Registered investment advisers, including dual registrant broker-dealers (collectively “advisers”) who provide discretionary investment management services to individual retirement accounts (IRAs), are fiduciaries under the Internal Revenue Code (the “Code”). While the Code does not have a fiduciary standard of care, it does have a duty of loyalty in the sense that most conflicts of interest are prohibited.
The Code prohibits an investment adviser fiduciary to an IRA from using its authority as a fiduciary to receive additional compensation. This means that an adviser with the authority to make asset allocation decisions in an IRA cannot charge a different fee for different investment categories (e.g., equities vs. fixed income) unless a prohibited transaction exemption is available. Alternatively, there are other compensation structures that can be considered.
Advisers who manage IRAs may have discretionary authority to determine the asset allocation among equities and fixed income assets based on the investor’s investment objectives, financial needs and circumstances. The fee charged for this service may be a level fee based on the value of all assets – equity and fixed income; in that case, there would not be a conflict that it was a prohibited transaction. But, let’s suppose the adviser wants to charge one fee for advising on the portion of the investor’s IRA portfolio that is allocated to equities, and a lower fee for the portion allocated to fixed income investments, and the adviser has the discretion to decide how much is allocated to equities and how much is allocated to fixed income. As explained later in this article, the allocation to the higher fees (that is, to equities) is an exercise of discretion that is a conflict and a prohibited transaction because it increases the adviser’s compensation.
Continue reading “Managing IRAs: Charging Different Fees for Different Investments”
To date, 27 states have adopted rules that follow the Suitability in Annuity Transactions Model Regulation issued by the National Association of Insurance Commissioners (NAIC). Recent additions reflected in the following State Fiduciary and Best Interest Development chart include: Hawaii, Maryland, Minnesota, North Carolina, South Carolina, South Dakota and Wisconsin. Also, the chart reflects the Robinhood Financial v. Galvin decision by a Massachusetts Superior Court Judge declaring the Massachusetts fiduciary duty rule unlawful as well as a proposed rule issued by the Nevada Commissioner of Insurance imposing new requirements for training producers in connection with the recommendation of annuities.
To view the updates, visit the Resource page.
Download the chart of all the states.
The SEC and the DOL have separately issued guidance on rollover recommendations – however, a close examination indicates that the guidance by both agencies is very similar. The SEC’s guidance for broker-dealers is in Regulation Best Interest and a recent Staff Bulletin on account recommendations. The DOL’s guidance about rollover recommendations came in the form of an expanded interpretation of fiduciary advice found in the Preamble to PTE 2020-02 and a set of Frequently Asked Questions. These pieces of guidance share the following three principles: (1) a best interest standard, (2) a process to support that best interest standard that requires consideration of relevant factors about the investor, the investor’s current retirement account and the recommended rollover account, and (3) documentation supporting the basis for the recommendation.
There are a few differences between the SEC and the DOL guidance that broker-dealers and their registered representatives should know about, including that the SEC rollover guidance is applicable to a much broader array of retirement plans and accounts, and also that the SEC guidance does not require a disclosure about the best interest reasons for the rollover recommendation as does the DOL under PTE 2020-02.
Continue reading “Rollover Recommendations – Do the SEC and DOL Requirements Align?”
The DOL expanded its interpretation of fiduciary advice in the Preamble to PTE 2020-02 and as a result, many more broker-dealers and their registered representatives (investment professionals) are fiduciaries for their recommendations to retirement investors, including rollover recommendations. Therefore, they will need the protection provided by PTE 2020-02. The PTE contains a number of conditions and if those conditions are not met, a prohibited transaction will result.
The good news is that the PTE provides a self-correction process. Unfortunately, some conditions of the self-correction process are difficult to interpret and additional DOL guidance is needed.
To avoid these challenges, broker-dealers should implement good processes and documentation to satisfy the PTE conditions and closely supervise their investment professionals to ensure that the processes are followed.
Continue reading “What Broker-Dealers Need to Know About Correcting PTE 2020-02 Mistakes”
- PTE 2020-02 requires that financial institutions—such as broker-dealers—mitigate conflicts of interest “to the extent that a reasonable person reviewing the policies and procedures and incentives as a whole would conclude that they do not create an incentive for the firm or the investment professional to place their interests ahead of the interest of the retirement investor”.
- The DOL has issued FAQs that provide examples of mitigation techniques to reduce compliance risks in connection with compensation structures.
- While there are a variety of mitigation techniques that can be used for different types of conflicts, the following two elements need to be part of mitigating every type of conflict: (1) an appropriate best interest process for developing the recommendation; and (2) supervision of the proper implementation of that process.
The DOL’s prohibited transaction exemption (PTE) 2020-02 (Improving Investment Advice for Workers & Retirees), allows broker-dealers and their registered representatives (advisors) to receive conflicted compensation resulting from non-discretionary fiduciary investment advice to private sector tax-qualified and ERISA-governed retirement plans, participants in those plans, and IRA owners. (The PTE refers to those 3 classes of investors as “retirement investors.”) In addition, in the preamble to the PTE, the DOL announced an expanded definition of fiduciary advice, meaning that many more broker-dealers and their advisors are fiduciaries for their recommendations to retirement investors – including rollover recommendations – and therefore, will need the protection provided by the exemption.
Continue reading “Compliance with PTE 2020-02: Mitigating Conflicts of Interest”
Joining the growing number of states who are implementing the National Association of Insurance Commissioners’ (NAIC) model regulation concerning suitability in annuity transactions, New Mexico has issued its best interest rule to become effective on October 1, 2022. The rule will require insurance producers to act in the best interest of a consumer when making a sale or recommendation of an annuity in New Mexico or to a resident of New Mexico and will obligate the insurer to establish and maintain a system to supervise recommendations to ensure compliance.
Continue reading “Recent State Fiduciary and Best Interest Developments: New Mexico Becomes the 20th State to Adopt an NAIC Best Interest Model”
Pennsylvania has adopted legislation implementing the model regulation concerning suitability in annuity transactions adopted by the National Association of Insurance Commissioners (NAIC). This brings to 19 the total number of states adopting the NAIC suitability model. Nevada may be the next state to watch. Nevada’s Securities Administrator has indicated that she is resuming work on the state’s fiduciary rule for investment advisers and broker-dealers and expects to release the rule by November. Stay tuned.
Continue reading “Recent State Fiduciary and Best Interest Developments: Pennsylvania’s New Law; Nevada May be Next”
It may be a New Year, but 2022 is going to seem very familiar to Broker-Dealers (BD) and their Registered Representatives who advise retirement plans and IRAs: they are going to be spending a lot of time working to comply with new exemptions and new ERISA rules coming from the Department of Labor (DOL). As some of these deadlines are right around the corner, in this post we’re going to review the five most common pitfalls and problems we’ve seen clients face, and how to better address them in disclosures and policies and procedures.
So what’s ahead this year regarding fiduciary advice and exemptions? First, DOL is working on a new proposed definition of ERISA fiduciary investment advice to replace the 1975 regulation, and could publish the new proposal for comments this spring. This proposal may also include changes to DOL’s new Prohibited Transaction Exemption 2020-02 (the PTE). If DOL succeeds in rewriting these rules, they likely will go into effect in 2023. That means the current rule and the current version of the PTE will likely remain in effect for the next 12-18 months.
Continue reading “PTE 2020-02 Compliance: Avoiding Five Common Mistakes”
Our recent blog post compared the SEC’s standard of conduct for broker-dealers under Regulation Best Interest (Reg BI) with the standard of conduct for registered investment advisers (RIAs) under the SEC’s Interpretation Regarding Standard of Conduct for Investment Advisers (the RIA Interpretation). Here, we add a comparison of the Department of Labor’s (DOL’s) proposed prohibited transaction exemption, which includes in the preamble an expanded interpretation of who qualifies as an investment advice fiduciary under ERISA and the Internal Revenue Code (the DOL Proposal).
Continue reading “Comparing the DOL Proposal to the Broker-Dealer and RIA Standards of Conduct”
The SEC’s standard of conduct for broker-dealers under Regulation Best Interest (Reg BI) became effective on June 30, 2020. While registered investment advisers (RIAs) always have been subject to a best interest standard of conduct (i.e., the overarching standard that encompasses both the duty of care and the duty of loyalty), the SEC’s clarification of that standard in its Interpretation Regarding Standard of Conduct for Investment Advisers (the RIA Interpretation) has been in effect since July 12, 2019. There are similarities in these two standards, but there are significant differences as well. Here is how the two standards compare:
Continue reading “Comparing the Standard of Conduct: Broker-Dealers vs. Investment Advisers”