As the calendar turned from June to July, long-suffering opponents of the Department of Labor fiduciary rule were supposed to finally see some relief.
It did not go exactly according to plan. DOL responses to a court appeal and a separate Request For Information yielded mixed messages on how the agency will treat the fiduciary rule going forward.
The latter offers the most promise for the industry, with the DOL signaling a willingness to soften the burdensome exemption mandates. At worst, phase two of the rule could be delayed beyond the Jan. 1, 2018, effective date, the DOL suggested.
Phase one of the rule took effect June 9. It requires advisors and agents selling into retirement accounts to act as fiduciaries, make no misleading statements and accept only “reasonable” compensation.
The former response filed in the U.S. Court of Appeals for the 5th Circuit in New Orleans was decidedly not industry friendly. Some analysts had questioned whether President Donald J. Trump’s administration would even defend the fiduciary rule in ongoing litigation.
Labor Secretary Alexander Acosta left no doubt, signing off on a blistering defense of 99 percent of the rule. Why the inconsistent strategy? The answer isn’t as complicated as it might seem.
A lawyer with an extensive background in law, Acosta treated the court case in strict legal terms, analysts say. The Request For Information offers opportunities to remake the rule, and the DOL appears willing to do just that. Friend or Foe? Dissecting DOL Fiduciary Moves
Only One Change
Plaintiffs in the court case include the American Council of Life Insurers, the U.S. Chamber of Commerce and many others. They lost federal court rulings earlier this year and appealed to the 5th Circuit.
Filed July 3, the DOL brief deviated in one respect from the Obama administration: The BICE’s condition restricting class action waivers should be vacated as it applies to arbitration clauses, the brief said.
“The government no longer defends that condition in light of the Acting Solicitor General’s construction of the Federal Arbitration Act in a case pending before the Supreme Court, but that condition is severable from the remainder of the fiduciary rule, as the rule itself makes clear,” the brief said.
That change matters little to the insurance side, said one industry veteran, adding “we can’t arbitrate anyway.”
Otherwise, the agency defended the entire fiduciary scheme, including the controversial BICE. Plaintiffs want most to see the BICE disappear, or at least be amended. It requires significant disclosures to clients, as well as a signed contract, and creates a class-action right to sue.
Sellers will need to comply with the BICE to continue selling variable and fixed indexed annuities on a commission basis.
“DOL reasonably determined, on the basis of the extensive record before it, that conflicted transactions involving certain annuities should be required to satisfy the BICE,” the DOL response read. “DOL concluded that the exemption’s conditions are necessary to protect retirement investors from the harms posed by conflicted transactions involving these complicated products.”
The brief maintained the DOL stance that variable and fixed indexed annuities are too complicated to be sold without investor protections. Government attorneys rejected the idea that annuities are already well-regulated, and that the DOL rule will restrict access to key retirement products.
“DOL reasonably concluded that any contraction in the market share of such products as a result of the fiduciary rule would reflect not harm to consumers but a reduction in mismatched recommendations of products to investors,” the brief stated.
‘Would It Facilitate Advice?’
Industry opponents fared much better in the RFI published July 6. In it, the DOL floated some promising options, and gave wide discretion to industry comment topics.
Annuity advocates most want to see fixed indexed annuities moved from the less-stringent Prohibited Transaction Exemption 84-24, or PTE 84-24.
It could happen.
DOL regulators signaled Thursday that they are keen to explore the advantages and drawbacks of expanding the types of annuities covered under PTE 84-24 as part of a broader review of the fiduciary rule’s exemptions.
“Would it facilitate advice to expand the scope of PTE 84-24 to cover all types of annuities after the end of the transition period on January 1, 2018?” regulators asked.
The answer from the annuity community is an unequivocal yes.
Regulators also indicated an interest in looking at the implications of expanding the definition of what constitutes a financial institution beyond banks, broker- dealers, insurers and registered investment advisors (RIAs).
Expanding the definition of a financial institution to include more independent marketing organizations (IMOs) is a key element in the FIA calculus.
Regulators initially seemed to ignore the status of IMOs, which sell the lion’s share of the $60 billion worth of FIAs sold every year.
But the DOL solution was to set the bar for IMOs to qualify as financial institutions so high that only about a dozen IMOs could even contemplate it.
“Either regulators need to move all FIAs back to the 84-24 exemption and develop a workable exemption so that the bulk of the 300 to 400 IMOs operating in the U.S. can continue selling FIAs,” said Judi Carsrud, government affairs director for the National Association of Insurance and Financial Advisors, “or they can redefine what is a financial institution.”
New Share Classes
Within the RFI, the DOL indicated it is prepared to help advisors with their uphill climb by possibly carving out new exemptions and amending existing ones.
Recent innovations in the financial services industry are helping create more streamlined exemptions and compliance mechanisms, the department said in the 13-page RFI published in the Federal Register.
Innovations include new mutual fund share classes, fee-based annuities, and new advisory reporting and data analytics programs.
“It makes sense for the [fiduciary rule] regulation to be adaptable to the reality of what’s happening,” said Aron Szapiro, director of policy research for mutual fund tracker Morningstar.
With the fiduciary rule seemingly here to stay in one form or another, the exemptions are the most efficient way to amend a rule designed to reduce conflicts of interest among financial advisors.
“It’s easier to create another exemptive class than to get rid of the existing ones,” Szapiro said.
Other policy analysts were more circumspect about the DOL’s latest efforts to gather still more information to be used to fine-tune a policy that is hundreds of pages long and generally unpopular with many — though not all — financial advisors, Carsrud said.
“One more prohibited transaction exemption for mutual fund shares isn’t going to make much of a difference to anybody, I don’t think,” she said.
Possible exemption pathways include a new class of mutual fund shares called “T-shares” that will help advisors maintain traditional commission-based revenue models. Another new mutual fund class known as “clean shares,” anchored in the level-fee model, may reduce conflicted advice.
Fee-based annuities would also seem to “mitigate or even eliminate” potential conflicts of interest, the DOL said.
There’s nothing in the DOL’s information request that indicates the changes regulators are hinting at are too high a hurdle to overcome, though perhaps not by Jan. 1, 2018, when the fiduciary rule is scheduled to be implemented in its entirety, Szapiro said.
But even so, regulators appear open to a rule delay to allow the industry more time to implement new systems and procedures.
“If commenters believe more time would be necessary to build the necessary distribution and compliance structures for such innovations, the Department is interested in information related to the amount of time expected to be required,” the DOL said.