Notes from the Initial Review of the DOL’s “Improving Investment Advice for Workers and Retirees”

These notes are based on an initial and cursory review of the proposal and are not comprehensive. Our goal with this document is to identify initial items of interest to those in the insurance industry. This summary does not constitute legal advice. You should contact your attorney for your own legal concerns.

History

The U.S. Department of Labor (DOL) finalized a “fiduciary rule” in 2016 that created new prohibited transaction exemptions.  The “fiduciary rule” was ultimately vacated by the U.S. Court of Appeals for the Fifth Circuit in 2018.  After the “fiduciary rule” was vacated, the DOL stated its intention to introduce a new “fiduciary rule” in the future.

New Proposal

On June 29, 2020, the DOL proposed a new rule titled, “Improving Investment Advice for Workers and Retirees” which will be published in the Federal Register in the near future. Once published, the public will have an opportunity to provide comments (suggestions for changes to the proposal) which the DOL will consider and likely result in the DOL making changes to their initial proposal.  The DOL may then choose to publish the revised proposal and ask for comments again or finalize the revised proposal with an effective date.

Some key points for insurance agents and IMOs:

Summary

The proposal by the DOL essentially creates an exemption from certain prohibited transactions under Employee Retirement Income Security Act (ERISA) and the Internal Revenue Code of 1986, as amended (“the Code”).

The prohibited transaction provisions of ERISA and the Code generally prohibit fiduciaries with respect to employee benefit plans (“Plans”) and individual retirement accounts and annuities (“IRAs”) from receiving compensation from third parties in connection with transactions involving the Plans and IRAs.

The proposed exemption would be available to registered investment advisers, broker-dealers, banks, and insurance companies (Financial Institutions) and their individual employees, agents, and representatives (Investment Professionals) that provide fiduciary investment advice to Retirement Investors.

The proposal defines Retirement Investors as Plan participants and beneficiaries, IRA owners, and Plan and IRA fiduciaries.

Five-Part Test

The five-part test of investment advice fiduciary status (to determine when someone who provides investment advice is a fiduciary) remains intact and the DOL provided guidance on several “prongs” of the five-part test. 

All prongs of the five-part test must be satisfied for the investment advice provider to be a fiduciary within the meaning of the regulatory definition, including the “regular basis” prong and the prongs requiring the advice to be provided pursuant to a “mutual” agreement, arrangement, or understanding that the advice will serve as “a primary basis” for investment decisions.

It appears that the DOL believes most situations involving an Investment Professional (including an insurance agent) giving advice regarding Plans and IRAs (for example in a rollover recommendation) for compensation would meet the five-part test and be considered a fiduciary.

Many Types of Compensation Available

Under the exemption, Financial Institutions and Investment Professionals could receive a wide variety of payments that would otherwise violate the prohibited transaction rules, including, but not limited to, commissions, 12b-1 fees, trailing commissions, sales loads, mark-ups and mark-downs, and revenue sharing payments from investment providers or third parties.

Alignment with Other Regulations

The proposal mentions the SEC’s Regulation Best Interest and Form CRS, New York’s best interest regulation for life insurance and annuities, Massachusetts’ fiduciary conduct standard for broker-dealers, and the NAIC’s best interest model for annuity transactions.  In the DOL’s view, its approach utilizing “Impartial Conduct Standards” are aligned with those of other regulators.

Impartial Conduct Standards

The exemption requires compliance with three “Impartial Conduct Standards” which include 1) a best interest standard, 2) a reasonable compensation standard, and 3) a requirement to make no misleading statements.

Disclosures to Retirement Investors

Written disclosure must be provided to Retirement Investors that the Financial Institution and the Investment Professional are fiduciaries under ERISA and the Code with respect to any fiduciary investment advice provided by the Financial Institution or Investment Professional to the Retirement Investor.  The Financial Institution must provide a written description of the services to be provided and any material conflicts of interest arising out of the services and any recommended investment transaction.  The description must be accurate in all material respects.

Oversight

Financial Institutions would be required to adopt policies and procedures prudently designed to ensure compliance with the Impartial Conduct Standards and conduct a retrospective review of compliance.

The exemption requires Financial Institutions to provide reasonable oversight of Investment Professionals and to adopt a culture of compliance.

The proposal further provides that Financial Institutions and Investment Professionals would be ineligible to rely on the exemption if, within the previous 10 years, they were convicted of certain crimes arising out of their provision of investment advice to Retirement Investors; they would also be ineligible if they engaged in systematic or intentional violation of the exemption’s conditions or provided materially misleading information to the DOL in relation to their conduct under the exemption.

Insurance Industry

Insurance companies commonly compensate insurance agents on a commission basis, which generally creates prohibited transactions when insurance agents are investment advice fiduciaries that provide investment advice to Retirement Investors in connection with the sales. However, the DOL is aware that insurance companies often sell insurance products and fixed (including indexed) annuities through different distribution channels than broker-dealers and registered investment advisers. While some insurance agents are employees of an insurance company, other insurance agents are independent, and work with multiple insurance companies.

The proposed exemption would apply to either of these business models. Insurance companies can supervise independent insurance agents and they can also create oversight and compliance systems through contracts with intermediaries such as independent marketing organizations (IMOs), field marketing organizations (FMOs) or brokerage general agencies (BGAs). Eligible parties can also continue to use relief under the existing exemption for insurance transactions, PTE 84-24, as an alternative. The Department requests comment on these suggestions, and whether there are alternatives for oversight of investment advice fiduciaries who also serve as insurance agents.

The proposal also allows the definition of Financial Institution to expand after the exemption is finalized based upon subsequent grants of individual exemptions to additional entities that are investment advice fiduciaries that meet the five-part test seeking to be treated as covered Financial Institutions. Additional types of entities, such as IMOs, FMOs, or BGAs, that are investment advice fiduciaries may separately apply for relief for the receipt of compensation in connection with the provision of investment advice on the same conditions as apply to the Financial Institutions covered by the proposed exemption.30 If the Department grants an individual exemption under ERISA section 408(a) and Code section 4975(c) after the date this exemption is granted, the expanded definition of Financial Institution in the individual exemption would be added to this class exemption so other entities that satisfy the definition could similarly use the class exemption.