The U.S. Department of Labor’s final rule requiring advisors to abide by a fiduciary standard when advising on retirement accounts, released on April 6, was hardly a shocker.
“If someone was unaware there was going to be a change in the definition of ‘fiduciary,’ they’ve been living under a rock,” says ERISA attorney Marcia Wagner. “The Department of Labor was screaming this from the rooftops for six years.”
What has surprised—and may make it a little easier for advisors working in the 401(k) plan space—is how much the DOL listened to industry concerns about its proposed rule and made concessions, says Wagner, the founder and managing director of the Wagner Law Group, a Boston-headquartered firm focused on ERISA and employee benefits, estate planning and labor and employment law.
Although “it’s still going to be quite an undertaking,” she says, “I actually think the rule might now be workable whereas initially I was concerned that frankly it wouldn’t be.”
The final rule stretches its implementation deadline to one year (next April) and gives advisors until January 1, 2018, to fully comply. A “best interest contract”—an agreement that allows advisors to recommend commission-based investments if it’s in the client’s best interest and the advisor’s potential compensation is disclosed—is no longer required per se for ERISA plans and plan participants, she says, although it is for IRAs. The rule also includes a negative consent provision for existing clients; those who don’t respond within 30 days of receiving the contract are assumed to automatically acquiesce.
The final rule doesn’t limit which asset classes are covered by “best interest contract” exemptions, which enable advisors to earn commissions. That’s a big shift from the 2015 proposal that excluded non-publicly traded REITs, alternative investments, private equity and certain types of debt. “I’m happy that the Department of Labor decided not to get into the business of picking what products are or are not appropriate for the retail marketplace,” says Wagner.
Unlike the initial proposal, the rule also permits smaller defined contribution plans (those with fewer than 100 participants) to qualify for BIC exemptive relief—which she had predicted was extremely likely.
Although the final rule isn’t as harsh as its most recent proposal, Wagner cautions that advisors still need to be aware of the entire rule. “They need to partner with people who understand it and can explain to them what their next steps are,” she says. Financial firms should also be starting to perform what she calls “ERISA triage.”
According to Wagner, advisors need to make some determinations. First, they should ask themselves if they’re going to stay in the qualified plan and IRA marketplace. If yes, the next questions are, “Am I going to get fixed fees (i.e., levelized compensation) or variable compensation?” and “Am I going to continue to try to get rollover assets?”
“The answers to these three questions are going to be extremely determinative of how they have to go forward with respect to new clients,” Wagner says, “and how they’re going to behave in this new world.”
Those receiving variable compensation—registered investment advisors who are servicing IRA rollovers, for example—will require best-interest-contract exemptions. The same goes for using variable annuities. “I think people will be able to sell annuities; they’re just going to have to learn to know and love the BIC,” she says. She also expects to see the development of more products in the annuity and alternative investment worlds that attempt to levelize compensation.
Advisors can take comfort that the final rule includes a grandfathering provision that allows for continued compensation from assets acquired before the rule’s applicability date, notes Wagner. But after that, the rule indicates, “additional advice must satisfy the basic best interest and reasonable compensation requirements.”
Advisors should provide significant outreach to clients who are 401(k) plan sponsors and IRA account holders, Wagner says. She suggests using a prewritten talking point or memo to explain the new rule. “I would stick pretty much to script and let people know exactly what’s going on,” she says. She is providing her clients with scripts explaining the issues of disclosures, fees, fiduciary responsibility and transparency that the government thinks are important and also the new protocols that will be in place.
Advisors should be dividing assets under management by what is going to be subject to the exemptions, what is going to be subject to levelized compensation and what may be better done by robo-advisors, says Wagner.
“I do think the Department of Labor has been reasonable in trying to ameliorate the worst aspects of the proposal, and I think that’s very helpful,” says Wagner. Still, the amount of disclosure required will be extremely difficult to get 100% correct, and she adds, “I think embedded in the BIC contract is a private right of action for class action lawsuits.” There’s also the cost of implementation. “Look at what it took the industry to get the 408(b)(2) disclosures done a few years ago,” she says. “This is going to be magnitudes larger than that.”
Voice of Calm
Janus Capital Group, which has more than $21 billion in defined contribution assets across 225 different platforms, has been considering the implications of the fiduciary rule and providing thought leadership to its clients—including wirehouses, independent broker-dealers and insurance companies. The Denver-based investment management firm aims to be “a voice of calm and a technical resource,” says Russ Shipman, senior vice president and managing director of the Retirement Strategy Group at Janus Capital Group.
A month ago, the thought of advisors striking up conversations about financial planning at cocktail parties seemed like a potential landmine. But upon first review of the just-released rule, a casual conversation around the merits of staying in-plan versus rolling over to an IRA, for example, “would not require the feared ‘disclosure paperwork’ ahead of time,” he says. “That is a massively positive development, as it may have had a chilling effect on the delivery of good and valuable investment and wealth management advice.”