In
addition to the SEC's rulemaking, the Massachusetts Securities
Division 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.'' 950 Mass. Code Regs. 12.204 & 12.207 as
amended effective March 6, 2020.
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The exemption's best interest standard is also aligned with the
standard included in the National Association of Insurance
Commissioners (NAIC)'s Suitability in Annuity Transactions Model
Regulation (NAIC Model Regulation) which was updated in Spring
2020.\26\ The model regulation provides 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 the consumer's interest. Both Iowa and Arizona have adopted updated
rules following the update of the NAIC Model Regulation.\27\
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\26\ NAIC Suitability in Annuity Transactions Model Regulation,
Spring 2020, available at www.naic.org/store/free/MDL-275.pdf (NAIC
Model Regulation).
\27\ Iowa Code Sec. 507B.48 (2020), available at https://iid.iowa.gov/sites/default/files/bi_af.pdf; Arizona Senate Bill 1557
(2020), available at www.azleg.gov/legtext/54Leg/2R/laws/0090.pdf.
The New York State Department of Financial Services also amended its
insurance regulations to establish a best interest standard in
connection with life insurance and annuity transactions. New York
State Department of Financial Services Insurance Regulation 187, 11
NYCRR 224, First Amendment, effective August 1, 2019 for annuity
transactions.
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Some commenters expressed general support for the approach taken in
the proposed exemption, although they opposed certain specific
conditions as discussed in greater detail below. Commenters cited the
flexible, principles-based approach rather than a prescriptive approach
to exemptive relief, and they also praised the proposed exemptive
relief for a broad range of otherwise prohibited compensation types
which they said did not favor certain market segments or arrangements.
Many of these commenters supported what they viewed as the proposed
exemption's alignment with regulatory conduct standards under the
securities laws, particularly Regulation Best Interest. The commenters
said this approach would reduce compliance costs and burdens, which
will ultimately benefit Retirement Investors through reduced fees.
Commenters also stated that they believed the exemption's approach
would facilitate providing investment advice to Retirement Investors
through a wide variety of methods.
Some commenters urged the Department to more closely mirror
Regulation Best Interest or offer an explicit safe harbor for
compliance with Regulation Best Interest, or with any ``primary
financial regulator'' of the Financial Institution, rather than
including additional conditions in the exemption. They argued that
otherwise Financial Institutions would have to comply with two
differing yet mostly redundant regimes, with their attendant additional
costs and liability exposure, and that the Department had failed to
show that Retirement Investors would be insufficiently protected by
other regulators' standards. Some commenters focused on conduct
standards, disclosures, and policies and procedures as areas for
increased alignment, which they said would further reduce compliance
burdens. These comments, as they pertain to these particular aspects of
the exemption, are discussed in greater detail below in their
respective parts of the preamble.
Commenters made similar points with respect to alignment with the
NAIC Model Regulation. Some commenters asked the Department to go
further in aligning the exemption's terms to the NAIC Model Regulation,
or even offer a safe harbor based on compliance with it. Commenters
asserted that increased alignment is particularly important to allow
for distribution of insurance products by independent insurance agents.
Specifically, commenters expressed the view that the exemption
establishes a structure of Financial Institution oversight for
Investment Professionals that is incompatible with the independent
agent distribution model, because independent insurance agents sell the
products of more than one insurance company. They suggested that the
NAIC Model Regulation better accommodated that business model.
In contrast, many commenters opposed the approach taken in the
proposed exemption as insufficiently protective of Retirement
Investors, and urged the Department to withdraw the proposal. Some of
these commenters expressed the view that the exemption would not
satisfy the statutory criteria under ERISA section 408(a) for the
granting of an exemption or, more generally, that the conditions would
not protect Plans and IRAs and their participants and beneficiaries
from the dangers of conflicts of interest and self-dealing.
These commenters focused much of their opposition on the
exemption's alignment with Regulation Best Interest and the NAIC Model
Regulation, which the commenters said do not encompass a ``true''
fiduciary standard. Commenters stated that the provisions of Regulation
Best Interest and the NAIC Model Regulation restricting conflicts of
interest do not sufficiently protect investors from conflicted
investment advice. Furthermore, commenters stated that the Act was
enacted to provide additional protections to individuals saving for
retirement, above and beyond existing laws. Some commenters noted that
at the time the Act was enacted, Congress was aware of other federal
and state regulatory schemes and that there was no suggestion of
congressional purpose to base compliance on federal securities laws or
other regulatory schemes.
Some commenters took the position that the alignment with the
conduct
[[Page 82802]]
standards in Regulation Best Interest rendered many of the exemption's
other conditions, which are designed to support investment advice that
meets the standards, too lax. Some commenters also opposed the breadth
of the exemption. These commenters suggested that the exemption should
not allow receipt of payments from third parties. Some commenters also
opposed the exemption's application to recommendations of proprietary
products. Further, commenters also stated that the failure to provide a
mechanism for IRA owners to enforce the Impartial Conduct Standards was
a significant flaw in the exemption's approach. Some of these
commenters noted that the Department also lacks the authority to
enforce the exemption with respect to these investors.
The Department has carefully considered these comments on the
exemption's approach, its alignment with other regulators' conduct
standards, as well as the comments on specific provisions of the
exemption discussed below. The Department has proceeded with granting
the final exemption based on the view that the exemption will provide
important protections to Retirement Investors in the context of a
principles-based exemption that permits a broad range of otherwise
prohibited compensation, including compensation from third parties and
from proprietary products.
In this regard, the Impartial Conduct Standards are strong
fiduciary standards based on longstanding concepts in the Act and the
common law of trusts. The exemption includes additional supporting
conditions including a written acknowledgment of fiduciary status to
ensure that the nature of the relationship is clear to Financial
Institutions, Investment Professionals, and Retirement Investors;
policies and procedures that require mitigation of conflicts of
interest to the extent that a reasonable person reviewing the policies
and procedures and incentive practices as a whole would conclude that
they do not create an incentive for a Financial Institution or
Investment Professional to place their interests ahead of the interest
of the Retirement Investor; and documentation and disclosure to
Retirement Investors of the reasons that a rollover recommendation is
in the Retirement Investor's best interest.
The exemption does not include a provision permitting IRA owners to
enforce the Impartial Conduct Standards. In developing the exemption,
the Department was mindful of the Fifth Circuit's Chamber opinion
holding that the Department did not have authority to include certain
contract requirements in the new exemptions enforceable by IRA owners
as granted by the 2016 fiduciary rulemaking. In addition, the
Department intends to avoid any potential for disruption in the market
for investment advice that may occur related to a contract requirement.
Instead, the exemption includes many protective measures and targeted
opportunities for the Department to review compliance within its
existing oversight and enforcement authority under the Act. For
example, Financial Institutions' reports regarding their retrospective
review are required to be certified by a Senior Executive Officer \28\
of the Financial Institution and provided to the Department within 10
business days of request. The exemption also includes eligibility
provisions, discussed below, which the Department believes will
encourage Financial Institutions and Investment Professionals to
maintain an appropriate focus on compliance with legal requirements and
with the exemption.
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\28\ Senior Executive Officer is defined in Section V(l) as any
of the following: The chief compliance officer, the chief executive
officer, president, chief financial officer, or one of the three
most senior officers of the Financial Institution.
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The Department believes that general alignment with the other
regulators' conduct standards is beneficial in allowing for the
development of compliance structures that lack complexity and
unnecessary burden. The Department has not, however, offered a safe
harbor based solely on compliance with regulatory conduct standards
under federal or state securities laws. The Department disagrees with
commenters' arguments that the failure to do so will create a
redundant, cost-ineffective regime, or one that could create unexpected
liabilities at the edges. This exemption is offered as a deregulatory
option for interested parties; it does not unilaterally impose any
obligations. The additional conditions of the exemption provide
important protections to Retirement Investors, who are investing
through tax advantaged accounts and are the subject of unique
protections under Title I and the Code.\29\ The approach in the final
exemption exemplifies the Department's important role in protecting
Retirement Investors through promulgating only those exemptions that
meet the requirements of ERISA section 408(a) and Code section
4975(c)(2).
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\29\ See ERISA section 2(a).
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For the same reasons, the Department likewise declines to provide a
safe harbor based on the NAIC Model Regulation. A uniform approach to
safeguards for Retirement Investors receiving fiduciary investment
advice in the insurance marketplace is particularly important given the
potential for variation across state insurance laws. Moreover, although
commenters expressed concern about the scope of an insurance company's
supervisory oversight responsibilities as a Financial Institution, the
Department believes that the exemption is workable for the insurance
industry, as discussed in greater detail below.
Some commenters raised questions as to whether the Department
intends to defer to the SEC or other regulators on enforcement and how
the Department will treat violations under other regulatory regimes.
The Department has worked with other regulatory agencies, including the
SEC, in numerous cases that implicate violations under different laws.
The interaction of findings or settlements in parallel suits or
investigations is decidedly a case-by-case determination. The
Department confirms that it will coordinate with other regulators,
including the SEC, on enforcement strategies and will harmonize regimes
to the extent possible, but will not defer to other regulators on
enforcement under the Act. Retirement Investors who have concerns about
whether they have received investment advice that is not in accordance
with the Impartial Conduct Standards or other conditions of the
exemption are encouraged to contact the Department.\30\
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\30\ Contact information for regional offices of the
Department's Employee Benefits Security Administration is available
at www.dol.gov/agencies/ebsa/about-ebsa/about-us/regional-offices.
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Interpretation of Fiduciary Investment Advice in Connection With
Rollover Recommendations
As stated in the proposed exemption, amounts accrued in a Title I
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 assets from a Title I Plan to an IRA is
potentially a very consequential financial decision for a Retirement
Investor.\31\ A sound decision on the rollover will typically turn on
numerous factors, including the relative costs associated with the new
investment options, the range of available investment options under the
[[Page 82803]]
plan and the IRA, and the individual circumstances of the particular
investor.
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\31\ For simplicity, this preamble interpretation uses the term
Retirement Investor, which is a defined term in the exemption. This
is not intended to suggest that the interpretation is limited to
Retirement Investors impacted by the class exemption. In this
preamble interpretation, the term Retirement Investor is intended to
refer more generally to Plan participants and beneficiaries and IRA
owners.
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Rollovers from Title I Plans to IRAs are expected to approach $2.4
trillion cumulatively from 2016 through 2020.\32\ 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
Title I Plan.
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\32\ Cerulli Associates, ``U.S. Retirement Markets 2019.''
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In light of potential conflicts of interest related to rollovers
from Title I Plans to IRAs, Title I and the Code prohibit an investment
advice fiduciary from receiving fees resulting from investment advice
to Title I Plan participants to roll over assets from the plan to an
IRA, unless an exemption applies. The exemption provides relief, as
needed, for this prohibited transaction, if the Financial Institution
and Investment Professional provide investment advice that satisfies
the Impartial Conduct Standards and comply with the other applicable
conditions discussed below.\33\ In particular, the Financial
Institution is required to document the reasons that the advice to roll
over was in the Retirement Investor's best interest, and provide the
documentation to the Retirement Investor.
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\33\ The exemption would also provide relief for investment
advice fiduciaries under either Title I 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 applicable law. The analysis set forth
in this section will apply as relevant to those transactions as
well. For purposes of any rollover of assets between a Title I Plan
and an IRA described in this preamble, the term ``IRA'' includes
only an account or annuity described in Code section 4975(e)(1)(B)
or (C).
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The preamble to the proposed exemption provided the Department's
proposed views on when advice to roll over Plan assets to an IRA should
be considered fiduciary investment advice under the Department's
regulation defining fiduciary investment advice,\34\ and requested
comment on all aspects of the interpretation. The proposed
interpretation addressed both Advisory Opinion 2005-23A (the Deseret
Letter) as well as the facts and circumstances analysis of rollover
recommendations under the five-part test. The discussion also touched
on the statutory definitional prerequisite that advice be provided
``for a fee or other compensation, direct or indirect.'' Comments on
the proposed interpretation are discussed below. The Department has
carefully considered these comments and has adopted the final
interpretation, as follows.
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\34\ 29 CFR 2510-3.21.
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Deseret Letter
The proposed exemption announced that, in determining the fiduciary
status of an investment advice provider in the context of advice to
roll over Title I Plan assets to an IRA, the Department does not intend
to apply the analysis in the Deseret Letter stating that advice to roll
assets out of a Title I Plan, even when combined with a recommendation
as to how the distribution should be invested, did not constitute
investment advice with respect to the Title I Plan. The Department
believes that the analysis in the Deseret Letter was incorrect when it
stated that advice to take a distribution of assets from a Title I Plan
is not advice to sell, withdraw, or transfer investment assets
currently held in the plan. A recommendation to roll assets out of a
Title I Plan is necessarily a recommendation to liquidate or transfer
the plan's property interest in the affected assets and the
participant's associated property interest in plan investments.\35\
Typically the assets, fees, asset management structure, investment
options, and investment service options all change with the decision to
roll money out of a Title I Plan. Moreover, a distribution
recommendation commonly involves either advice to change specific
investments in the Title I Plan or to change fees and services directly
affecting the return on those investments. Accordingly, the better view
is that a recommendation to roll assets out of a Title I Plan is advice
with respect to moneys or other property of the plan. An investment
advice fiduciary making a rollover recommendation would be required to
avoid prohibited transactions under Title I and the Code unless an
exemption, including this one, applies.
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\35\ Similarly, 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 33339; FINRA Regulatory Notice 13-45
Rollovers to Individual Retirement Accounts (December 2013),
available at www.finra.org/sites/default/files/NoticeDocument/p418695.pdf.
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Some commenters supported the Department's announcement that it
would not apply the reasoning of the Deseret Letter but would rather
approach the analysis of rollovers based on all the facts and
circumstances under the five-part test. These commenters generally
supported the possibility that rollover recommendations could be
considered fiduciary investment advice if the five-part test is
satisfied, particularly given the consequence of the decision to roll
over large sums typically accumulated in a Retirement Investor's
workplace Plan.
Some commenters stated the Department's proposed interpretation did
not go far enough in protecting Retirement Investors, and that all
rollover recommendations should be deemed fiduciary investment advice
regardless of whether the five-part test is satisfied. Commenters noted
that financial professionals have adopted titles such as financial
consultant, financial planner, and wealth manager. These commenters
stated that reinsertion of the five-part test makes it all too easy for
financial services providers to hold themselves out as acting in
positions of trust and confidence, even as they effectively avoided
fiduciary status by relying on the ``regular basis,'' ``mutual
agreement, arrangement, or understanding'' and ``primary basis'' prongs
of the test.\36\ One commenter argued that a rollover recommendation
should be viewed as always satisfying the ``regular basis'' prong
because, in its view, there are two distinct steps--the decision to do
a rollover, and the decision to invest its proceeds.
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\36\ Comments on the reinsertion of the five-part test are
discussed in greater detail below in the section ``Reinsertion of
the Five-Part Test.''
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Other commenters asserted that the facts-and-circumstances analysis
would lead to uncertainty as to fiduciary status and that a consequence
of that uncertainty is a potential reduction in access to advice. One
commenter argued that would lead to more leakage, missing participants,
and abandoned accounts. Commenters disagreed with the conclusion that
rollover recommendations typically include investment recommendations.
Many commenters expressed concern that the Department intended to apply
the facts and circumstances analysis to transactions occurring in the
past. They said the Department's statement that it would no longer
apply the reasoning in the Deseret Letter would expose financial
services providers to liability for transactions entered into in the
past. Some commenters asked for additional guidance on other types of
interactions, including recommendations to increase contributions to a
Plan.
After careful consideration of these comments, the Department has
determined that, consistent with the position taken in the proposal,
the facts and circumstances analysis required by the five-part test
applies to rollover recommendations. A recommendation
[[Page 82804]]
to roll assets out of a Title I Plan is advice with respect to moneys
or other property of the plan and, if provided by a person who
satisfies all of the requirements of the five-part test, constitutes
fiduciary investment advice. This outcome is more aligned with both the
facts and circumstances approach taken by Congress in drafting the
Act's statutory functional fiduciary test, and with an approach
centered on whether the parties have entered into a relationship of
trust and confidence.\37\ This outcome is also consistent with the
Act's goal of protecting the interests of Retirement Investors given
the central importance to investors' retirement security consequences
of a decision to roll over Title I Plan assets.
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\37\ For example, ERISA section 3(21) discusses a fiduciary
relationship surrounding the ``disposition of [plan] assets.''
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The Department agrees that not all rollover recommendations can be
considered fiduciary investment advice under the five-part test set
forth in the Department's regulation. Parties can and do, for example,
enter into one-time sales transactions in which there is no ongoing
investment advice relationship, or expectation of such a relationship.
If, for example, a participant purchases an annuity based upon a
recommendation from an insurance agent without receiving subsequent,
ongoing advice, the advice does not meet the ``regular basis'' prong as
specifically required by the regulation.\38\ Nor is the Department
persuaded by the commenter who suggested that a rollover transaction
should always satisfy the regular basis prong on the grounds that it
can be viewed as involving two separate steps--the rollover and a
subsequent investment decision. These two steps do not, in and of
themselves, establish a regular basis.
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\38\ Where a broker-dealer or investment adviser makes a
recommendation or provides advice that does not meet the five-part
test, the recommendation or advice could still be subject to
Regulation Best Interest or the investment adviser's fiduciary duty
under securities laws, as applicable.
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The Department does not believe that its interpretation will lead
to loss of access to investment advice due to uncertainty of financial
services providers as to their fiduciary status. Taken together, the
five-part test as interpreted here and Interpretive Bulletin 96-1,
regarding participant investment education, provide Financial
Institutions and Investment Professionals a clear roadmap for when they
are, and are not, Title I and Code fiduciaries. Since the exemption
provides prohibited transaction relief for rollover recommendations
that do constitute fiduciary investment advice, Financial Institutions
and Investment Professionals would be free to provide fiduciary
investment advice and comply with the exemption to avoid a prohibited
transaction. In this regard, some commenters specifically supported the
proposed exemption as facilitating investment advice and options for
consumers. Alternatively, financial services providers can choose not
to provide fiduciary investment advice and have no need of this
exemption. And, of course, the Department acknowledges some commenters'
observations that Retirement Investors may choose on their own to
withdraw assets from a Title I Plan and roll over funds to an IRA;
however, this exemption focuses on the interests of those Retirement
Investors who do receive fiduciary investment advice. The Department
further addresses concerns regarding purported uncertainty over whether
certain relationships meet the prongs of the five-part test, including
the ``regular basis'' and ``mutual agreement'' prongs, later in this
preamble.
Some commenters stated that the Department should have engaged in
notice and comment prior to announcing that it would no longer apply
the analysis in the Deseret Letter. Commenters said that the position
in the Deseret Letter contributed to a longstanding understanding of
the five-part test which should be reversed only through the regulatory
process. A commenter noted that, in 2016, the Department characterized
the 2016 fiduciary rule as ``superseding'' the Deseret Letter, and
asserted that characterization as evidence that the Department's
procedure in this exemption proceeding is inadequate.
The Department does not believe these comments have merit. Advisory
opinions, such as the Deseret Letter, are interpretive statements that
were not subject to the notice and comment process. As such, the
Department need not go through notice and comment to offer a new
interpretation of the regulation based on a better reading of governing
statutory and regulatory authority, as here.\39\ Moreover, in this
instance, the statements made in the preamble to the now-vacated 2016
fiduciary rule are also unpersuasive as to the effect of the Deseret
Letter for the same reasons. Rather than take the 2016 fiduciary rule's
approach of removing the five-part test through an amendment to the
Code of Federal Regulations and, thus, ``superseding'' the Deseret
Letter, the Department now is only changing its view on the Deseret
Letter (and specifically, one aspect of it). The five-part test still
applies without the Deseret Letter, as it did for decades before the
letter. The 2016 fiduciary rule is not in effect, and statements made
in the preamble to the vacated rule bear no weight. And, in this
instance, the Department solicited and has had the benefit of public
comment on its interpretation through the notice and comment process
for the exemption. Comments regarding the Department's compliance with
Executive Order 13891 are addressed later in this preamble.
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\39\ See Perez v. Mortgage Bankers Assoc., 575 U.S. 92, 100-01
(2015).
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Nevertheless, in response to commenters expressing concern about
the possibility of being held liable for past transactions that would
not have been treated as fiduciary under the Deseret analysis, the
Department will not pursue claims for breach of fiduciary duty or
prohibited transactions against any party, or treat any party as
violating the applicable prohibited transaction rules, for the period
between 2005, when the Deseret Letter was issued, and February 16,
2021, based on a rollover recommendation that would have been
considered non-fiduciary conduct under the reasoning in the Deseret
Letter. The Department recognizes that advisory opinions issued under
ERISA Procedure 76-1, while directly applicable only to their
requester, see ERISA Procedure 76-1 section 10, can also constitute ``a
body of experience and informed judgment to which the courts and
litigants may properly resort for guidance.'' Raymond B. Yates, M.D.,
P.C. Profit Sharing Plan v. Hendon, 541 U.S. 1, 18 (2004) (quoting
Skidmore v. Swift & Co., 323 U.S. 134, 140 (1944)). For this reason,
and because the Department does not wish to disturb the reliance
interests of those who looked to the Deseret Letter for guidance, the
Department also does not expect or intend a private right of action to
be viable for a transaction conducted in reliance on the Deseret Letter
prior to that date. Further, the extension of the temporary enforcement
policy in FAB 2018-02 until its expiration on December 20, 2021 will
allow parties a transition period during which the Department will not
pursue prohibited transaction claims against investment advice
fiduciaries who work diligently and in good faith to comply with the
Impartial Conduct Standards for rollover recommendations or treat such
fiduciaries as violating the applicable prohibited transaction
rules.\40\
[[Page 82805]]
Additionally, although the Department declines to set broad guidelines
in this preamble for what is necessarily a facts-and-circumstances
determination about particular business practices, to the extent public
comments were based on concerns about compliance and interpretive
issues with the final exemption or the Act, the Department intends to
support Financial Institutions, Investment Professionals, plan sponsors
and fiduciaries, and other affected parties with compliance assistance
following publication of the final exemption.
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\40\ On March 28, 2017, the Treasury Department and the IRS
issued IRS Announcement 2017-4 stating that the IRS will not apply
Sec. 4975 (which provides excise taxes relating to prohibited
transactions) and related reporting obligations with respect to any
transaction or agreement to which the Labor Department's temporary
enforcement policy described in FAB 2017-01, or other subsequent
related enforcement guidance, would apply. The Treasury Department
and the IRS have confirmed that, for purposes of applying IRS
Announcement 2017-4, this preamble discussion and FAB 2018-02
constitute ``other subsequent related enforcement guidance.''
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Facts and Circumstances Analysis
All the elements 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 as well as
requirements that the advice be provided pursuant to a ``mutual''
agreement, arrangement, or understanding that the advice will serve as
``a primary basis'' for investment decisions. In addition to satisfying
the five-part test, a person must also receive a fee or other
compensation to be an investment advice fiduciary under the provisions
of Title I and the Code.
If, under this facts and circumstances analysis, advice to roll
Title I Plan assets over to an IRA is fiduciary investment advice under
Title I, the fiduciary duties of prudence and loyalty under ERISA
section 404 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 Title I 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 in
advising on assets in a Title I Plan, advises the Retirement Investor
to move his or her assets from the plan to an IRA, and receives any
fees or compensation incident to distributing those assets, will be a
fiduciary subject to Title I, including section 404, with respect to
the advice regarding the rollover. Following the rollover, the broker-
dealer will be a fiduciary under the Code subject to the prohibited
transaction provisions in Code section 4975.
Final Interpretation
The Department acknowledges that a single instance of advice to
take a distribution from a Title I Plan and roll over the assets would
fail to meet the regular basis prong. Likewise, sporadic interactions
between a financial services professional and a Retirement Investor do
not meet the regular basis prong. For example, if a Retirement Investor
who is assisted with a rollover expresses the intent to direct his or
her own investments in a brokerage account, without any expectation of
entering into an ongoing advisory relationship and without receiving
repeated investment recommendations from the investment professional,
the Department would not view the regular basis prong as being
satisfied merely because the investor subsequently sought the
professional's advice in connection with another transaction long after
receiving the rollover assistance.
However, advice to roll over plan assets can also occur as part of
an ongoing relationship or an intended ongoing relationship that an
individual enjoys with his or her investment advice provider. In
circumstances in which the investment advice provider has been giving
advice to the individual about investing in, purchasing, or selling
securities or other financial instruments through tax-advantaged
retirement vehicles subject to Title I or the Code, the advice to roll
assets out of a Title I Plan is part of an ongoing advice relationship
that satisfies the regular basis prong. Similarly, advice to roll
assets out of a Title I Plan into an IRA where the investment advice
provider has not previously provided advice but will be regularly
giving 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 prong. It is clear under Title I and
the Code that advice to a Title I Plan includes advice to participants
and beneficiaries in participant-directed individual account pension
plans, so in these scenarios, there is advice to the Title I Plan--
meaning the Plan participant or beneficiary--on a regular basis.\41\
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\41\ See ERISA section 408(b)(14) (providing a statutory
exemption for transactions in connection with the provision of
investment advice described in ERISA section 3(21)(A)(ii) to a
participant or beneficiary of an individual account plan that
permits such participant or beneficiary to direct the investment of
assets in their individual account); Code section 4975(d)(17)
(same); see also Interpretive Bulletin 96-1, 29 CFR 2509.96-1.
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This interpretation is consistent with the approach of other
regulators and protects 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 an
outcome of advice given to a Retirement Investor to roll over Title I
Plan assets is the compensation an advice provider receives from the
investments made in an IRA. For example, in a 2013 notice reminding
firms of their responsibilities regarding IRA rollovers, 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.'' \42\
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
Title I Plans, including IRA rollovers. GAO reported that industry
professionals said ``cross-selling IRA rollovers to participants, in
particular, is an important source of income for service providers.''
\43\ These types of transactions can initiate a future, ongoing
relationship.\44\
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\42\ FINRA Regulatory Notice 13-45.
\43\ 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
www.gao.gov/assets/320/315363.pdf.
\44\ It is by no means uncommon to interpret regulatory or
statutory terms phrased in the present to incorporate the future
tense. See, e.g., 1 U.S.C. 1.
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In applying the regular basis prong of the five-part test, however,
the Department intends to preserve the ability of financial services
professionals to engage in one-time sales transactions without becoming
fiduciaries under the Act, including by assisting with a rollover.\45\
For example, such parties can make clear in their communications that
they do not intend to enter into an ongoing relationship to provide
investment advice and act in conformity with that communication. In the
event that assistance with a rollover does in fact mark the beginning
of an ongoing relationship, however, the functional fiduciary test
under Title I and the Code appropriately covers the entire fiduciary
relationship, including the first instance of advice.
---------------------------------------------------------------------------
\45\ Merely executing a sales transaction at the customer's
request also does not confer fiduciary status.
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With respect to determining whether there is ``a mutual agreement,
arrangement, or understanding'' that the investment advice will serve
as ``a primary basis for investment decisions,''
[[Page 82806]]
the Department intends to consider 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 will
not be determinative, although such statements will be appropriately
considered in determining whether a mutual understanding exists.
Similarly, after consideration of the comments, the Department also
intends to consider marketing materials in which Financial Institutions
and Investment Professionals hold themselves out as trusted advisers,
in evaluating the parties' reasonable understandings with respect to
the relationship.
The Department believes that Financial Institutions and Investment
Professionals who meet the five-part test and are investment advice
fiduciaries relying on this exemption should clearly disclose their
fiduciary status to their Retirement Investor customers. By making this
disclosure, they provide important clarity to the Retirement Investor
and put themselves in the best possible position to meet their
fiduciary obligations and comply with the exemption. By setting clear
expectations and acting accordingly, the mutual understanding prong of
the five-part test should seldom be an issue for parties relying on the
exemption. Similarly, if a Financial Institution or Investment
Professional does not want to assume a fiduciary relationship or create
misimpressions about the nature of its undertaking, it can clearly
disclose that fact to its customers up-front, clearly disclaim any
fiduciary relationship, and avoid holding itself out to its Retirement
Investor customer as acting in a position of trust and confidence.
The Department does not intend to apply the five-part test to
determine whether the advice serves as ``the'' primary basis of
investment decisions, as advocated by some commenters, but whether it
serves as ``a'' primary basis, as the regulatory text provides.
Comments on the Regular Basis Analysis
Some commenters on the Department's proposed interpretation of the
regular basis prong asserted that the regular basis prong would always
be satisfied under the interpretation, and, therefore, the prong was
effectively being eliminated from the five-part test. In this regard,
one commenter stated that every financial professional wants to develop
an ongoing relationship with her customers. Commenters opposed the
statement that a rollover recommendation could be the first step in an
ongoing advice relationship that would satisfy the regular basis prong.
Some commenters characterized this statement as allowing for the
``retroactive'' imposition of fiduciary status on financial services
providers in the event an ongoing relationship develops. Some
commenters additionally opined that to be ``regular,'' the interactions
would have to be more than discrete or episodic. Some commenters stated
that the advice to a Retirement Investor in a Title I Plan should be
viewed as distinct from the advice to the same Retirement Investor
whose assets have been transferred to an IRA, for purposes of the
analysis of the regular basis prong. Commenters also cautioned that the
preamble statement about rollover advice following a pre-existing
advice relationship appeared to be overbroad with respect to the types
of pre-existing advice relationships to which it would apply.
Commenters in the insurance industry asked the Department to
confirm that insurance transactions generally would not be considered
fiduciary investment advice, because commenters said they occur
infrequently and that ongoing interactions may occur but they are
related to servicing the insurance or annuity contract. Some commenters
objected to the Department's statement in the preamble that agents who
receive trailing commissions on annuity transactions may continue to
provide ongoing recommendations or service with respect to the annuity.
Commenters asserted that this method of compensation is paid for a
variety of reasons and does not indicate an ongoing advice
relationship.\46\
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\46\ A few commenters in the insurance industry and the
brokerage industry cited statements in the Fifth Circuit's Chamber
opinion for the proposition that brokers-dealers and insurance
agents would ordinarily not develop a relationship of trust and
confidence with prospective customers so as to properly be
considered fiduciaries under Title I and the Code. These comments
related to the Fifth Circuit's Chamber opinion are discussed later
in this preamble.
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The Department has carefully considered these comments in
clarifying its interpretation of the ``regular basis'' prong of the
five-part test. The Department does not believe that the regular basis
prong has effectively been eliminated by stating that this prong may be
satisfied, in some cases, with the occurrence of first-time advice on
rollovers that is intended to be the beginning of a long-term
relationship. The regulation still requires, in all cases, that advice
will be provided on a regular basis. The Department's interpretation
merely recognizes that the rollover recommendation can be the beginning
of an ongoing advice relationship. It is important that fiduciary
status extend to the entire advisory relationship.
In this regard, when the parties reasonably expect an ongoing
advice relationship at the time of the rollover recommendation, the
regular basis prong is satisfied. This expectation can be shown by
various kinds of objective evidence, of which some examples are
discussed below, such as the parties agreeing to check-in periodically
on the performance of the customer's post-rollover financial products.
In such cases, the parties' expectation at the time of the rollover
recommendation appropriately demonstrates that the regular basis prong
has been satisfied, and, if the other prongs of the test are satisfied,
the financial service providers making the recommendation are
appropriately treated as investment advice fiduciaries under Title I
and the Code. Likewise, to the extent that financial service providers
hold themselves out to the customer as providing such ongoing services,
and meet the other elements of the five-part test, they are
fiduciaries.
In the Department's view, the updated conduct standards adopted by
the SEC and the NAIC reflect an acknowledgment of the fact that broker-
dealers and insurance agents commonly provide investment and annuity
recommendations to their customers.\47\ To the extent these
professionals engage in an ongoing advice relationship, they will
likely satisfy the regular basis prong. Moreover, the Department does
not intend to interpret ``regular basis'' to be limited to
relationships in which advice is provided at fixed intervals, as
suggested by a commenter, but, instead, believes the term ``regular
basis'' broadly describes a relationship where advice is recurring,
non-sporadic, and expected to continue. When insurance agents or
broker-dealers frequently or periodically make recommendations to their
clients on annuity or investment products or features, or on the
[[Page 82807]]
investment of additional assets in existing products, they may meet the
``regular basis'' prong of the five-part test, and are appropriately
treated as fiduciaries, assuming that they meet the remaining elements
of the fiduciary definition.
---------------------------------------------------------------------------
\47\ See Regulation Best Interest, 17 CFR 240.15l-1(a) (``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.'') and NAIC Model Regulation Section 6.A. (``A producer,
when making a recommendation of an annuity, shall act in the best
interest of the consumer under the circumstances known at the time
the recommendation is made, without placing the producer's or the
insurer's financial interest ahead of the consumer's interest.'').
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The Department's interpretation of the regular basis prong does not
result in retroactive imposition of fiduciary status, as suggested by
some commenters. As noted above, fiduciary status is determined by the
facts as they exist at the time of the recommendation, including
whether the parties, at that time, mutually intend an ongoing advisory
relationship. Every relationship has a beginning, and the five-part
test does not provide that the first instance of advice in an ongoing
relationship is automatically free from fiduciary obligations. The fact
that the relationship of trust and confidence starts with a
recommendation to roll the investor's retirement savings out of a Title
I Plan is not an argument for treating the recommendation as non-
fiduciary. Rather, fiduciary status extends to the entire advisory
relationship, including the first--and often most important--advice on
rolling the investor's retirement savings out of the Title I Plan in
the first place. A financial services provider that recommends that
Retirement Investors roll potential life savings out of a Title I Plan
with the expectation of offering ongoing advice to the same Retirement
Investor whose retirement assets will now be held in an IRA should
reasonably understand that the provider will be held to fiduciary
standards.
This does not mean that fiduciary status applies to a prior
isolated interaction, if the facts and circumstances surrounding the
interaction do not reflect that the interaction marked the beginning of
an ongoing fiduciary advice relationship. The Department recognizes
that relationships, and the parties' understandings of their
relationships, can change over time. The Department emphasizes that
parties who do not wish to enter into an ongoing relationship can make
that fact consistently clear in their communications and act
accordingly.
The Department disagrees with commenters who suggested that the
``regular basis'' requirement must first be met with respect to the
Title I Plan, and then again with respect to the IRA. Under the logic
of this position, even if the investment advice provider specifically
recommended the rollover to the IRA as part of a planned ongoing
investment advice relationship, the ``regular basis'' requirement would
not be satisfied with respect to the rollover advice because there was
only one instance of advice under the Title I Plan, notwithstanding the
expectation of a continued advisory relationship with the same customer
with respect to the same assets that were rolled out of the plan.
Similarly, the argument asserts that even if the investment advice
provider regularly advised the Plan participant on how to invest plan
assets, recommended the rollover to an IRA, and then continued to give
advice on the IRA account, the first instance of advice post-rollover
did not count because the ``regular basis'' requirement had only been
satisfied with respect to the Title I Plan, but not the IRA.
In response, the Department notes that under Title I and the Code,
advice to a Title I Plan includes advice to participants and
beneficiaries in participant-directed individual account pension
plans.\48\ Given that the identical five-part test definition appears
in the regulatory definition under both Title I and the Code, the
advice is rendered to the exact same Retirement Investor (first as a
Plan participant and then as IRA owner), and the IRA assets are
derived, in the first place, from that Retirement Investor's Title I
Plan account, it is appropriate to conclude that an ongoing advisory
relationship spanning both the Title I Plan and the IRA satisfies the
regular basis prong. It is enough, in the scenarios outlined above,
that the same financial services provider is giving advice to the same
person with respect to the same assets (or proceeds of those assets),
pursuant to identical five-part tests. A different outcome could all
too easily defeat legitimate investor expectations of trust and
confidence by arbitrarily dividing an ongoing relationship of ongoing
advice and uniquely carving out rollover advice from fiduciary
protection.
---------------------------------------------------------------------------
\48\ See supra, n. 41.
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Further, the Department believes an approach that coordinates the
five-part test under Title I with the identical test under the Code is
consistent with the transfer of authority to the Department under
Reorganization Plan No. 4 of 1978.\49\ Pursuant to the Reorganization
Plan, the Secretary of Labor has authority to issue regulations,
rulings, opinions, and exemptions under Code section 4975, with some
limited exceptions not relevant here. The message of the President that
accompanied the Reorganization Plan indicated an intent to streamline
administration of the Act, and to entrust the Department of Labor with
responsibility to oversee fiduciary conduct.\50\
---------------------------------------------------------------------------
\49\ 5 U.S.C. App. (2018).
\50\ Presidential Statement of October 14, 1978 on Congressional
Action on Reorganization Plan No. 4, 1978, Weekly Compilation of
Presidential Documents, Vol. 14, No. 42 (Aug. 10, 1978)
(accompanying the Reorganization Plan No. 4 of 1978, 5 U.S.C.A. App.
1, 43 FR 47713-16 (Oct. 17, 1978)).
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For similar reasons, the Department's interpretation of the regular
basis prong does not artificially distinguish between advice to a
Retirement Investor in a Title I Plan and advice to the same Retirement
Investor in an IRA, when evaluating a rollover recommendation made in
the context of a pre-existing advice relationship. Likewise, the
Department does not arbitrarily subdivide advice rendered to a plan
sponsor on multiple Title I Plans. It is enough, in that case, that the
parties have an ongoing advisory relationship with respect to Title I
Plans. If, on the other hand, the investment professional only made
recommendations to the investor on non-``plan'' assets held outside a
Plan or an IRA, he or she would not meet the ``regular basis'' test
based solely on additional one-time advice with respect to the Plan or
IRA. To meet the regular basis prong in that circumstance, there must
be ongoing advice to a ``plan'' (including Plans and IRAs).
As indicated by the discussion above, whether insurance
transactions will fall within or outside the scope of the fiduciary
definition in Title I and the Code depends on the related facts and
circumstances. Like other transactions involving Retirement Investors,
insurance and annuity transactions must be evaluated based on
application of the five-part test to the particular scenario. Some
commenters raised concerns that trailing annuity commissions could be
seen as indicating ongoing service that the Department would view as
fiduciary investment advice. Other commenters asserted that the
Department's view on this point fails to recognize that insurance
agents may receive trailing commissions for reasons wholly unrelated to
their relationship with a Retirement Investor, and that how an agent is
compensated does not impact whether the regular basis prong of the
five-part test is satisfied. The Department clarifies that payment of a
trailing commission will not, in and of itself, result in the
Department taking the position that the regular basis prong of the
five-part test is satisfied with respect to a transaction. On the other
hand, if the trailing commission is intended to compensate a financial
professional for providing advice to the
[[Page 82808]]
Retirement Investor on an ongoing basis, the conclusion could be
different, depending on the full facts and circumstances of the advice
arrangement.
Mutual Agreement, Arrangement, or Understanding That the Investment
Advice Will Serve as a Primary Basis for Investment Decisions
Similar to the comments discussed above, some commenters also
asserted that the Department's interpretation of the ``mutual
agreement, arrangement, or understanding'' and the ``primary basis''
requirements is so broad as to render them meaningless. Some of these
commenters objected to the statement that recommendations by financial
professionals, particularly pursuant to a best interest standard or
another requirement to provide advice based on the individualized needs
of the Retirement Investor, will typically involve a reasonable
understanding by both parties that the advice will serve as at least a
primary basis for the decision. The commenters asserted that the
statement is inconsistent with the fact that the broker-dealer and
insurance regulatory regimes do not incorporate a fiduciary standard. A
few commenters sought confirmation that compliance with Regulation Best
Interest would not automatically result in satisfaction of the primary
basis prong of the five-part test. Some commenters stated that
investors may consult multiple financial professionals and, therefore,
the response by any one professional should not be considered a primary
basis for the investment decision.
Some commenters opposed the Department's interpretive statement
that written disclaimers of fiduciary status or elements of the five-
part test will not be determinative. They stated that this
interpretation ignores the requirement of ``mutuality.'' Some
commenters also criticized the statement that the five-part test
focuses on ``a'' primary basis, not ``the'' primary basis, although
some acknowledged that ``a'' is, in fact, the word used in the
regulation. Commenters said the interpretation is at odds with the
common understanding of the word ``primary'' and will result in an
unwarranted expansion of the five-part test. Commenters also asserted
that the statement in the Department's interpretation conflated the
primary basis requirement with a separate requirement for
individualized advice. On the other hand, another commenter advocated
that a Retirement Investor's position as to whether there is an
understanding for the advice to provide a primary basis for the
investment decision should be provided a presumption of correctness,
which can only be overcome with significant evidence.
The Department is not persuaded by these comments to revise its
interpretation. As stated above, the Department's interpretation has
not rendered these requirements of the five-part test meaningless.
Rather, the Department is appropriately applying the five-part test to
current marketplace conduct and realities. The fact that a financial
services professional is not considered a fiduciary under other laws,
such as securities law or insurance law, is not a determinative factor
under the five-part test. The focus is on the facts and circumstances
surrounding the recommendation and the relationship, including whether
those facts and circumstances give rise to a mutual agreement,
arrangement, or understanding that the advice will serve as a primary
basis for an investment decision. While satisfying the other laws may
implicate parts of the test, fiduciary status applies only if all five
prongs are satisfied.
The Department does not interpret the ``primary basis'' requirement
as requiring proof that the advice was the single most important
determinative factor in the Retirement Investor's investment decision.
This is consistent with the regulation's reference to the advice as
``a'' primary basis rather than ``the'' primary basis. Similarly, the
fact that a Retirement Investor may consult multiple financial
professionals about a particular investment does not indicate that the
Department's analysis is incorrect. If, in each instance, the parties
reasonably understand that the advice is important to the Retirement
Investor and could determine the outcome of the investor's decision,
that is enough to satisfy the ``primary basis'' requirement. Even so,
all elements of the five-part test must be satisfied for a particular
recommendation to be considered fiduciary investment advice, and if a
Retirement Investor does not act on a recommendation made by a
financial professional, the financial professional would not have any
liability for that recommendation.
The Department also recognizes that the requirement for
``individualized'' advice is separate from the ``primary basis''
requirement, but this does not mean that the individualized nature of a
particular advice recommendation is irrelevant to whether the parties
understood that the advice could serve as a ``primary basis'' for
investment decisions.
The Department also is not persuaded by commenters to change its
position on the role of written disclaimers of fiduciary status or of
elements of the five-part test. In the context of the rendering of
investment advice by a financial services professional, written
statements disclaiming a mutual understanding or forbidding reliance on
the advice as a primary basis for investment decisions will not be
determinative, although such statements can be appropriately considered
in determining whether a mutual understanding exists. This
interpretation will not deprive parties of the ability to define the
nature of their relationship, but recognizes that there needs to be
consistency in that respect. A financial services provider should not,
for example, expect to avoid fiduciary status through a boilerplate
disclaimer buried in the fine print, while in all other communications
holding itself out as rendering best interest advice that can be relied
upon by the customer in making investment decisions. While financial
services professionals may contractually disclaim engaging in
activities that trigger elements of the five-part test, such as
rendering advice that can be relied upon as a primary basis for the
Retirement Investor's investment decisions, they must do so clearly and
act accordingly to demonstrate that there is in fact no mutual
agreement, arrangement, or understanding to the contrary.
One commenter similarly requested that the Department confirm that
broker-dealers can disclaim a mutual agreement, arrangement or
understanding in cases in which they provide investment recommendations
that comply with Regulation Best Interest. The Department declines to
do so expressly. As discussed above, the Department has not provided a
safe harbor in this exemption for compliance with other regulators'
conduct standards. The Department also declines in this exemption to
set forth evidentiary burdens applied to establish a mutual
understanding, including any presumptions as one commenter suggested.
That question is better left to development by the courts or, if
necessary, future guidance or rulemaking. The Department reiterates,
however, that all prongs of the five-part test, including the regular
basis prong, must be satisfied for a person or entity to be a
fiduciary. Further, as noted above, a broker-dealer who does not wish
to establish a fiduciary relationship in connection with a rollover may
make clear in its communications that it does not intend to enter into
an ongoing relationship to
[[Page 82809]]
provide investment advice and act in conformity with that
communication.
``Hire Me'' Communications
Some commenters asked the Department to confirm that so-called
``hire me'' communications, in which financial services professionals
engage in introductory conversations to promote their advisory services
to Retirement Investors, will not be treated as fiduciary
communications under Title I and the Code. Commenters indicated that
these types of communications are an important part of the process for
a Retirement Investor to select an investment advice provider. A
commenter pointed to statements in the Department's 2016 fiduciary
rulemaking about the ability of a person or firm to ``tout the quality
of his, her, or its own advisory or investment management services''
without being considered an investment advice fiduciary.\51\ The
commenter also pointed to an FAQ issued by the SEC staff in the context
of Regulation Best Interest, which confirmed that, absent other
factors, the SEC staff would not view this type of communication as a
recommendation:
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\51\ Definition of the Term ``Fiduciary''; Conflict of Interest
Rule--Retirement Investment Advice, 81 FR 20946, 20968 (April 8,
2016).
I have been working with our mutual friend, Bob, for fifteen
years, helping him to invest for his kids' college tuition and for
retirement. I would love to talk with you about the types of
services my firm offers, and how I could help you meet your goals.
Here is my business card. Please give me a call on Monday so that we
can discuss.\52\
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\52\ See Frequently Asked Questions on Regulation Best Interest,
available at www.sec.gov/tm/faq-regulation-best-interest.
In the context of the present exemption proceeding, the Department
does not believe that there should be significant concerns about
introductory ``hire me'' conversations. This is because all prongs of
the five-part test must be satisfied for a financial services provider
to be considered a fiduciary. Nevertheless, the Department confirms
that the interpretive statements in this preamble are not intended to
suggest that marketing activity of the type described above would be
treated as investment advice covered under the five-part test. To the
extent, however, that the marketing of advisory services is accompanied
by an investment recommendation, such as a recommendation to invest in
a particular fund or security, the investment recommendation would be
covered if all five parts of the test were satisfied.
For a Fee or Other Compensation, Direct or Indirect
The Department's preamble interpretation in the proposal noted that
in addition to satisfying the five-part test, a person must receive a
``fee or other compensation, direct or indirect'' to be an investment
advice fiduciary.\53\ 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.'' \54\ The Department previously noted
that ``this may include, for example, brokerage commissions, mutual
fund sales commissions, and insurance sales commissions.'' \55\ 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.
---------------------------------------------------------------------------
\53\ ERISA section 3(21)(A)(ii); Code section 4975(e)(3)(B).
\54\ Preamble to the Department's 1975 Regulation, 40 FR 50842
(October 31, 1975).
\55\ Id.
---------------------------------------------------------------------------
While commenters acknowledged this discussion is consistent with
the Department's longstanding interpretive position, they asserted that
it is inconsistent with views expressed by the Fifth Circuit in the
Chamber opinion and with the definition of a fiduciary in Title I and
the Code. Responses to arguments about the fee requirement and the
Chamber opinion follow in the next section.
Procedural and Legal Arguments
Many commenters asserted that the Department failed to comply with
the Administrative Procedure Act because the interpretation of the
five-part test set forth in the proposal, in their view, effectively
amended the five-part test without appropriate procedures. As discussed
above, the commenters expressed the view that the Department's preamble
interpretation effectively eliminated the ``regular basis'' and
``mutual agreement, arrangement or understanding'' prongs of the five-
part test. A few commenters additionally suggested that providing the
interpretation in the preamble of a proposed class exemption did not
provide sufficient notice and opportunity for comment.
The Department's interpretation does not amend the five-part test,
but only provides interpretive guidance, in the context of the relief
provided in the new exemption, as to how that test applies to current
practices in providing investment advice. The regulatory five-part test
has long been understood to provide a functional fiduciary test, and
the Department's interpretation is based on this understanding. The
Department's interpretation does not effectively eliminate any of the
elements of the five-part test, but rather applies them to current
marketplace conduct and harmonizes with the current regulatory
environment.\56\
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\56\ One commenter asserted that the Department's interpretation
was in substance a ``legislative rule'' which required notice and
comment rulemaking, citing Am. Min. Cong. v. Mine Safety & Health
Admin., 995 F.2d 1106, 1112 (D.C. Cir. 1993), and Chao v. Rothermel,
327 F.3d 223, 227 (3d Cir. 2003). The Department disagrees that the
factors cited in these cases are satisfied. In this regard, there
would be an adequate legislative basis for enforcement in the
absence of the interpretation; the preamble interpretation will not
be published in the CFR; the Department has not invoked its general
legislative authority; and for the reasons stated above, the
interpretation does not effectively amend the five-part test. The
Department further notes that the interpretation was subject to
notice and comment as part of the proposal.
---------------------------------------------------------------------------
Some commenters opined that the Department's proposed
interpretation of the five-part test would result in parties being
considered fiduciaries under Title I and the Code under circumstances
that would be inconsistent with pronouncements and holdings by the
Fifth Circuit in the Chamber opinion. In particular, commenters invoked
statements by the court that fiduciary status is based on the existence
of a relationship of trust and confidence. Commenters stated that at
the time of the first instance of advice in an ongoing relationship, a
financial services professional may not have developed a relationship
of trust and confidence with its customer.
In response, the Department notes that the Fifth Circuit's Chamber
opinion discussed approvingly the Department's 1975 regulation, which
established the five-part test. The court did not indicate that, in an
ongoing relationship, there should be any initial instances of advice
free of fiduciary status until some later period in which a
relationship of trust and confidence has been demonstrated repeatedly.
To the contrary, the court expressed agreement that investment advisers
registered under the Investment Advisers Act may appropriately be
considered fiduciaries without indicating that fiduciary status would
only apply after a period of time. Of particular importance, in the
Department's view, is the court's approving discussion that the SEC has
``repeatedly held'' that ``[t]he very function of furnishing
[investment advice for compensation]--learning the personal and
intimate details of the financial affairs of clients and making
recommendations as to purchases and
[[Page 82810]]
sales of securities--cultivates a confidential and intimate
relationship.'' \57\
---------------------------------------------------------------------------
\57\ 885 F.3d 360, 374 (5th Cir. 2018) (citing Hughes, Exchange
Act Release No. 4048, 1948 WL 29537, at *4, *7 (Feb. 18, 1948),
aff'd sub nom., Hughes v. SEC, 174 F.2d 969 (D.C. Cir. 1949) and
Mason, Moran & Co., Exchange Act Release No. 4832, 1953 WL 44092, at
*4 (Apr. 23, 1953)).
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The proposed exemption preamble included a discussion of some
Financial Institutions paying unrelated parties to solicit clients for
them in accordance with Rule 206(4)-3 under the Investment Advisers
Act.\58\ The Department noted that advice by a paid solicitor to take a
distribution from a Title I 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. A commenter asserted that the
interpretation appeared to confer fiduciary status on the solicitor in
the absence of a relationship of trust or confidence, which would be
impermissible under the Fifth Circuit's opinion. The commenter further
asked the Department to clarify whether the mere fact of an
affiliation, such as between a broker-dealer and a registered
investment adviser, would result in a recommendation by a broker-dealer
being considered fiduciary investment advice if an ongoing relationship
later developed with an affiliated registered investment adviser.
---------------------------------------------------------------------------
\58\ 85 FR 40840 at n.40.
---------------------------------------------------------------------------
The Department's statement regarding paid solicitors was intended
to ensure that Financial Institutions do not take the position that the
actions of a party paid to solicit business for them would be
considered distinct from any ongoing relationship that resulted.
Although the Fifth Circuit's Chamber opinion expressed agreement that
investment advisers registered under the Investment Advisers Act may
appropriately be considered fiduciaries under Title I and the Code, the
opinion did not address the practice of paid solicitors. The Department
confirms, however, that its statement about paid solicitors was not
intended to suggest that a broker-dealer that makes an isolated
recommendation would be considered a fiduciary if, entirely unrelated
to the recommendation, an ongoing relationship developed with an
affiliated investment adviser.
Commenters likewise pointed to statements made in the proposed
exemption preamble regarding the statutory requirement that, for
fiduciary status to attach, advice must be provided ``for a fee or
other compensation, direct or indirect.'' The preamble stated, ``[i]n
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.''
\59\ This is consistent with the Department's longstanding position
that the statutory language covers ``all fees or other compensation
incident to the transaction in which the investment advice to the plan
has been rendered or will be rendered.'' \60\
---------------------------------------------------------------------------
\59\ Id. at 40840.
\60\ Id.
---------------------------------------------------------------------------
Commenters stated that the preamble interpretation is inconsistent
with the statute because, in their view, the fee would be for completed
sales, rather than for advice. Some commenters asserted that their view
was supported by the Fifth Circuit's Chamber opinion. The Fifth
Circuit's Chamber opinion, however, did not criticize the Department's
longstanding interpretation of this statutory requirement. The Fifth
Circuit, in fact, indicated the interpretation is appropriate as
applied to a party that has met the elements of the five-part test.\61\
The Department's interpretation of the requirement of a ``fee or
compensation, direct or indirect'' is consistent with the statutory
language defining a fiduciary under Title I and the Code. Of course,
this does not suggest that the Department intends to take the position
that transactional compensation to an investment professional who does
not meet the elements of the five-part test is a fee for advice.
Rather, the Department recognizes that investment professionals may
engage in non-fiduciary sales activity in which, as in many sales
activities, recommendations are made to a customer. The Department's
interpretation respects the legitimate sales function of such a non-
fiduciary investment professional.
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\61\ 885 F.3d at 374 (discussing approvingly the Department's
Advisory Opinion 83-60 (Nov. 21 1983) which provided that, ``if,
under the particular facts and circumstances, the services provided
by the broker-dealer include the provision of `investment advice',
as defined in regulation 2510.3-21(c), it may be reasonably expected
that, even in the absence of a distinct and identifiable fee for
such advice, a portion of the commissions paid to the broker-dealer
would represent compensation for the provision of such investment
advice'').
---------------------------------------------------------------------------
A few commenters additionally asserted that the Department's
preamble interpretation is inconsistent with Executive Orders 13891,
Promoting the Rule of Law Through Improved Agency Guidance Documents,
and 13892, Promoting the Rule of Law Through Transparency and Fairness
in Civil Administrative Enforcement and Adjudication, which they
described as requiring transparency and fairness, and as imposing
notice and comment requirements, or new restrictions, on agencies when
issuing guidance documents.\62\ Even assuming the preamble
interpretation is guidance regulated by the Executive Orders, the
proposed preamble statement provided notice of the interpretation and
solicited public comments on it.\63\ Accordingly, the Department
complied with the Executive Orders.
---------------------------------------------------------------------------
\62\ Executive Order 13891, 84 FR 55235 (Oct. 15, 2019);
Executive Order 13892, 84 FR 55238 (Oct. 15, 2019).
\63\ See 85 FR 40840 (``The Department requests comment on all
aspects of this part of its proposal.'').
---------------------------------------------------------------------------
A few commenters contended that the Department's preamble
interpretation is inconsistent with the characterization of the
regulatory package as deregulatory. In the Department's view, the
exemption as a whole is deregulatory because it provides a broader and
more flexible means under which investment advice fiduciaries to Plans
and IRAs may receive compensation and engage in certain principal
transactions that would otherwise be prohibited under Title I and the
Code. Some commenters stated that the exemption effectively reinstates
the 2016 fiduciary rule, and one asserted that the Department did so
without addressing the President's related concerns in his Memorandum
on Fiduciary Duty Rule.\64\ As discussed above, the proposed exemption
did not amend the 1975 regulation as the 2016 fiduciary rule sought to
undertake. In addition, unlike the 2016 fiduciary rulemaking, this
project did not amend other, previously granted, prohibited transaction
exemptions.
---------------------------------------------------------------------------
\64\ See Presidential Memorandum on Fiduciary Duty Rule (Feb. 3,
2017), www.whitehouse.gov/presidential-actions/presidential-memorandum-fiduciary-duty-rule/.
---------------------------------------------------------------------------
Description of the Final Exemption
Scope of Relief--Section I
Financial Institutions
The exemption is available to entities that satisfy the exemption's
definition of a ``Financial Institution.'' The exemption limits the
types of entities that qualify as a Financial Institution to SEC- and
state-registered investment advisers, broker-dealers, insurance
companies, and banks.\65\ The definition is based on the entities
identified in the statutory exemption for investment advice under ERISA
section 408(b)(14)
[[Page 82811]]
and Code section 4975(d)(17), which are subject to well-established
regulatory conditions and oversight \66\ and have been deemed able to
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 including 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).
---------------------------------------------------------------------------
\65\ The exemption 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 interprets
this definition to extend to credit unions.
\66\ ERISA section 408(g)(11)(A) and Code section
4975(f)(8)(J)(i).
---------------------------------------------------------------------------
The Department recognized in the proposed exemption that different
types of Financial Institutions have different business models, and the
exemption is drafted to apply flexibly to these institutions.\67\
Following is a discussion of the different types of Financial
Institutions and comments received in connection with the definition.
---------------------------------------------------------------------------
\67\ Some of the Department's existing prohibited transaction
exemptions would also apply to the transactions described in the
next few paragraphs.
---------------------------------------------------------------------------
Broker-Dealers
Broker-dealers 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.\68\ 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.
---------------------------------------------------------------------------
\68\ Regulation Best Interest Release, 84 FR 33319.
---------------------------------------------------------------------------
One commenter argued that broker-dealers should not be able to rely
on the exemption because they are not fiduciaries under the securities
laws. The fiduciary definition in Title I and the Code does not turn,
however, on whether parties are characterized as fiduciaries under the
securities laws, but rather on whether the persons rendering advice
meet the conditions of the functional test of fiduciary status as set
forth in the Department's regulation. Moreover, the best interest
standard applicable to broker-dealers under Regulation Best Interest is
rooted in fiduciary principles.\69\
---------------------------------------------------------------------------
\69\ The SEC explained ``key elements of the standard of conduct
that applies to broker-dealers, at the time a recommendation is
made, under Regulation Best Interest will be substantially similar
to key elements of the standard of conduct that applies to
investment advisers pursuant to their fiduciary duty under the
Advisers Act.'' Regulation Best Interest Release, 84 FR 33461.
---------------------------------------------------------------------------
As discussed by the SEC, under the securities laws, a key
difference between broker-dealers and investment advisers is that
investment advisers typically have a duty to monitor their customers'
investments, whereas broker-dealers may more readily limit the scope of
their obligations to the specific transactions recommended.\70\ Under
Title I and the Code, investment advice fiduciaries are not necessarily
obligated to assume a duty to monitor, absent an agreement, arrangement
or understanding with their investor client to the contrary. The
Department's exemption places the transaction-based advice model on an
even playing field with the investment adviser model, and applies
fiduciary standards in both contexts that are generally consistent with
the standards imposed by the SEC. In this manner, the exemption avoids
undue expense and generally aligns its requirements with SEC
requirements. Moreover, Congress included broker-dealers and registered
investment advisers in the statutory advice exemption in ERISA section
408(b)(14) and Code section 4975(d)(17), according to the same set of
conditions.
---------------------------------------------------------------------------
\70\ The SEC explained that ``[t]here are also key differences
between Regulation Best Interest and the Advisers Act fiduciary
standard that reflect the distinction between the services and
relationships typically offered under the two business models. For
example, an investment adviser's fiduciary duty generally includes a
duty to provide ongoing advice and monitoring, while Regulation Best
Interest imposes no such duty and, instead, requires that a broker-
dealer act in the retail customer's best interest at the time a
recommendation is made.'' Regulation Best Interest Release, 84 FR
33321 (emphasis in the original).
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Registered Investment Advisers
Registered investment advisers generally provide ongoing investment
advice and services and are commonly paid either an assets under
management fee or a fixed fee.\71\ 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.\72\ 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 Title I and the Code.\73\ 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 firm's compensation, such as for execution of
securities transactions in its brokerage capacity. Of course, as
discussed above, rollover recommendations or assistance with a rollover
do not constitute fiduciary investment advice if the five-part test,
including the regular basis prong, is not satisfied.
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\71\ 84 FR 33319.
\72\ 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).
\73\ As discussed above, the Department has long interpreted the
requirement of a fee 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.'' Preamble to the
Department's 1975 Regulation, 40 FR 50842 (October 31, 1975).
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Commenters sought clarification of the exemption's coverage of
certain transactions particularly relevant to registered investment
advisers. The commenters inquired about reliance on the exemption
solely for a rollover recommendation, under circumstances in which the
advice arrangement after the rollover does not involve prohibited
transactions (e.g., the compensation arrangement involves only a level
fee that does not vary on the basis of the investment transactions) or
is not eligible for relief because it is discretionary. The Department
confirms that the exemption is available for fiduciary investment
advice regarding rollover transactions, even in situations where the
exemption is not available (or needed) either before or after the
rollover transaction. The commenter also inquired as to whether a
financial services provider that serves as a discretionary investment
manager to a Plan pursuant to ERISA section 3(38), a transaction that
is not covered by the exemption, can rely on the exemption to provide
fiduciary investment advice to the Plan's participants and
beneficiaries on distribution options. The Department confirms that the
exemption is available in that circumstance as well.
Insurance Companies
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.
The Department is aware that insurance companies often sell insurance
products and fixed (including indexed) annuities through different
distribution channels
[[Page 82812]]
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
final exemption applies to all of these business models.
In the proposal, the Department suggested insurance companies would
have several options for compliance. The proposal stated that insurance
companies could comply with the new exemption by overseeing independent
insurance agents; they could comply with the new exemption by creating
oversight and compliance systems through contracts with insurance
intermediaries such as independent marketing organizations (IMOs),
field marketing organizations (FMOs) or brokerage general agencies
(BGAs); or they could rely on the existing class exemption for
insurance transactions, PTE 84-24,\74\ as an alternative. Further, the
Department sought comment on whether the exemption should include
insurance intermediaries as Financial Institutions for the
recommendation of fixed (including indexed) annuity contracts, and if
so, how the insurance intermediaries should be defined and whether
additional protective conditions might be necessary with respect to the
intermediaries. Discussion of comments on these aspects of the proposal
follow.
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\74\ 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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Direct Oversight
In the proposal, the Department stated that insurance companies
could supervise independent insurance agent Investment Professionals
who provide investment advice on their products. To comply with the
exemption, the Department stated that an insurance company 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.\75\ The Department
stated in the proposal that 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.\76\
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\75\ Cf. NAIC Model Regulation 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''),. 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 www.naic.org/documents/committees_mo275.pdf. (comparing 2020 version with prior version).
\76\ 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'').
---------------------------------------------------------------------------
A few commenters took the position in response to the proposal that
insurance companies are not set up in such a manner as to be able to
act as Financial Institutions with respect to independent insurance
agents, which they said would ultimately put insurance companies and
insurance products at a competitive disadvantage. Commenters asserted
that insurance companies do not have insight into or control over
independent agents' business and/or behavior and do not consent to or
authorize their activities. While several commenters acknowledged that
the proposal was consistent with the NAIC Model Regulation in providing
that an insurance company Financial Institution would be responsible
only for recommendations with respect to its own products, they argued
that the proposed exemption deviated from the NAIC's approach in
failing to also state that insurers do not have to include in their
supervisory systems ``consideration of or comparison to options
available to the producer or compensation relating to those options
other than annuities or other products offered by the insurer.'' \77\
---------------------------------------------------------------------------
\77\ NAIC Model Regulation Section 6.C.(4)(B).
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In response, the Department notes that the NAIC Model Regulation
contemplates that insurance companies will maintain a system of
oversight with respect to insurance agents. Section I provides that the
purpose of the Model Regulation is to ``require producers, as defined
in this regulation, to act in the best interest of the consumer when
making a recommendation of an annuity and to require insurers to
establish and maintain a system to supervise recommendations so that
the insurance needs and financial objectives of consumers at the time
of the transaction are effectively addressed.'' \78\ Accordingly, the
Department believes that a system of oversight by insurance companies
over independent insurance agents is achievable.
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\78\ Id., Section 1.A. The Department also notes that the prior
version of the Model Regulation, which was adopted in some form by a
number of states, contains a similar statement. (``The purpose of
this regulation is to require insurers to establish a system to
supervise recommendations and to set forth standards and procedures
for recommendations to consumers that result in transactions
involving annuity products so that the insurance needs and financial
objectives of consumers at the time of the transaction are
appropriately addressed.'')
---------------------------------------------------------------------------
In terms of the specific oversight requirements, the Department
reiterates the statement in the proposal that the exemption requires
insurance company Financial Institutions to 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 an unrelated and unaffiliated
insurer. The Department also clarifies, in response to commenters, that
the exemption does not require consideration of or comparison to
specific options available to an independent insurance agent or
compensation relating to those options, other than annuities or other
products offered by the insurer. The Department's approach is
consistent with the approach of the NAIC Model Regulation in this
regard as well. However, the Department does not intend to suggest that
insurance company Financial Institutions have no obligation to evaluate
the financial inducements they offer to independent agents to ensure
that the exemption's standards are
[[Page 82813]]
satisfied. As discussed above, Financial Institutions can implement
procedures to review annuity sales to Retirement Investors under
fiduciary investment advice arrangements 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.\79\
---------------------------------------------------------------------------
\79\ See supra n. 75.
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Insurance Intermediaries
In the proposal, the Department stated that insurance companies
could create a system of oversight and compliance by contracting with
an insurance intermediary or other entity 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 preamble stated that an
insurance intermediary could eliminate compensation incentives across
all the insurance companies that work with the insurance intermediary,
assisting each of the insurance companies with their independent
obligations under the exemption. This might involve the insurance
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.
This type of arrangement is also contemplated by the NAIC Model
Regulation, which provides that an insurer is not restricted from
contracting for performance of supervisory review functions.\80\ Also,
insurance intermediaries can receive payment for these services; to the
extent they are ``affiliates'' or ``related entities'' of the Financial
Institution or Investment Professional, the exemption extends to their
receipt of compensation so long as the conditions of the exemption are
satisfied.
---------------------------------------------------------------------------
\80\ NAIC Model Regulation, Section 6.C.(3)(a).
---------------------------------------------------------------------------
One commenter that is an IMO supported the suggestion in the
preamble that insurance intermediaries could serve this function. The
commenter stated that it currently works with insurance companies to
ensure that their policies and procedures are carried out by
independent agents. The commenter took the position that it is
positioned to work directly with insurance companies to ensure that the
proper oversight and compliance systems are in place to comply with the
exemption.
PTE 84-24
To the extent that insurance companies determine that the
supervisory requirements of this exemption are not well-suited to their
business models, it is important to note that insurance and annuity
products can also continue to be recommended and sold under the
existing exemption for insurance transactions, PTE 84-24. Unlike in the
Department's 2016 fiduciary rulemaking, PTE 84-24 is not being amended
in connection with the current proposed exemption.
PTE 84-24 provides prohibited transaction relief for the ``receipt,
directly or indirectly, by an insurance agent or broker . . . of a
sales commission from an insurance company in connection with the
purchase, with plan assets, of an insurance or annuity contract.'' The
agent or broker must generally disclose its sales commission and
receive written approval of the transaction from an independent
fiduciary.
A commenter expressed concern that the Department's disavowal of
the Deseret Letter would result in a requirement to provide the
disclosures required by PTE 84-24 to a plan fiduciary, rather than the
IRA owner, in the case of a rollover recommendation. The Department
confirms that when a transaction under PTE 84-24 involves an IRA, the
disclosure can be provided to the IRA owner. Further, to avoid
uncertainty, the Department also confirms that an insurance
intermediary can receive a part of the commission payment that is
permitted under PTE 84-24, provided the conditions of the exemption are
satisfied.
Insurance Intermediaries as Financial Institutions
The Department also sought comment in the proposal as to whether
the exemption's definition of Financial Institution should be expanded
to include insurance intermediaries. Under that approach, the insurance
intermediary would implement the conditions of the exemption applicable
to Financial Institutions, and insurance companies would not have to do
so.
Several commenters supported the addition of insurance
intermediaries as Financial Institutions, in connection with their
contention that insurance companies are not in a position to exert
oversight over independent insurance agents because the independent
agents sell products of other insurance companies as well. A few
commenters stated that the insurance intermediaries are in a position
to do so because of their proximity to and expertise working with
independent insurance agents. The commenters stated that insurance
intermediaries have greater insight into and control over the actions
of independent insurance agents than insurance companies. Further, the
commenters emphasized that insurance intermediaries are regulated by
the states as insurance agencies, and they have sufficient resources
and staff to act as Financial Institutions. These commenters also
asserted insurance intermediaries' similarity to the registered
investment adviser business model and stated that a failure to include
insurance intermediaries as Financial Institutions would result in a
competitive disadvantage for insurance intermediaries and potentially
less choice for Retirement Investors.
Other commenters, however, indicated that insurance intermediaries
are not in a position to oversee independent insurance agents because
it is common for independent insurance agents to work with multiple
intermediaries, raising issues as to whether multiple intermediaries
would have to oversee the same independent agent. One commenter also
indicated that independent agents have contracts or arrangements
directly with the insurance company; by contrast, there is no contract
or implied contract between insurance intermediaries and independent
insurance agents, and insurance intermediaries do not direct the
independent insurance agents' recommendations to Retirement Investors.
A few commenters asserted that unlike the other entities included in
the definition of a Financial Institution, insurance intermediaries do
not have a regulator that sets standards regarding oversight and
supervisory policies and procedures. One commenter asserted that the
exemption would need to include conditions addressing the Department's
oversight of insurance intermediaries if they were included in the
definition of a Financial Institution. Another commenter urged the
Department to work closely with insurance intermediaries before
including them as Financial Institutions, so as to avoid imposing
conditions that are impractical or burdensome.
Based on the record before it, the Department has concluded that it
should not expand the scope of the definition of Financial Institution
to insurance intermediaries, such as IMOs, FMOs, or BGAs. These
entities do not have supervisory obligations over independent insurance
agents under state or federal law that are comparable
[[Page 82814]]
to those of the other entities, such as insurance companies, banks, and
broker-dealers, or a history of exercising such supervision in
practice. They are generally described as wholesaling and marketing and
support organizations, but not tasked with ensuring compliance with
regulatory standards. In addition, they are not subject to the sort of
capital and solvency requirements imposed on state-regulated insurance
companies and banks.
Commenters also did not provide specific suggestions for how to
define the insurance intermediaries that could be Financial
Institutions. One commenter suggested that Financial Institution status
and its attendant compliance responsibilities should be placed on the
intermediary that is closest to the Retirement Investor and the
Investment Professional advising that investor. However, this
suggestion does not alleviate the operational issues that would exist
when an independent agent works with or through more than one
intermediary. Commenters also did not offer suggestions as to
substantive conditions that should be included to make up for the lack
of regulatory oversight. The considerations above may not be
insuperable obstacles to treating insurance intermediaries as Financial
Institutions under the terms of a future exemption that is based on an
appropriate record focused on such support organizations. The
Department anticipates that any such exemption would specifically focus
on the unique attributes, strengths, and weaknesses of these entities,
and on any special conditions that would be necessary to ensure they
are able to act in the necessary supervisory capacity as Financial
Institutions.
The Department also has maintained the provision in this exemption
under which the definition of a Financial Institution can expand based
upon subsequently granting individual exemptions to additional entities
that are investment advice fiduciaries that meet the five-part test and
are seeking to be treated as covered Financial Institutions. Thus,
additional types of entities, such as IMOs, FMOs, or BGAs may
separately apply for prohibited transaction relief to receive
compensation in connection with the provision of investment advice,
according to the same conditions that apply to the Financial
Institutions covered by this exemption. If the Department grants to
such an entity an individual exemption under ERISA section 408(a) and
Code section 4975(c)(2) 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 this class exemption.
The Department acknowledges that some commenters felt this approach
would put insurance intermediaries at a disadvantage as compared to
other Financial Institutions. As discussed above, however, there is
cause for concern about including insurance intermediaries in the final
exemption on the same footing as the types of entities included in the
Financial Institution definition. On the record before it, the
Department has concluded that the better course of action is to invite
any insurance intermediaries to apply for a separate exemption as part
of a public notice and comment process that can specifically focus on
their unique attributes, so that the Department can determine whether
and how to grant exemptive relief, subject to appropriate definitional
and protective conditions.
Banks
Banks and similar institutions are 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 sought comment on whether banks and their employees provide
investment advice to Retirement Investors, and if so, whether the
proposal needed adjustment to address any unique aspects of their
business models.
A trade association representing banks submitted a comment that
described a wide variety of interactions with banking customers,
including IRA investment programs and bank networking arrangements and
referral programs. The commenter stated that banks that render
investment advice are fully subject to applicable federal and state
banking laws governing fiduciary status and activities.\81\ The
commenter expressed support for the exemption, so long as certain
suggested changes were adopted to conform to banks' distinct business
model, particularly with respect to the retrospective review and the
recordkeeping provision. The Department's responses to these comments
on the exemption are discussed below in the sections on the
retrospective review and recordkeeping provision.
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\81\ Citing 12 CFR part 9 (fiduciary activities of banks).
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Affiliates and Related Entities
One commenter stated that the exemption text should include a
definition of ``affiliate'' and ``related entity.'' The Department has
added the definitions that previously appeared in the preamble of the
proposed exemption, in Section V(a) and (j), respectively, of the final
exemption text.
An affiliate is defined as (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'' means 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. A related
entity is defined as an entity that is not an affiliate, but in which
the Investment Professional or Financial Institution has an interest
that may affect the exercise of its best judgment as a fiduciary.
Another commenter stated that the Department should add foreign
affiliates of banks, broker-dealers, insurance companies, and
registered investment advisers to the entities covered by the
exemption, given the increasingly global nature of retirement services.
The proposed exemption indicated that relief would be available to
affiliates and related entities of a Financial Institution and
Investment Professional, if the Financial Institution and Investment
Professional satisfied the exemption's conditions. The Department did
not exclude foreign affiliates in the proposal, and confirms that they
are not excluded in the exemption, as finalized.
Other Entities--Recordkeepers and HSA Providers
One commenter requested that recordkeepers be included as Financial
Institutions. To the extent that an entity hired to act as a
recordkeeper to a Plan or an IRA falls within the list of defined
Financial Institutions, it may rely upon the exemption. However, the
Department declines to add a general category for recordkeepers to the
definition. The Department does not believe a recordkeeper that is not
also a bank, broker-dealer, insurance company, or registered investment
adviser would have the requisite regulatory oversight to necessarily
act as a Financial Institution. However, such parties can seek an
individual exemption from the Department, as
[[Page 82815]]
provided in the definition of a Financial Institution in Section V(e).
One commenter addressed health savings accounts (HSAs), indicating
that the exemption should apply to advice to individuals with HSAs. The
commenter did not indicate whether the definition of Financial
Institution needed to be expanded to facilitate advice regarding HSAs.
The exemption, as proposed and finalized, defines an IRA as ``any
account or annuity described in Code section 4975(e)(1)(B) through
(F)'' which includes a ``health savings account described in [Code]
section 223(d).'' Therefore, advice may be provided to individuals with
HSAs, subject to the conditions of the exemption.
Investment Professionals
As defined in the proposal, an Investment Professional is an
individual who is a fiduciary of a Plan or an 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).
One commenter suggested that the exemption should require
investment professionals to be certified by an accredited organization
or state agency in financial planning issues. The Department has not
adopted this suggestion because it does not have sufficient information
in the record on this type of certification to incorporate it as a
condition.
Another commenter asked the Department to confirm that insurance
agents unaffiliated with a broker-dealer or registered investment
adviser are investment advice fiduciaries when providing investment
advice to Retirement Investors through the sale of insurance products
and fixed (including indexed) annuities, and are subject to the
requirements under the exemption. The Department confirms that an
insurance agent that meets the elements of the five-part test and
receives a fee or other compensation, direct or indirect, with respect
to a particular transaction, is a fiduciary with respect to that
transaction. Under those circumstances, the insurance agent must avoid
prohibited transactions or comply with a prohibited transaction
exemption.
Retirement Investors and Plans
The exemption provides relief for specified Covered Transactions
when Financial Institutions and Investment Professionals provide
investment advice to Retirement Investors. A Retirement Investor is
defined as (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 an IRA. A Plan for purposes of
the exemption is defined as any employee benefit plan described in
ERISA section 3(3) and any plan described in Code section
4975(e)(1)(A). An IRA is defined as any plan that is an account or
annuity described in the other parts of section 4975(e)(1): Paragraphs
4975(e)(1)(B) through (F).
A few commenters questioned the meaning of Retirement Investor with
respect to the definition's use of the word Plan. One commenter
requested clarification that the use of the term Plan with respect to a
Retirement Investor, in fact, included Title I welfare benefit plans
despite the use of the word ``retirement.'' Two other commenters
requested that the definition of Plan specifically exclude Title I
welfare benefit plans that do not include an investment component, such
as health insurance plans, disability insurance plans, and term life
insurance plans.
While the exemption uses the term Retirement Investor throughout
the exemption, the use of the term was not intended to exclude
investment advice provided to Title I welfare benefit plans. In fact,
the exemption's definition of Plan states that it is defined, in part,
by reference to ERISA section 3(3), which explicitly includes Title I
welfare benefit plans.
With respect to the request to exclude Plans that do not contain an
investment component, the Department responds that the exemption is
only necessary and available to fiduciaries who provide investment
advice as described in the five-part test. If there is no fiduciary
investment advice, the exemption would not be applicable or needed. In
light of this limitation, the Department does not believe any further
amendment to the definition of a Plan is necessary.
Covered Transactions
The exemption permits 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 provides 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 provides relief from ERISA
section 406(a)(1)(A) and (D) and 406(b) and Code section 4975(c)(1)(A),
(D), (E), and (F).\82\
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\82\ The exemption does not include relief from ERISA section
406(a)(1)(C) and Code section 4975(c)(1)(C) for the furnishing of
goods, services, or facilities between a Plan/IRA and a party in
interest/disqualified person. The statutory exemptions in ERISA
section 408(b)(2) and Code section 4975(d)(2) provide this necessary
relief for Plan or IRA service providers, subject to the applicable
conditions and accompanying regulations.
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Section I(b)(1) of the exemption provides broad relief for
Financial Institutions and Investment Professionals that are investment
advice fiduciaries to receive all types of compensation as a result of
their investment advice to Retirement Investors, so long as the
compensation is reasonable. For example, it covers compensation
received as a result of investment advice to acquire, hold, dispose of,
or exchange securities and other investments. It also covers
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), all limited to the
extent such rollovers are permitted under applicable law.
Section I(b)(2) addresses 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 extends 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
[[Page 82816]]
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 are not
covered by the exemption.
General Comments on the Covered Transactions
Several commenters expressed concern about the scope of the
exemption extending to the receipt of payments from third parties, such
as 12b-1 fees and revenue sharing. One commenter also objected to
relief for sales loads. The commenter opined that the market itself is
moving away from these types of fees and expenses and numerous court
decisions indicate that a Plan's payment of such fees may be a
violation of the duty of prudence. Another commenter likened this type
of payment as akin to doctors taking kickbacks from pharmaceutical
companies. Another commenter stated that the exemption should not
provide relief for principal transactions and proprietary products.
The Department believes that the flexibility provided under the
exemption ensures that the various business models used by different
Financial Institutions are accommodated under the exemption to ensure
Retirement Investors have full access to their preferred advice
provider and method of paying for advice. The conditions of the
exemption are designed to ensure that Financial Institutions assess all
sources of fees and revenue to identify and mitigate conflicts of
interest that they create, and ultimately receive no more than
reasonable compensation in connection with investment advice
transactions. These conditions are designed to ensure that Financial
Institutions and Investment Professionals act in the best interest of
Retirement Investors, even if some sources of compensation come from
12b-1 fees, revenue sharing, sales loads, principal transactions, or
proprietary products. The Department continues to believe that this
principles-based approach provides flexibility to Financial
Institutions while ensuring all advice is in the best interest of
Retirement Investors, compensation is limited to reasonable
compensation, and Investment Professionals do not subordinate the
Retirement Investors' interest to their own.
Another commenter asked the Department to expand the scope of
relief in the exemption to ERISA section 406(a)(1)(B) and Code section
4975(c)(1)(B) for extensions of credit, in order to cover items such as
overdraft protection, receipt of float, error corrections, settlement
accommodations, short sales and other margin transactions, and paying
fees in advance.
The Department has not expanded the exemption as requested by the
commenter. The commenter did not provide information on these
transactions and how the exemption conditions would protect the
interests of Retirement Investors engaging in the transactions. An
existing exemption, PTE 75-1, Part V, provides relief for an extension
of credit by a broker-dealer in connection with the purchase or sale of
securities; however, the exemption does not extend to the receipt of
compensation for the extension of credit if the broker-dealer renders
fiduciary investment advice with respect to the transaction. This does
not foreclose the Department, however, from considering expanding the
relief in PTE 75-1, Part V, based upon a separate request for exemptive
relief.
Principal Transactions
Principal transactions involve the purchase from, or sale to, a
Plan or an 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 and direct conflict
of interest. In addition, the securities typically traded in principal
transactions often lack pre-trade price transparency and Retirement
Investors may, therefore, have difficulty in prospectively 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 exemption includes relief
for principal transactions that is limited in scope and subject to
additional conditions, as set forth in the definition of Covered
Principal Transaction, described below. Importantly, certain
transactions are not considered principal transactions for purposes of
the exemption, and so can 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''
are 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.
Limited Definition of ``Covered Principal Transaction''
The exemption uses the defined term Covered Principal Transaction
to describe the types of non-riskless principal transactions that are
covered under the exemption. For purchases from a Plan or an IRA, the
term is broadly defined to include any security or other investment
property. 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 an IRA, the exemption
provides more limited relief. For sales, the definition of Covered
Principal Transaction is limited to transactions involving: U.S. dollar
denominated 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 securities, certificates of deposit, and interests in
Unit Investment Trusts. In response to one commenter's specific
question as to whether the term ``certificates of deposit'' includes
brokered certificates of deposit, the Department clarifies that the use
of the term ``certificates of deposit'' includes brokered certificates
of deposit that are sold in principal transactions.
With respect to the definition of Covered Principal Transaction,
some commenters wrote that there should not be a limit on the types of
investments that can be sold by Financial Institutions to Retirement
Investors, including one commenter who stated that the Department
should eliminate or adjust exemption conditions that would limit
Retirement Investors' access to full service brokerage accounts,
including access to principal markets. They argued that some products
would generally only be available through a
[[Page 82817]]
principal transaction, and that the Department should not substitute
its judgment for a fiduciary acting in accordance with the Act's
standards. Further, they stated that the existing limit is inconsistent
with Regulation Best Interest which does not include any limitations on
principal transactions, and that there were sufficient existing
protections under securities laws. Commenters identified a variety of
potential investments that they would like to see incorporated as
Covered Principal Transactions, including foreign debt, structured
notes, corporate debt in the secondary market, equity securities
(including initial public offerings and national market system
securities), new issues, issuers other than corporations, foreign
currency, foreign securities, and closed end funds.
The Department has considered these comments but has not expanded
the exemption's definition of a Covered Principal Transaction,
including its enumerated list of investments. The definition of Covered
Principal Transaction is intentionally narrow, based on the potentially
acute conflicts of interest created by principal transactions. While
commenters argued that the Department is substituting its own judgment
for that of Financial Institutions and Investment Professionals, the
Department believes that the risks created by principal transactions'
unique conflicts are great enough to only justify allowing otherwise
prohibited transactions if those transactions are set within prescribed
conditions specifically designed to address those conflicts of
interest. Further, because the exemption is addressing transactions
prohibited solely under Title I and the Code, whether the definition of
a Covered Principal Transaction is consistent with Regulation Best
Interest, or subject to other securities law protections, is not
determinative. The Department is required to make findings as to
whether the exemption is in the interests of, and protective of the
rights of, Plan participants and beneficiaries and IRA owners.\83\ The
Department stresses its obligation to exercise great care in
authorizing transactions that Congress prohibited based upon their
potential for abuse and resulting injury to Plan participants and IRA
owners. Given the unique starting point--that Congress statutorily
prohibited these transactions in Title I and the Code--the Department
does not agree that the approach suggested by the commenters is
appropriate. To the extent parties have interpretive questions
regarding the scope of the exemption in this regard, the Department
intends to support Financial Institutions, Investment Professionals,
plan sponsors and fiduciaries, and other affected parties, with
compliance assistance following publication of the final exemption.
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\83\ See ERISA section 408(a) and Code section 4975(c)(2).
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The Department believes the best way to address commenters'
concerns regarding additional investments is to include the provision
allowing the definition of Covered Principal Transaction to expand upon
the Department's grant of an individual exemption covering a particular
type of principal transaction. An individual exemption request would
provide the Department with the opportunity to gain the additional
information it would need to determine whether an investment should be
included in this exemption. Further, individual exemptions are required
to be published in the Federal Register and allow for public comment
before they are finalized. These procedural requirements are protective
of Retirement Investors.
One commenter disagreed with the addition of investments through
the individual prohibited transaction exemption process. The commenter
argued that the addition of investments should be accomplished through
a formal amendment to the exemption. The Department believes that the
procedural requirements described in the preceding paragraph provide
protections to Retirement Investors, and the ability to incorporate
additional investments by adopting an individual exemption provides an
appropriately streamlined approach to address discrete areas of scope
within the class exemption.
Credit Quality and Liquidity
For sales of a debt security to a Plan or an IRA, the definition of
Covered Principal Transaction requires 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
included to prevent the exemption from being available to Financial
Institutions that recommend speculative or illiquid debt securities
from their own accounts.
A few commenters opposed the proposed condition requiring adoption
of policies and procedures related to credit quality and liquidity. The
commenters argued that this condition substitutes the Department's
judgment for that of the Retirement Investor. Further, they stated that
the standards would be difficult to apply, requiring firms to look into
the future to know whether a bond would be actively traded. One
commenter stated specifically that a liquidity condition should not be
included.
The Department has considered these comments, but has included the
credit quality and liquidity policies and procedures condition in the
final exemption. Principal transactions are inherently conflicted
transactions. As a result, the Department believes that unique
conditions, such as the credit and liquidity requirements, address the
heightened conflicts of interest and are specifically tailored to
address conflicts inherent with respect to debt securities. The
Department is not substituting its judgment for that of Retirement
Investors; it is only setting necessary safeguards to prevent abuses by
Financial Institutions relying on the exemption. Additionally, the
Department notes that the exemption is not necessary for self-directed
retirement accounts or transactions that do not involve fiduciary
investment advice. Therefore, such truly self-directed accounts and
transactions may involve the purchase of any type of investment on a
principal basis.
Further, the Department does not believe the standards are
unworkable. Financial Institutions regularly evaluate the credit risk
associated with their investments and assess their liquidity. And it is
important to note that the policies and procedures must be reasonably
designed to ensure that the standards are met at the time of the
transaction; the exemption does not require them to be satisfied for
the duration of the investment. Indeed, a commenter who raised concerns
about the requirement went on to point out ways a Financial Institution
could reasonably consider the liquidity at the time of the transaction.
This commenter stated that it is the very nature of bond trading that
liquidity generally tends to diminish as bonds mature. The Department
expects that a Financial Institution would consider this and other
reasonably available information at the time of the transaction in
designing its policies and procedures. It is also important to note
that Financial Institutions may consider credit ratings as a part of a
Financial Institution's policies and procedures in this respect.
[[Page 82818]]
Municipal Bonds
The exemption covers principal transactions involving municipal
bonds, including tax-exempt municipal bonds. The Department cautions,
however, that Financial Institutions and Investment Professionals
should pay special care when recommending that Retirement Investors
invest in municipal bonds. Tax-exempt municipal bonds are typically a
poor choice for investors in Title I 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.\84\
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\84\ See e.g., Seven Questions to Ask When Investing in
Municipal Bonds, available at 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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One commenter stated that no tax-exempt investment (including tax-
exempt municipal bonds and certain annuities) should be included in the
exemption, absent evidence that such investments are beneficial when
purchased through a retirement account. The Department believes,
however, that there are certain limited circumstances where these
investments may benefit a Retirement Investor. For example, a
particular municipal bond may have a higher tax-equivalent yield than a
comparable taxable bond. Alternatively, a fiduciary adviser may
conclude based upon careful analysis that a particular tax-exempt
municipal bond carries less risk than a comparable corporate bond.
Accordingly, the Department has not written the exemption to flatly
exclude tax-exempt investments. However, given the increased risk of
imprudence when making such recommendations, Financial Institutions and
Investment Professionals may wish to document the reasons for any
recommendation of a tax-exempt municipal bond or other tax-exempt
investment and why the recommendation is in the Retirement Investor's
best interest.
Separate Exemption
One commenter asserted that principal transaction relief should be
provided through a separate exemption. The commenter argued that the
exemption's conditions are not sufficiently protective with respect to
the unique nature of principal transactions. Instead, the commenter
advocated for a separate prohibited transaction class exemption modeled
after the statutory exemption for cross-trading in ERISA section
408(b)(19) and Code section 4975(d)(22). Using the statutory exemption
as a model, the commenter suggested that the exemption include
conditions such as minimum size requirements and a requirement that the
transaction occur at the ``independent current market price.''
The Department has considered this suggestion, but has not adopted
it. Although the Department agrees that the conflicts of interest in
cross-trades are significant, the transactions contemplated by the
statutory exemptions for cross-trades are not, in the Department's
view, necessarily so analogous to the principal transactions covered by
this exemption that the conditions of the statutory exemption are
easily applied in this context. The statutory exemption is aimed at
discretionary investment managers that are managing large accounts,
while this exemption is designed to include investment advice providers
who may be providing advice in the retail market. It would be
difficult, for example, for the Department to arrive at a minimum size
that would be appropriate for engaging in principal transactions with
retail investors. The Department also believes that combining relief
for principal transactions within the exemption for other transactions
arising out of the provision of fiduciary investment advice assists
Financial Institutions and Investment Professionals in developing a
comprehensive compliance approach.
Exclusions
Section I(c) provides that certain specific transactions are
excluded from the exemption. The exemption retains the exclusions as
proposed. Therefore, the exemption is not available for Title I Plans
if the Investment Professional, Financial Institution, or an affiliate
is (1) The employer of employees covered by the Plan; or (2) a named
fiduciary or plan administrator, or an affiliate, who was selected to
provide advice to the Plan by a fiduciary who is not independent. The
exemption excludes 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). The exemption is also
specifically limited to investment advice fiduciaries within the
meaning of the five-part test and does not include discretionary
arrangements.
Employers, Named Fiduciaries, and Plan Administrators
Section I(c)(1) of the exemption provides that the exemption does
not extend to transactions involving Title I 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 believes that 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 this exemption.\85\
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\85\ A few existing prohibited transaction exemptions apply to
employers. See ERISA section 408(b)(5), a statutory exemption that
provides relief 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.
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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 Title I Plan or an affiliate
thereof, unless the Financial Institution or Investment Professional is
selected as an advice provider by a fiduciary (such as the employer
sponsoring the Title I Plan) that is independent of them. 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
Title I Plan or its participants and beneficiaries should be made by an
independent party who will also monitor the performance of the
investment advice services.
For purposes of the exemption, the plan sponsor or other fiduciary
is independent of the Financial Institution and Investment Professional
if: (1) The fiduciary is not the Financial Institution, Investment
Professional, or an affiliate; (2) the fiduciary does not have a
relationship to or an interest in the Financial Institution, Investment
Professional, or any affiliate that might affect the exercise of the
fiduciary's best judgment in connection with
[[Page 82819]]
transactions covered by the exemption; and (3) the fiduciary 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 fiduciary's annual revenues based
upon its prior income tax year.
Some commenters urged the Department to delete the exclusion of
employers as fiduciary investment advice providers to Title I Plans
covering their own employees. The commenters stated that the conditions
of the exemption are protective for transactions involving employees of
the Financial Institution, and there is no reason to prevent employees
from choosing their own advice provider and benefiting from their
employer's particular area of expertise. A different commenter raised
the concern that employees would lose access to a valuable service
their employer provides to others. In response, the Department notes
that employers will continue to be able to provide such services to
employees, just as they always have, if they recoup only their direct
expenses. The Department has decided to maintain the exclusion as it
was proposed, because of the Department's concerns that the danger of
abuse is compounded when the advice recipient receives recommendations
from the employer, upon whom he or she depends for a job, to make
investments in which the employer has a financial interest.
Several commenters addressed the exclusion of named fiduciaries and
plan administrators, unless selected by a fiduciary that is independent
of them. One commenter sought clarification with respect to a
particular factual scenario in which a plan sponsor appoints a bank as
a directed trustee and named fiduciary. The commenter asked whether the
exemption would require the bank to be selected to provide advice to
the Title I Plan by the employer, and contended that this would result
in disparate treatment as compared to other fiduciary service
providers. For example, the commenter stated that the Title I Plan's
investment adviser can solicit rollovers without selection by the
employer.
The Department responds that the exemption would require a bank
that is a named fiduciary to be selected by a fiduciary that is
independent of the bank, as defined in the exemption. As noted above,
this exclusion is based on the significant authority of named
fiduciaries and plan administrators over Title I Plan operations.
Some commenters focused on the ``independence'' requirement under
which the fiduciary selecting the advice provider cannot receive more
than 2% of its income in the current tax year from the Financial
Institution, Investment Professional, or an affiliate. The commenters
urged the Department to increase the 2% limit to as high as 20%. One
commenter stated this definition was far more restrictive than any
definition ever used by the Department. The Department disagrees that
the 2% limitation is unduly restrictive, and notes that the
Department's exemption procedure regulation provides for a presumption
that a 2% limitation will indicate that a fiduciary is independent.\86\
The Department did not increase the 2% limit so as to avoid any concern
that compensation may impact the fiduciary's selection of an advice
provider for the Title I Plan.
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\86\ 29 CFR 2570.31(j) (definition of ``qualified independent
fiduciary'').
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Pooled Employer Plans Under the SECURE Act
In connection with the exemption's exclusion of named fiduciaries
and plan administrators unless selected by a fiduciary that is
independent, several commenters requested additional guidance and
clarification regarding the exemption's application to Pooled Employer
Plans (PEPs), which were authorized by the SECURE Act, passed in
2019.\87\ The SECURE Act mandates that a PEP must be established by a
Pooled Plan Provider (PPP) that is designated as a named fiduciary,
plan administrator, and the person responsible for specified
administrative duties. Commenters envisioned that some PPPs would want
to make investment advice available through PEPs, by utilizing
themselves or an affiliate as the advice provider. Commenters requested
clarification that an employer that participates in a PEP could be
considered ``independent'' so that this exclusion would not be
applicable despite the fact that the PPP or an affiliate is providing
advice.
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\87\ PEPs may not begin operating until January 1, 2021.
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The Department believes it is premature to address issues related
to PEPs, given their recent origination, unique structure, and
likelihood of significant variations in fact patterns and potential
business models, as the PEPs' sponsors decide how to structure their
operations. In particular, the Department believes it is premature to
provide any views regarding the ``independence'' of participating
employers. The Department recently published a request for information
on prohibited transactions applicable to PEPs and is separately
considering exemptions related to these types of Plans.\88\
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\88\ 85 FR 36880 (June 18, 2020).
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Robo-Advice
Section I(c)(2) of the exemption excludes from relief transactions
that result from investment advice generated solely by an interactive
website in which computer software-based models or applications provide
investment advice that do not involve interaction with an Investment
Professional (referred to herein as ``pure robo-advice''). ``Hybrid''
robo-advice arrangements, which involve both computer software models
and personal investment advice from an Investment Professional, are
permitted under the exemption.
A detailed statutory exemption that specifically addresses computer
model advice is set forth in ERISA section 408(b)(14), (g), and Code
section 4975(d)(17) and 4975(f)(8), and the regulations thereunder.\89\
The statutory exemption includes specific conditions governing the
operation of the computer model, including a requirement that the model
apply generally accepted investment theories and that it operate in an
unbiased manner, and the exemption further requires that an expert
certify that the computer model meets certain of the exemption's
requirements.
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\89\ 29 CFR 2550.408g-1.
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A number of commenters objected to the exclusion of pure robo-
advice from the class exemption, arguing that there is no reason to
treat it differently from other types of advice that are covered in the
exemption. Commenters described robo-advice as providing a low-cost
option that might become less available if it is not included in the
exemption. Commenters indicated that covering pure robo-advice would
allow Financial Institutions to adopt a single set of policies and
procedures for all advice arrangements, and noted that the SEC does not
treat robo-advice differently than other forms of advice. Some argued
that the existence of a statutory exemption should not prevent the
Department from issuing an administrative exemption, and that there are
other examples in which multiple exemptions are available for a certain
transaction. Some commenters argued that the statutory exemption is
costly and cumbersome, and expressed concern about whether it extended
to
[[Page 82820]]
rollovers, even though the exemption does not, by its terms, exclude
rollovers.
The final exemption maintains the exclusion of pure robo-advice. As
noted above, the statutory exemption in ERISA section 408(b)(14), (g),
and Code section 4975(d)(17) and 4975(f)(8), includes specific
conditions that are tailored to computer-generated investment advice.
This exemption, by contrast, is tailored to investment advice that is
provided through a human Investment Professional who is supervised by a
Financial Institution. The conditions of this exemption are not
designed to address advice without an Investment Professional. Because
of the different approaches, the Department does not believe that
Financial Institutions would easily be able to develop a single set of
conflict mitigation policies under this exemption that would govern
both hybrid and pure robo-advice arrangements. The policies and
procedures required by this exemption contemplate consideration of
factors beyond those that may be considered in a pure robo-advice
situation. A person may design a pure robo-advice model that
incorporates other incentives than those addressed here. Further,
without specificity as to how Financial Institutions' policies and
procedures would address pure robo-advice in a way that improved upon
the existing exemption, the Department is not persuaded that extending
this exemption to cover pure robo-advice is in the interests of
Retirement Investors and is protective of their rights, as it must find
under ERISA section 408(a)(2) and (3) and Code section 4975(c)(2)(B)
and (C) before issuing a new exemption. For these reasons, the
Department has decided to retain the exclusion from the exemption, as
proposed.
With regard to hybrid robo-advice arrangements that are covered by
the exemption, one commenter suggested that the final exemption should
require an Investment Professional who uses a computer model and
deviates from its recommendation to provide the Retirement Investor
with a written explanation of the reasons for the deviation. However,
the Department has determined generally to avoid such a prescriptive
approach to disclosure in the final exemption. Without additional
information about the commenter's concerns related to Investment
Professionals deviating from computer generated recommendations, the
Department does not believe that a specific disclosure requirement is
necessary in such circumstances.
Discretionary Arrangements
Under Section I(c)(3), the exemption does not extend to
transactions in which the Investment Professional is acting in a
fiduciary capacity other than as an investment advice fiduciary. For
clarity, Section I(c)(3) specifically cites the Department's five-part
test as the governing authority for status as an investment advice
fiduciary.
Several commenters opposed this exclusion and stated that the
conditions of the exemption are sufficiently protective in the context
of discretionary arrangements. These commenters indicated that
Retirement Investors who want discretionary management services should
not be treated differently than those receiving non-discretionary
advice services.
After consideration of the comments, the Department is adopting
this exclusion as proposed. The protections that are included in the
exemption were designed specifically for non-discretionary investment
advice arrangements, consistent with standards from other regulators
regarding similar arrangements. The Department does not believe this
will unfairly prejudice discretionary arrangements because the same
pool of exemptions for discretionary arrangements currently exists that
existed before this exemption was proposed. Additionally, the
Department understands there are a variety of ways to avoid prohibited
transactions in discretionary arrangements, including utilizing fee
structures that ensure compensation does not vary based on investment
choice.
Moreover, the Department believes the differences between a
discretionary and non-discretionary arrangement are not insignificant.
For example, the potential for conflicts in a discretionary arrangement
is heightened because most, if not all, of the investment transactions
will occur without interaction with the Retirement Investor. The
Department does not believe that the conditions of this exemption are
appropriately tailored to address such conflicts. However, the
Department remains open to requests for additional prohibited
transaction relief for discretionary arrangements.
Exemption Conditions
Section II of the exemption sets forth the general conditions of
the exemption. Section III establishes the eligibility requirements.
Section IV requires 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
obtain prohibited transaction relief under the exemption, the Financial
Institution and Investment Professional must comply with all of the
conditions of the exemption, and may not waive or disclaim compliance
with any of the conditions. Similarly, a Retirement Investor may not
agree to waive any of the conditions.
Investment Advice Arrangement--Section II
Section II sets forth conditions that govern the Financial
Institution's and Investment Professional's investment advice
arrangement. As discussed in greater detail below, Section II(a)
requires 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 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) requires
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 Title I and the Code, as
applicable.\90\ The disclosure must also include 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. Financial Institutions and Investment
Professionals would also be required to document and disclose the
reasons that a recommendation to roll over assets is in the Retirement
Investor's best interest. Under Section II(c), the Financial
Institution is 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)
[[Page 82821]]
requires Financial Institutions to conduct an annual retrospective
review.\91\ Finally, Section II(e) provides a mechanism for Financial
Institutions to correct certain violations of the exemption conditions
and maintain relief under the exemption.
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\90\ 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 the Act, and the Department does not
believe the exemption would create any such expansion.
\91\ One commenter suggested that the exemption should be
separated into different exemptions with different conditions to
reflect diverse issues of Retirement Investors who are individuals,
small plans, and large plans. The Department has not adopted that
suggestion because of the concern that this would be overly complex
for Financial Institutions to implement and could lead to concerns
about technical violations of the exemptions.
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Impartial Conduct Standards--Section II(a)
Financial Institutions and Investment Professionals must 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.
Best Interest Standard
Section II(a)(1) requires investment advice that is, at the time it
is provided, in the best interest of the Retirement Investor. Section
V(b) of the exemption defines ``best interest'' advice as advice that
``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 standard is based on longstanding concepts in the Act 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. 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.
The best interest standard is an objective standard that requires
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.
The standard of care is measured at the time the advice is provided,
and not in hindsight.\92\ The standard does 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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\92\ See Donovan v. Mazzola, 716 F.2d 1226, 1232 (9th Cir.
1983).
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The standard also provides that Financial Institutions and
Investment Professionals have a 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 Department intends for the standard to be
interpreted and applied consistently with the standard set forth in
Regulation Best Interest \93\ and the SEC's interpretation regarding
the conduct standard for investment advisers.\94\
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\93\ Regulation Best Interests' 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).
\94\ See SEC Fiduciary Interpretation, 84 FR 33671 (``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.'') (internal
citations omitted).
---------------------------------------------------------------------------
This best interest standard allows 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 their own 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 is not 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 does not foreclose the
Investment Professional and Financial Institution from being paid, nor
does it foreclose investment advice on proprietary products or
investments that generate third party payments. This best interest
standard also does 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.
Several commenters expressed support for the best interest standard
and specifically for the phrasing aligned with Regulation Best
Interest's conduct standard. Commenters articulated benefits to both
Retirement Investors and to Financial Institutions that will come from
clarity and consistency of alignment with the SEC. Some commenters
requested that the Department specifically provide a safe harbor based
on compliance with the SEC's requirements. According to these
commenters, the Department should not merely rely on the phrasing in
the securities regulations, but should also incorporate the securities
laws enforcement through the SEC and FINRA.
Some commenters objected to the incorporation of the best interest
standard and other Impartial Conduct Standards as conditions of the
exemption. They stated that the conduct standards are duplicative for
transactions involving Title I Plans because of the standards set forth
in ERISA section 404. Some specifically opposed the Department's use of
a prudence standard in the best interest standard. They noted that the
specific word ``prudence'' is not included in the final Regulation Best
Interest or in the NAIC Model Regulation, and, therefore, including it
in the exemption standard would be an area of inconsistency. In
addition, some commenters opined that the application of the best
interest standard, including the prudence obligations, on IRAs is not
permitted under the Fifth Circuit's Chamber opinion. In particular,
these commenters opined that the Fifth Circuit determined that the
Department
[[Page 82822]]
was acting outside its authority by adding to the requirements of the
Code provisions that Congress chose not to apply to such accounts.
Other commenters maintained that the Department's proposed best
interest standard was not sufficiently protective of Retirement
Investors. Commenters noted that the SEC described its standard as
``separate and distinct from the fiduciary duty that has developed
under the Advisers Act.'' These commenters argued that the Department
should condition the exemption on what they referred to as a ``true''
fiduciary standard. They stated this is what Congress intended as part
of the statutory framework for tax-advantaged treatment accorded to
retirement investments. Some commenters specifically objected to the
exemption's loyalty formulation, including that it was not a true
loyalty standard and needed alternative wording such as ``without
regard to'' or ``solely in the interest of.''
The Department has included the best interest standard in the final
exemption as it was proposed. The Department believes that the
standard, in combination with the other conditions of the exemption,
will protect the interests of Retirement Investors affected by the
exemption. Although the standards of ERISA section 404 already apply to
transactions involving Title I Plans and their participants and
beneficiaries, incorporating the Impartial Conduct Standards as
conditions of the exemption requires Financial Institutions to
demonstrate compliance with the standards and increases the consequence
of non-compliance because of the excise tax. This creates an important
incentive for Financial Institutions to ensure compliance with the
standards. For that reason, the Department does not believe the
standards are unnecessary or duplicative for those Retirement Investors
who are Title I Plan participants or beneficiaries. The Department also
is not persuaded that it should eliminate the reference to ``prudence''
from the best interest standard, given its importance in the Title I
framework and longstanding application to the problems of agency that
the exemption addresses.
The Department does not believe that including the Impartial
Conduct Standards as conditions for transactions involving IRAs is
impermissible in light of the Fifth Circuit's Chamber opinion. The
Fifth Circuit's opinion addressed the 2016 fiduciary rule and related
exemptions, particularly the perceived ``over-inclusiveness'' of the
new definition of a fiduciary that the opinion indicated, in some
circumstances, resulted in ordinary sales conduct activities causing a
person to be classified as a fiduciary under Title I and the Code.
Unlike the 2016 fiduciary rule and related exemptions, the present
exemption provides relief to a more limited group of persons already
deemed to be fiduciaries within the meaning of the five-part test and
does not impose contract or warranty requirements on fiduciaries.\95\
Further, the Fifth Circuit observed that the five-part test ``captured
the essence of a fiduciary relationship known to the common law as a
special relationship of trust and confidence between the fiduciary and
his client.'' Chamber, 885 F.3d 360, 364 (2018) (citation omitted). The
same five-part test exists under the Code's regulations, based on an
identical definition of fiduciary in the Code. This exemption merely
recognizes that fiduciaries of IRAs, if they seek to use this exemption
for relief from prohibited transactions, should adhere to a best
interest standard consistent with their fiduciary status and a special
relationship of trust and confidence.
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\95\ In connection with the description of the best interest
standard in the proposed exemption the Department included a
footnote referencing Code section 4975(f)(5), which defines
``correction'' with respect to prohibited transactions as placing a
Plan or an IRA in a financial position not worse than it would have
been in if the person had acted ``under the highest fiduciary
standards.'' The footnote stated that while the Code does not
expressly impose a duty of loyalty on fiduciaries, the exemption's
best interest standard is intended to ensure adherence to the
``highest fiduciary standards'' when a fiduciary advises a Plan or
an IRA owner under the Code. Commenters asked the Department to
disavow this statement in the final exemption, asserting that the
imposition of the Impartial Conduct Standards as an exemption
condition for IRAs was rejected by the Fifth Circuit's Chamber
opinion. The Department disagrees with the commenters'
interpretation of the Fifth Circuit's opinion, and its application
to this exemption which applies only to plan fiduciaries who meet
the five-part test and which does not impose contract or warranty
requirements on these fiduciaries.
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The Department also disagrees with the suggestion that the best
interest standard is not a ``true'' fiduciary standard. The Department
acknowledges that the Best Interest Contract Exemption and other
exemptions granted in association with the 2016 fiduciary rule used a
loyalty formulation of ``without regard to,'' which was described as
``a concise expression of Title I's duty of loyalty, as expressed in
section 404(a)(1)(A) of ERISA and applied in the context of advice.''
\96\ In connection with concerns expressed by commenters on those
exemptions, however, the Department had to provide specific
confirmation that the standard was not so exacting as to prevent a
fiduciary from being paid.\97\ The Department also provided a special
definition of ``best interest'' in section IV of the exemption to
accommodate concerns about proprietary products and limited menus of
investment options that generate third party payments.\98\ It is
important to note that for decades the Department has also articulated
the duty of loyalty in ERISA section 404 as prohibiting a fiduciary
from ``subordinating the interests of participants and beneficiaries in
their retirement income to unrelated objectives.'' \99\
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\96\ See Best Interest Contract Exemption, 81 FR 21002, 21026
(April 8, 2016).
\97\ Id. at 21029.
\98\ Id. at 21080.
\99\ See e.g., Advisory Opinion 2008-05A (June 27, 2008);
Advisory Opinion No. 93-33A (Dec. 16, 1993); Advisory Opinion 85-36A
(Oct. 23, 1985); Letter to James K. Tam (June 14, 1983); Letter to
Harold G. Korbee (Apr. 22, 1981). The Department has also repeated
this articulation of the loyalty standard in recent proposed and
final regulations. See Financial Factors in Selecting Plan
Investments final rule, 85 FR 72846, 72847 (Nov. 13, 2020) (In
describing prior guidance on environmental, social, and corporate
governance investing, noting that the Department ``has construed the
requirements that a fiduciary act solely in the interest of, and for
the exclusive purpose of providing benefits to, participants and
beneficiaries as prohibiting a fiduciary from subordinating the
interests of participants and beneficiaries in their retirement
income to unrelated objectives.''). See also Fiduciary Duties
Regarding Proxy Voting and Shareholder Rights proposed rule, 85 FR
55219, 52220-21 (September 4, 2020) (In discussing prior
interpretations of proxy voting, noting that in 1994 ``the
Department also reiterated its view that ERISA does not permit
fiduciaries, in voting proxies or exercising other shareholder
rights, to subordinate the economic interests of participants and
beneficiaries to unrelated objectives.'').
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As set forth above, however, the Department notes that the
exemption's best interest standard requires Financial Institutions and
Investment Professionals to 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.'' The duty not to subordinate the Retirement Investor's
interests to their own is the standard applicable to investment
advisers, who are fiduciaries under securities laws.\100\ Although the
SEC indicated in Regulation Best Interest that it was not subjecting
broker-dealers to ``a wholesale and complete application of the
existing fiduciary standard under the Advisers Act,'' it also said,
``[a]t the time a recommendation is made, key elements of the
Regulation Best Interest standard of conduct that applies to broker-
dealers will be similar to key elements of the
[[Page 82823]]
fiduciary standard for investment advisers.'' \101\
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\100\ SEC Fiduciary Interpretation, 84 FR 33671.
\101\ Regulation Best Interest Release, 84 FR 33321-33322. The
SEC stated that the phrasing in Regulation Best Interest (``without
placing the financial or other interest . . . ahead of the interest
of the retail customer'') aligns with an investment adviser's
fiduciary duty, noting the discussion in the SEC Fiduciary
Interpretation (``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.'') 84
FR 33671.
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Although the best interest standard is intended to be consistent
with the securities law standards as discussed above, the Department
declines to provide a safe harbor for compliance with the standards as
interpreted by the SEC or FINRA. The Department confirms that it will
coordinate with other regulators, including the SEC, on enforcement
strategies and interpretive issues to the extent appropriate, but it
cannot simply defer to other regulators on how best to discharge its
own interpretive and enforcement responsibilities under Title I and the
Code.\102\ When Congress enacted the Act, it made a deliberate decision
to entrust the protection of Retirement Investors to the Secretary of
Labor, subject to an overarching regulatory structure that departs in
significant ways from the securities laws (e.g., by creating a
prohibited transaction structure that flatly prohibits many
transactions, such as those at issue in this exemption, unless the
Department first grants an exemption after making statutorily required
participant-protective findings). While the Department has exercised
its discretion in this exemption to incorporate a best interest
standard that it believes is consistent with the securities law
standard, it nevertheless retains full interpretive responsibility
over, and must account for, the Title I and Code provisions at issue in
this exemption, as well as the terms of the exemption, and for the
protection of Retirement Investors.
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\102\ See, e.g., ERISA sections 502, 504, 505, and
Reorganization Plan No. 4 of 1978.
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Additional Guidance on the Best Interest Standard
A few commenters requested additional guidance on the best interest
standard. One commenter asked the Department to clarify how Title I's
standards differed from the Impartial Conduct Standards. Another
commenter asked the Department to make clear what an Investment
Professional would be required to do to satisfy the standards, other
than engaging in a prudent process. In this regard, the Department
notes that the exemption is applicable solely to ERISA section 406 and
Code section 4975; it does not provide an exemption from a Title I
fiduciary's obligations under ERISA section 404.
As set forth above, the Department does not believe there is a
distinction between ERISA's section 404 standards of prudence and
loyalty and the Impartial Conduct Standards, given that the best
interest standard includes a prudence obligation and the Department has
in the past described the duty of loyalty as prohibiting fiduciaries
from subordinating the interests of participants and beneficiaries in
their retirement income to unrelated objectives
Financial Institutions wishing to be certain that they complied
with the ERISA section 404 standard and the Impartial Conduct Standards
would adopt rigorous policies and procedures to align the interests of
Investment Professionals with their Retirement Investor customers,
refrain from creating incentives for Investment Professionals to
violate the Impartial Conduct Standards, and prudently oversee the
implementation and enforcement of the policies and procedures.
Investment Professionals would comply with the Financial Institution's
policies and procedures, engage in a prudent process in recommending
investment products, and ensure that their advice does not put the
interests of the Investment Professional, Financial Institution, or
other party ahead of the interests of the Retirement Investor.\103\
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\103\ One commenter asked the Department to explain the
difference between the exemption's best interest standard and a
suitability standard. Given the recent developments in conduct
standards applicable to broker-dealers and insurance agents, the
Department does not believe it is appropriate or necessary for it to
addresses these differences.
---------------------------------------------------------------------------
One commenter asked the Department to clarify the remedies
available to a participant under Title I who receives fiduciary
investment advice to roll over assets from a Title I Plan to an IRA.
Specifically, the commenter sought confirmation that whenever a
participant is the recipient of advice, the participant retains all of
the rights and remedies under Title I even if the investment advice
provider is selected by the participant's employer. The Department
responds that individual participants and beneficiaries in a Title I
Plan have a cause of action under ERISA section 502(a) for prohibited
transactions, even if the investment advice provider is selected by the
employer. As noted earlier, the Act does not permit exemptions to
release fiduciaries from their Title I obligations under ERISA section
404 to a Plan, and its remedies remain available.
Monitoring
In connection with the best interest standard, several commenters
raised concerns that the conditions of the exemption could require
Financial Institutions to provide ongoing monitoring services of
certain investment property. The Department stated in the preamble to
the proposed exemption that:
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.
Some commenters interpreted this statement to require Financial
Institutions and Investment Professionals to monitor certain
investments. According to the commenters, any obligation for broker-
dealers to monitor investments would be inconsistent with the
securities laws. Another commenter stated that the monitoring
requirement is inconsistent with the prudence standards because the
Department's regulation at 29 CFR 2550.404a-1 regarding a fiduciary's
duty of prudence in connection with investment decisions does not
require account monitoring. Commenters asked the Department to confirm
that the exemption does not require Financial Institutions or
Investment Professionals to provide monitoring, particularly where the
Financial Institution clearly discloses it will not do so. Commenters
also stated the Department should not impose ongoing monitoring
requirements based on a vague standard of ``unusual complexity and
risk.''
Other commenters asked for more guidance on when monitoring would
be required. They requested more specificity on which investments are
considered complex and risky as described in the preamble of the
proposed exemption. Some commenters sought the Department's assurance
that annuities would not require ongoing monitoring. However, one
commenter asserted that the Department's statement on monitoring did
not go far enough; an ongoing fiduciary relationship should require
ongoing monitoring. At the very least, this commenter noted, the
Department should adopt the position that the SEC takes with regard to
investment advisers' monitoring obligations, that for advice that is
provided on a regular basis, there should be some duty to monitor
[[Page 82824]]
consistent with the nature of that relationship.
As was stated in the proposal, the Department confirms that nothing
in the final exemption requires Financial Institutions or Investment
Professionals to provide ongoing monitoring services. Of course, the
exemption's general prohibition against misleading statements applies,
and Financial Institutions and Investment Professionals should be clear
and candid with Retirement Investors about the existence, scope, and
duration of any monitoring services. Accordingly, the Department does
not believe it is requiring broker-dealers to engage in any activity
that is not permitted under securities laws or that it is barring
broker-dealers from recommending certain classes of investments. The
Department did not require all Financial Institutions and Investment
Professionals to offer monitoring because the exemption takes the
approach of preserving the availability of a wide variety of investment
advice arrangements and products. However, as part of making a best
interest recommendation, the Department expects that Financial
Institutions and Investment Professionals will consider whether the
investment can be prudently recommended without some mechanism or plan
for ongoing monitoring. To the extent that prudence requires ongoing
monitoring, the final exemption does not require that such monitoring
be done by the Financial Institution or Investment Professional; such
monitoring could be performed by a third party, but the advice
fiduciary should clearly explain the need for monitoring to the
investor when making the recommendation.
In response to requests for guidance identifying specific products
that will require monitoring, or what constitutes a product of unusual
complexity and risk, the Department notes that Financial Institutions
and Investment Professionals will need to make these decisions on a
case-by-case basis. The Department expects that Financial Institutions
and Investment Professionals have the expertise necessary to evaluate
the need for monitoring based on all the facts and circumstances.
Reasonable Compensation
Section II(a)(2) of the exemption includes a reasonable
compensation standard. The exemption provides that compensation
received, directly or indirectly, by the Financial Institution,
Investment Professional, and their affiliates and related entities for
their services is not 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 Title I and the Code.
The statutory exemptions in 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--when acting as service providers to Plans or
IRAs--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.
The reasonable compensation standard applies to all transactions
under the exemption, including investment products that bundle services
and investment guarantees or other benefits, such as with 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).
One commenter expressed support for the proposed exemption's
reasonable compensation requirement. However, several other commenters
maintained that the requirement is not specific enough and too lenient.
The commenters objected to the exemption not requiring recommendation
of investments with the lowest fees. One commenter stated that, by
focusing on the ``market value,'' the standard may incorporate existing
practices that involve conflicts of interest and inflated prices. The
same commenter stated that applying a fact-specific test to the
reasonableness of fees encourages investment advice providers to
contrive reasons why compensation is reasonable.
As the Department indicated in the preamble to the proposed
exemption, and reiterates here, the reasonableness of fees will depend
on all the facts and circumstances at the time of the recommendation.
The Department outlines several of those factors below which are
intended to ensure the objective reasonableness of the fee. Several
factors inform whether compensation is reasonable, including the nature
of the service(s) provided, the market price of the service(s) 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.
The Department did not intend to suggest that reasonableness will
be assessed solely against the existing market practices. The
reasonable compensation standard will not be met if the fees bear
little relationship to the value of the services actually rendered. And
separately, the exemption will not be satisfied if the Financial
Institution does not establish, maintain, and enforce written policies
and procedures prudently designed to ensure that the Financial
Institution and its Investment Professionals comply with the reasonable
compensation standard in connection with covered fiduciary advice and
transactions.
One commenter stated that the reasonable compensation requirement
is unnecessary because it is already applicable to Title I fiduciaries
under ERISA section 408(b)(2).\104\ Another commenter asserted that the
reference to ERISA section 408(b)(2) indicated the exemption would
adopt not only the substance but the established process for reasonable
compensation determinations (i.e., a determination made by an
independent Plan or IRA fiduciary who engages the service provider).
---------------------------------------------------------------------------
\104\ See also Code section 4975(d)(2).
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Incorporating the reasonable compensation standard as a condition
of relief in this exemption increases the consequence of non-compliance
and improves the protections of the exemption. It is also a critical
protection in the context of an exemption which provides relief not
only for prohibited transaction violations under section 406(a) of
ERISA, but for self-dealing violations under section 406(b).\105\ In
[[Page 82825]]
the context of this exemption, the standard serves the important
function of preventing investment advice fiduciaries from overcharging
their Retirement Investor customers, despite the conflicts of interest
associated with their compensation.
---------------------------------------------------------------------------
\105\ See also Code section 4975(c).
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In this regard, one commenter suggested that Investment
Professionals should be required to disclose, in writing, the reasons
that the Investment Professional is not recommending an investment with
lower fees and the reasons the recommendation is more beneficial to the
Retirement Investor. Thus, the Financial Institution would be required
to demonstrate, in writing, that the compensation arising from an
investment is reasonable and in the Retirement Investor's best
interest.
Although the exemption places the burden on the Financial
Institution and Investment Professional not to charge fees in excess of
reasonable compensation, the Department declines to require
documentation as suggested by the commenter. Under the exemption, the
Financial Institution and Investment Professional are not required to
recommend the transaction that is the lowest cost or that generates the
lowest fees without regard to other relevant factors. In fact, the
Department agrees with commenters that recommendations of the ``lowest
cost'' security or investment strategy, without consideration of other
factors, could in in some cases even violate the exemption. In
addition, given the wide variety of investment products and fee
structures available to investors, the commenter that asked for
documentation did not provide a useful model to define lower fee
investments that would serve as benchmarks for these purposes.
One commenter suggested that the exemption text should specifically
provide that the cost of an investment product is a factor, although it
need not be the determinative factor, in applying the best interest
standard. While the Department agrees that the cost of an investment
product will be a factor in every recommendation, the best interest
standard envisions that all of the characteristics of an investment
product--not just its cost--will be evaluated based on Retirement
Investors' investment objectives, risk tolerance, financial
circumstances, and needs. Therefore, the Department has not added a
reference to cost to the best interest standard or elsewhere in the
Impartial Conduct Standards.
Best Execution
Section II(a)(2)(B) of the exemption requires, in accordance with
the federal securities laws, that the Financial 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 adhere 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.'' \106\ This condition complements the
reasonable compensation standard set forth in the exemption.
---------------------------------------------------------------------------
\106\ Regulation Best Interest Release, 84 FR 33373, note 565.
---------------------------------------------------------------------------
The Department applies the best execution requirement consistent
with the federal securities laws. Financial Institutions that are FINRA
members satisfy this subsection if they comply with the best execution
standards under federal securities laws and 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 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--will also satisfy this subsection.\107\
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\107\ SEC Fiduciary Interpretation, 84 FR 33674-75 (Section
II.B.2 ``Duty to Seek Best Execution'').
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One commenter expressed general support but also stated that the
exemption should clarify that the ``best execution'' standard for
executing portfolio transactions includes not only the price of the
transaction itself but, if applicable, fees and expenses including
commissions that provide the most favorable total cost or proceeds
reasonably obtainable under the circumstances. In response, the
Department notes that the exemption's requirement that the Financial
Institution and Investment Professional seek to obtain best execution
is the second part of an overarching ``reasonable compensation''
condition which is not limited to best execution. As outlined above,
the best execution requirement is consistent with federal securities
law, and compliance by the Financial Institution and Investment
Professional with the applicable statutory and regulatory provisions is
sufficient to comply with the requirement. The condition builds upon
Section II(a)(2)(A), which requires that compensation not exceed
reasonable compensation. To the extent that the applicable securities
law provisions do not address certain fees and expenses, those amounts
are still captured in the overall requirement that the compensation not
exceed reasonable compensation.
A number of commenters broadly objected to the inclusion of a best
execution condition. The general critique was that the condition
duplicates existing securities laws and is, therefore, unnecessary. In
conjunction with this critique, multiple commenters argued that the
best execution condition could result in the Department creating
divergent and inconsistent interpretations of the best execution rule
as compared to interpretations by FINRA, the SEC, and the MSRB. One
commenter viewed the best execution requirement as an existing
fiduciary obligation under ERISA section 404, stating that Title I
fiduciaries are already obligated to seek to obtain the most favorable
terms in a transaction, but should not lose the exemption for failure
to do so.
The Department has considered these comments, but determined to
retain the best execution condition. With respect to the exemption's
application to Covered Principal Transactions, the condition will
provide protection to Retirement Investors that may not be provided by
the more general reasonable compensation requirement. The Department
believes that the best execution requirement is a meaningful way to do
so. The Department exercises its interpretive authority here to take
the position that Financial Institutions and Investment Professionals
that comply with applicable securities laws and their successors will
satisfy this condition of the exemption, because of this requirement's
origination in securities law. As a result, the Department does not
believe the condition will result in divergent or inconsistent
interpretations of securities laws.
Two additional commenters raised questions regarding the
expansiveness of the condition. One commenter
[[Page 82826]]
objected to the best execution condition on the grounds that Financial
Institutions might rely on third parties, such as trustees or
custodians, to execute particular transactions with respect to which
they provided investment advice. A second commenter requested that the
Department clarify that the best execution requirement is limited to
circumstances similar to those covered by FINRA rules 2121 and 5310.
With respect to both of these comments, the Department notes that the
best execution condition is applicable as it would otherwise be
applicable under the federal securities laws.
Misleading Statements
Section II(a)(3) requires 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
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.\108\
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\108\ See, e.g., ERISA section 410 and see also ERISA
Interpretive Bulletin 75-4--Indemnification of fiduciaries. (``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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The Department received a few comments on this requirement in the
proposal. One commenter stated this standard is unnecessary because
misleading statements are already addressed by the proposal's
disclosure requirement. Another commenter asked the Department to
clarify what is considered a ``misleading statement.'' Other commenters
suggested that the Department expand the standard to specifically
include material omissions because material omissions may be equally
damaging to a Retirement Investor's understanding.
The Department has not changed the specific language in Section
II(a)(3) from the proposal. Misleading statements are not necessarily
addressed by the exemption's disclosure requirement, which is limited
to certain specific topics. Further, the Department notes that the
requirement is to avoid ``materially misleading'' statements, so as to
provide a standard for the condition and avoid uncertainty.
The Department agrees with commenters that materially misleading
statements are properly interpreted to include statements that omit a
material fact necessary in order to make the statements, in light of
the circumstances under which they were made, not misleading.
Retirement Investors are clearly best served by statements and
representations that are free from material misstatements and
omissions. Financial Institutions and Investment Professionals best
promote the interests of Retirement Investors by ensuring that accurate
communications are a consistent standard in all their interactions with
their customers.
In connection with the prohibition against misleading statements in
Section II(a)(3), one commenter reacted to the Department's preamble
statement about exculpatory statements. The commenter objected on
several grounds, including the view that this statement effectively
incorporates state and local laws that may vary and, thus, undermines
the Act's aim to provide a uniform national standard in the retirement
space. The commenter opined that this statement creates an uncertain
and unworkable standard and even Financial Institutions that attempt to
comply in good faith may lose the exemption if they inadvertently fail
to comply with a law.
The Department does not believe that the inclusion of an
exculpatory statement that is prohibited by applicable law is fairly
characterized as an inadvertent failure to comply with the law.
Financial Institutions that provide fiduciary investment advice to
Retirement Investors should be well aware of the laws in the
jurisdictions within which they operate. If a Financial Institution
fails to apprise itself of its legal responsibilities, it should not be
permitted to rely upon an exemption that includes a best interest
standard for advice that incorporates the principles of 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. Permitting false and misleading statements that have the
effect of dissuading a Retirement Investor from seeking lawfully
available remedies is not consistent with the requirement, under Title
I and the Code, that the Department find that an exemption is
protective of the rights of participants and beneficiaries of Plans and
IRA owners. Furthermore, the Department notes that all Title I
fiduciaries remain subject to the uniform fiduciary responsibility
provisions in ERISA section 404 with respect to Title I Plan assets.
Finally, the Department has included provisions in the exemption, which
enable fiduciaries to cure violations of the exemption conditions,
under certain circumstances, and thereby avoid loss of the exemption.
Disclosure--Section II(b)
Section II(b) of the exemption requires 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
Title I 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
also 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 Financial Institution also must provide
documentation of the specific reasons that any recommendation to roll
over assets from one Plan or IRA to another Plan or IRA, or from one
type of account to another, is in the Retirement Investor's best
interest.
The disclosure obligations 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. Once disclosure has been provided, the Financial Institution
is not obligated to provide it again, except at the Retirement
Investor's request or if the information has materially changed.
Written Fiduciary Acknowledgment
Section II(b)(1) of the final exemption includes the requirement to
provide Retirement Investors with a written fiduciary acknowledgment as
proposed. This disclosure is designed to ensure that the fiduciary
nature of the
[[Page 82827]]
relationship is clear to the Financial Institution and Investment
Professional, as well as the Retirement Investor, at the time of the
investment transaction.
This exemption gives broad relief for a wide range of activities
that fiduciaries otherwise would be prohibited from engaging in. Given
this wide field of action, the Department has concluded that clear
disclosure is one of the necessary protections for Retirement
Investors. A Financial Institution and Investment Professional that
seek to provide investment advice to a Retirement Investor and
otherwise engage in a relationship that satisfies the five-part test
should, at a minimum (if they wish to avail themselves of this
particular exemption), make a conscious up-front determination of
whether they are acting as fiduciaries; tell their Retirement Investor
customers that they are rendering advice as fiduciaries; and, based on
their conscious decision to act as fiduciaries, implement and follow
the exemption's conditions. The requirement also supports Retirement
Investors' ability to choose a provider of advice that is a fiduciary
within the meaning of Title I and the Code.
The written fiduciary acknowledgment supports the exemption's
objectives of preserving the availability of a wide variety of business
models and expanding investor choice. Retirement Investors benefit from
knowing if they are receiving advice from a fiduciary. Further, this
disclosure increases the likelihood that Financial Institutions and
Investment Professionals will take their compliance obligations
seriously. This exemption contemplates that the Financial Institution
and Investment Professional will put down a marker as fiduciaries when
they indeed are acting as such. Financial Institutions and Investment
Professionals may not rely on the exemption merely as a back-up
protection for engaging in possible prohibited transactions when their
ultimate intention is to deny the fiduciary nature of their investment
advice.
Model Language
To assist Financial Institutions and Investment Professionals in
complying with this condition of the exemption, the Department provides
the following model fiduciary acknowledgment language as an example of
language that will satisfy the disclosure requirement in Section
II(b)(1):
When we provide investment advice to you regarding your
retirement plan account or individual retirement account, we are
fiduciaries within the meaning of Title I of the Employee Retirement
Income Security Act and/or the Internal Revenue Code, as applicable,
which are laws governing retirement accounts. The way we make money
creates some conflicts with your interests, so we operate under a
special rule that requires us to act in your best interest and not
put our interest ahead of yours.
In addition, although the exemption does not require it, Financial
Institutions and Investment Professionals could more fully explain the
exemption's terms with the following model disclosure:
Under this special rule's provisions, we must:
Meet a professional standard of care when making
investment recommendations (give prudent advice);
Never put our financial interests ahead of yours when
making recommendations (give loyal advice);
Avoid misleading statements about conflicts of interest,
fees, and investments;
Follow policies and procedures designed to ensure that we
give advice that is in your best interest;
Charge no more than is reasonable for our services; and
Give you basic information about conflicts of interest.
Discussion of Comments
A few commenters expressed support for the written fiduciary
acknowledgment. A number of other commenters objected to the
acknowledgment condition in the proposal. Some commenters stated that
it would require them to say they were fiduciaries at the outset of a
relationship, at a time when the ongoing nature of the relationship may
be uncertain, which some commenters said would be unworkable. Some
asserted that the written fiduciary acknowledgment requirement would
deter some financial services providers from relying on the exemption
because of fear of increased liability, thus causing Retirement
Investors to lose access to the full range of investment advice
arrangements. Several commenters argued that Financial Institutions
will not be fiduciaries for all purposes, including under securities
laws, and that the acknowledgement could confuse investors and also
potentially undermine the purpose of the SEC's Form CRS as a
comprehensive source of investor information. Some of these commenters
said that they already disclose their duties under the best interest
standard under Regulation Best Interest and believed that a similar
disclosure would more accurately characterize their duties to
Retirement Investors under the exemption. Some of these commenters also
said that the proposal was inconsistent with other exemptions such as
PTE 84-24, which have traditionally covered such inadvertent
fiduciaries.
Some commenters said the disclosure was inconsistent with the Fifth
Circuit's Chamber opinion because the statement would determine
fiduciary status, rather than the five-part test. Other commenters
argued that the fiduciary acknowledgment could create a unilateral
contract between the Financial Institution and the Retirement Investor,
which they said was also impermissible in light of the Fifth Circuit's
Chamber opinion. Some expressed concern about interaction with other
laws, including the possibility that the acknowledgment could be
considered to create a ``contractual fiduciary duty'' under
Massachusetts securities law which could impose additional requirements
on broker-dealers.
Other commenters described the standard as not providing enough
protection for Retirement Investors. According to these commenters, the
exemption's best interest standard is not a ``true'' fiduciary
standard. Some commenters also indicated the lack of a ``true''
fiduciary standard makes it misleading for Financial Institutions to
disclose that they are fiduciaries and thereby causes Retirement
Investors to expect protections that they will not in fact receive.
These commenters pointed to the Act's legislative purpose to provide
tax-advantaged accounts with more protection for participants than
other, existing standards. Some commenters noted that the Regulation
Best Interest standard is new, and the Department cannot determine that
it offers the necessary protections until it has been fully tested in
the market. One commenter stated that the fiduciary acknowledgement
would allow investment advice providers to ``pose'' as fiduciaries and
give non-fiduciary advice to Retirement Investors, who are depending on
them for important decisions.
Some commenters suggested alternatives to the fiduciary
acknowledgement, such as requiring an acknowledgment of the
applicability of the best interest standard. Commenters said this would
avoid unnecessary complexity and preserve Retirement Investors' access
to low-cost, high quality advice. One commenter suggested that the
Department work on an expanded version of the SEC Form CRS which would
explain the standards applicable to Title I and Code fiduciaries,
broker-dealers, and investment advisers. However, other commenters
opposed the idea of a
[[Page 82828]]
disclosure of the best interest standard, expressing concern that any
expansion of required disclosure would cause even more Retirement
Investor confusion. According to these commenters, any problems
associated with a fiduciary acknowledgment--including increased
liability--could also apply to acknowledgment of the best interest
standard.
The Department has carefully considered comments on the requirement
to provide written acknowledgment of fiduciary status. The Department
believes the acknowledgment ensures clarity as to the nature of the
relationship between the parties, supports Retirement Investors'
ability to choose a provider of advice that is a fiduciary within the
meaning of Title I and the Code, and promotes compliance with the
conditions of the exemption. To increase that clarity, the voluntary
model disclosure includes disclosure of the best interest standard.
Financial Institutions that do not want to act as fiduciaries can also
make that clear and act accordingly. The five-part test, as interpreted
above, and Interpretive Bulletin 96-1 regarding participant investment
education, provide Financial Institutions and Investment Professionals
a clear roadmap for determining when they are, and are not, Title I and
Code fiduciaries.
The Department disagrees with commenters who stated that the
disclosure could be misleading to Retirement Investors because the
exemption's best interest standard is not, in their assessment, a
``true'' fiduciary standard. The exemption is only applicable to
``fiduciaries'' within the meaning of Title I and the Code.
Accordingly, the acknowledgment does not mislead investors as to the
nature of the advice relationship, but rather accurately recites the
Financial Institution's and Investment Professional's fiduciary status
under Title I and the Code. Moreover, as discussed above, although the
best interest standard does not include a ``without regard to''
formulation of the loyalty standard, the standard is consistent with
interpretive statements by the Department as to Title I's duty of
loyalty in other contexts.
With respect to the commenters who stated they should not have to
acknowledge fiduciary status if they are uncertain as to whether they
satisfy the five-part test, the Department believes, in light of the
broad scope of relief in the exemption, that it is critical for
Financial Institutions and Investment Professionals who choose to rely
on the exemption to determine up-front if they intend to act as
fiduciaries, and structure their relationship with the Retirement
Investor accordingly. Financial Institutions are unlikely to comply
fully with the exemption if they are simply relying on the exemption as
a fallback position in the event that a primary argument of non-
fiduciary status fails. Financial services providers that are not
fiduciaries have no need of this exemption. Financial services
providers that are fiduciaries, however, have a statutory obligation to
adhere to the prohibited transaction rules or meet the terms of the
exemption. Compliance with the law turns on financial services
providers knowing whether or not they are acting as fiduciaries and
acting in accordance with that understanding.
This exemption is not designed as a backup method of compliance for
Financial Institutions that intend to deny the fiduciary nature of
their investment advice despite their actions to the contrary. Instead,
it is intended to provide broad relief for parties who are indeed
fiduciaries under the five-part test, as manifested by their purposes
and actions, and who implement fiduciary structures to govern their
relationship with their customers. In response to comments asserting
inconsistency of this exemption with PTE 84-24, which does not require
written fiduciary acknowledgment, the Department responds that it is
the responsibility of the Department to craft exemptions to ensure they
are protective of and in the interests of plans and plan participants.
The conditions in the Department's exemptions are designed to address
the scope of the relief in the exemption and the attendant conflicts of
interest. The Department has determined that the written fiduciary
acknowledgment serves as an important safeguard in connection with the
very broad grant of relief in this exemption from the self-dealing
prohibitions of Title I and the Code. Other pre-existing prohibited
transaction exemptions that do not have a fiduciary acknowledgment as a
requirement, including statutory exemptions, remain available as
alternatives.
As for the related argument that some financial service providers
will withdraw their services rather than provide their Retirement
Investor customers a written fiduciary acknowledgment, the Department
does not believe that will have significant effects on Retirement
Investors' choices. The exemption in fact offers new exemptive relief
for Financial Institutions and Investment Professionals that provide
fiduciary investment advice to Retirement Investors. Pre-existing
exemptions, with different conditions, remain in place as alternatives.
And, for Financial Institutions and Investment Professionals that are
not fiduciaries, this exemption is unneeded.
The Department also does not believe that the possibility of
investor confusion or lack of understanding of the term ``fiduciary,''
or concerns about the interaction with SEC Form CRS, present sound
bases for eliminating the requirement. The acknowledgment does not
contradict SEC Form CRS, and it is limited to fiduciary investment
advice as defined in Title I and the Code. The Department believes that
the model acknowledgment and additional voluntary model disclosure set
forth above meets the objectives of the exemption by communicating the
fiduciary status of the Financial Institution and Investment
Professional as well as the requirement that they are operating under
the exemption's best interest standard.
The Department does not intend that the fiduciary acknowledgment or
any of the disclosure obligations create a private right of action as
between a Financial Institution or Investment Professional and a
Retirement Investor, and it does not intend that any of the exemption's
terms, including the acknowledgement, give rise to any causes of action
beyond those expressly authorized by statute.\109\ Similarly, the
fiduciary acknowledgement does not create a contractual fiduciary duty.
ERISA section 502(a) provides a cause of action for fiduciary breaches
and prohibited transactions with respect to Title I 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. The
exemption does not create any new causes of action, nor does it require
firms to make enforceable contractual commitments or give enforceable
warranties to Retirement Investors, as was true of the 2016 fiduciary
rulemaking which the Fifth Circuit set aside in its Chamber opinion.
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\109\ The SEC similarly stated with respect to its Form CRS,
which describes the conduct standard applicable to broker-dealers
and investment advisers, that it is not intended to create a private
right of action. Form CRS Relationship Summary Release, 84 FR 33530.
See also Regulation Best Interest Release 84 FR 33327
(``Furthermore, we do not believe Regulation Best Interest creates
any new private right of action or right of rescission, nor do we
intend such a result.'').
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[[Page 82829]]
Description of Services and Material Conflicts of Interest
Under Section II(b)(2) of the exemption, the Financial Institution
must also 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 Department believes disclosure of these
items is necessary to ensure Retirement Investors receive information
to assess the services that will be provided and related conflicts of
interest. The disclosure requirement is principles-based and intended
to allow flexibility to apply to a wide variety of business models and
practices.
While one commenter agreed with the Department that a principles-
based approach to disclosure provides the flexibility necessary to
apply to a wide variety of business models with respect to the services
and conflict disclosure requirements, some commenters contended the
required disclosures would be insufficiently protective of Retirement
Investors. Some commenters focused on the Department's position in the
2016 rulemaking that disclosure alone is ineffective in mitigating the
impact of conflicts of interest.
Some commenters opposed the ability to satisfy the disclosure
requirement through disclosures required to be provided by other
regulators, particularly in cases where such disclosures may not be in
plain English. Commenters argued that other disclosure regimes, such as
Forms CRS and ADV, are not sufficient and are not designed to comply
with the Act. The same commenters also stated that the Department
should ensure that Retirement Investors receive accurate, not
misleading, information that does not omit any material conditions or
information including information that the Financial Institution or
Investment Professional knows or should know that the Retirement
Investors needs to determine whether to maintain the advice
relationship and/or investment(s). Some commenters supported allowing
disclosure requirements to be satisfied by using disclosures such as
Forms ADV and CRS.
A commenter suggested specific additional items, perhaps in a model
form, that should be included in the disclosure, including an estimate
of the retirement savings needs of each participant and that the
Department should develop a model disclosure and/or test proposed
disclosures for their effectiveness. Another commenter suggested that
the Department should develop a highly prescriptive, one-page model
form that would allow consumers to compare service providers. Other
commenters requested full safe harbors based on disclosure requirements
under securities laws or insurance laws.
After consideration of the comments, the Department has determined
to adopt the disclosure provisions as they were proposed. The
Department believes the exemption's disclosure of the provided services
and associated conflicts is appropriate and important, and it is by no
means the sole protection in the exemption. The disclosure requirement
works in concert with the other protections, such as the Impartial
Conduct Standards and policies and procedures, and reinforces the
exemption's important focus on conflict mitigation. The Department
additionally stresses that conflict mitigation is not the sole purpose
of disclosure, as some comments appeared to assume. In the Department's
view, disclosure also promotes consumer choice and permits Retirement
Investors to enter into a professional relationship and make
investments with a clear understanding of the nature of that
relationship and of the investments' salient features. These are
important values, independent of their impact in mitigating conflicts.
The Department's approach in the proposal allowed for the
disclosure to be satisfied through disclosures provided pursuant to
other regulators' requirements. Since the Department's 2016 rulemaking,
other regulators have developed additional conflict of interest
disclosure requirements and oversight that provide a greater measure of
accountability and investor protection in the marketplace. Permitting
use of other regulators' disclosures was intended to minimize the
potential for duplicative and voluminous disclosures which could
contribute to reduced effectiveness. For this reason, the Department
has declined to offer a model disclosure with respect to this aspect of
the disclosure or add additional specific items to the required
disclosure. Although the Department supports participants receiving
information about retirement savings needs, for example, that type of a
required disclosure is beyond the scope of this exemption proceeding.
In response to commenters who expressed concern that the
exemption's approach would not ensure accurate and complete
disclosures, the Department responds that the exemption text requires
the disclosure of services to be provided and material conflicts of
interest to be ``accurate and not misleading in all material
respects.'' Inaccurate disclosures will not satisfy the exemption
conditions, nor will disclosures with material omissions. However, the
Department declines to specify that the disclosure must provide
information that the Financial Institution or Investment Professional
knows or should know the Retirement Investor needs to determine whether
to maintain the advice relationship and/or the investments, out of
concern that this sets up a standard for disclosure that may be
difficult to satisfy.
A commenter urged the Department to delete the written fiduciary
acknowledgment and, instead, consistent with Regulation Best Interest,
require disclosure instead of all material facts relating to the scope
and terms of the relationship and all material facts relating to
conflicts of interest that are associated with the recommendation. As
discussed above, the Department has retained the written fiduciary
acknowledgment in the final exemption as well as the requirement to
disclose in writing the services to be provided and the material
conflicts of interest. The Department did not adopt the approach taken
in Regulation Best Interest, despite the belief that the exemption's
disclosure requirements involve similar information, because the
exemption is available to Financial Institutions that are not subject
to Regulation Best Interest and Department believes that a specific
disclosure of fiduciary status is important to the goals of this
exemption.
However, the Department confirms that, like the Regulation Best
Interest requirements, the standard for materiality for purposes of
this obligation is consistent with the one the Supreme Court
articulated in Basic v. Levinson,\110\ and, in the context of this
exemption, the standard of materiality is centered on those facts that
a reasonable Retirement Investor, as defined in the exemption, would
consider important. Material conflicts of interest that would be
required to be disclosed under the exemption would include, for
example, conflicts associated with proprietary products, payments from
third parties, and compensation arrangements.
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\110\ Basic, Inc. v. Levinson, 485 U.S. 224 (1988).
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Commenters also requested additional guidance regarding
satisfaction of the exemption's disclosure obligations through (1) the
use of disclosures required by other regulators or other Title I and
Code requirements, or (2) safe harbors when such disclosures are used.
Commenters argued this would avoid duplication and Retirement Investor
confusion. In doing so, most commenters emphasized a desire to ensure
harmonization between the
[[Page 82830]]
exemption condition and other disclosure regimes.
While the exemption does not include specific safe harbors, the
Department confirms that Financial Institutions may rely, in whole or
in part, on other regulatory disclosures to satisfy certain aspects of
this disclosure requirement, for example, the disclosures required
under Regulation Best Interest and Form CRS, applicable to broker-
dealers; Form ADV and Form CRS, applicable to registered investment
advisers; and disclosures required under insurance and banking laws
when such disclosures cover services to be provided and the Financial
Institution's and Investment Professional's material Conflicts of
Interest. Avoiding duplication of disclosures is important and the
Department reiterates that the disclosure standard under this exemption
may be satisfied in whole, or in part, by using other required
disclosures to the extent those disclosures include information
required to be disclosed by the exemption. Allowing the use of other
disclosures to meet the disclosure standard under this exemption should
serve to harmonize this exemption's conditions with those of other
disclosure regimes.
The Department also confirms that the disclosure required by the
exemption may be included with or accompanied by the disclosure
provided to responsible Plan fiduciaries under 29 CFR 2550.408b-2, as
applicable, and that such disclosures may satisfy, in whole or in part,
the disclosure obligations under this exemption when the fiduciary of
the Plan is the Retirement Investor receiving advice, as defined in
Section V(k)(3). However, if advice is provided to individual Plan
participants, disclosure to the Plan fiduciary will not satisfy the
disclosure obligation under the exemption. In such cases, the
Retirement Investor is the individual participant receiving the
investment advice, as defined in Section V(k)(1), and the disclosure
obligation applies to that particular individual.
The Department cautions Financial Institutions that the
requirements under this exemption are not merely a ``check-the-box''
activity. Rather, it is imperative that Financial Institutions engage
in a careful analysis to identify their material conflicts so that they
and their Investment Professionals are able to provide accurate
disclosures and make recommendations that satisfy the best interest
standard. The Department notes that although disclosures are required
under the statutory exemption in ERISA section 408(b)(2) and the
accompanying regulation at 29 CFR 2550.408b-2, the 408(b)(2)
disclosures do not require an accompanying focus on conflict
mitigation. Relatedly, the 408(b)(2) statutory exemption does not
provide prohibited transaction relief from the self-dealing prohibited
transactions in ERISA section 406(b).
Documentation of Rollover Recommendation
Section II(b)(3) of the final exemption requires Financial
Institutions to provide Retirement Investors, prior to engaging in a
rollover recommended pursuant to the exemption, with documentation of
the specific reasons that the recommendation to roll over assets is in
the best interest of the Retirement Investor. This requirement extends
to recommended rollovers 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). The requirement to document the
specific reasons for these recommendations is part of the required
policies and procedures, in Section II(c)(3).
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 a Title I Plan to
an IRA, in particular, may be one of the most important financial
decisions that Retirement Investors make, as it may have a long-term
impact on their legal rights and remedies and their retirement
security.
The requirement to document the reasons that a rollover is in the
best interest of the Retirement Investor is included in the exemption's
policies and procedures provision to ensure that Financial Institutions
and Investment Professionals take the time to form a prudent
recommendation, and that a record is available for later review. The
written record serves an important role in protecting Retirement
Investors during this significant decision. The final exemption also
includes the additional new provision in Section II(b)(3) requiring
this documentation be provided to the Retirement Investor. Because of
the special importance of rollover recommendations, the Department has
concluded that Retirement Investors should be provided with the
rollover documentation.
Some commenters on the proposal expressed support for the
requirement to document the reasons for rollover recommendations,
although some suggested it be expanded to provide additional
protections. One suggestion was for the requirement to apply to all
recommendations or at least to an expanded list of consequential
recommendations beyond rollovers. One commenter suggested that the
written documentation of all recommendations should demonstrate how the
recommendations comply with the Financial Institution's written
policies and procedures. Commenters also suggested additional factors
to consider and document, including a clear examination of the long-
term impact of any increased costs and why the added benefits justify
those added costs, as well as consideration of economically significant
features--such as surrender schedules and index annuity cap and
participation rate--that the commenter indicated providers use in lieu
of direct fees. One commenter provided an example of how the
documentation could look, including scoring alternative investments.
Another commenter indicated that the documentation requirement is not
fully protective unless the documentation is provided to the Retirement
Investor.
Other commenters urged the Department not to include this condition
in the final exemption. They wrote that the documentation requirement
was overly burdensome on Financial Institutions, generally is not
required in other exemptions, and would not provide meaningful
protections to Retirement Investors. Commenters stated it may be
difficult to obtain the required information and noted that the SEC
chose specifically not to include this requirement in Regulation Best
Interest, even though the SEC did encourage it as a good practice.\111\
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\111\ Regulation Best Interest Release, 84 FR 33360
(``Similarly, we encourage broker-dealers to record the basis for
their recommendations, especially for more complex, risky or
expensive products and significant investment decisions, such as
rollovers and choice of accounts, as a potential way a broker-dealer
could demonstrate compliance with the Care Obligation.'').
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Some commenters felt that the specific considerations identified in
the preamble were too prescriptive, and the exemption should instead
rely on a more principles-based approach, such as the Financial
Institutions' reasonable oversight of Investment Professionals. A few
commenters requested clarification that the factors included in the
[[Page 82831]]
preamble are merely factors that Financial Institutions ``may include''
in their documentation but that Financial Institutions are ultimately
permitted to use their judgment to determine the appropriate factors to
be considered, depending on the facts and circumstances of particular
Retirement Investors. On the other hand, a commenter supported the
factors and suggested that the Department should include them in the
exemption text.
Certain commenters expressed further concern that the preamble
discussion of the requirement did not appropriately weigh the benefits
of a rollover (including the loss of the professional expertise and
advice if the Retirement Investor chooses to stay in a workplace Plan)
or other factors that are important to a Retirement Investor (such as
access to distribution options, asset consolidation, and access to
discretionary asset management). A commenter also asserted that the
documentation should not extend to recommendations related to IRA
transfers and transfers between brokerage and advisory accounts,
asserting that these transfers are not irrevocable.
Some commenters were concerned about potential enforcement related
to this provision of the exemption. One asked the Department to state
that Financial Institutions are not required to review and approve each
recommendation on a case by case basis. Another requested a non-
enforcement policy so that a Financial Institution would not lose the
exemption if an Investment Professional failed to document the reasons
for any specific transaction, as long as the Financial Institution
worked diligently and in good faith to implement technology and systems
to efficiently document and supervise rollover recommendations. One
commenter requested a safe harbor from the requirement to document
rollover recommendations as long as Regulation Best Interest is
satisfied.
Upon consideration of the comments, the Department has determined
to include the documentation requirement in the exemption, as proposed.
Given the importance of these decisions, the Department does not find
it unnecessarily burdensome to require Financial Institutions and
Investment Professionals to document their reasons for the
recommendation. The documentation can provide an important opportunity
for evaluation and oversight of these recommendations by Financial
Institutions, Retirement Investors, and the Department, and is
appropriate in the context of this broad exemption. Requiring specific
documentation for rollover transactions provides appropriate protection
of Retirement Investors while minimizing the burden on Financial
Institutions that would be attached to documentation of all
recommendations. By additionally requiring that the rollover
documentation be provided to the Retirement Investor, the Department
believes that the Retirement Investor will be better positioned to
understand the significance of a rollover decision and how acting upon
a rollover recommendation will satisfy the best interest standard under
this exemption. The Department has retained the scope of the
documentation requirement to include IRA transfers and transfers
between brokerage and advisory accounts, even though those decisions
may not be irrevocable, because they may involve significant cost,
particularly over the long term.
With respect to recommendations to roll assets out of an Title I
Plan and into an IRA, the factors that a Financial Institution and
Investment Professional should consider and document include 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. The
Department agrees with commenters that the long-term impact of any
increased costs and the reason(s) why the added benefits justify those
added costs, as well as the impact of features such as surrender
schedules and index annuity cap and participation rates, should be
considered as part of any rollover recommendation, as relevant.
In response to commenters who asked whether these factors cited in
the proposal's preamble are required to be documented in all cases, or
whether they are suggested considerations, it is the Department's view
that these factors are relevant to a prudent fiduciary's analysis of a
rollover. It would be difficult to justify a rollover recommendation
that did not consider these factors. Of course, the discussion of
factors identified above is not intended to suggest that Financial
Institutions and Investment Professionals may not consider other
factors, including those that are important to a particular Retirement
Investor, as part of their rollover recommendation.\112\ For that
reason, the Department has not added the specific factors identified in
the preamble to the exemption text, as a commenter suggested.\113\
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\112\ For example, in the Regulation Best Interest Release, the
SEC identified a number of factors that should be considered by
broker-dealers in determining whether a particular account would be
in a particular retail customer's best interest, including (1) the
services and products provided in the account (ancillary services
provided in conjunction with an account type, account monitoring
services, etc.); (2) the projected cost to the retail customer of
the account; (3) alternative account types available; (4) the
services requested by the retail customer; and (5) the retail
customer's investment profile. The SEC also cited factors that
should be considered by broker-dealers in making a recommendation to
roll over Title I Plan assets to an IRA, including: Fees and
expenses; level of service available; available investment options;
ability to take penalty-free withdrawals; application of required
minimum distributions; protection from creditors and legal
judgments; holdings of employer stock; and any special features of
the existing account. 84 FR 33382-83.
\113\ A commenter suggested a number of other factors that
should be documented as part of the rollover recommendation,
including: any incentives and/or fees the Financial Institution and/
or the Investment Professional receives if they keep the account
when employees leave their employer (i.e., maintaining the rollover
account) or if they obtain additional fees for investments of the
participants outside of the Plan; and fees and historic rates of
return comparing the rollover recommendation and its proposed
investment with the alternative(s), including leaving the assets in
the current Plan, in a chart, over a 1, 5, and 10-year period. While
the Department has chosen to take a less prescriptive and burdensome
approach to the documentation and disclosure requirements than the
commenter suggested, the Department stresses that Retirement
Investors' interests should be protected by the overarching
obligations to adhere to the Impartial Conduct Standards and to
implement policies and procedures that require mitigation of
conflicts of interest to the extent that a reasonable person
reviewing the Financial Institution's policies and procedures and
incentive practices would conclude that they do not create an
incentive for a Financial Institution or Investment Professional to
place their interests ahead of the interest of the Retirement
Investor. The Department also agrees that a prudent fiduciary would
consider the impact of fees and returns under alternative
investments over time-horizons consistent with the Plan
participant's financial interests and needs. Such analyses, however,
should turn on the fiduciary's assessment of the unique facts and
circumstances applicable to the Plan participant, as opposed to a
single standardized analysis mandated by the Department for all
cases.
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To satisfy this condition for Title I Plan to IRA rollovers, the
Department expects that Investment Professionals and Financial
Institutions evaluating this type of potential rollover will make
diligent and prudent efforts to obtain information about the existing
Title I Plan and the participant's interests in it. In general, such
information should be readily available as a result of DOL
[[Page 82832]]
regulations mandating disclosure of Plan-related information to the
Plan's participants (see 29 CFR 2550.404a-5). 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 Financial Institution and Investment
Professional should make a reasonable estimation of expenses, asset
values, risk, and returns based on publicly available information. The
Financial Institution and Investment Professional should document and
explain the assumptions used and their limitations. In such cases, the
Investment Professional could rely on alternative data sources, such as
the most recent Form 5500 or reliable benchmarks on typical fees and
expenses for the type and size of Plan at issue.
A few commenters suggested that Financial Institutions and
Investment Professionals should not have to go beyond any information
provided by Retirement Investors. One commenter suggested that
Investment Professionals should not be compelled to make an estimate
and should be permitted to include in the documentation: Any reasons
why, in the absence of certain information, other information supports
a recommendation; the fact that the Retirement Investor was unwilling
to provide the relevant information; and/or that the Investment
Professional after best efforts, was unable to obtain the relevant
information. The Department concurs that the documentation can include
these statements, but notes that the statements would not be sufficient
as an alternative to the estimates described in the previous paragraph.
Several commenters reacted to the proposed exemption's preamble
statement that the documentation should address 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. A commenter queried whether Investment
Professionals would be required to reallocate plan investments into an
ideal asset allocation. Some insurance industry commenters expressed
concern that the requirement would cause them to evaluate non-insurance
options which they asserted was not permitted under insurance laws. The
preamble statement was not intended, however, to suggest that
Investment Professionals need to make advice recommendations as to
investment products they are not qualified or legally permitted to
recommend. Instead, the Department was merely indicating that a
rollover recommendation should not be based solely on the Retirement
Investor's existing allocation without any consideration of other
investment options in the Plan.\114\ A prudent fiduciary would
carefully consider the options available to the investor in the Plan,
including options other than the Retirement Investor's existing plan
investments, before recommending that the participant roll assets out
of the Plan.
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\114\ FINRA has recognized that broker-dealers making a rollover
recommendation should consider investment options among other
factors. ``The importance of this factor will depend in part on how
satisfied the investor is with the options available under the plan
under consideration. For example, an investor who is satisfied by
the low-cost institutional funds available in some plans may not
regard an IRA's broader array of investments as an important
factor.'' See Regulatory Notice 13-45, supra note 42.
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Likewise, the Department notes that nothing in the exemption or the
Impartial Conduct Standards prohibits investment advice by ``insurance-
only'' agents or requires such insurance specialists to render advice
with respect to other categories of assets outside their specialty or
expertise. An Investment Professional should disclose any limitation on
the types of products he or she recommends, and refrain from
recommending an annuity if it is not in the best interest of the
Retirement Investor. If, for example, it would not be in the investor's
best interest for the investor to purchase an annuity in light of the
investor's liquidity needs, existing assets, lack of diversification,
financial resources, or other considerations, the Investment
Professional should not recommend the annuity purchase, even if that
means the agent cannot make a sale.
The exemption also does not mandate that a Financial Institution
review documentation of each and every rollover recommendation.
However, depending on the Financial Institution's business model and
the other methods available to mitigate conflicts of interest, regular
review of some or all rollover recommendations may be an effective
approach to compliance with the exemption. Because of the importance of
this condition, the Department declines to provide a non-enforcement
policy related to an Investment Professional's failure to document the
recommendation or a safe harbor for general compliance with Regulation
Best Interest. However, an isolated failure will only expose the
Financial Institution to liability for that recommended transaction.
Timing of the Disclosure
Some commenters urged the Department to modify the timing
requirements of the disclosure. A few requested that, consistent with
Regulation Best Interest, the Department allow the disclosure to be
provided ``prior to or at the time of the recommendation.'' Another
commenter was concerned that Retirement Investors would not have
sufficient time to review the information, and suggested that the
disclosures should be provided 14 days before the close of the
recommended transaction.
The Department has included the disclosure timing requirements in
the final exemption as proposed. Because the exemption requires the
disclosure to be provided prior to the transaction, parties wishing to
provide disclosure at the time of the recommendation would be permitted
to do so. The Department has not adopted the suggestion that the
exemption require disclosure at least 14 days before the close of a
recommended transaction due to concerns that this requirement could
create an artificial timeframe that may, depending on the
circumstances, prevent a Retirement Investor from entering into a
beneficial transaction in a timely fashion.
Policies and Procedures--Section II(c)
Section II(c)(1) of the exemption establishes an overarching
requirement 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 are required to mitigate
conflicts of interest to the extent that a reasonable person reviewing
the policies and procedures and incentive practices as a whole would
conclude that they do not create an incentive for a Financial
Institution or Investment Professional to place their interests ahead
of the interest of the Retirement Investor.\115\
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\115\ Section II(c)(3) of the exemption, regarding documentation
of the reasons for a rollover recommendation, is discussed above in
the section on the disclosure of the documentation.
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As defined in section V(c), 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.'' Conflict mitigation is
a critical condition of the exemption, and is important to the required
findings under ERISA section 408(a) and Code section
[[Page 82833]]
4975(c)(2), that the exemption is in the interests of, and protective
of, Retirement Investors.
To comply with Section II(c)(2) of the exemption, Financial
Institutions would need to identify and carefully focus on the
conflicts of interest in their particular business models that may
create incentives to place their interests ahead of the interest of
Retirement Investors. Under the exemption condition, Financial
Institutions' policies and procedures must be prudently designed to,
among other things, 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. Examples of
policies and procedures and conflict mitigation strategies are provided
later in this preamble.
Some commenters on the proposal expressed the view that the
policies and procedures requirement was not sufficiently protective
because it is based on the exemption's best interest standard, which
the commenters believed was not a ``true'' fiduciary standard. Further,
the commenters indicated that the exemption should include substantive
provisions regarding the policies and procedures, beyond the statement
that they must be prudent. One commenter suggested a number of specific
provisions, including a description of the criteria that will be
applied in determining that the recommendation did not place the
interests of the Financial Institution or Investment Professional ahead
of the interests of the Retirement Investor; a description of how the
Financial Institution and Investment Professional will mitigate
conflicts of interest; a requirement that the Financial Institution and
investment professionals maintain written records showing the basis for
each recommendation and how it complies with the written policies and
procedures; the engagement of an independent compliance officer;
identification, in the annual report, of the compliance officer and his
or her qualifications; a statement describing the scope of the review
conducted by the compliance officer; to the extent the self-review
uncovers any violations of the policies and procedures, an unwinding of
the transaction(s); and distribution of the self-review to all
Retirement Investors receiving conflicted fiduciary investment advice.
Another commenter expressed concern that the stated intention of the
policies and procedures requirement did not align with what the
proposal indicated would actually be accepted as demonstrating
compliance.
In the proposal, Section II(c)(2) provided that a Financial
Institution's 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. Some commenters criticized the
proposal's approach to conflict mitigation, asserting that the
proposal's terms were vague and lacked sufficient specifics. For
instance, one commenter noted disapprovingly that the proposal required
that policies and procedures be designed to ``mitigate'' conflicts of
interest rather than ``eliminate'' them. Another commenter took issue
with the proposal's suggestion that financial institutions should
simply ``consider minimizing'' incentives that operate at the firm
level. The commenter opined that the exemption's language does not
address how to minimize the conflicts associated with receipt of
revenue sharing payments, for instance.
Commenters also objected to the alignment of the best interest
standard with the SEC's regulatory standards, which they asserted were
intentionally designed to avoid disruption of broker dealers' highly
conflicted business model. These commenters described the SEC standards
as allowing that the vast majority of conflicted practices to continue
unabated, and they said the same would be the case in the exemption. At
the September 3, 2020, public hearing, several commenters warned the
Department that the Regulation Best Interest standards were untested,
and it was premature for the Department to rely on the SEC. Some
commenters urged the Department to go further and describe specific
lines of prohibited conduct.
Commenters also criticized the proposal for suggesting that
significant conflicts of interest can be addressed through more
rigorous supervision, stating that firms often have no incentive to
constrain the conduct that their practices encourage. One commenter
pointed specifically to the preamble's statement that a firm with
``significant variation in compensation across different investment
products would need to implement more stringent supervisory
oversight,'' and noted that, in practice, when firms' bottom lines also
benefit from recommending the higher compensating investment products,
they will likely turn a blind eye when their financial professionals
improperly push those products.
On the other hand, a few commenters urged the Department to
increase alignment of the policies and procedures with securities laws,
including Regulation Best Interest. A commenter requested the
Department to clarify that, consistent with their understanding of
Regulation Best Interest, firm-level conflicts must be disclosed or
eliminated and any conflicts for the Investment Professional must be
disclosed and mitigated. Other commenters asked that the wording of the
policies and procedures be aligned to a greater degree with Regulation
Best Interest and that the Department make clear that the satisfaction
of other existing regulatory standards will satisfy the relevant
conditions of the exemption for investment advice providers in order to
eliminate confusion. Several commenters also asked the Department to
acknowledge that ``prudently'' developed policies and procedures are
the same as ``reasonably'' developed policies and procedures, or to
simply revise the exemption requirement to use the term ``reasonably
designed'' in accord with the text of Regulation Best Interest. These
commenters opined that the difference between ``prudence'' and
``reasonableness'' was either unclear or nonexistent. One commenter
urged the Department to adopt a definition of commission-based
incentives limited to ones where incentives are tied to the sale of
specific financial or insurance products within a limited period of
time.
After consideration of all comments, the Department has adopted
Section II(c)(1) as proposed. As discussed above, the Department
believes that the best interest standard in the exemption is consistent
with Title I's fiduciary standard and that it is sufficiently
protective of Retirement Investors' interests. As the Department
intends to retain interpretive authority with respect to satisfaction
of the standards, it does not agree with commenters that it is
necessary to defer action until further evaluation of the impact of
Regulation Best Interest.
[[Page 82834]]
However, the Department has revised Section II(c)(2) to provide
that Financial Institutions' policies and procedures must mitigate
conflicts of interest ``to the extent that a reasonable person
reviewing the policies and procedures and incentive practices as a
whole would conclude that they do not create an incentive for a
Financial Institution or Investment Professional to place their
interests ahead of the interest of the Retirement Investor.'' The
Department believes this revised phrasing provides a standard that more
clearly communicates the intent that incentives must be mitigated, and
provides a standard of mitigation based on the view of a ``reasonable
person.'' The preamble to the proposed exemption communicated this type
of ``reasonable person'' standard in discussing the meaning of the
proposal's standard to avoid misalignment of interests.\116\
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\116\ 85 FR 40845.
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The standard retains the requirement that the policies and
procedures and incentive practices must be viewed as a whole, so that
Financial Institutions have flexibility in adopting practices that both
mitigate compensation incentives and use supervisory oversight to
prudently ensure that the standard is satisfied. The exemption's
policies and procedures requirement is deliberately principles-based,
enabling multiple types of Financial Institutions and Investment
Professionals to rely upon the exemption in connection with providing
investment advice to Retirement Investors. The Department agrees,
however, with the commenter that suggested that the Financial
Institution's written policies and procedures would necessarily express
the criteria for determining that the exemption's standards will be met
and describe the Financial Institution's conflict mitigation
methods.\117\
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\117\ The commenter's other specific suggestions related to
documentation of recommendations and to the retrospective review are
discussed in the sections of the preamble on those requirements of
the exemption.
---------------------------------------------------------------------------
Although some commenters requested the elimination of certain
practices or asserted that the exemption should include more specific
provisions regarding conflict mitigation, the Department has maintained
the approach from the proposal. The Department disagrees with the
commenters who stated that the vast majority of conflicted practices
can continue unabated under the exemption. This claim is expressly
contrary to the proposal's requirement that the policies and procedures
be prudently designed to avoid misalignment of the interests of the
Financial Institution and Investment Professional with the Retirement
Investors they serve, which was clarified in this final exemption as
discussed above.
As stated in the preamble to the proposal, Financial Institutions
that continue to offer transaction-based compensation would focus on
both financial incentives to Investment Professionals and supervisory
oversight of investment advice to meet the standards. The exemption
lacks additional specific mandates regarding conflict mitigation in
order to accommodate the wide variety of business models used
throughout the financial services industry. The type and degree of
conflicts is susceptible to change over time. The Department believes
that prescriptive conflict mitigation provisions would decrease the
utility of the exemption, now and in the future.
Although a commenter criticized the suggestion that supervisory
oversight can be protective, the Department believes that it is an
important component of a Financial Institution's policies and
procedures. Given that the exemption permits Investment Professionals
to be compensated on a transactional basis, it is not possible to fully
mitigate compensation incentives and accordingly Financial Institutions
will always be required to oversee recommendations. In this regard, the
Department declines to adopt the position suggested by a commenter
that, for purposes of the exemption, commission-based incentives are
limited to ones where incentives are tied to the sale of specific
financial or insurance products within a limited period of time. Among
other things, this approach would be inconsistent with the broad
definition of a conflict of interest in the exemption, as 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.
As described above, one commenter identified a number of sales
practices the commenter believed would still be permitted under the
exemption, and stated that the exemption should more clearly limit
incentive practices that a reasonable person would view as creating
incentives to recommend investments that are not in Retirement
Investors' best interest. The Department notes that the preamble to the
proposal described the exemption as requiring this level of conflict
mitigation, and the final exemption was revised to use that standard so
that the meaning would be clearer.\118\ Therefore, for example, the
final exemption would not permit Financial Institutions to pay
Investment Professionals significantly more to recommend one investment
product over another, without putting in place stringent oversight
mechanisms to ensure that the compensation structure does not
incentivize recommendations that do not adhere to the exemption's
standards.
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\118\ See 85 FR 40845.
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The Department notes that regulators in the securities and
insurance industry have adopted provisions requiring policies and
procedures to eliminate 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.\119\ The
Department intends to apply a principles-based approach to sales
contests and similar incentives. To satisfy the exemption's standard of
mitigation, Financial Institutions would be required to carefully
consider all performance and personnel actions and practices that could
encourage violation of the Impartial Conduct Standards.\120\
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\119\ Regulation Best Interest Release, 84 FR 33394-97; NAIC
Model Regulation, Section 6.C.(2)(h).
\120\ None of the conditions of the exemption 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 Code section 3121.
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The Department further notes that the exemption's obligation to
mitigate conflicts is not limited to conflicts of Investment
Professionals. The conflict mitigation requirement in the policies and
procedures obligation extends to the Financial Institution's own
interests, including interests in proprietary products and limited
menus of investment options that generate third party payments. The
Department believes this exemption's standard of mitigation ensures
that Financial Institutions will take a broad-based approach to
addressing their conflicts of interest, which will provide a strong
threshold foundation for the formulation of best interest investment
recommendations.
In response to commenters seeking guidance on the differences, if
any, between the prudence standard under this part of the exemption and
the reasonableness standards under the federal securities laws, the
Department states that it does not have interpretive authority over the
federal securities laws, and declines to provide interpretations as to
how these standards may differ. The prudence requirement indicates a
level of care,
[[Page 82835]]
skill, and diligence that a 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.
The Department offers the following examples of business models and
practices that may present conflicts of interest that a Financial
Institution would address through its policies and procedures:
Example 1: A Financial Institution anticipates that prohibited
conflicts of interest related to compensation in its business model
will only arise in connection with advice to roll over Plan or IRA
assets, because after the rollover, the Financial Institution and
Investment Professional will provide ongoing investment advice and be
compensated on a level-fee basis. The Financial Institutions decides to
seek prohibited transaction relief in connection with rollover
conflicts by relying upon the exemption.\121\ The Financial
Institution's policies and procedures would focus on rollover
recommendations.\122\ Additionally, the policies and procedures should
appropriately address how to document rollover recommendations,
consistent with the requirement in Section II(c)(3) to document the
reason for a rollover recommendation and why such recommendation is in
the best interest of the Retirement Investor.
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\121\ In general, after the rollover, the ongoing receipt of
compensation based on a fixed percentage of the value of assets
under management may 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 advice or
monitoring) or recommending holding an asset solely to generate more
fees may be prohibited transactions. This exemption would not be
available for such practices because they would not satisfy the
Impartial Conduct Standards.
\122\ As explained earlier, it is the Department's view that a
recommendation to roll assets out of a Plan is advice with respect
to moneys or other property of the Plan. Advice to take a
distribution of assets from a Title I Plan is advice to sell,
withdraw, or transfer investment assets currently held in the Plan.
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.
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Example 2: A Financial Institution intends to receive transaction-
based compensation, and generate compensation for the Financial
Institution and its 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 address the
incentives created by these compensation arrangements.
Example 3: Insurance company Financial Institutions can comply with
the new exemption by supervising independent insurance agents, or by
creating oversight and compliance systems through contracts with
insurance intermediaries. The Financial Institution and/or intermediary
would address incentives created with respect to independent agents'
recommendations of the Financial Institution's insurance or annuity
products.
In connection with these examples, following is a discussion of
various possible components of effective policies and procedures. While
the Department is not adjusting the policies and procedures to provide
a safe harbor for compliance with securities or other law, many of the
conflict mitigation approaches identified below were identified by the
SEC in Regulation Best Interest.\123\
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\123\ As one commenter noted, the scope of Regulation Best
Interest and the Department's exemption do not overlap precisely.
Therefore, the commenter asked the Department to acknowledge that
Financial Institutions developing policies and procedures will need
to address interactions with Retirement Investors that are not
addressed in Regulation Best Interest. This is another reason that
the Department intends to maintain interpretive authority with
respect to the exemption.
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Commission-Based Compensation Arrangements
Financial Institutions that compensate Investment Professionals
through transaction-based payments and incentives would be required 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 Section II(c)(2). As noted above, this standard
would require mitigation of conflicts to the extent that a reasonable
person reviewing the policies and procedures and incentive practices as
a whole would conclude that they do not create an incentive for a
Financial Institution or Investment Professional to place their
interests ahead of the interest of the Retirement Investor.
For commission-based compensation arrangements, Financial
Institutions would be encouraged to focus on 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
could 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 individual
Investment Professionals and individual recommendations. Conversely,
Financial Institutions that have significant variation in compensation
across different investment products would need to implement the
policies and procedures by using more stringent supervisory
oversight.\124\
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\124\ This is not to suggest that a Financial Institution that
analyzes the conflicts associated with commission-based compensation
incentives does not need to engage in a separate mitigation analysis
with respect to the conflicts specifically associated with rollover
recommendations as opposed to non-rollover recommendations. Nor does
it suggest that every financial incentive can be effectively
mitigated through oversight, no matter how severe the conflict of
interest. As reflected in the SEC's ban on time-limited sales
contests, some incentive structures are too prone to abuse to permit
as part of firm policies and procedures.
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In developing compliance structures, the Department expects that
Financial Institutions will also look to conflict mitigation strategies
identified by the Financial Institutions' other regulators. For
illustrative purposes only, the following are non-exhaustive examples
of practices identified as options by the SEC that could be implemented
by Financial Institutions in compensating Investment Professionals: (1)
Avoiding compensation thresholds that disproportionately increase
compensation through incremental increases in sales; (2) 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; (3) 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; (4) 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 a
Title I Plan account to an IRA) or from one product class to another;
(5) adjusting compensation for associated persons who fail to
[[Page 82836]]
adequately manage conflicts of interest; and (6) limiting the types of
retail customer to whom a product, transaction or strategy may be
recommended.\125\
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\125\ Regulation Best Interest Release, 84 FR 33392.
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Financial Institutions also must review and mitigate incentives at
the Financial Institution level. Firms should establish or enhance the
review process for investment products that may be recommended to
Retirement Investors. This process should include procedures for
identifying and mitigating conflicts of interest associated with the
product or declining to recommend a product if the Financial
Institution cannot effectively mitigate associated conflicts of
interest.\126\
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\126\ For additional discussion of Financial Institution
conflicts, see the preamble discussion below, ``Proprietary Products
and Limited Menus of Investment Products.''
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Insurance Companies
To comply with the exemption, insurance company Financial
Institutions 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 under fiduciary investment advice arrangements 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.\127\
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\127\ Cf. NAIC Model Regulation, 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''). 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 www.naic.org/documents/committees_mo275.pdf. (comparing
2020 version with prior version).
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In this regard, as discussed above, 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 to product sales of unrelated and unaffiliated insurers.\128\
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\128\ 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'').
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Insurance companies could also create a system of oversight and
compliance by contracting with an insurance intermediary or other
entity to implement policies and procedures designed to ensure that all
of the agents associated with the intermediary adhere to the conditions
of this exemption. The intermediary could, for example, take action
directly aimed at mitigating or eliminating compensation incentives.
The intermediary could also review documentation prepared by insurance
agents to comply with the exemption, as may be required by the
insurance company, or use third-party industry comparisons available in
the marketplace to help independent insurance agents recommend products
that are prudent for the Retirement Investors they advise.
Periodic Review of Policies and Procedures
The Department notes that 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 requires 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 regularly review their policies and
procedures to ensure that they are achieving their intended goal of
ensuring compliance with the exemption and the provision of advice that
satisfies the Impartial Conduct Standards. For example, to the extent
new products, lines of business, or compensation structures are
introduced, Financial Institutions should consider whether their
policies and procedures continue to be appropriate and effective. To
the extent that the policies are failing to achieve their goal of
ensuring compliance, the deficiencies should be corrected.
Proprietary Products and Limited Menus of Investment Products
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 of investment
options, including limitations to proprietary products \129\ and
products that generate third party payments.\130\ Product limitations
can serve a beneficial purpose by allowing Financial Institutions and
Investment Professionals 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 and related entities may
receive more compensation than they would for recommending other
products, and, as a result, Investment Professionals and Financial
Institutions may have an incentive to place their interests ahead of
the interest of the Retirement Investor.
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\129\ Proprietary products include products that are managed,
issued, or sponsored by the Financial Institution or any of its
affiliates.
\130\ 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 an IRA.
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As the Department explained in the proposal, Financial Institutions
and Investment Professionals providing investment advice on proprietary
products or on a limited menu can satisfy the conditions of the
exemption. They can do so by providing complete and accurate disclosure
of their material conflicts of interest in connection with such
products or limitations and adopting policies and procedures that
mitigate conflicts to the extent that a reasonable person reviewing the
policies and procedures and incentive practices as a whole would
conclude that they do not create an incentive for a Financial
Institution or Investment Professional to place their interests
[[Page 82837]]
ahead of the interest of the Retirement Investor.
The Department envisions that Financial Institutions complying with
the Impartial Conduct Standards and policies and procedures 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 create an
incentive for Financial Institutions or Investment Professionals to
place their interests ahead of the interest of the Retirement Investor.
Several commenters expressed general support for the Department's
approach to proprietary products and limited menus. One commenter noted
that practical considerations call for limiting the investment menu
when thousands of mutual funds and securities exist on a Financial
Institution's platform. Another commenter agreed that Financial
Institutions would form a reasonable conclusion about whether the
limited menu supports recommendations that satisfy the Impartial
Conduct Standards.
Some commenters expressed concern about the exemption's coverage of
recommendations involving proprietary products or limited menus because
it would allow recommendations of poorly performing, high commission
products. One commenter stated the exemption should not extend to such
recommendations, as they create the largest potential for conflicts
that cannot be fully eliminated, and suggested that the Department
require that such recommendations be handled through the individual
prohibited transaction exemption process. Another commenter indicated
that the proposal did not address some ``non-financial structures''
used in connection with rollovers, such as requirements imposed by
service providers for investors to fill out lengthy forms in order to
roll plan assets over to third-party entities, while simultaneously
providing simple and easy mechanisms for rollovers from the Plan into
proprietary products maintained by the provider. Another commenter
thought the exemption should specifically require Financial
Institutions to document their conclusions as to why their offering of
proprietary products or limited menus, in conjunction with the policies
and procedures, would not cause a misalignment of their interests with
Retirement Investors.
In response to comments, the Department has not restricted the
exemption to exclude recommendations of proprietary products and
products from a limited menu, or required them to be addressed solely
through individual exemptions. The Department believes that the
conditions of the class exemption, including the best interest
standard, appropriately address concerns about proprietary products.
The Department has not added a specific requirement that Financial
Institutions document their conclusions as to why their offering of
proprietary products or limited menus, in conjunction with the policies
and procedures, would not create an incentive for the Financial
Institutions or Investment Professionals to place their interests ahead
of the interest of the Retirement Investor. However, the Department
notes that this is a best practice and may serve the interests of
Financial Institutions since they are required under Section IV to keep
records demonstrating compliance with the exemption. Even though there
is no specific documentation requirement, the Department expects a
Financial Institution would be able to explain clearly the process it
used in making this determination. The Department also cautions
Financial Institutions and Investment Professionals about practices
that selectively promote Retirement Investors' purchase of products
that are not in their best interest in the manner suggested by the
commenter above (e.g., by making it much more burdensome for the
Retirement Investor to rollover assets to one investment rather than
another). Even if the practices do not directly involve the provision
of fiduciary advice, they potentially undermine the required policies
and procedures to mitigate conflicts of interest and may facilitate
violations of fiduciary standards. Such practices should also be a
matter of concern for the fiduciaries responsible for hiring the
Financial Institutions and Investment Professionals to provide plan
services.
A few commenters sought clarification of the Department's preamble
statement that a Financial Institution's policies and procedures should
extend to circumstances in which the Financial Institution or
Investment Professional 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. They sought confirmation that the
Department did not intend to require Financial Institutions to compare
their product offerings to all available investment alternatives, a
confirmation they stated is consistent with guidance provided by the
SEC on Regulation Best Interest. These commenters asserted that
imposing such a requirement would serve to limit investor access to
prudent investment advice, and could potentially require Investment
Professionals that are insurance-only agents to compare annuities
against securities, which they are not be licensed to sell, and which
would potentially cause compliance issues under state securities laws.
The Department confirms that the exemption does not require
Financial Institutions to compare proprietary products with all other
investment alternatives available in the marketplace. There is no
obligation to perform an evaluation of every possible alternative,
including those the Financial Institution or Investment Professional
are not licensed to recommend, and the exemption does not contemplate
that there is a single investment that is in a Retirement Investor's
best interest. The exemption merely provides that Financial
Institutions and Investment Professionals cannot use a limited menu to
justify making a recommendation that does not meet the Impartial
Conduct Standards.
Retrospective Review--Section II(d)
Section II(d) of the exemption requires Financial Institutions 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. 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 Conduct Standards
or the Financial Institution's policies and procedures.
The methodology and results of the retrospective review must be
reduced to a written report that is provided to one of the Financial
Institution's Senior Executive Officers.
That officer is 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
[[Page 82838]]
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 must be
completed no later than six months following the end of the period
covered by the review. The Financial Institution is required to retain
the report, certification, and supporting data for a period of six
years. If the Department requests the written report, certification,
and supporting data within those six years, the Financial Institution
would make the requested documents available within 10 business days of
the request, to the extent permitted by law including 12 U.S.C. 484.
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.
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 a Senior Executive Officer 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 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 retrospective review is based on FINRA rules governing how
broker-dealers supervise associated persons,\131\ 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; \132\ however, for the reasons stated
above, the Department believes that the specific certification
requirement in the exemption will serve to protect Retirement Investors
in the context of conflicted investment advice transactions.
---------------------------------------------------------------------------
\131\ See FINRA rules 3110, 3120, and 3130.
\132\ See, e.g., Rule 206(4)-7(b) under the Investment Advisers
Act of 1940.
---------------------------------------------------------------------------
Several commenters expressed support for a retrospective review but
indicated the provision needs strengthening. One commenter stated that
the requirement would be strengthened if the best interest standard is
strengthened.\133\ One commenter suggested several methods of
strengthening the exemption's retrospective review requirements,
including requiring an independent audit, requiring appointment of a
compliance officer and identification of the compliance officer and his
or her qualifications in the report, and requiring the report of the
retrospective review to be provided to Retirement Investors. One
commenter provided an example of how the report could look and
criticized the Department's statement that sampling would be permitted,
asserting that the concentration of noncompliance is more likely to
occur in large transactions. A few commenters stated the exemption
should specify consequences of violations of the policies and
procedures when such violations do not rise to the level of egregious
patterns of misconduct.
---------------------------------------------------------------------------
\133\ The best interest standard and the comments received on it
are discussed above in ``Impartial Conduct Standards.''
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A number of commenters opposed the requirement, stating it is
burdensome, costly and unnecessary. As support for this assertion, some
commenters stated that other exemptions do not include this condition
and it also is not a requirement of Regulation Best Interest. Some
commenters urged the Department to avoid what they viewed as a separate
``prescriptive'' requirement in terms of ensuring that Financial
Institutions satisfy the conditions of the exemption, in favor of a
review incorporated into a firm's policies and procedures. Some
asserted that the other exemption conditions will provide a sufficient
compliance structure and the consequences of failing to comply with the
exemption will provide sufficient incentive for Financial Institutions
to oversee their own compliance. One commenter said wording of the
condition was too vague and could expose Financial Institutions to
liability for not meeting the standard. A few commenters suggested
eliminating subsections (B) and (C) of the certification requirement,
and, instead, merely referencing Section II(c)'s policies and
procedures requirement.\134\ Another commenter asked the Department to
provide a safe harbor based on compliance with FINRA's similar review
requirement.
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\134\ Subsection (B) requires certification that ``[t]he
Financial Institution has in place policies and procedures prudently
designed to achieve compliance with the conditions of this
exemption;'' and subsection (C) requires certification that ``[t]he
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.''
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As further described below, the Department has adopted the
retrospective review requirement largely as proposed based on the view
that compliance review is a critical component of a Financial
Institution's policies and procedures. Without this specific
requirement, some Financial Institutions may take the position that
adoption of policies and procedures is sufficient, without paying
attention to whether the policies and procedures are prudently designed
and whether Investment Professionals are complying with the policies
and procedures and the Impartial Conduct Standards. The Department does
not agree with those commenters who claimed such a review was
unnecessary or overly burdensome.
While some commenters expressed concern that the retrospective
review needed strengthening, the Department notes the review must be
signed and certified. The Department believes that requiring the
results to be reduced to a written document certified by a Senior
Executive Officer increases the likelihood that isolated compliance
failures will be corrected before they become systemic. Although some
commenters expressed the general view that the exemption relies upon
self-policing, the requirement that Financial Institutions make their
report available to the Department within 10 business days upon request
ensures that the Department retains an appropriate level of oversight
over exemption compliance.
To maintain this principles-based approach, the Department did not
mandate specific detailed components of the retrospective review.
Financial Institutions will be free to design the review process in the
context of their own business models and the particular conflicts of
interest they face. Although the exemption does not specify that a
compliance officer must be appointed, the Department envisions that
Financial Institutions will, as a practical matter,
[[Page 82839]]
assign a compliance role to an appropriate officer.
The Department did not narrow subsections (B) and (C) of the
certification requirements merely to reference the requirements of
Section II(c) as suggested by a few commenters. The broader
certification properly focuses the Financial Institution's assessment
of the ongoing effectiveness of the policies and procedures, the
periodic testing of those policies and procedures, and the need to make
modifications to the extent they are not working. A strong process to
review the effectiveness of the Financial Institution's policies and
procedures and to make course corrections as necessary is critical to
the protection of Retirement Investors affected by the exemption.
In the proposal, the Department indicated that it envisioned that
the review would involve testing a sample of transactions to determine
compliance. In response to a comment that indicated sampling may not be
appropriate since non-compliance may occur more frequently with respect
to large transactions, the Department clarifies that an appropriate
retrospective review would be aimed at detecting non-compliance across
a wide range of transactions types and sizes, large and small,
identifying deficiencies in the policies and procedures, and rectifying
those deficiencies. For large Financial Institutions that conduct large
numbers of transactions each year, sampling may not be the sole means
of testing compliance, but it is an important and necessary component
of any prudent review process, and should be performed in a manner
designed to identify potential violations, problems, and deficiencies
that need to be addressed.
The Department considered the alternative of requiring a Financial
Institution to engage an independent party to provide an external
audit, as suggested by a commenter. Because of the potential costs of
such audits, and the exemption's reliance on the retrospective review
process, the Department elected not to impose this additional
requirement. The Department is not convinced that an independent,
external audit would yield sufficient benefits in addition to the
results of the retrospective review to justify the increased cost,
especially in the case of smaller Financial Institutions without any
past practice of actions that may render it ineligible to rely on this
class exemption. The Department also has not included a requirement
that the report of the retrospective review be provided to all
Retirement Investors. As discussed below in the section on
recordkeeping, the Department believes that Financial Institutions'
internal compliance documents should be available to regulators but not
Retirement Investors, so as to promote full identification and
remediation of compliance issues without undue concern about the
widespread disclosure of the issues.
The Department does not believe the requirement is too vague for
Financial Institutions to know how to comply. The requirement that the
review be ``reasonably designed'' is consistent with reasonableness as
a term commonly used in a variety of legal settings, and especially
under the Act. Further, as noted above, the Department provided this
approach to allow Financial Institutions flexibility in designing their
compliance reviews.
Although a retrospective review is not a requirement of Regulation
Best Interest, as one commenter pointed out, the Department notes that
an analogous requirement is already applicable to broker-dealers under
FINRA rules. The Department declines to provide a safe harbor based on
compliance with the FINRA rule because that rule is aimed at reviewing
compliance with FINRA rules, not the Financial Institution's separate
compliance with the terms of this exemption.
Some commenters said that a retrospective review was an unusual
requirement for a class exemption, and that the Department had not
pointed to any noncompliance to warrant such a condition. The
Department, however, has routinely made independent audits a condition
in individual exemptions. It is important that entities comply with the
terms of the exemption and that the Department can readily verify such
compliance. Here, the Department continues to believe that a
retrospective review, which is less costly than an audit, strikes the
appropriate balance for this class exemption. Additionally, the
Department notes that it frequently imposes a recordkeeping requirement
documenting compliance as a condition of exemption. In drafting a
principles-based exemption that works with different business models,
the Department has determined that this retrospective review is a
crucial way to determine compliance with the exemption, and to ensure
covered entities review, enforce, and update their policies and
procedures as needed.
In response to commenters who asked the Department to specify the
consequences of a violation discovered in the retrospective review, and
other commenters who asked for the ability to correct compliance issues
uncovered during the review, the Department has included a self-
correction feature in the final exemption, as described below. If self-
correction is not available or a Financial Institution decides not to
self-correct, then the Financial Institution remains liable for a
prohibited transaction associated with the transaction for which there
was a failure.
One commenter stated that the Department should not require
Financial Institutions to provide the report within 10 business days of
request by the Department because Financial Institutions may have
legitimate difficulties meeting this requirement. However, this aspect
of the exemption provides an important mechanism for the Department to
ensure that Financial Institutions are taking their roles under the
exemption seriously. The Department does not intend for Financial
Institutions to prepare a retrospective review only after it has been
requested by the Department. The exemption provides a separate deadline
for the completion of each annual review, so the obligation to provide
the accompanying report within 10 business days of request will only
apply to completed reports. For this reason, the Department has not
extended the 10 business-day period.\135\
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\135\ Another commenter stated that the retrospective review
should be required only once every three years. The Department has
not adopted this suggestion. A review that is conducted as
infrequently as once every three years would be unlikely to identify
compliance concerns within a reasonable amount of time so as to
prevent more systemic violations.
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Another commenter requested a transition period for the
retrospective review through 2022, for the creation and testing of the
report that is required in connection with the retrospective review.
The commenter suggested that so long as the Financial Institution is
working towards creating and testing the process, it should be able to
use the exemption. As there is not a specified form of the report, the
Department does not believe an additional transition period is
warranted. Because the report is annual and retrospective, preparation
of the first report would not need to begin until at least one year
after the exemption's effective date, and the report does not need to
be completed for an additional six months after that. The Department
believes this will give the Financial Institution sufficient time to
create and test its reporting methods. Furthermore, Financial
Institutions that are subject to the FINRA regulation should already be
conducting a similar type of review. The Department believes it would
be inconsistent with the principles and protective nature of the
[[Page 82840]]
exemption to further delay implementation of the retrospective review.
One commenter addressed the interaction of banking law with the
requirement in Section II(d)(5) to provide the report of the
retrospective review, the certification and supporting data available
to the Department. The commenter stated that a provision of the
National Bank Act, 12 U.S.C. 484, prohibits any person from exercising
visitorial powers over national banks and federal savings associations
except as authorized by federal law. The commenter requested that
Section II(d)(5) be revised with the addition, at the end of the
sentence, of, ``except as prohibited under 12 U.S.C. 484.'' Without
conceding that the Department's authority is limited by this provision,
the Department has made the requested edit.
One commenter indicated that the Department does not have
jurisdiction to enforce the prohibited transaction rules for
transactions involving IRAs, so the Department's interest in and access
to the report of the retrospective review should be limited to Title I
Plan transactions. As the agency with authority to grant prohibited
transaction exemptions under the Code, the Department retains the
ability to determine whether the conditions of an exemption are being
met by reviewing records for the purpose of determining parties'
compliance for IRAs.\136\
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\136\ See Reorganization Plan No. 4 of 1978 and discussion
supra.
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Senior Executive Officer Certification
While the proposal stated that the Financial Institution's chief
executive officer (or equivalent) must certify the retrospective
review, the final exemption provides, instead, that the retrospective
review may be certified by any of the Financial Institution's Senior
Executive Officers. The exemption defines a ``Senior Executive
Officer'' as any of the following: The chief compliance officer, the
chief executive officer, president, chief financial officer, or one of
the three most senior officers of the Financial Institution. In making
this change, the Department accepts the views of a number of commenters
that stated that the CEO should not be the only person who can provide
a certification regarding the retrospective review. The Department does
not believe that permitting the Financial Institution to choose
whichever Senior Executive Officer it believes is most appropriate to
perform the certification alters the protective nature of this
condition. As commenters pointed out, other officers than the CEO, such
as the chief compliance officer, may have more information, specific
training, and be better able to understand the retrospective review.
Further, no matter which Senior Executive Officer is selected to
provide the certification, the definition of a Senior Executive Officer
ensures that an officer of sufficient authority within the Financial
Institution will be held accountable for oversight of exemption
compliance. In this way, the Department believes that requiring
certification will help reinforce a culture of compliance within the
Financial Institution.
One commenter raised concerns regarding the applicability of the
CEO certification requirement in the banking regulatory environment,
stating that this type of certification is unusual for bank CEOs.
Another commenter worried more broadly that a CEO certification might
interfere with other financial certifications required of the CEO or
unduly burden corporate governance. The Department believes that
allowing the certification to be performed by any Senior Executive
Officer addresses these concerns while still preserving the protective
nature of the condition.
Some commenters objected to the certification requirement as a
whole. They argued that the certification is burdensome and increases
liability exposure without necessarily improving compliance. Others
asserted certification is not required under Regulation Best Interest
or the NAIC Model Regulation. On the other hand, some commenters
acknowledged the similar existing requirements under FINRA but argued
the requirement would be duplicative or should be harmonized.
The certification provides an important protection of Retirement
Investors by creating accountability for the retrospective review and
report at an executive level within the Financial Institution. Without
a requirement that a Senior Executive Officer be held accountable by
certifying the review, there is no assurance that any person in the
leadership of a Financial Institution will review or be aware of its
contents. The Department is required to find that the exemption is
protective of, and in the interests of, Plans and their participants
and beneficiaries, and IRA owners. This condition is important to the
Department's ability to make these required findings.
One commenter indicated that an exemption with the certification
requirement would not be considered ``deregulatory'' as was stated in
the proposal. The Department responds that the exemption as a whole is
deregulatory because it provides a broader and more flexible means for
investment advice fiduciaries to Plans and IRAs to engage in certain
transactions that would otherwise be prohibited under Title I and the
Code. Financial Institutions remain free to structure their business in
a manner that complies with the statutes and their prohibitions, or to
request an individual exemption tailored to their specific business.
Finally, one commenter requested that the Department state that
signing the certification does not implicate personal liability for the
signing officer under the Act. The Department responds that signing the
certification would not, in and of itself, impact the officer's
personal liability under the Act; any such liability would be based on
the officer's status as a fiduciary, the Act's statutory framework, and
other relevant facts and circumstances.
Self-Correction--Section II(e)
The Department has added a new Section II(e) to the exemption,
under which Financial Institutions will be able to correct certain
violations of the exemption. Under the new Section II(e), the
Department will not consider a non-exempt prohibited transaction to
have occurred due to a violation of the exemption's conditions,
provided: (1) Either the violation did not result in investment losses
to the Retirement Investor or the Financial Institution made the
Retirement Investor whole for any resulting losses; (2) the Financial
Institution corrects the violation and notifies the Department via
email to [email protected] within 30 days of correction; (3) the correction
occurs no later than 90 days after the Financial Institution learned of
the violation or reasonably should have learned of the violation; and
(4) the Financial Institution notifies the persons responsible for
conducting the retrospective review during the applicable review cycle,
and the violation and correction is specifically set forth in the
written report of the retrospective review.
While this section was not a part of the proposal, several
commenters raised the issue of instituting a self-correction procedure
as it related to the Department's proposal requiring a retrospective
review. Commenters requested that the Department provide a means for
Financial Institutions, acting in good faith, to avoid loss of the
exemption for violations of the conditions. Some commenters focused on
minor or technical violations, others on violations in connection with
specific conditions, such as allowing a
[[Page 82841]]
correction for failure to provide disclosures. Some pointed to existing
methods of correction allowed by the Department and other regulators,
including the Department's regulation under ERISA section
408(b)(2).\137\ One commenter specified that there should be a
correction process in connection with the retrospective review, because
failure to include this could put Financial Institutions in a difficult
position of having discovered technical violations but not being able
to cure them without being subject to an excise tax for the prohibited
transaction.
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\137\ 29 CFR 2550.408b-2(c)(1)(vii).
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Upon consideration of the comments, the Department determined to
provide this self-correction procedure. Although many commenters cited
minor or technical violations, the Department does not view violations
of any condition of the exemption as necessarily minor or technical.
Accordingly, the section allows for correction even if a Retirement
Investor has suffered investment losses, provided that the Retirement
Investor is made whole. The Department believes that the self-
correction provision will provide Financial Institutions with an
additional incentive to take the retrospective review process
seriously, timely identify and correct violations, and use the process
to correct deficiencies in their policies and procedures, so as to
avoid potential future penalties and lawsuits.
Eligibility--Section III
Section III of the exemption identifies circumstances under which
an Investment Professional or Financial Institution will become
ineligible to rely on the exemption for a period of 10 years. The
grounds for ineligibility involve certain criminal convictions or
certain egregious conduct with respect to compliance with the
exemption. Ineligible parties may rely on an otherwise available
statutory exemption or administrative class exemption, or the parties
can apply for an individual prohibited transaction exemption from the
Department. This will allow the Department to give special attention to
parties with certain criminal convictions or with a history of
egregious conduct regarding compliance with the exemption.
Many commenters expressed concern that the conditions of the
proposed exemption were not sufficiently enforceable to provide
meaningful protections. Commenters noted that, unlike the Best Interest
Contract Exemption granted in connection with the 2016 fiduciary rule,
this exemption did not include a contract or other means of making the
Impartial Conduct Standards enforceable. Therefore, IRA owners would
not have a mechanism to enforce the requirements of the exemption, and
the Department lacks direct enforcement authority over Plans not
covered by Title I. Even with respect to Retirement Investors in ERISA-
covered Plans, some commenters described the structure of the exemption
as effectively allowing the financial services industry to self-
regulate; they said the exemption would permit the ``fox to guard the
henhouse.'' One commenter specifically criticized the proposed
exemption's eligibility provision as too weak to prevent or punish
violations of the exemption. Other commenters were concerned that the
eligibility provision did not provide any incentive for Financial
Institutions to comply with the requirements of the exemption.
Other commenters objected to the exemption including any
eligibility provision, arguing that the Department's investigative
authority and existing consequences for prohibited transactions are
sufficient. Some raised concerns that the exemption's eligibility
provision has no basis in the statute and may be unconstitutional. Some
acknowledged that the Department's QPAM class exemption has a similar
provision related to criminal convictions, but one commenter argued
this too, is impermissible.\138\ Some commenters cited the Fifth
Circuit's Chamber opinion as support for the position that the
eligibility provision impermissibly expands the Department's
enforcement authority over IRAs. One commenter indicated that the
eligibility provision would only serve to increase compliance
complexity, costs, and burdens, along with compliance uncertainty,
under the exemption.
---------------------------------------------------------------------------
\138\ See PTE 84-14, Class Exemption for Plan Asset Transactions
Determined by Independent Qualified Professional Asset Managers, 49
FR 9494 (Mar. 13, 1984) as corrected at 50 FR 41430 (Oct. 10, 1985),
as amended at 67 FR 9483 (Mar. 1, 2002), 70 FR 49305 (Aug. 23,
2005), and 75 FR 38837 (July 6, 2010).
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The Department has considered comments on the eligibility provision
in Section III and has adopted it generally as proposed, but with non-
substantive revisions.\139\ The Department disagrees with commenters
that expressed the view that the exemption is essentially self-
regulatory and that the Department should not proceed with the
exemption because it lacks an express enforcement mechanism for IRA
owners. The Department believes that the eligibility provision will
encourage Financial Institutions and Investment Professionals to
maintain an appropriate focus on compliance with legal requirements and
with the exemption, and, therefore, it has not eliminated them as
overly burdensome, as suggested by a commenter. The Department intends
to use its investigative, enforcement, and referral authority to
enforce compliance with the exemption, and it will impose ineligibility
on Financial Institutions or Investment Professionals that demonstrate
the type of compliance issues described in the exemption. The
Department notes that, in developing the exemption, it was mindful of
the Fifth Circuit's Chamber opinion holding that the Department did not
have authority to include certain contract requirements in the new
exemptions enforceable by IRA owners granted as part of the 2016
fiduciary rulemaking. The Department's approach was designed to avoid
any potential for disruption in the market for investment advice that
may occur related to a contract requirement.
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\139\ As described in more detail below, all references to the
``Office of Exemption Determinations'' have been replaced with
references to the ``Department.''
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The Department disagrees that this eligibility provision is
problematic simply because only one other class exemption includes this
condition. It is the responsibility of the Department to craft
exemptions to ensure they are protective of and in the interests of
plans and plan participants. The conditions in the Department's
exemptions are designed to address the conflicts of interest raised by
the transactions covered by the exemption. The Department has
determined that limiting eligibility in this manner serves as an
important safeguard in connection with this very broad grant of relief
from the self-dealing prohibitions of ERISA and the Code in this
exemption.
The specific provision governing eligibility and the comments
received on the provision are discussed in the next sections.
Criminal Convictions
An Investment Professional or Financial Institution will 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. Crimes described in ERISA section 411 are likely to
directly contravene the Investment Professional's or Financial
Institution's ability to maintain a high standard of integrity and will
cast doubt on their ability to act in accordance with the Impartial
Conduct Standards. The Department intends that the phrase
[[Page 82842]]
``arising out of the provision of advice to Retirement Investors'' be
interpreted broadly to include, for example, a Financial Institution or
Investment Professional embezzling money from the account of a
Retirement Investor to whom they provide or provided investment advice.
An Investment Professional will automatically become ineligible
after a criminal conviction in ERISA section 411 arising out of
provision of advice to Retirement Investors. However, a Financial
Institutions with such a criminal conviction may 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 must be submitted within 10 business days of the conviction
to the Department by email at [email protected].
Following submission of the petition, the Financial Institution has
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 does not expect the Financial Institution to set forth its
entire position or argument in its initial petition. The opportunity to
be heard in person will allow the Financial Institution to address the
facts and circumstances more fully. The opportunity to be heard will 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 a Financial
Institution's petition to continue relying on the exemption following a
criminal conviction 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,
corporate managers, and/or policy; how recently the underlying conduct
occurred and any related 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 consider whether any extenuating circumstances indicate
that the Financial Institution should be able to continue to rely on
the exemption despite the conviction. In sum, the Department will focus
on the Financial Institution's ability to fulfill its obligations under
the exemption for the protection of Retirement Investors.
Upon making a determination as to a Financial Institution's
petition, the Department will provide a written determination to the
Financial Institution that states the basis for the determination.
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; however,
any individual exemption is likely to be subject to additional
protective conditions. The final exemption provides that Financial
Institution will have 21 days after denial of the petition before
becoming ineligible. This will allow Financial Institutions, and other
Financial Institutions in the same Controlled Group, to assess their
legal and operational options.
Some commenters on the proposal expressed general agreement that a
Financial Institution that is convicted of a crime should be ineligible
for the exemption. One commenter believed there are due process
concerns if ineligibility occurs at the time of conviction rather than
allowing for an appeal. Other commenters stated that the Department can
take action under ERISA section 411 to seek to disqualify an entity
from acting as a fiduciary so a provision in the exemption is
unnecessary.
The Department believes that the criminal basis for ineligibility
is appropriately applied in the context of both Title I Plans and IRAs.
Despite the availability of action under ERISA section 411, it is
appropriate to condition further reliance on the broad relief in the
exemption more directly on the lack of such convictions, without the
Department having to take further action. The Department does not agree
that the application of the crimes listed in ERISA section 411 would
not be permitted by the Fifth Circuit's Chamber opinion. The 2016
fiduciary rule and related exemptions did not contain a comparable
provision, and the Fifth Circuit did not address the issue. As part of
its authority to craft exemptions and make findings under ERISA section
408(a) and Code section 4975(c)(2), the Department is permitted to
impose reasonable protective conditions, including those related to the
conduct of those entrusted with investors' funds. The Department does
not view ERISA section 411 or the statutory penalties for exemption
noncompliance as creating a negative inference that prohibits a
criminal prohibition as part of this exemption, whether in the Title I
or Code context, especially when both provisions share the same
essential purpose. Further, the only consequence flowing from a
violation of the criminal conviction provision of this exemption is the
loss of eligibility to use the exemption; no further penalties attach.
The Department also does not believe that the eligibility provision
raises due process issues. The exemption specifically entitles the
Financial Institution to submit a petition 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. This process constitutes notice and
an opportunity to be heard, and parties aggrieved by the denial of an
exemption can appeal that final agency action under the Administrative
Procedure Act. The Department also does not believe it is appropriate
to defer ineligibility until the conclusion of an appeal because of the
significant delay that an appeal may entail, during which time
Retirement Investors' interests may be at risk.
The Department has also clarified, in response to another comment,
that ineligible parties under this exemption may alternatively rely on
a statutory exemption or an administrative class exemption, if one is
available. Ineligible Financial Institutions may also request an
individual exemption, subject to additional protective conditions as
warranted, and with the same appeal rights.
Conduct With Respect to Compliance With the Exemption
Investment Professionals and Financial Institutions will also
become ineligible if they are issued a written ineligibility notice
from the Department stating that they (i) engaged in a systematic
pattern or practice of violating the conditions of the exemption, (ii)
intentionally violated the conditions of the 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. These categories of
noncompliance militate against the Investment Professional or Financial
Institution continuing to rely on the broad prohibited transaction
relief in the class exemption. Provided that a Financial Institution
has established, maintained and enforced prudent policies and
procedures as required by this exemption, a minor number of isolated
violations of the conditions of the exemption does not
[[Page 82843]]
constitute a systematic pattern or practice.
The exemption sets forth a process governing the issuance of the
written ineligibility notice, as follows. Prior to issuing a written
ineligibility notice, the Department will 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 determines that the conduct has persisted, it
will provide the Investment Professional or Financial Institution with
the opportunity to be heard, in person or in writing, before the
Department issues the written ineligibility notice. If a written
ineligibility notice is issued, it will state the basis for the
determination that the Investment Professional or Financial Institution
engaged in conduct warranting ineligibility. The final exemption
provides that Financial Institution will have 21 days after the date of
the written ineligibility notice before becoming ineligible. This will
allow Financial Institutions, and other Financial Institutions in the
same Controlled Group, to assess their legal and operational options.
A number of commenters expressed opposition to this basis of
ineligibility in the proposed exemption. Most of the opposition
centered on the proposal's specific references to the Office of
Exemption Determinations (OED) in determining ineligibility. Commenters
stated that the standards in the exemption are not objective or
detailed and asserted this could result in a violation of due process,
inconsistency, and unfairness. Further, because of these concerns, one
commenter requested an appeals process beyond OED and another requested
the use of administrative law judges. Some commenters raised concerns
about the QPAM exemption and a few commenters cited a GAO report
regarding OED procedures as evidence that OED should not be permitted
to oversee this process.\140\ Some commenters cited a recent Supreme
Court case, Lucia v. SEC, which they said struck down a similar
structure.\141\ Other commenters stated that this eligibility provision
overstepped the Department's authority.
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\140\ Individual Retirement Accounts, Formalizing Labor's and
IRS's Collaborative Efforts Could Strengthen Oversight of Prohibited
Transactions, GAO-19-495 (June 2019), available at www.gao.gov/assets/700/699575.pdf.
\141\ 585 U.S. __, 138 S.Ct. 2044 (2018).
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In response to commenters, the eligibility provision has been non-
substantively revised to state that the Department will determine
eligibility. This will ensure that the Department, acting under the
direction of the Secretary of Labor, maintains full responsibility for
eligibility determinations under the exemption. As laid out in the
Reorganization Plan No. 4 of 1978, the Secretary of Labor has the
authority to issue exemptions, oversee fiduciary conduct and prohibited
transactions. Accordingly, the Department disagrees with those
commenters who claim the Department lacks the appropriate authority, or
is overstepping its role. On the contrary, the Department is acting
squarely within the authority granted to it to issue regulations,
rulings, opinions, and exemptions under Code section 4975. The
Department believes that the eligibility provision does not need
additional adjustments given that the exemption specifies an extensive
process before a written ineligibility notice will be issued. The
Department has clarified, in response to a comment, that ineligible
parties under this exemption may alternatively rely on a statutory
exemption or an administrative class exemption, if one is available.
The Department also disagrees with those commenters who claim that
the ineligibility provision is too vague as to be meaningful. The
exemption clearly states that an entity will be provided with a
statement of the specific conduct at issue, and will be provided with a
six-month period to cure the conduct. Commenters expressed concerned
that the Department did not provide a specific number of violations a
Financial Entity may commit before such violations become egregious
(and, therefore, disqualifying). The Department has crafted a
principles-based exemption, and does not consider it appropriate to set
forth all of the possible ways in which an entity may engage in
egregious conduct. The Department continues to believe that providing
entities with specific notice and an opportunity to cure better
balances the issues at stake.
The Department also notes that, in connection with its earlier
response to a commenter, clarifying that the scope of relief in this
exemption extends to foreign affiliates of Financial Institutions,\142\
so too does the application of the eligibility provision regarding
egregious conduct with respect to compliance with the exemption. As
that commenter indicated, including relief for foreign affiliates is
important, given the increasingly global nature of retirement services.
The Department agrees, and, therefore, impresses upon Financial
Institutions the importance of ensuring proper oversight of foreign
affiliates with respect to compliance with the conditions of the
exemption. If a foreign affiliate performs services in connection with
a transaction covered by this exemption, but does so in a manner that
is in violation of the conditions of this exemption, this will subject
the Financial Institution to possible ineligibility under Section
III(a)(2).
---------------------------------------------------------------------------
\142\ See discussion on Scope of Relief--Section I, Affiliates
and Related Entities.
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Scope of Ineligibility
A Financial Institution's ineligibility would be triggered by its
own conviction or receipt of a written ineligibility notice, or by the
conviction or receipt of such a notice by another Financial Institution
in the same Controlled Group. A Financial Institution is in the same
Controlled Group with another Financial Institution if it would be
considered in the same ``controlled group of corporations'' or ``under
common control'' with the Financial Institution, as those terms are
defined in Code section 414(b) and (c), in each case including the
accompanying regulations. The Department is including in the
eligibility provision other Financial Institutions in the same
Controlled Group 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 that also provides
fiduciary investment advice to Retirement Investors, thus avoiding
ineligibility entirely. The definition of Controlled Group is narrowly
tailored to cover only other investment advice fiduciaries that share
significant ownership. This definition ensures that a Financial
Institution would not become ineligible based on the actions of an
entity engaged in unrelated services that happens to share a small
amount of common ownership.
The proposed exemption provided that 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. If the Financial Institutions
are not corporations, the proposal provided that ownership would be
defined to include interests in the Financial Institution such as
profits interest or capital interests in which,
[[Page 82844]]
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, the proposal provided if the Financial Institutions are not
corporations, ownership would be defined to include interests in the
Financial Institution such as profits interest or capital interests.
The Department stated in the proposal that 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, citing Code section 414(b). The Department also sought
comment on this approach. In response, one commenter asserted that
different forms of ownership would make it difficult to determine how
to apply the 80% threshold suggested. Accordingly, the Department
revised the definition to directly incorporate both definitions in both
Code section 414(b) and 414(c) which address these arrangements. The
Department believes these provisions will provide a well-known frame of
reference for Financial Institutions and avoid uncertainty as to how
the definition will be applied.
A few other commenters opposed including Control Group members
within the eligibility provision, as proposed. These commenters
asserted that a common parent is not an indicator of any other
connection between corporate entities; rather, these commenters stated
that affiliates typically maintain different policies and procedures.
One commenter asserted that conduct by the Financial Institution's
affiliates may not relate to investment advice or conduct involving
Title I Plans or IRAs. This commenter stated that affiliates typically
maintain different compliance policies and procedures and a Financial
Institution and its affiliates are managed by different officers and
compliance staff. Another commenter asserted that a Financial
Institution may not know of the conviction of another Financial
Institution in the same Controlled Group within 10 business days.
Another commenter stated that independent firms may have common
ownership but different business models or professional culture.
The Department has not revised its approach in response to these
comments. The eligibility provision and the definition of Controlled
Group are narrowly drafted so that they identify conduct involving
services to Retirement Investors, and also are limited to Financial
Institutions, within the meaning of the exemption, that are Controlled
Group members with a high level of common ownership. The Department
continues to believe that the tailored definition of Controlled Group
and provision that a Financial Institution becomes ineligible on the
10th business day after conviction ensures that there is a culture of
compliance across the Controlled Group for entities engaging in this
otherwise prohibited transaction. The Department notes that given the
high level of ownership, it is not unreasonable for the Financial
Institution be aware of the conviction of another Financial Institution
in the same Controlled Group and it should not be difficult for
Financial Institutions to keep track of such convictions. Accordingly,
the Department has not adjusted the 10 business-day deadline.
Period of Ineligibility
The period of ineligibility under Section III is 10 years; however,
the eligibility provision would apply differently to Investment
Professionals and Financial Institutions. An Investment Professional
that is 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 Department, as
applicable.
Financial Institutions, on the other hand, would have a one-year
winding down period after becoming ineligible, during which they may
continue to rely on the exemption, as long as they comply with the
exemption's other conditions during that year. The winding down period
begins 10 business days after 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 21 days after the date of a written notice of
denial from the Department. Financial Institutions that become
ineligible due to conduct with respect to exemption compliance would
become ineligible 21 days after the date of the written ineligibility
notice from the Department and begin their winding down period at that
point.
Financial Institutions or Investment Professionals that become
ineligible to rely on this exemption may rely on a statutory or
administrative class 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, or that otherwise determines it may need
individual prohibited transaction relief, to begin the application
process as soon as possible. An applicant is not guaranteed an
individual exemption, even if one is proposed. If an exemption is
proposed, the Department is required to provide notice and a period of
public comment and to consider those comments before granting an
exemption. If an individual exemption applicant becomes ineligible and
the Department has not granted a final individual exemption, the
Department will consider additional retroactive relief, consistent with
its policy as set forth in 29 CFR 2570.35(d). Retroactive relief may
require inclusion of additional exemption conditions.
Recordkeeping--Section IV
Under Section IV of the exemption, Financial Institutions must
maintain records for six years demonstrating compliance with the
exemption. The Department generally includes a recordkeeping
requirement in its administrative exemptions to ensure that parties
relying on an exemption can demonstrate, and the Department can verify,
compliance with the conditions of the exemption. Section IV requires
that the records be made available, to the extent permitted by law, to
any authorized employee of the Department or the Department of the
Treasury.
To demonstrate compliance with the exemption, Financial
Institutions are required to maintain, among other things,
documentation of rollover recommendations; their written policies and
procedures adopted pursuant to Section II(c); and the report of the
retrospective review, certification, and supporting data. Except with
respect to rollovers, 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 standard.
One commenter supported the recordkeeping requirement as proposed
but recommended extending the recordkeeping requirement to 10 years.
The Department declines to extend the time period. The six-year time
period is consistent with standard recordkeeping requirements imposed
in many existing exemptions, and it is consistent with the
[[Page 82845]]
statute of limitation set forth in ERISA section 413.
Other commenters opposed the scope of access to records in the
proposed exemption. The proposal provided that records should be
available for review by the following parties in addition to 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. Several commenters
stated that allowing parties other than the Department to review
records would increase the burden placed on Financial Institutions. In
particular, they expressed the view that parties might overwhelm
Financial Institutions with requests for information in order to
generate claims for use in litigation. Fear of potential litigation
could, in turn, they argued, lead to a ``culture of quiet'' in which
employees of Financial Institutions elect not to address compliance
issues because of the fear of this disclosure.
In response to these comments, the Department has revised the final
exemption's recordkeeping provisions so that access is limited to the
Department and the Department of the Treasury, although, in connection
with this change, the Department has revised Section II(b) of the
exemption, as described above, to provide Retirement Investors with
documentation of the reasons that a rollover recommendation made to
them was in their best interest. The Department accepts that Financial
Institutions may have concerns about internal compliance records,
particularly the record of their retrospective reviews, becoming widely
accessible. However, the Department believes that it is important for
the exemption to be conditioned on Retirement Investors receiving
documentation of the reasons for rollover recommendations made to them,
to allow them to carefully evaluate those important recommendations.
The Department also notes that even if the exemption does not require
disclosure of certain records, Financial Institutions would not be
precluded from providing them voluntarily as a matter of customer
relations.
One commenter raised concerns that the proposal's recordkeeping
requirements were inconsistent with certain ``visitorial powers'' under
banking law, discussed above. The Department notes that the exemption,
as well as the proposal, contains the limiting language ``to the extent
permitted by law including 12 U.S.C. 484,'' which the Department
believes substantially addresses these concerns.
A few commenters also asserted that the Department should not be
permitted to request records regarding IRA transactions because the
Department does not have enforcement jurisdiction over IRAs, and under
the Fifth Circuit's Chamber opinion, the records provision would be an
impermissible attempt to usurp enforcement jurisdiction. In conjunction
with this, one commenter suggested the Internal Revenue Service should
be able to obtain records regarding IRAs. While the Department may lack
certain enforcement jurisdiction with respect to IRAs, it does not lack
the ability to issue exemptions to the prohibited transaction
provisions under Code section 4975.\143\ The Department has authority
to grant prohibited transaction exemptions, as well as the associated
authority to determine whether the conditions of its exemption are
being met by reviewing records for the purpose of determining that
compliance. The Department does not, based on those same grounds, agree
that a recordkeeping requirement that impacts IRAs is inconsistent with
the Fifth Circuit's Chamber opinion, which did not specifically address
the issue. However, the Department has added the Department of the
Treasury, which includes the Internal Revenue Service, as an additional
regulator that can obtain a Financial Institution's records under the
exemption.
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\143\ See supra note 6.
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Lastly, one commenter was concerned about the application of a 30-
day requirement to notify the Department of a decision to withhold
documents from parties other than the Department. Because the exemption
has been modified to only provide for the Department's and the
Department of the Treasury's review, the commenter's concern has been
addressed.
Effective Date
The exemption is effective 60 days after its publication in the
Federal Register. This responds to several commenters who urged the
Department to make the exemption available promptly. Some commenters
requested that the exemption be effective immediately upon publication
in the Federal Register, rather than after 60 days. Another commenter,
however, suggested that the exemption should be effective no earlier
than July 1, 2021, 180 days after the publication of the exemption, or
90 days after the end of the current public health emergency, because
of market turmoil and COVID-19.
The Department has retained the 60 day effective date timeframe to
permit transmittal of the exemption 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.). As stated above, parties can continue to
rely on FAB 2018-02 for one year following publication of the final
exemption, so there will be a transition period for Financial
Institutions to develop compliance structures. The Department has not
delayed the effective date as suggested by one commenter. The
Department believes that the exemption's conditions provide protections
of Retirement Investors even in the event of market turmoil, and,
therefore, a delay in the effective date is not in the interests of
Retirement Investors.
Procedural Issues
Following the proposal, the Department received comments about the
process it has followed in this exemption proceeding. Some commenters
requested that the Department extend the proposed exemption's 30-day
comment period. Many commenters also requested the Department hold a
public hearing, which it did on September 3, 2020, although a few other
commenters asserted that the procedure establishing the hearing was
improper. Commenters in particular pointed to the more extensive
comment period provided in the Department's 2016 fiduciary rulemaking.
The Department believes that its procedure with respect to the
proposal was appropriate under applicable requirements, including the
Administrative Procedure Act. The Department received and carefully
reviewed 106 comments on the proposal. Further, the Department
accommodated all requests by commenters to testify at the hearing, and
this resulted in 21 organizations testifying. This hearing was
broadcast publicly, and all interested parties were invited to watch
the hearings. The hearings gave the Department time to hear oral
testimony from these 21 different organizations, and question them on
aspects of the comments and their testimony. Moreover, the general
issues and concerns raised by the proposal have been subject to
significant amounts of commentary and discussion between the Department
and the public
[[Page 82846]]
since October 2010. In light of the narrower issues raised in the
present exemption project as opposed to the 2016 fiduciary rulemaking,
as well as the public record developed on the proposal, the Department
does not believe that the shorter comment period indicates an
insufficient opportunity for public comment.
Reinsertion of the Five-Part Test for Investment Advice Fiduciary
Status
On the same day as the Department published the proposed exemption,
the Department issued a technical amendment to 29 CFR 2510-3.21
instructing the Office of the Federal Register to remove language that
was added in 2016 and reinsert the text of the 1975 regulation. The
1975 regulation established the five-part test for investment advice
fiduciary status.
Many commenters on the Department's proposed exemption addressed
the Department's technical amendment reinserting the five-part test.
Some commenters supported the technical amendment, stating that it
provides welcome certainty to the regulated community as to the current
legal definition of an investment advice fiduciary. Some commenters
indicated that the five-part test properly defines an investment advice
fiduciary. Some expressed the view that reinsertion of the five-part
test was the appropriate response to the Fifth Circuit's Chamber
opinion.
Many commenters expressed significant opposition to the reinsertion
of the five-part test via the technical amendment, and the five-part
test in general. They stated that the five-part test was established
before the prevalence of 401(k) plans and IRAs, and is now outdated and
ill-suited to address the complex investment products offered in
today's marketplace. They also said the five-part test is narrower than
the statutory definition in Title I and the Code, which defines a
fiduciary as anyone who ``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.'' \144\ These commenters said despite the Department's preamble
interpretation regarding rollovers, many rollovers would occur without
the protections of a fiduciary standard.
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\144\ ERISA section 3(21)(A)(ii); Code section 4975(e)(3)(B).
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Commenters criticized several of the individual elements of the
five-part test. The ``regular basis'' prong in particular, they said,
creates loopholes for financial professionals to avoid fiduciary status
while holding themselves out as trusted advisers. Some commenters
particularly pointed to transactions involving non-securities which
they said can involve significant conflicts of interest and may often
be considered one-time transactions. Commenters also stated that the
regular basis prong will mean that advice to a plan sponsor regarding
investment options in a Title I Plan will rarely be fiduciary advice,
which will adversely affect Plan participants' investment options. The
commenters also stated that disclaimers of a `mutual agreement' or that
the advice will serve as `a primary basis' for investment decisions
will be used to avoid application of the fiduciary standard. As a
result of all these factors, the commenters said Retirement Investors
would be harmed by unchecked conflicts of interest.
Some of the commenters raised legal arguments in connection with
the technical amendment reinserting the five-part test. The commenters
stated the Department had discretion as to whether to reinstate the
five-part test, and, therefore, should have provided notice, economic
analysis, and an opportunity for public comment before it took action.
While this exemption proceeding interprets aspects of the five-part
test, including by providing a new interpretation as to how it applies
to rollovers, this exemption has not put at issue the five-part test
itself as codified at 26 CFR 54.4975-9 and 29 CFR 2510.3-21. Thus,
these comments are outside the scope of this exemption proceeding.
Additionally, as stated in its technical amendment, the five-part
test was reinstated by the Fifth Circuit's decision in Chamber, not by
any discretionary action of the Department. As a result of that
decision, the 2016 fiduciary regulation and associated exemptions were
vacated in toto. The Department merely directed the Office of the
Federal Register to update the Code of Federal Regulations to correctly
reflect current law.
Finally, as explained below regarding the need for this rulemaking,
this exemption appropriately takes into account the reasoning in the
Fifth Circuit's Chamber opinion and changes in the regulatory landscape
that have occurred since the 2016 fiduciary rulemaking.
Regulatory Impact Analysis
Executive Orders 12866 and 13563 Statement
Executive Orders 12866 \145\ and 13563 \146\ 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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\145\ Regulatory Planning and Review, 58 FR 51735 (Oct. 4,
1993).
\146\ 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 exemption is 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 exemption. In
accordance with Executive Order 12866, this exemption was reviewed by
OMB.
The final exemption 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.). Pursuant to the
Congressional Review Act, OMB has designated this final exemption as a
``major rule,'' as defined by 5 U.S.C. 804(2), because it
[[Page 82847]]
would be likely to result in an annual effect on the economy of $100
million or more.
Need for Regulatory Action
Participants in individual participant-directed defined
contribution Plans (DC Plans) and IRA investors are responsible for
investing their retirement savings, and they often seek high quality,
impartial advice from financial service professionals to make prudent
investment decisions. This is especially true as the share of total
plan participation attributable to Defined Contribution (DC) Plans
continues 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 for directing some or all of their
account investments.\147\
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\147\ Private Pension Plan Bulletin Historic Tables and Graphs
1975-2017, Employee Benefits Security Administration (Sep. 2018),
www.dol.gov/sites/dolgov/files/ebsa/researchers/statistics/retirement-bulletins/private-pension-plan-bulletin-historical-tables-and-graphs.pdf.
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Following the Fifth Circuit's Chamber opinion, the Department
issued a 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.\148\
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\148\ The SEC's Regulation Best Interest went into effect June
30, 2020. Although not a regulatory agency, the NAIC approved
revisions to Model Regulation 275 in February 2020 and recommended
adoption by state insurance regulators. According to a commenter in
the insurance industry, the updated NAIC's Model Regulation 275 has
been finalized in two states (Arizona and Iowa), and four others
(Idaho, Kentucky, Ohio, and Rhode Island) have publicly stated their
intention to pursue adoption in late 2020 or early 2021. Other
commenters expect the updated NAIC Model Regulation to be adopted in
a majority of states within the next two to three years. These
commenters also stated that the Dodd-Frank Act requires adoption of
the NAIC Model Regulation amendments within five years to maintain
exclusive state regulation of fixed annuity and insurance products.
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Some commenters claimed that the Department changed its previous
position from its 2016 fiduciary rulemaking without providing detailed
justification. In response to these comments, the Department more
clearly specifies some of the factors that compelled it to take this
action. First, the Department's current action follows and is guided by
the Fifth Circuit's Chamber opinion decision that vacated the
Department's 2016 fiduciary rule and associated exemptions, in toto.
The Department carefully studied the court's decision and developed
this exemption consistent with it. Second, the regulatory landscape has
changed since the Department issued the 2016 fiduciary rule and
exemptions. At that time, no other regulators had adopted enhanced
conduct standards of financial service professionals. Currently, other
regulators such as the SEC and state insurance commissioners have
adopted or are currently in the process of enhancing the conduct
standards of financial service professionals. These developments
encourage the Department to take these regulatory changes into account
when taking this action.
For instance, at the Department's September 3, 2020, public hearing
on the proposed exemption, a witness testified that financial services
firms made fundamental changes in their business models for several
years after the Department issued its 2016 fiduciary rule and the SEC
issued Regulation Best Interest. Those changes include new commission
and fee schedules, the elimination of certain products and services,
and third-party revenue sources, modified compensation and incentive
programs, and caps on mutual fund and annuity upfront fees and trailing
commissions. Additionally, according to data in studies cited by some
commenters, the Department's 2016 fiduciary rulemaking also correlated
with financial service professionals transitioning to lower-fee
products, which has remained the case even after the rulemaking was
vacated by the Fifth Circuit, but when FAB 2018-02 was in effect.
In sum, the Department considered the changes in regulatory
landscape, business practices, and product offerings as it developed
this exemption. To the extent Financial Institutions have already
implemented measures to mitigate conflicts of interest and reduce
related investor harms, the benefits of this exemption will be reduced.
Similarly, to the extent Financial Institutions have already incurred
costs to comply with other regulators' actions and the Department's
2016 fiduciary rulemaking, the costs of this exemption also will be
reduced. Accordingly, these changes are reflected in the baseline that
the Department applies when it evaluates the benefits and costs
associated with this exemption that are discussed below.
Given this background, the Department believes that it is
appropriate to replace the relief provided in FAB 2018-02 with a
permanent exemption. The exemption will provide Financial Institutions
and Investment Professionals with broader, more flexible prohibited
transaction relief than is currently available, while safeguarding the
interests of Retirement Investors. Offering a permanent exemption based
on FAB 2018-02 will provide certainty to Financial Institutions and
Investment Professionals that currently may be relying on the temporary
enforcement policy.
Benefits
This exemption will generate several benefits. It will provide
Financial Institutions and Investment Professionals with flexibility to
choose between this new exemption or existing exemptions, depending on
their needs and business models. In this regard, the exemption will
help preserve different business models, compensation arrangements, and
products that meet different needs in the market. This can, in turn,
help preserve the existing wide availability of investment advice
arrangements and products for Retirement Investors. Furthermore, the
exemption will provide certainty for Financial Institutions and
Investment Professionals that opted to comply with the enforcement
policy the Department announced in FAB 2018-02 to continue with, and
build upon, that compliance approach. Further, the exemption will
ensure that investment advice satisfying the Impartial Conduct
Standards is widely available to Retirement Investors without
interruption.
As described above, in FAB 2018-02, the Department announced a
temporary enforcement policy that would apply until the issuance of
further guidance. Its designation as ``temporary'' communicated its
status as a transitional measure following the vacatur of the
Department's 2016 fiduciary rulemaking. FAB 2018-02 was not intended to
represent a permanent approach for prohibited transaction relief. This
is due in part to the fact that FAB 2018-02 allows Financial
Institutions to avoid enforcement action by the Department, but it does
not (and cannot) provide relief from private litigation related to
prohibited transactions.
In addition to the more permanent relief it will provide, this
exemption will have more specific conditions than FAB 2018-02, which
requires only good faith compliance with the Impartial Conduct
Standards. The conditions in the exemption 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 work in concert with the Impartial Conduct
Standards to help Financial
[[Page 82848]]
Institutions comply with the standards that will protect Retirement
Investors.
Some Financial Institutions may consider whether to rely on the
Department's existing exemptions rather than adopt the specific
conditions in this new exemption. The existing exemptions generally
condition relief on disclosure and cover narrowly tailored transactions
and types of compensation arrangements as well as the parties that may
rely on the exemption. For example, the existing exemptions were never
amended to clearly cover third-party compensation arrangements, such as
revenue sharing, that developed over time. Investment advice
fiduciaries relying on some of the existing exemptions will 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 this new exemption, instead of the Department's existing exemptions.
First, this exemption is broadly available for a wide variety of
investment advice transactions and compensation arrangements, which
gives Financial Institutions greater flexibility and simplifies
compliance. Additionally, Financial Institutions may determine that
there is a marketing advantage to acknowledging their fiduciary status
with respect to Retirement Investors, as required by the new exemption.
Some commenters questioned the effectiveness of this disclosure
because investors may decline to read or not fully understand such
disclosures. In response to these concerns, the Department strongly
encourages Financial Institutions to design disclosures that are easy
to understand and written in plain English. The Department has provided
model language that Financial Institutions may use for this purpose.
The Department believes this required disclosure will further help
Retirement Investors to make informed investment decisions.
In addition, one study suggests that disclosure requirements
sometimes directly affect disclosers' actions. It showed that
disclosers sometimes made changes to their practices before sending
disclosures to consumers, especially when corporate reputation is
particularly important. For example, corporate managers concerned with
protecting market share or reputation often introduced lines of healthy
products or tightened corporate governance before the public
responded.\149\ This suggests that disclosures can be effective even
when investors may not read or not fully understand them.
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\149\ Mary Graham, Democracy by Disclosure: The Rise of
Technopopulism (2002). When Congress required manufacturers to
disclose how many pounds of toxic chemicals they released into the
air, water, and land and required chief executives to sign off on
these reports, some chief executives became aware of total toxic
pollutions for the first time and publicly announced the future
reductions at the same time or before they issued their reports. In
response to the Nutrition Labeling and Education Act (NLEA), which
mandated the uniform nutrition label, some food companies added
healthier options. Furthermore, some food companies added healthier
products before the NLEA was implemented but after enacted. (See
Christine Moorman, Market-Level Effects of Information: Competitive
Responses and Consumer Dynamics, Journal of Marketing Research, Vol.
35, No. 1 (Feb., 1998). Another experimental study shows that when
advisors have a choice to accept or reject conflicts of interest,
advisors who would have to disclose their conflict would more likely
to reject conflicts of interest, so that they have nothing to
disclose except the absence of conflicts. (See Sah, Sunita, and
George Loewenstein. ``Nothing to declare: Mandatory and voluntary
disclosure leads advisors to avoid conflicts of interest.''
Psychological science 25.2 (2014): 575-584.).
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As the exemption will apply to multiple types of investment advice
transactions, it will 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.
This exemption's alignment with other regulatory conduct standards
can result in a reduction in overall regulatory burden as well. As
discussed earlier in this preamble, the 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 rely on the
new exemption while incurring less costs than they otherwise would if
other regulators' compliance structures did not exist.
As discussed above, the Department believes that the exemption will
provide significant protections for Retirement Investors. The 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. However, the exemption will
not expand Retirement Investors' ability to enforce their rights in
court or create any new legal claims above and beyond those expressly
authorized in Title I or the Code, such as through required contracts
and warranty provisions.
Finally, this exemption 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, for a
period of 10 years. Engaging in these types of conduct would suggest
that the Financial Institution or Investment Professional is not able
or willing to maintain a high standard of integrity and will cast doubt
on their ability to act in accordance with the Impartial Conduct
Standards. This will allow the Department to give special attention to
parties with certain criminal convictions or with a history of
egregious conduct regarding compliance with the exemption which should
provide significant protections for Retirement Investors while
preserving wide availability of investment advice arrangements and
products.
Although the Department expects this exemption to generate
significant benefits, it does not have sufficient data to quantify such
benefits. However, the Department expects the benefits to justify the
compliance costs associated with this exemption because it creates an
additional pathway for Financial Institutions to comply with the
prohibited transaction provisions in Title I and the Code. This new
pathway is broader than existing exemptions, and, thus, applies to a
wider range of transactions and compensation arrangements and products
than the relief that is currently available. The Department anticipates
that entities will generally take advantage of this exemptive relief
only if it is less costly than other alternatives currently available,
including avoiding prohibited transactions or complying with an
existing exemption. The Department requested comments in the proposal
about the specific benefits that may flow from the exemption and
invited commenters to submit quantifiable data that would support or
contradict the Department's expectations about benefits. In response,
the Department received no comments or data that could help it quantify
the benefits associated with this exemption.
[[Page 82849]]
Costs
To estimate compliance costs associated with the exemption, the
Department considers the changed regulatory baseline. For example, the
Department assumes affected entities will likely incur only incremental
costs if they are already subject to another regulator's similar rules
or requirements. Because this exemption is intended to align
significantly with other regulators' rules and standards of conduct,
the Department expects that satisfying the exemption conditions will
not be unduly burdensome. The Department estimates that the exemption
would impose costs of more than $87.8 million in the first year and
$78.9 million in each subsequent year.\150\ Over 10 years, the costs
associated with the exemption would total approximately $562 million,
annualized to $80.1 million per year (using a seven percent discount
rate).\151\ Using a perpetual time horizon (to allow the comparisons
required under E.O. 13771), the annualized costs in 2016 dollars are
$57 million at a seven 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 solicited any
quantifiable data that would support or contradict any aspect of its
analysis and received none.
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\150\ 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), 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.
\151\ The costs would be $682 million over 10-year period,
annualized to $79.9 million per year, if a three percent discount
rate were applied.
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The Department also requested comments on this overall estimate and
the cost burdens across different entities. In response, the Department
received several comments concerning its proposed cost burden analysis.
After careful reviews of those comments, the Department revised its
cost estimate upward from the proposed cost estimate. For example, in
the proposal, the Department applied an hourly rate for compliance
attorneys based on the U.S. Bureau of Labor Statistics' average
attorney hourly rate.\152\ Because this rate is significantly lower
than the average senior compliance officer's hourly wage, one commenter
noted that the wage suggested the Department believed such compliance
activities would be handled by junior attorneys, rather than more
senior compliance counsel. In response, the Department's new cost
burden analysis relies on a higher hourly wage rate that reflects the
hourly wage of senior compliance attorneys in the financial services
sector.\153\ Details of the comments and the Department's revised cost
estimates are discussed below.
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\152\ In the proposal, the Department used $138.41 as an
attorney's hourly rate. For more details about the Department's
methodologies, 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), 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.
\153\ In the final exemption, the Department used $365.39 as an
attorney's hourly rate. This is an hourly rate estimate for an in-
house compliance counsel, obtained from the SEC's Regulation Best
Interest Release, 84 FR 33455, footnote 1304: Hour for in-house
compliance counsel. Available at www.govinfo.gov/content/pkg/FR-2019-07-12/pdf/2019-12164.pdf.
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Affected Entities
As a first step in its analysis, the Department examines the
entities likely to be affected by the exemption. The exemption will
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 Title I and the Code.
Additionally, because other exemptions are also currently available to
these entities, it is unclear how widely Financial Institutions will
rely upon this exemption and which firms are most likely to choose to
rely on it. To err on the side of caution, the Department includes all
entities eligible for this relief in its cost estimate. The Department
solicited comments about which, and how many, entities would likely use
this exemption. Although no commenters provided precise counts of
entities that would use this exemption, many commenters expressed their
support for an exemption that is broad and flexible enough to cover a
wide range of transactions and circumstances. They further expressed
their interest in consolidating multiple exemptions into one exemption
to streamline compliance. As discussed earlier in this preamble, the
Department clarified points raised by commenters and considered all
comments in finalizing this exemption. Thus, the Department expects
that this exemption will be widely used across different entities.
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, while 998 were estimated to have no retail customers.\154\
The Department does not have information about how many BDs provide
investment advice to Retirement Investors, which, as defined in the
exemption include Plan fiduciaries, Plan participants and
beneficiaries, and IRA owners. However, according to one compliance
survey, about 52 percent of IAs provide services to retirement
plans.\155\ Assuming the same percentage of BDs provide advice to
retirement plans, nearly 2,000 BDs will be affected by the
exemption.\156\ This exemption may also impact BDs that provide
investment advice to 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.
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\154\ Regulation Best Interest Release, 84 FR 33407.
\155\ 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.
\156\ If this assumption is relaxed to include all BDs, the
costs would increase by $2.8 million for the first year.
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To continue providing investment advice to retirement plans with
respect to transactions that otherwise would be prohibited under Title
I and the Code, this group of BDs will be able to rely on the
exemption.\157\ Because BDs with retail customers are subject to the
SEC's Regulation Best Interest, they already comply with standards
substantially similar to those set forth in the exemption.
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\157\ 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.\158\ Generally, an IA must register with the appropriate
regulatory authorities--the SEC or state securities
[[Page 82850]]
authorities.\159\ IAs registered with the SEC are generally larger than
state-registered IAs, both in staff and in regulatory assets under
management (RAUM).\160\ SEC-registered IAs that provide investment
advice to retirement plans and other Retirement Investors would be
directly affected by the exemption.
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\158\ Form CRS Relationship Summary Release, 84 FR 33564.
\159\ Generally, a person that meets the definition of
``investment adviser'' under the Advisers Act (and is not eligible
to rely on an enumerated exclusion) must register with the SEC,
unless it: (i) Is prohibited from registering under Section 203A of
the Advisers Act, or (ii) qualifies for an exemption from the Act's
registration requirement. An adviser precluded from registering with
the SEC may be required to register with one or more state
securities authorities.
\160\ 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 dually-registered
entities as BDs and excluded them from the burden estimates of
IAs.\161\ Therefore, 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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\161\ 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 investment advice to retirement plans.\162\
Applying this assumption, the Department estimates that approximately
6,729 SEC-registered IAs currently provide investment advice to
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 the workplace retirement plans themselves.
These IAs are fiduciaries, and they already operate under standards
substantially similar to those required by the exemption.\163\
Accordingly, the exemption will pose no more than a nominal burden for
these entities.
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\162\ 2019 Investment Management Compliance Testing Survey,
supra note 155.
\163\ 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.\164\
Of these state-registered IAs, 13,793 provide advice to retail
investors, while 3,146 do not.\165\ 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 50 employees.\166\ In
contrast, an examination of state-registered IAs reveals about 80
percent reported only up to two employees.\167\ According to one
report, 64 percent of state-registered IAs manage assets under $30
million.\168\ A study by the North American Securities Administrators
Association found that about 16 percent of state-registered IAs provide
advice or services to retirement plans.\169\ Based on this study, the
Department assumes that 16 percent of state-registered IAs provide
investment advice to retirement plans. Thus, the Department estimates
that approximately 2,710 state-registered IAs provide advice to
retirement plans and other Retirement Investors.
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\164\ This excludes state-registered IAs that are also
registered with the SEC or dual registered BDs.
\165\ Form CRS Relationship Summary Release.
\166\ 2019 Investment Management Compliance Testing Survey,
supra note 155.
\167\ 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.
\168\ 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.
\169\ 2019 Investment Adviser Section Annual Report, supra note
167.
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Insurance Companies
The exemption will affect insurance companies, which primarily are
regulated by states. No single regulator records a national-level count
of insurance companies. Although state regulators track insurance
companies, the total number of insurance companies cannot be calculated
by aggregating individual state totals because individual insurance
companies often operate in multiple states. However, the NAIC estimates
there were approximately 386 insurance companies directly writing
annuities in 2018. Some of these insurance companies may not sell any
annuity contracts in the IRA or Title I retirement plan markets.\170\
Furthermore, insurance companies can rely on other existing exemptions
instead of this exemption. Some insurance industry commenters
questioned whether the Department's existing exemptions offer realistic
alternatives. In response to these concerns, the Department clarified
earlier in this preamble that insurance companies can rely on other
existing exemptions if such exemptions better fit their current
business models. In the proposal, the Department invited comments about
how many insurance companies would use this exemption. No commenters
provided data that could help the Department more precisely quantify
the number of insurance companies that will rely on this exemption or
the associated compliance costs. Due to lack of data, the Department
includes all 386 insurance companies in its cost estimate, although
this likely presents an upper bound.
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\170\ One comment letter from the insurance industry stated that
about half of annuity products sold by insurance agents were IRA or
tax-qualified products. This suggests that fewer than 386 of the
insurers included in this analysis will be affected by this
exemption. However, the comment did not provide data quantifying the
number of insurers likely to be affected by or likely to use this
exemption.
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Banks
There are 5,066 federally insured depository institutions in the
United States.\171\ Banks will 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 nevertheless believes that most banks will not be affected
by the exemption for the reasons discussed below.
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\171\ The FDIC reports there are 4,430 Commercial banks and 636
Savings Institutions (thrifts) for 5,066 FDIC- Insured Institutions
as of June 30, 2020. For more details, see Statistics at a Glance,
Federal Deposit Insurance Corporation (Jun 30, 2020), www.fdic.gov/bank/statistical/stats/2020jun/industry.pdf.
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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.\172\
Under such arrangements,
[[Page 82851]]
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
these limitations, the Department believes that in most cases such
referrals will not constitute fiduciary investment advice within the
meaning of the 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.\173\
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\172\ 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. Financial
Institutions that are broker-dealers, investment advisers, or
insurance companies that participate in networking arrangements and
provide fiduciary investment advice would be included in the counts
in their respective sections.
\173\ A comment letter from the banking industry described
various interactions with customers, including those related to
RNDIP and IRA investment programs. According to this commenter,
there are generally two types of bank IRA investment programs
available for retirement customers: (i) Customer-directed bank IRA-
CD and other bank deposit programs, and (ii) bank discretionary IRA
programs. This commenter stated that they believe neither program
would be required to rely on the exemption, which implies that most
banks will not be affected by this exemption.
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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 invited comments on
the magnitude of such costs and solicited data that would facilitate
their quantification in the proposal. No comments expressly discussed
costs to banks nor provided data for the Department to quantify the
compliance burden, if any, imposed on banks.
Costs Associated With Disclosures
The Department estimates the compliance costs associated with the
exemption's disclosure requirement will be approximately $2 million in
the first year and $0.2 million per year in each subsequent year.\174\
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\174\ Except where specifically noted, all cost estimates are
expressed in 2019 dollars throughout this document.
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Section II(b) of the exemption requires Financial Institutions to
acknowledge, in writing, their status as fiduciaries under Title I and
the Code, as applicable. In addition, Financial Institutions must
furnish a written description of the services they provide and any
material conflicts of interest. For many entities, including IAs, this
condition will 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. As of June 30, 2020, BDs with
retail investors are also required 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
insurance companies and some BDs, the Department believes that
developing disclosures required in this exemption will not
substantially increase costs because the required disclosures are
clearly specified and limited in scope.
Not all entities will decide to use the exemption. Some may instead
rely on other existing exemptions that better align with their business
models. However, for this cost estimation, the Department assumes that
all eligible entities will use the 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 will cost regulated parties
approximately $1.9 million in the first year.\175\
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\175\ A written acknowledgment of fiduciary status would cost
approximately $0.6 million, while a written description of the
services offered and any material conflicts of interest would cost
another $1.3 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 exemption. For a detailed
description of how the number of entities is estimated, see the
Paperwork Reduction Act section, below. The $0.6 million cost
associated with a written acknowledgment of fiduciary status is
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 five minutes to prepare a disclosure
conveying fiduciary status at an hourly labor rate of $365.39,
resulting in cost burden of $584,130. Accordingly, the estimated
per-entity cost ranges from $30.45 for IAs to $182.7 for non-retail
BDs and insurers. The $1.3 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 five minutes, each small
nonretail BD or small insurer 60 minutes, and each large nonretail
BDs or larger insurer five hours to prepare a disclosure conveying
services provided and any conflicts of interest at an hourly labor
rate of $365.39, resulting in cost burden of $1,348,628.
Accordingly, the estimated per-entity cost ranges from $30.45 for
retail broker-dealers and IAs to $182.7 for large non-retail BDs and
insurers.
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The Department estimates that it will cost Financial Institutions
about $0.2 million to print and mail required disclosures to Retirement
Investors, but it assumes most required disclosures will be
electronically delivered to Retirement Investors.\176\ The Department
assumes that approximately 92 percent of participants who roll over
their plan assets to IRAs will receive required disclosures
electronically.\177\ According to one study, approximately 3.6 million
accounts in defined contribution plans were rolled over to IRAs in
2019.\178\ Of those, slightly less than half, 1.8 million, were rolled
over by financial services professionals.\179\ 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.
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\176\ 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 one minute per disclosure, at an hourly labor
rate of $64.11, resulting in a cost burden of $151,341. Assuming the
disclosures will require two sheets of paper at a cost $0.05 each,
the estimated material cost for the paper disclosures is $14,164.
Postage for each paper disclosure is expected to cost $0.55,
resulting in a printing and mailing cost of $92,063.
\177\ 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 2020 Electronic
Disclosure Regulation, the Department estimates that additional 35.5
percent of participants receive their disclosures electronically. In
total, 91.9 percent of participants are expected to receive
disclosures electronically.
\178\ U.S. Retirement-End Investor 2020: Helping Participants
Navigating Uncertainty, The Cerulli Report (2020).
\179\ Id.
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The Financial Institution now must provide documentation of the
specific reasons that any rollover recommendation is in the Retirement
Investor's best interest to the Retirement Investor. The Department
estimates and presents costs associated with documenting rollover
recommendations in the section below. Beyond the cost associated with
producing the documentation, Financial Institutions may incur
additional costs to provide such documentation to Retirement Investors.
The Department expects that once the Financial Institutions document
rollover recommendations, any additional costs for providing the
documentation, such as printing and mailing costs, will be somewhat
modest.\180\
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\180\ The costs associated with documenting rollover
recommendations are estimated and discussed in more details below in
the section entitled ``Costs associated with rollover
documentation.'' To avoid double-counting, this section only
includes associated distribution costs of such documentation. As
discussed above, the Department estimates that approximately 92
percent of Retirement Investors will receive disclosures
electronically, eliminating printing and mailing costs. Thus,
providing rollover documentation will increase costs by
approximately $240,000.
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[[Page 82852]]
The Department sought further comments in the proposed RIA on the
costs associated with the required disclosures. In response, a
commenter argued that the associated hourly wage of a legal
professional used in the Department's cost estimate did not correspond
to that of a compliance counselor. The Department acknowledges the
importance of taking into account the level of experience and
specialization of legal professionals in charge of compliance testing.
Accordingly, the Department updated its legal professional's hourly
labor rate to reflect the typical compensation of those who provide
such services to Financial Institutions.\181\
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\181\ The hourly wage estimate for an in-house compliance
counsel was obtained from Regulation Best Interest Release, 84 FR
33455, note 1304, www.govinfo.gov/content/pkg/FR-2019-07-12/pdf/2019-12164.pdf.
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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 will cost approximately $4.4 million in the first year.\182\
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\182\ 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 exemption. 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 rate of
$365.39, 22.5 minutes at each small retail BD, 45 minutes at each
large retail BD, five 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, five hours at each small insurer, and 10 hours at
each large insurer to meet the requirement. This results in a cost
burden estimate of $4,393,011. Accordingly, the estimated per-entity
cost ranges from $91.35 for small IAs to $3,653.90 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 various entities are currently operating. For
example, IAs already operate under a fiduciary standard substantially
similar to that required under the exemption,\183\ and report how they
address conflicts of interests in Form ADV.\184\ Similarly, BDs subject
to the SEC's Regulation Best Interest also operate under a standard
that is substantially similar to the exemption. To comply fully with
the exemption, however, these entities may need to review and amend
their existing policies and procedures. These additional steps will
impose additional, but not substantial, costs at the Financial
Institution level.
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\183\ See SEC Fiduciary Interpretation, 84 FR 33669.
\184\ See Form ADV, 17 CFR 279.1 (1979). (Part 2A of Form ADV
requires IAs to prepare narrative brochures that contain information
such as the types of advisory services offered, fee schedules,
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 or selects other IAs for its clients, and receives
compensation directly or indirectly from those advisers that creates
a material conflict of interest, or has other business relationships
with those advisers that create a material conflict of interest, an
adviser must describe these practices, discuss the material
conflicts of interest these practices create, and how the adviser
addresses them. See Item 10.D of Part 2A of Form ADV.)
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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, will be required to establish
written policies and procedures that comply with the Impartial Conduct
Standards if they choose to use this exemption. These activities will
likely involve higher cost increases than those experienced by IAs and
retail BDs. To a large extent, however, the entities facing potentially
higher costs will likely elect to continue to rely on other existing
exemptions. In this regard, the burden estimates on these entities are
likely overestimated to the extent that many of them would not use this
exemption.
Smaller entities may have less complex business practices and
arrangements than their larger counterparts, it may cost less for these
entities to comply with the 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) of the exemption requires Financial Institutions to
conduct an annual retrospective review reasonably designed to ensure
that the Financial Institution is in compliance with the Impartial
Conduct Standards and its own policies and procedures. Section II(d)
further requires the institution to produce a written report on the
review that is certified by a Senior Executive Officer of the
institution. In the proposal, the Department required certification by
the chief executive officer of the Financial Institution, however
several comments stated that this requirement is overly burdensome and
unnecessary. After careful deliberation, the Department changed the
requirement to allow certification from a Senior Executive Officer,
which is defined to include any of the following: The chief compliance
officer, chief executive officer, president, chief financial officer,
or one of the three most senior officers of the Financial Institution,
to reduce any unnecessary burden. Furthermore, by having a Senior
Executive Officer certify the report, any inadequacies or
irregularities may be detected during the review process and addressed
appropriately before becoming systematic failures.
Some commenters suggested that this requirement could create the
perverse incentive for a Financial Institution to carefully craft the
language in the report to avoid any suggestion that any violation has
occurred or even that its compliance could be improved. These
commenters were particularly concerned because the penalty of
noncompliance is severe--loss of exemption and exposure to litigation.
In response to these comments, the Department amended the rule to allow
Financial Institutions to self-correct certain violations of the
exemption by following the procedures specified in Section II(e).
Furthermore, Section IV now requires Financial Institution to make
records available, to the extent permitted by law, to any authorized
employee of the Department and the Department of the Treasury, not to
others.\185\ The Department believes that these changes will minimize
any perverse incentives and encourage Financial Institutions to use the
retrospective review process for its intended purposes--to (1) detect
any business models creating conflicts of interests, (2) test the
adequacies of the policies and procedures, (3) identify any compliance
areas for improvements, and (4) update and modify its compliance system
based on the review results. As a result, protection for Retirement
Investors will be strengthened without imposing any unnecessary burden
on Financial Institutions.
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\185\ In the proposal, Section IV required that the records be
made available to (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 an IRA owner that
engaged in an investment transaction pursuant to this exemption.
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The Department estimates that this requirement will impose $15.9
million
[[Page 82853]]
in costs in the first year.\186\ FINRA requires BDs to establish and
maintain a supervisory system reasonably designed to facilitate
compliance with applicable securities laws and regulations,\187\ to
test the supervisory system, and to amend the system based on the
testing.\188\ 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.\189\
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\186\ 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 $365.39,
five hours for small firms and ten hours for large firms to produce
a retrospective review report, resulting in an estimated cost burden
of $2,569,337. The per-entity cost estimate ranges from $1,826.95
for small entities to $3,653.9 for large entities. In addition, 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, would be likely to incur costs associated with adding
and modifying this report. The Department estimates it will take a
legal professional one hour for small firms and two hours for large
firms to add and modify the report, resulting in an estimated cost
burden of $7,573,614. The estimated per-entity cost ranges from
$365.39 for small entities to $730.78 for large entities. Lastly,
the Department also 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 certifying officer two hours for small firms and four
hours for large firms to review the report and certify the
exemption, resulting in an estimated cost burden of $5,750,451. The
estimated per-entity cost ranges from $331.26 for small entities to
$584.12 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.
\187\ Rule 3110. Supervision, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3110.
\188\ Rule 3120. Supervisory Control System, FINRA Manual,
www.finra.org/rules-guidance/rulebooks/finra-rules/3120.
\189\ Rule 3130. Annual Certification of Compliance and
Supervisory Processes, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3130.
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Many insurance companies are already subject to similar
standards.\190\ For instance, the NAIC's Model Regulation contemplates
that insurance companies 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.\191\ States that have adopted the Model Regulation also require
insurance companies 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 will be modest.
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\190\ The previous NAIC Suitability in Annuity Transactions
Model Regulation (2010) was adopted by many states before the newer
NAIC Model Regulation was approved in 2020. Both previous and
updated Model Regulations contain standards similar to that of the
written report of retrospective review required under the proposed
exemption.
\191\ Suitability in Annuity Transactions Model Regulation, NAIC
Regulation, Section 6.C.(2)(i). (The same requirement is found in
the previous NAIC Suitability in Annuity Transactions Model
Regulation (2010), Section 6.F.(1)(f).)
---------------------------------------------------------------------------
SEC-registered IAs are already subject to Rule 206(4)-97, 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 produce
a report detailing findings from its audit. Nonetheless, many seem to
voluntarily produce reports after conducting internal reviews. One
compliance testing survey reveals that about 92 percent of SEC-
registered IAs voluntarily provide an annual compliance program review
report to senior management.\192\ Relying on this information, the
Department estimates that only eight percent of SEC-registered IAs
advising retirement plans will start to produce a retrospective review
report for this exemption.\193\ The rest will incur some incremental
costs to revise their existing review reports to fully satisfy the
conditions related to this requirement.
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\192\ 2019 Investment Management Compliance Testing Survey,
Investment Adviser Association (Jun. 18, 2019), https://www.acacompliancegroup.com/blog/2019-investment-management-compliance-testing-survey-results.
\193\ One commenter questioned the Department's assumption that
only the eight percent of SEC- and state-registered IAs that do not
currently produce reports will incur costs to produce them.
According to this commenter, to fully comply with this exemption,
most of the IAs that currently produce reports will need to somewhat
modify their current reports. The Department incorporated this
comment in this analysis and now assumed that all entities will
likely see somewhat modest increases in their costs to make any
additional entries in their reports. For more details, see the
discussion later in this section.
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Due to lack of data, the Department based the cost estimates
associated with state-registered IAs on the assumption that eight
percent of state-registered IAs advising retirement plans currently do
not produce compliance review reports, and, thus, will incur costs
associated with the oversight conditions in the 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.\194\ Therefore, the costs associated with establishing
procedures to conduct internal retrospective reviews and produce
compliance reports will likely be low.
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\194\ An examination of state-registered IAs reveals about 80
percent reported only up to two employees. See supra note 167.
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One commenter mentioned that the Financial Institutions would
likely revise their retrospective review reports to fully comply with
the exemption even if they already produce the reports to comply with
other regulators or to voluntarily improve their compliance system. The
Department accepted this comment and incorporated in its compliance
cost estimates potential burden increases on all entities relying on
this exemption regardless of whether they already produce reports.
However, the Department believes that this burden increase will be
incremental, because the Department takes a principles-based approach
in the exemption and provides Financial Institutions with flexibility
to design and perform this review in a way that works best with their
business model. Therefore, the Department expects Financial
Institutions to develop and implement procedures that are least
burdensome and work with their current system to meet the standard set
forth in the exemption.
According to another commenter, the Department did not estimate
sufficient time for a certifying official to review and certify the
retrospective review report. No commenters provided data the Department
could use to more accurately estimate the burden associated with this
requirement. Despite this lack of data, in response to these comments,
the Department substantially increased its estimated burden associated
with certification to dispel any misconception that this
[[Page 82854]]
requirement is a mere formality.\195\ The Department expects the
certification process will facilitate on-going communications about
compliance issues among senior executives and compliance staffers.
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\195\ The Department assumes that it will take the certifying
officer two hours (small firms) or four hours (large firms). If we
assume that an average person reads 250 words per minute, this
individual can read 30,000 words for two hours or 60,000 words for
four hours. This implies a retrospective review report would be
approximately 125 pages to 250 pages if this report is written in
double space with 12 font size.
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In sum, the Department estimates that the costs associated with the
retrospective review requirement of the exemption will be approximately
$15.9 million in the first year.
Costs Associated With Rollover Documentation
In 2019, slightly more than 3.6 million defined contribution plan
accounts rolled over to an IRA, while 0.5 million accounts rolled over
to other defined contribution plans.\196\ Not all rollovers were
managed by financial services professionals. As discussed above,
slightly less than half of all rollovers from plans to IRAs were
handled by financial services professionals, while the rest were self-
directed.\197\ Based on this information, the Department estimates
slightly less than 1.8 million participants obtained advice from
financial services professionals.\198\ These rollovers tended to be
larger than the self-directed rollovers. For example, in 2019, the
average account balance of rollovers by financial services
professionals was $169,000, whereas the average account balance of
self-directed rollovers was $109,000.\199\ Some of these rollovers
likely involved financial services professionals who were not
fiduciaries under the Department's five-part investment advice
fiduciary test; thus, the actual number of rollovers affected by this
exemption is likely lower than 1.8 million.
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\196\ U.S. Retirement-End Investor 2020, supra note 178. (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.)
\197\ Id.
\198\ Another report suggested that a higher share, 75 percent,
of households owning IRAs held their IRAs through Investment
Professionals. The same report indicated that about half of
traditional IRA-owning households with rollovers primarily relied on
professional financial advisers for their rollover decisions. 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, 2019, ICI Research Perspective, vol. 25, no. 10 (Dec.
2019).)
\199\ U.S. Retirement-End Investor 2020, supra note 178.
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Many commenters discussed various issues concerning rollovers in
the five-part test context. In discussing rollovers, they sometimes
distinguished new relationships between financial services
professionals and investors from existing relationships. A close
inspection of rollover data suggests that most rollovers do not occur
in a vacuum. Specifically, 87 percent of rollovers handled by financial
services professionals were executed by professionals with whom
investors had an existing relationship, while only 13 percent were
handled by new financial services professionals.\200\ Furthermore,
rollovers handled by existing financial service professionals were, on
average, larger ($174,000) than rollovers handled by new financial
service professionals ($132,000).\201\
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\200\ Id.
\201\ Id.
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The exemption requires Financial Institutions to document why a
recommended rollover is in the best interest of Retirement Investors
and provide that documentation to 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.\202\ In addition, some
firms may voluntarily document significant investment decisions to
demonstrate compliance with applicable law, even if not required.\203\
Therefore, in the proposal, the Department stated that it expects many
Financial Institutions already document significant decisions like
rollovers.
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\202\ Regulation Best Interest Release, 84 FR 33360.
\203\ 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.
---------------------------------------------------------------------------
One commenter disagreed with the Department, stating that the
Department's expectation was not realistic. However, a report
commissioned by this commenter found that slightly more than half (52
percent) of asset management firms implementing Regulation Best
Interest require their financial service professionals to document
rollover recommendations. About half require documentation on all
recommendations, while 56 percent require documentation for specific
product recommendations, such as mutual funds and variable
annuities.\204\ Since Regulation Best Interest is now in effect, the
Department expects that these Financial Institutions already are
implementing these policies and procedures. Therefore, the Department
assumes that 52 percent of Financial Institutions already require
documentation for rollover recommendations, and, thus, will face no
more than an incremental burden increase.\205\ The remaining 48 percent
will face a larger burden increase to implement new documentation
procedures for rollover recommendations.
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\204\ Regulation Best Interest: How Wealth Management Firms are
Implementing the Rule Package, Deloitte (Mar. 6, 2020). (This report
is based on a survey given to 48 SIFMA member firms providing
financial advice and related services to retail customers. The
survey ended on December 2, 2019. Ninety percent of survey
participant firms were dual registrants.)
\205\ Therefore, the Department estimates that 52 percent of
rollovers are done by financial professionals whose institutions
already require such documentations.
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In estimating costs associated with rollover documentations, the
Department faces uncertainty in determining the number of rollovers
affected by the exemption. The Department assumes that 67.4 percent of
rollovers involving financial services professionals will be affected
by the exemption.\206\ Using this assumption, the estimated costs will
be $65 million per year.\207\ The Department acknowledges that
uncertainty still remain, because the lack of available data makes it
difficult to estimate how many financial services professionals may act
in a fiduciary capacity when making certain rollover recommendations
that meet all elements
[[Page 82855]]
of the five-part test, and, thus, will be affected by the exemption.
The Department invited comments and data that could help it more
precisely estimate the number of rollovers affected by the exemption
and did not receive any comments countering its 67.4 percent
assumption. Therefore, the Department maintained that assumption in its
cost estimate.
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\206\ In 2019, a survey was conducted on 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.
Forty-five percent of those surveyed indicated that they make a
proactive effort to pursue IRA rollovers from their DC plan clients,
and approximately 32.6 percent reported 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).) The Department assumes that 67.4 percent
of 1.8 million rollovers involving financial service professionals
will likely be affected by this exemption.
\207\ The Department assumes that financial advisors whose firms
do not currently document rollover justifications will take, on
average, 30 minutes per rollover to comply with this exemption. In
contrast, financial advisors whose firms already require such
documentation will take, on average, an additional five minutes per
rollover to fully satisfy the requirement. The Department estimates
over 335,000 burden hours in aggregate and slightly more than $65
million assuming $194.77 hourly rate for a personal financial
advisor.
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In addition, the Department invited comments about financial
services professionals' practices related to documenting rollover
recommendations, particularly whether financial services professionals
often use 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. One commenter stated that the
Department's proposed estimate was ambitious but reasonable,
particularly for firms using compliance software to automate this
process. This commenter, however, pointed out that the Department did
not take into account the cost associated with purchasing compliance
software. According to this commenter, the Department's low estimate
for time spent documenting rollovers suggests that hasty and
superficial analysis would satisfy this requirement. The Department
fervently disagrees with this claim. As explained in the proposal, the
Department did not expect this requirement to create an undue burden
for the following reasons: (1) Financial services professionals
generally seek and gather information on investor profiles in
accordance with other regulators' rules; and (2) as a best practice,
financial professionals often discuss the basis for their
recommendations and associated risks with their clients.\208\ Because
financial professionals already collect relevant information and
discuss the basis for certain recommendations with clients, the
Department believes that it would be relatively easy for them to
document such information with respect to rollover recommendations.
---------------------------------------------------------------------------
\208\ FINRA, Reg BI and Form CRS Firm Checklist. Also Regulation
Best Interest Release 84 FR 33360 (July 12, 2019).
---------------------------------------------------------------------------
In addition, as discussed above, a report indicates that the
majority of wealth management firms already require their financial
service professionals to document rollover recommendations in response
to Regulation Best Interest.\209\ According to the same report, almost
eight in ten firms that require such documentation use a predetermined
list for this purpose.\210\ Furthermore, approximately three out of
four firms surveyed indicated that they would change their technology
in response to Regulation Best Interest before it became
effective.\211\ Some Financial Institutions might have elected not to
enhance their technologies in the wake of Regulation Best Interest
because they recently updated their technology capabilities or decided
to rely more on manual processes. This implies that most Financial
Institutions are not likely to incur large technological costs, such as
purchasing compliance software to comply with this exemption.
Therefore, the Department assumes Financial Institutions that have not
enhanced technology capabilities for other regulator's rule will take a
mixed approach, combining current technology solutions with manual
processes.
---------------------------------------------------------------------------
\209\ Regulation Best Interest: How Wealth Management Firms are
Implementing the Rule Package, Deloitte (Mar. 6, 2020). The
participating firms in this study included dual-registrants, BDs and
RIAs that were owned by or affiliated with banks, holding companies,
insurance companies, and trust companies, as well as independent
dually-registered BDs and RIAs. 90% of participating firms were dual
registrants.
\210\ Id.
\211\ Id.
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In sum, the Department estimates that Financial Institutions
already requiring rollover documentation will face no more than a
nominal burden increase, and only to the extent that their current
compliance systems do not meet the requirements of this exemption.
Those firms currently not documenting rollover recommendations will
likely face a larger, but still somewhat limited, burden increase due
to the reasons discussed above.
Costs Associated With Recordkeeping
Section IV of the exemption requires Financial Institutions to
maintain records demonstrating compliance with the exemption for six
years. The Financial Institutions are required to make records
available to the Department and the Department of the Treasury.
Recordkeeping requirements in Section IV are generally consistent with
requirements made by the SEC and FINRA.\212\ In addition, the
recordkeeping requirements correspond to the six-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.\213\ The Department solicited comments regarding the
recordkeeping burden in the proposed regulatory impact analysis but did
not receive any comments disagreeing with the Department's approach.
Therefore, the Department took the same approach in this final
regulatory impact analysis.
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\212\ The SEC's Regulation Best Interest amended Rule 17a-
4(e)(5) requires that BDs retain all records of the information
collected from or provided to each retail customer pursuant to
Regulation Best Interest for at least six years after the date the
account was closed or the date on which the information was last
replaced or updated, whichever comes first. FINRA Rule 4511 also
requires its members to preserve for a period of at least six years
those FINRA books and records for which there is no specified period
under the FINRA rules or applicable Exchange Act rules.
\213\ The Department notes that the insurers most likely to use
the 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 will likely impose an
additional burden on the insurers that rely on this 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 $0.021 per
GB per month. Some estimate that approximately 250,000 PDF files or
other typical office documents can be stored on 100GB. Accordingly,
the Department believes that maintaining records in electronic
storage for an additional year or two will not impose a significant
cost burden on the affected insurers. (For more detailed pricing
information of three large cloud service providers, see https://cloud.google.com/products/calculator, https://azure.microsoft.com/en-us/pricing/calculator, or https://calculator.s3.amazonaws.com/index.html.)
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Table 1 provides a summary of the associated costs discussed.
[[Page 82856]]
Table 1--Associated Costs Summary
[$ Millions]
------------------------------------------------------------------------
Subsequent
Requirement First year years
------------------------------------------------------------------------
Disclosures............................. $2.2 $0.2
Policies and Procedures................. 4.4 -
Rollover Documentation.................. 65.3 65.3
Annual Report of Retrospective Review... 15.9 13.3
-------------------------------
Total............................... 87.8 78.9
------------------------------------------------------------------------
Note: Totals in table may not sum precisely due to rounding.
Regulatory Alternatives
The Department considered various alternative approaches in
developing this exemption that 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 the different products and
services they offer. By providing a single set of conditions for a wide
variety of investment advice transactions, this exemption allows the
use and availability of investment advice for a variety of types of
transactions in a manner that aligns with the conduct standards of
other regulators, such as the SEC.
Keeping FAB 2018-02
Similarly, the Department considered keeping FAB 2018-02 in effect
without finalizing this exemption. However, the Department rejected
this alternative, because FAB 2018-02 was intended to be a temporary
policy. Furthermore, replacing the relief provided in FAB 2018-02 with
a permanent exemption will provide certainty and stability to Financial
Institutions and Investment Professionals that may currently be relying
on the temporary enforcement policy. The final exemption includes
conditions designed to support investment advice that meets the
Impartial Conduct Standards.
To provide a transition period for Financial Institutions relying
on FAB 2018-02 to comply with the final exemption, the Department has
announced that FAB 2018-02 will remain in effect place for one year
after the final exemption is published. This will allow some Financial
Institutions to defer incurring compliance costs associated with this
exemption for a limited period. The cost estimates discussed in this
regulatory impact analysis are overstated to the extent such costs are
deferred. On the other hand, the benefits discussed in this analysis
will not be fully realized to the extent that some Financial
Institutions rely on FAB 2018-02 during the transition period. However,
the Department believes that most Financial Institutions will begin
complying with all the conditions of the final exemption before the end
of the transition period, because it provides protection from private
litigation and Financial Institutions will be better positioned in an
extremely competitive market.
Including an Independent Audit Requirement in the Exemption
This exemption will 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 approach, because it is not
convinced that an independent, external audit would yield sufficient
benefits in addition to the results of the retrospective review to
justify the increased cost, especially in the case of smaller Financial
Institutions. This exemption instead requires that Financial
Institutions provide a written report documenting the retrospective
review, and supporting information, to the Department and within 10
business days of a request. The Department believes this requirement
compels Financial Institutions to take the review obligation seriously,
regardless of whether they choose to hire an independent auditor to
conduct the review.
While the proposal stated that the Financial Institution's chief
executive officer (or equivalent) must certify the retrospective
review, the final exemption provides, instead, that the retrospective
review may be certified by any of the Financial Institution's Senior
Executive Officers. The exemption defines a ``Senior Executive
Officer'' as any of the following: The chief compliance officer, the
chief executive officer, president, chief financial officer, or one of
the three most senior officers of the Financial Institution. In making
this change, the Department accepts the views of a number of commenters
that stated that the CEO should not be the only person who can provide
a certification regarding the retrospective review.
Paperwork Reduction Act
In accordance with the Paperwork Reduction Act of 1995 (PRA 95) (44
U.S.C. 3506(c)(2)(A)), the Department solicited comments concerning the
information collection request (ICR) included in the proposed exemption
entitled ``Improving Investment Advice for Workers & Retirees'' (85 FR
40834). At the same time, the Department also submitted an information
collection request (ICR) to the Office of Management and Budget (OMB),
in accordance with 44 U.S.C. 3507(d). OMB filed a comment on the
proposed rule with the Department on September 21, 2020, requesting the
Department to provide a summary of comments received on the ICR and
identify changes to the ICR made in response to the comments. OMB did
not approve the ICR and requested the Department to file future
submissions of the ICR under OMB control number 1210-0163.
The Department received no comments that specifically addressed the
paperwork burden analysis of the
[[Page 82857]]
information collections. Additionally, comments were submitted which
contained information relevant to the costs and administrative burdens
attendant to the proposed exemption. The Department considered such
public comments in connection with making changes to the final
exemption, analyzing the economic impact of the proposal, and
developing the revised paperwork burden analysis summarized below.
In connection with publication of this final exemption, the
Department is submitting an ICR to OMB requesting approval of a new
collection of information under OMB Control Number 1210-0163. The
Department will notify the public when OMB approves the ICR.
A copy of the ICR may be obtained by contacting the PRA addressee
shown below or at www.RegInfo.gov.
PRA Addressee: Address requests for copies of the ICR to G.
Christopher Cosby, Office of Regulations and Interpretations, 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; ([email protected]). These are
not toll-free numbers. ICRs submitted to OMB also are available at
www.RegInfo.gov.
As discussed in detail below, the exemption requires 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 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
exemption;
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
$365.39 for a legal professional; \214\
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\214\ The Department's 2018 hourly wage rate estimates include
wages, benefits, and overhead, and are calculated as follows: Mean
wage (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).
---------------------------------------------------------------------------
Approximately 11,782 Financial Institutions will take
advantage of the exemption and they will use the exemption in
conjunction with transactions involving nearly all their clients that
are defined benefit plans, defined contribution plans, and IRA
holders.\215\
---------------------------------------------------------------------------
\215\ For this analysis, ``IRA holders'' include rollovers from
Title I Plans.
---------------------------------------------------------------------------
The exemption's impact on the hour and cost burden associated with
the Department's information collections are discussed in more detail
below.
Disclosures, Documentation, Retrospective Review, and Recordkeeping
Section II(b) of the exemption requires Financial Institutions to
furnish Retirement Investors with a disclosure prior to engaging in a
covered transaction. Section II(b)(1) requires Financial Institutions
to acknowledge in writing that the Financial Institution and its
Investment Professionals are fiduciaries under Title I and the Code, as
applicable, with respect to any investment advice provided to the
Retirement Investors. Section II(b)(2) requires 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(b)(3) requires Financial
Institutions to provide the documentation of specific reasons for the
rollover recommendation to the Retirement Investor.
Section II(c)(1) of the exemption requires 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) further requires that the Financial Institutions design the
policies and procedures to mitigate conflicts of interest. Section
II(c)(3) of the exemption requires 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 exemption, Financial Institutions are
required to conduct an annual retrospective review that is reasonably
designed to prevent violations of the exemption's Impartial Conduct
Standards and the institution's own policies and procedures. The
methodology and results of the retrospective review are reduced to a
written report that is certified by a Senior Executive Officer of the
Financial Institution. The certifying officer will be required to
verify that (1) the officer has reviewed the report of the
retrospective review, (2) the Financial Institution has in place
policies and procedures prudently designed to achieve compliance with
the conditions of the exemption, and (3) the Financial Institution has
a prudent process for modifying such policies and procedures. The
process for modifying policies and procedures will need to be
responsive to business, regulatory, and legislative changes and events,
and the Financial Institution will be required to periodically test
their effectiveness. The review, report, and certification must be
completed no later than six months following the end of the period
covered by the review. The Financial Institution will be required to
retain the report, certification, and supporting data for at least six
years, and to make these items available to the Department within 10
business days of the request.
Section IV sets forth the recordkeeping requirements in the
exemption.
Production and Distribution of Required Disclosures
The Department assumes that 11,782 Financial Institutions,
comprising 1,957
[[Page 82858]]
BDs,\216\ 6,729 SEC-registered IAs,\217\ 2,710 state-registered
IAs,\218\ and 386 insurance companies,\219\ are likely to engage in
transactions covered under this exemption. Each will 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 five and 30 minutes,
depending on the nature of the business,\220\ resulting in an hour
burden of 1,599 \221\ and a cost burden of $584,130.\222\ Preparing a
disclosure identifying services provided and conflicts of interest
would take a legal professional an estimated five minutes to five
hours, depending on the nature of the business,\223\ resulting in an
hour burden of 3,691 \224\ and an equivalent cost burden of
$1,348,628.\225\
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\216\ 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.
\217\ 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.
\218\ 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.
\219\ NAIC estimates that the number of insurers directly
writing annuities as of 2018 is 386.
\220\ 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 five minutes to prepare a disclosure conveying
fiduciary status.
\221\ 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.
\222\ 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.
\223\ The Department assumes that it will take each retail BD or
IA firm five minutes, each small nonretail BD or small insurer 60
minutes, and each large nonretail BDs or large insurer five hours to
prepare a disclosure conveying services provided and conflicts of
interest.
\224\ 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.
\225\ 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.
---------------------------------------------------------------------------
The Department estimates that approximately 1.8 million Retirement
Investors \226\ have relationships with Financial Institutions and are
likely to engage in transactions covered under this exemption. Of these
1.8 million Retirement Investors, it is assumed that 8.1 percent \227\
or 141,636 Retirement Investors, will receive paper disclosures.
Distributing paper disclosures is estimated to take a clerical
professional one minute per disclosure, resulting in an hourly burden
of 2,361 \228\ and an equivalent cost burden of $151,341.\229\ Assuming
the disclosures will require two sheets of paper at a cost $0.05 each,
the estimated material cost for the paper disclosures is $14,164.
Postage for each paper disclosure is expected to cost $0.55, resulting
in a printing and mailing cost of $92,063.
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\226\ The Department estimates the number of affected Plans and
IRAs be approximately equal to 49 percent of rollovers from defined
contribution plans to IRAs. Cerulli has estimated the number of
accounts in defined contribution plans rolled into IRAs to be
3,593,592 (see U.S. Retirement-End Investor 2020, supra note 178).
\227\ 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.
\228\ 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.
\229\ 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.
---------------------------------------------------------------------------
Written Policies and Procedures Requirement
The Department assumes that 11,782 Financial Institutions,
comprising 1,957 BDs,\230\ 6,729 SEC-registered IAs,\231\ 2,710 state
registered IAs,\232\ and 386 insurance companies,\233\ are likely to
engage in transactions covered under this exemption. 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.\234\
This results in an hour burden of 12,023 \235\ and an equivalent cost
burden of $4,393,011.\236\
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\230\ 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.
\231\ 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.
\232\ 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.
\233\ NAIC estimates that 386 insurers were directly writing
annuities as of 2018.
\234\ The Department assumes that it will take each small retail
BD 22.5 minutes, each large retail BD 45 minutes, each small
nonretail BD five hours, each large nonretail BD 10 hours, each
small IA 15 minutes, each large IA 30 minutes, each small insurer
five hours, and each large insurer 10 hours to meet the requirement.
\235\ 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.
\236\ 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.
---------------------------------------------------------------------------
Rollover Documentation Requirement
To meet the requirement of the rollover documentation, 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
[[Page 82859]]
estimates that 1.8 million defined contribution plan accounts rolled
into IRAs in accordance with advice from a financial services
professional.\237\ Facing uncertainty, the Department assumes that 67.4
percent of rollovers will be affected by the exemption.\238\ Under this
assumption, the Department estimates that the costs for documenting the
basis for rollover decisions will come to $65 million per year.\239\
This was 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 67.4 percent of rollovers are handled by financial
services professionals who act in a fiduciary capacity.\240\ The
Department estimates that documenting each rollover recommendation will
require 30 minutes for a personal financial advisor whose firms
currently do not require rollover documentations and five minutes for
financial advisors whose firms already require them to do so,\241\
resulting in 335,330 \242\ burden hours and an equivalent cost burden
of $65,313,770.\243\
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\237\ Cerulli has estimated the number of accounts in defined
contribution plans rolled into IRAs to be 3,593,591 (see U.S.
Retirement-End Investor 2020, supra note 178). The Department
estimates that 49 percent of these rollovers will be handled by a
financial professional.
\238\ See supra note 206.
\239\ See supra note 207.
\240\ See supra note 206.
\241\ See supra note 207.
\242\ 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.
\243\ 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.
---------------------------------------------------------------------------
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 a Senior Executive
Officer of the Financial Institution.
The Department understands that, as per FINRA Rule 3110,\244\ FINRA
Rule 3120,\245\ and FINRA Rule 3130,\246\ broker-dealers are already
held to a standard functionally identical to that of the retrospective
review requirements of this 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.\247\ The
Department estimates that only eight percent, or 538,\248\ of SEC-
registered IAs advising retirement plans will 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 eight percent, or
217,\249\ of state-registered IAs will also incur costs associated with
producing a retrospective review report.
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\244\ Rule 3110. Supervision, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3110.
\245\ Rule 3120. Supervisory Control System, FINRA Manual,
www.finra.org/rules-guidance/rulebooks/finra-rules/3120.
\246\ Rule 3130. Annual Certification of Compliance and
Supervisory Processes, FINRA Manual, www.finra.org/rules-guidance/rulebooks/finra-rules/3130.
\247\ 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.
\248\ 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.
\249\ 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.
---------------------------------------------------------------------------
As SEC-registered IAs are already subject to SEC Rule 206(4)-7, the
Department assumes these IAs will incur minimal costs to satisfy the
conditions related to this requirement. Insurance companies in many
states are already subject state insurance law based on the NAIC's
Model Regulation.\250\ Thus, the Department assumes that insurance
companies will incur negligible costs associated with producing a
retrospective review report. This is estimated to take a legal
professional five 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 \251\ and an equivalent cost burden of $2,569,337.\252\
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\250\ NAIC Model Regulation, Section 6.C.(2)(i) (The same
requirement is found in the NAIC Suitability in Annuity Transactions
Model Regulation (2010), Section 6.F.(1)(f).)
\251\ 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.
\252\ 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.
---------------------------------------------------------------------------
Financial Institutions that already produce retrospective review
reports voluntarily or in accordance with other regulators' rules
likely will spend additional time to fully comply with this exemption
condition such as revising their current retrospective review reports.
This is estimated to take a financial professional one hour for small
firms and two hours for large firms, depending on the nature of the
business. This results in an hour burden of 20,727 hours and an
equivalent cost burden of $7,573,614.
In addition to conducting the audit and producing a report,
Financial Institutions also will need to review the report and certify
the exemption. The Department substantially increased the burden hours
associated with this requirement in response to concerns raised by a
commenter that this is a superficial process.\253\ This is estimated to
take the certifying officer two hours for small firms and four hours
for large firms, depending on the nature of the business.\254\ This
results in an hour
[[Page 82860]]
burden of 34,718 \255\ and an equivalent cost burden of
$5,750,451.\256\
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\253\ For more detailed discussion, see the corresponding Cost
section of the Regulatory Impact Analysis above.
\254\ Due to lack of data, the Department estimates the hourly
labor cost of a certifying officer to be that of a Financial
Manager, as outlined 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), 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. The Department assumes that it will take the
certifying officer two hours for small firms and four hours for
large firms. If we assume that an average person reads 250 words per
minute, the certifying officer can read 30,000 words in two hours or
60,000 words in four hours. This implies a retrospective review
report would be approximately 125 pages to 250 pages if this report
is double-spaced with a with 12 point font size.
\255\ 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.
\256\ 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.
---------------------------------------------------------------------------
Overall Summary
Overall, the Department estimates that in order to satisfy the
exemption, 11,782 Financial Institutions will produce 1.8 million
disclosures and notices annually. These disclosures and notices will
result in 417,480 burden hours during the first year and 393,136 burden
hours in subsequent years, at an equivalent cost of $87.7 million and
$78.8 million respectively. The disclosures and notices in this
exemption will also result in a total cost burden for materials and
postage of $92,063 annually.
These paperwork burden estimates are summarized as follows:
Type of Review: New collection.
Agency: Employee Benefits Security Administration,
Department of Labor.
Title: Improving Investment Advice for Workers & Retirees.
OMB Control Number: 1210-0163.
Affected Public: Business or other for-profit institution.
Estimated Number of Respondents: 11,782.
Estimated Number of Annual Responses: 1,755,959.
Frequency of Response: Initially, Annually, and when
engaging in exempted transaction.
Estimated Total Annual Burden Hours: 417,480 during the
first year and 393,136 in subsequent years.
Estimated Total Annual Burden Cost: $92,063 during the
first year and $92,063 in subsequent years.
Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) \257\ 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.\258\ Under section 604 of the RFA, agencies must submit a final
regulatory flexibility analysis (FRFA) 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.
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\257\ 5 U.S.C. 601 et seq.
\258\ 5 U.S.C. 601(2), 603(a); see also 5 U.S.C. 551.
---------------------------------------------------------------------------
The Department has determined that this final class exemption will
likely have a significant economic impact on a substantial number of
small entities. Therefore, the Department has prepared the FRFA
presented below.
Need for and Objectives of the Rule
As discussed earlier in this preamble, the final class exemption
will allow investment advice fiduciaries to receive compensation and
engage in transactions that would otherwise violate the prohibited
transaction provisions of Title I and the Code. As such, the final
exemption will provide Financial Institutions and Investment
Professionals with 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
that the final exemption will benefit Retirement Investors that are
small entities and provide efficiencies to small Financial
Institutions.
Significant Issues Raised by Public Comments
In response to the Department's Initial Regulatory Flexibility
Analysis (IRFA), no significant issue was raised by public comments. In
the preamble to the proposed class exemption, the Department solicited
comments regarding whether the proposed exemption would have a
significant economic impact on a substantial number of small entities
and received no comments in response. Moreover, the Department received
no public comments from the Small Business Administration. As a result,
the Department made no major changes to the IFRA.
Affected Small Entities
The Small Business Administration (SBA),\259\ pursuant to the Small
Business Act,\260\ 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
jurisdiction, 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.\261\ 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 Act.\262\ As with SEC-registered IAs, the size of state-
registered IAs is determined based on total value of the assets they
manage.\263\ The size of insurance companies is based on annual sales
of annuities. The Department requested comments on the appropriateness
of the size standard used to evaluate the impact of the proposed
exemption on small entities and received no comments in response. In
particular, the Department received no comments asserting that it is
inappropriate for the Department to use size standards that are
different from those promulgated by the SBA.
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\259\ 13 CFR 121.201.
\260\ 15 U.S.C. 631 et seq.
\261\ The Department consulted with the Small Business
Administration Office of Advocacy in making this determination as
required by 5 U.S.C. 603(c).
\262\ 17 CFR parts 230, 240, 270, and 275, www.sec.gov/rules/final/33-7548.txt.
\263\ Due to lack of available data, the Department includes
state-registered IAs managing assets less than $30 million as small
entities in this analysis.
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In December 2018, there were 985 small-business BDs and 528 SEC-
registered, small-business IAs.\264\ The Department estimates that
approximately 52 percent of these small-businesses will be affected by
the final class exemption.\265\ In December 2018, the Department
estimates there were approximately 10,840 small state-registered
IAs,\266\ of which about 1,700 are estimated to be affected by the
final exemption.\267\ There were
[[Page 82861]]
approximately 386 insurers directly writing annuities in 2018,\268\ 316
of which the Department estimates are small entities.\269\ Table 1
summarizes the distribution of affected entities by size.
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\264\ See Form CRS Relationship Summary; Amendments to Form ADV,
84 FR 33492 (Jul. 12, 2019).
\265\ 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.
\266\ 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.
\267\ 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)).
\268\ NAIC estimates that the number of insurers directly
writing annuities as of 2018 is 386.
\269\ 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 2--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 final exemption provides Financial
Institutions and Investment Professionals with flexibility to choose
between the new final exemption or the Department's existing
exemptions, depending on their individual needs and business models.
Furthermore, the final exemption provides 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 final 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 final 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 Title I and the Code. Financial
Institutions would incur costs to comply with conditions set forth in
the final exemption. However, the Department believes the costs
associated with those conditions are modest because the final exemption
was developed in consideration of other regulatory conduct standards.
The Department believes that many Financial Institutions and Investment
Professionals have already developed compliance structures for similar
regulatory standards. Therefore, the Department does not expect that
the final 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 $3,034 in compliance
costs to meet the conditions of this final exemption. These additional
costs represent 0.6 percent of the net capital of BD with $500,000. A
BD with less than $500,000 in net capital is generally considered
small, according to the SEC.
Steps Taken To Minimize Impacts and Significant Alternatives Considered
Section 604 of the RFA requires the Department to consider
significant alternatives that would accomplish the stated objective,
while minimizing any significant adverse impact on small entities.
Title I 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 final 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 will lead to overall
regulatory efficiency.
The Department describes below additional steps it has taken to
minimize the significant economic impact on small entities consistent
with the stated objectives of applicable statutes, including a
statement of the factual, policy, and legal reasons for selecting the
alternatives adopted in the final exemption.
Revisions to Annual Retrospective Review Requirement: Under section
II(d) of the final exemption, Financial Institutions are 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 require this condition 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 final exemption requires that Financial
Institutions to document their retrospective review, and provide it,
and supporting information, to the Department, within 10 business days
of request, to the extent permitted by law.
Addition of Self-Correction Provision: The Department has added a
new Section II(e) to the exemption, under which Financial Institutions
will be able to correct certain violations of the exemption. Under the
new Section II(e), the Department will not consider a non-exempt
prohibited transaction to have occurred due to a violation of the
exemption's conditions, provided: (1) Either the violation did not
result in investment losses to the Retirement Investor or the Financial
Institution made the Retirement Investor whole for any resulting
losses; (2) the Financial Institution corrects the violation and
notifies the Department via email to [email protected] within 30 days of
correction; (3) the correction occurs no later than 90 days after the
Financial Institution learned of the violation or reasonably should
have learned of the violation; and (4) the Financial Institution
notifies the persons responsible for conducting the retrospective
review during the applicable review cycle, and the violation and
correction is specifically set forth in the written report of the
retrospective review.
[[Page 82862]]
While this section was not a part of the proposal, several
commenters requested that the Department provide a means for Financial
Institutions, acting in good faith, to avoid loss of the exemption for
violations of the conditions. One commenter specified that there should
be a correction process in connection with the retrospective review,
because failure to include this could put Financial Institutions in a
difficult position of having discovered technical violations but not
being able to cure them without being subject to an excise tax for the
prohibited transaction.
Upon consideration of the comments, the Department determined to
provide this self-correction procedure. Accordingly, the section allows
for correction even if a Retirement Investor has suffered investment
losses, provided that the Retirement Investor is made whole. The
Department believes that the self-correction provision will provide
Financial Institutions with an additional incentive to take the
retrospective review process seriously, timely identify and correct
violations, and use the process to correct deficiencies in their
policies and procedures, so as to avoid potential future penalties and
lawsuits.
Revision to Recordkeeping Requirements: Under Section IV of the
exemption, Financial Institutions must maintain records for six years
demonstrating compliance with the exemption. The Department generally
includes a recordkeeping requirement in its administrative exemptions
to ensure that parties relying on an exemption can demonstrate, and the
Department can verify, compliance with the conditions of the exemption.
The proposal provided that records should be available for review by
the following parties in addition to 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. Several commenters stated that
allowing parties other than the Department to review records would
increase the burden placed on Financial Institutions. In particular,
they expressed the view that parties might overwhelm Financial
Institutions with requests for information in order to generate claims
for use in litigation. Fear of potential litigation, could in turn,
they argued, lead to a ``culture of quiet'' in which employees of
Financial Institutions elect not to address compliance issues because
of the fear of this disclosure. In response to these comments, the
Department has revised the final exemption's recordkeeping provisions
so that access is limited to the Department and the Department of the
Treasury.
Unfunded Mandates Reform Act
Title II of the Unfunded Mandates Reform Act of 1995 \270\ 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 one 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 exemption does not include any Federal mandate that
will result in such expenditures.
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\270\ Public Law 104-4, 109 Stat. 48 (1995).
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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, 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 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 or an IRA, from certain other provisions of Title I
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 its beneficiaries;
(2) In accordance with section 408(a) of ERISA and section
4975(c)(2) of the Code, and based on the entire record, the Department
finds that this exemption 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) The exemption is applicable to a particular transaction only if
the transaction satisfies the conditions specified in the exemption;
and
(4) The exemption is supplemental to, and not in derogation of, any
other provisions of Title I 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 Title I (Title I) and the Internal Revenue
Code (the 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. Title I 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
[[Page 82863]]
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;
(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); or
(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 Title I 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(b), 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;
(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 Institution's 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 disclosures set forth
in (1) and (2) to the Retirement Investor:
(1) A written acknowledgment that the Financial Institution and its
Investment Professionals are fiduciaries under Title I and the Code, as
applicable, with respect to any fiduciary investment advice provided by
the Financial Institution or Investment Professional to the Retirement
Investor;
(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; and
(3) Prior to engaging in a rollover recommended pursuant to the
exemption, the Financial Institution provides the documentation of
specific reasons for the rollover recommendation, required by Section
II(c)(3), to the Retirement Investor.
(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 a reasonable person reviewing
the policies and procedures and incentive practices as a whole would
conclude that they do not create an incentive for a Financial
Institution or Investment Professional to place their interests ahead
of the interest of the Retirement Investor.
(3) The Financial Institution documents the specific reasons that
any recommendation to roll over assets from a Plan to another Plan or
an 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 a Senior Executive
Officer.
(3) A Senior Executive Officer of the Financial Institution
certifies, annually, that:
(A) The officer has reviewed the report of the retrospective
review;
[[Page 82864]]
(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, to the extent permitted by law including
12 U.S.C. 484.
(e) Self-Correction. A non-exempt prohibited transaction will not
occur due to a violation of the exemption's conditions with respect to
a transaction, provided:
(1) Either the violation did not result in investment losses to the
Retirement Investor or the Financial Institution made the Retirement
Investor whole for any resulting losses;
(2) The Financial Institution corrects the violation and notifies
the Department of Labor of the violation and the correction via email
to [email protected] within 30 days of correction;
(3) The correction occurs no later than 90 days after the Financial
Institution learned of the violation or reasonably should have learned
of the violation; and
(4) The Financial Institution notifies the person(s) responsible
for conducting the retrospective review during the applicable review
cycle and the violation and correction is specifically set forth in the
written report of the retrospective review required under subsection
II(d)(2).
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
Department 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 or Investment Professional's conduct under the exemption;
in each case, as determined by the Department 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
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 Controlled 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,
21 days after the date of the Department's written denial of the
petition; or (B) 21 days after the date of the written ineligibility
notice, described in subsection (a)(2), issued to the Financial
Institution or another Financial Institution in the same Controlled
Group.
(3) Controlled Group. A Financial Institution is in the same
Controlled Group with another Financial Institution if it would be
considered in the same ``controlled group of corporations'' or ``under
common control'' with the Financial Institution, as those terms are
defined in Code section 414(b) and (c), in each case including the
accompanying regulations.
(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
described under subsection (a)(1) or another Financial Institution in
the same Controlled Group 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 Department by email at [email protected].
(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 Department 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
[[Page 82865]]
Professional or Financial Institution with the opportunity to be heard,
in person or in writing or both, before the Department 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 or
separate administrative 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
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 any authorized employee of the Department or the Department of
the Treasury.
Section V--Definitions
(a) ``Affiliate'' means:
(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.
(b) 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.
(c) 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.
(d) A ``Covered Principal Transaction'' is a principal transaction
that:
(1) For sales to a Plan or an 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 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 an IRA, involves any securities or
investment property.
(e) ``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 five 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.
(f) For purposes of subsection I(c)(1), a fiduciary is
``independent'' of the Financial Institution and Investment
Professional if: (i) The fiduciary is not the Financial Institution,
Investment Professional, or an Affiliate; (ii) the fiduciary does not
have a relationship to or an interest in the Financial Institution,
Investment Professional, or any Affiliate that might affect the
exercise of the fiduciary's best judgment in connection with
transactions covered by the exemption; and (iii) the fiduciary 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 fiduciary's annual revenues based
upon its prior income tax year.
(g) ``Individual Retirement Account'' or ``IRA'' means any plan
that is an account or annuity described in Code section 4975(e)(1)(B)
through (F).
[[Page 82866]]
(h) ``Investment Professional'' means an individual who:
(1) Is a fiduciary of a Plan or an 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).
(i) ``Plan'' means any employee benefit plan described in ERISA
section 3(3) and any plan described in Code section 4975(e)(1)(A).
(j) A ``Related Entity'' is any party that is not an Affiliate, but
in which the Investment Professional or Financial Institution has an
interest that may affect the exercise of its best judgment as a
fiduciary.
(k) ``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 an IRA.
(l) A ``Senior Executive Officer'' is any of the following: The
chief compliance officer, the chief executive officer, president, chief
financial officer, or one of the three most senior officers of the
Financial Institution.
Jeanne Klinefelter Wilson,
Acting Assistant Secretary, Employee Benefits Security, Administration,
U.S. Department of Labor.
[FR Doc. 2020-27825 Filed 12-17-20; 8:45 am]
BILLING CODE 4510-29-P
