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Inside the DOL's War on Annuities

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Business for annuity agents will change under the Department of Labor’s fiduciary rule — but will it be a significant shift or a disastrous disruption?
That’s the question many are asking as the DOL prepares the final version of its rule. More than five years after the regulation was first proposed and then re-proposed, it appears the DOL will publish its final rule in 2016. 
 
It is designated the “Conflict of Interest” rule by the DOL, a reference to how financial professionals are compensated. In fact, many of the rule’s opponents say the department is trying to force everyone — agents, broker/dealers and advisors — into a ubiquitous, fee-based system. And it seems that rule proponents are saying that’s not such a bad outcome. 
 
The DOL fiduciary rule was released in April and vetted throughout the summer, culminating with the department’s own four-day public hearing in August. DOL staffers are secluded with more than 391,000 comments and petitions, having vowed to take every one seriously and amend the rule accordingly.
Although opponents of the rule are fighting the regulation in the Obama administration and in Congress, the consensus seems to be that the rule will go into effect in some form.
 
The rule is expected to be published in the spring, followed by an eight-month transition period. That would put the regulation in line to become effective before President Barack Obama leaves office in January 2017.
 
Annuity products are specifically targeted by the rule. In particular, the sale of fixed index annuities (FIAs) and variable annuities (VAs).
 
Under current rules, commissions and other compensation are permissible if the conditions of Prohibited Transaction Exemption (PTE) 84-24 are met. 
 
For insurance agents who don’t sell annuities, your life will basically remain the same. But if you offer annuities, here are the significant changes:
 
  • Fixed annuities, including FIAs, will remain covered by PTE 84-24, and agents can continue accepting commissions. However, the exemption is beefed up to include an “impartial conduct standard” that bans all other forms of compensation, including incentives, revenue-sharing and bonuses. In the new rule, agents would need to provide disclosures covering fixed products and total compensation received.
  • VAs were removed from 84-24. In order to sell VAs with commissions, financial professionals need to adhere to the Best Interest Contract exemption, which includes a signed contract with the client and several disclosures on the product and any compensation received.
“The proposed changes to how annuities are sold will unnecessarily burden agents and cause many to leave the business,” said Kim O’Brien, CEO of Americans for Annuity Protection, an organization advocating for annuity access. “Study after study of annuity purchases demonstrates higher consumer satisfaction with both the product and the sales process than any other financial product.”
 
The DOL might not stop there. The department’s staffers have indicated that they might pull FIAs from the 84-24 exemption and treat them the same as VAs, according to an insurance executive who met with top-level staff members.
 
“Basically, they said that four days after they released their proposal in April, they realized they had made a mistake and that indexed annuities shouldn’t have been treated like fixed annuities in their rule proposal,” said John E. Dunn, who is vice president and investment products and services counsel at Northwestern Mutual.
 
For agents, the fiduciary rule brings a substantial regulatory burden to the selling process. If the DOL goes all the way and removes FIAs from PTE 84-24, it will add one more hurdle: A signed contract must be executed before the agent can talk specifics.
 
Although the DOL may delay when a contract would have to be signed, the impact on agents and clients is undeniable, O’Brien said.
 
For small savers, it “will mean the loss of crucial retirement saving options at a time when they need them most,” she said.
 

‘Am I now a fiduciary?’

The foremost concern for anyone working in the retirement plan space hangs on one question. Every impact of the new rule on agents hinges on this distinction. 
“There’s probably some hoops that they’re going to have to jump through. And the first one is, ‘Am I now a fiduciary?’” said Cathy Weatherford, president and CEO of the Insured Retirement Institute, which opposes the rule. 
 
The proposed new rules broaden the circumstances under which an advice provider will be treated as providing investment advice in a fiduciary role.The broader scope of the rule also covers advice to individual retirement accounts (IRAs) and their owners.
 
In short, any individual being paid for providing advice that is “individualized or specifically directed” to a retirement plan sponsor, plan participant or IRA owner that affects a retirement investment decision is a fiduciary. The fiduciary status applies for each transaction only, unless an exemption is granted.
 
Such decisions can include what assets to purchase or sell, whether to roll over from an employer-based plan to an IRA, and recommending an advisor. The seller can be a broker, registered investment advisor, insurance agent or other type of advisor.
 
Being a fiduciary under the new rule does not mean a seller has to recommend the lowest-fee option, experts say. Fiduciary means acting in a client’s best interest, and other factors such as risk tolerance can be part of the recommendation. Many rule opponents say the suitability standard already requires many elements of the best-interest standard.
 

Compensation Changes

The rule prohibits a fiduciary from accepting any payment creating a conflict of interest, unless the fiduciary qualifies for an exemption. Examples of what the DOL considers “conflicted” compensation include brokerage or insurance commissions, mutual fund fees and revenue-sharing payments.
 
This is a big change driving concern throughout the industry. While many financial firms have been migrating toward a “hybrid” model combining commission and fee-based components, the DOL would accelerate the fee model. 
 
Sixty-six percent of financial advisors charge some combination of fees and commissions, according to 2014 research by Cerulli Associates.
 
At the firm level, a major decision will be necessary on whether to abandon the commission-based system for fees. The rule allows those companies servicing retirement accounts to continue under the former system, as long as they comply with the BIC.
 
If FIAs are treated the same as VAs in the final rule, insurance firms will be facing this decision as well.
 
What the BIC ends up mandating will be crucial in making that call. As written, its arduous disclosure requirements will require companies to add technology and hire extra staff to keep up with compliance regulation.
 
Jules O. Gaudreau Jr. is president of The Gaudreau Group, a multiline insurance and financial services agency based in Wilbraham, Mass. The agency insures more than 5,000 businesses and families in 12 states and has annual sales of more than $80 million.
 
Gaudreau, who recently took over as president of the National Association of Insurance and Financial Advisors (NAIFA), has long-term concerns about the financial services industry if its compensation model is changed so drastically. After all, the commission-based formula has long been the way the industry attracts and retains new financial experts, he said.
 
The insurance business already has a high attrition rate without adding another factor, Gaudreau said.
 
The DOL rule stipulates that agents collect “no more than reasonable compensation,” be it fees or commissions, but the department has not clarified further how it will define that standard.
 
“What is ‘reasonable compensation?’” Gaudreau asked. “Everybody is so concerned about what everybody is making … but I don’t know how you decide that.”
 
 

Push to Fees?

Labor Department foes say the Obama administration is trying to push the financial services industry into a fee-based model.
 
Cerulli Associates’ data shows the industry is already moving in that direction. 
 
Many financial professionals say the DOL’s stifling regulation will leave low-income savers on the outside.
 
“Certain broker/dealers or large institutions would simply say to their advisors or their representatives that due to the litigious nature of our society and our fear of liability that we’re just simply not going to allow our reps to work with clients below a certain number of assets,” Gaudreau said. 
 
Carl Wilkerson, vice president and chief counsel of securities and litigation for the American Council of Life Insurers, pointed to the ongoing problems the United Kingdom is experiencing after abolishing commissions in 2012.
 
Studies show 11 million small savers have fallen through the cracks since the UK adopted a similar fee-based system, he told the DOL at an August public hearing.
 
The DOL fiduciary rule includes several waivers, known as “carve-outs.” These are designed to exempt certain individuals and activities from the rule, as well as to allow commission-based compensation structures to continue.
 
The carve-outs and exemptions are focused on allowing four significant activities to continue:
 
  • Order takers. When a customer calls a broker and tells the broker exactly what to buy or sell without asking for advice, that transaction does not constitute investment advice. In such circumstances, the broker has no fiduciary responsibility to the client.
  • Education. As written, the rule permits advisors and plan sponsors to continue to provide general education on retirement saving across employment-based plans and IRAs without triggering fiduciary duties. As an example, education could consist of general information about the mix of assets an average person should have based on their age, income and other circumstances, while avoiding suggesting specific stocks, bonds or funds that should constitute that mix.
    The education aspect is under scrutiny, and changes are expected here.
  • BIC exemption. Also expected to change in the final rule, the BIC allows members of the industry to continue to set their own compensation practices so long as they, among other things, commit to putting their clients’ best interests first and to disclose any conflicts that may prevent them from doing so. Common forms of compensation in use today in the financial services industry, such as commissions and revenue sharing, will be permitted under this exemption, whether paid by the client or a third party such as a mutual fund.
  • Sales pitches. Most large-plan sponsors (with more than 100 employees) are managed by financial professionals acting as fiduciaries. With that in mind, this carve-out will permit brokers to make sales pitches to these large plan sponsors in a nonfiduciary role. 
 
The DOL opened the door for another exemption that would permit “conflicted” compensation to financial professionals recommending “certain low-fee investments.” While the idea appears aimed at small savers, it is unknown whether the DOL will follow through and offer this exemption in the final rule.
 
A DOL spokesman declined comment on any possible changes to the rule.
 
Labor Secretary Thomas Perez frequently touts online investment advice as a way to serve people with small accounts in rural America and elsewhere. During a June 17 congressional hearing, he called technology “a linchpin to the innovation that’s enabling more people to get access to advice.”
 
The secretary’s message is clear: Robo-advisors can fill the void for small savers needing financial advice. Industry observers, even some who support the rule, do not agree.
 
In addition to being a law professor, Mercer Bullard has testified before Congress on a number of regulatory reform initiatives. As the vice president of Plancorp, Bullard calls himself “a leading advocate for investors.”
 
“I disagree with the idea that robo-advisors are a relevant substitute for services provided by financial advisors,” Bullard said. “Robo-advisors are simply an inferior choice compared to an insurance agent, broker or financial planner.”
 

Educational Aspect

Tied to fiduciary status is the education aspect. In the new fiduciary world, all agents selling in the retirement planning space need to behave cautiously while discussing saving and investing. 
 
Particularly in the early era of the new rules, the line between education and advice will take getting used to. Further clarification from the DOL will be helpful, experts say.
 
As it stands, providing general investment information does not trigger fiduciary status. Anything beyond that has financial professionals nervous. It is permissible under current FINRA rules to provide information about the options a person has when leaving an employer as long as there is no “call to action.”
 
“I think they will be using the FINRA definition of recommendation, so I think they will expand the definition of education,” said Judi Carsrud, a legislative analyst for NAIFA, which opposes the rule.
 
At a recent LIMRA conference in Boston, James Jorden, a shareholder in Carlton Fields Jorden Burt law firm, said many innocuous day-to-day educational activities must be viewed through fiduciary eyes once the rule becomes law. 
 
He gave an example: “An employee who is 90 percent invested in company stock receives a flier detailing the benefits of diversification and the risks associated with individual securities.”
 
Fiduciary act or not? The activity “could be interpreted as rendering advice for a fee,” said Jorden, who represents financial institutions in securities, corporate and pension litigation.
 
As long as financial professionals steer clear of specific recommendations, the rule does allow for a bevy of educational activities seen as crucial to the industry business model. They include:
 
  • Information about a retirement plan or IRA, such as information about the costs and benefits of rollovers, risk and return characteristics and historical return information of investments within the plan.
  • Information about various financial, investment and retirement concepts, such as diversification, dollar cost averaging, compound interest, tax deferral, historic differences in performance among asset classes, effects of inflation and risk tolerance.
  • Asset allocation models that portray portfolios of hypothetical individuals with different time horizons and risk profiles.
  • Interactive investment materials that estimate future retirement income needs and assess the impact of different asset allocations on retirement income. 

Three Possible Penalties

Among things to be revealed in the final rule are specifics on compliance terms. Some believe that the DOL will expect compliance during the eight-month implementation period but will not enforce penalties during that period.
 
Attorneys on all sides are wondering if the DOL will grant any “grandfathering” terms for ongoing accounts. Otherwise, the department has not communicated how existing accounts and relationships will be treated under the new rule.
 
The rule subjects financial professionals to three possible compliance actions, the DOL said:
 
  • DOL enforcement. The department has the right to bring enforcement actions against fiduciary advisors who do not provide advice in their clients’ best interests.
  • Arbitration. The BIC allows customers to hold fiduciary advisors accountable for providing advice in their best interests through a private right of action for breach of contract. This feature of the best-interest contract exemption is modeled on the rules under FINRA, which is a nongovernmental organization that regulates advice by brokers to invest in securities but not other types of retirement savings covered by ERISA.
  • An IRS “excise tax.” The IRS can impose a tax on transactions based on conflicted advice that is not eligible for one of the many proposed exemptions. The rule does not indicate how these fines would be calculated.
 
Foes on both sides of the fiduciary debate generally agree it will lead to lawsuits. But rule proponents say that’s a good thing.
 
“Consumer litigation firms will have a better understanding as they bring lawsuits against investment advisors who violate this, and they will be able to use the books and records of the companies to build a case,” said Bartlett Naylor, financial policy advocate for Public Citizen, which supports the rule. “Presumably, the existence of that litigation machinery will itself be a deterrent and a remedial factor.”
 

Small Plan Issues

Even proponents of the DOL’s efforts say its treatment of small plans needs to be changed to better serve small investors. 
 
The fiduciary rule applies without exception to all plans with fewer than 100 participants, while larger plans can qualify for “carve-outs” exempting them from the regulations. To the DOL, the thought is that bigger plan sponsors have existing internal fiduciary protections.
 
Critics have said the fiduciary-only mandate will deter small employers from even offering retirement plans. Those smaller employers don’t want to have to pay advisors out of company funds. As a result, plan compensation tends to be commission-based, opponents have said.
 
Both sides say the DOL is likely to tweak the rule to permit more flexibility for small-plan investing.
 
Restrictions on proprietary products are another area critics are hoping the department pays heed to the comments it received.
 
On one side, the DOL insists that offering a limited range of proprietary products cannot serve the best interests of the client. The industry maintains that the DOL’s stifling fiduciary-only rule will discourage investors from buying retirement savings products at all.
 

Potential Changes

While Secretary Perez remains coy on possible changes, a consensus of sorts has emerged on what to look for. InsuranceNewsNet talked to several advisors, consultants, analysts and other industry officials, and they expected changes including:
  • Delaying signature of the Best Interest Contract (BIC) Exemption. Atop the list of industry concerns, the BIC proposal would require a contract with clients before any financial discussions take place. It appears the DOL recognizes how paralyzing that could be for the industry and will push the contract signing deadline back.
  • Streamlining some of the disclosure requirements. During public hearings with the DOL, industry representatives said the disclosure information — which includes descriptions of material conflicts of interest, a statement about all fees and any third-party payments, among others — would be very costly and time consuming to track. 
    “I believe the DOL has been convinced that there just aren’t the systems in place to do that,” said Fred Reish, a partner at Drinker Biddle & Reath and a longtime industry analyst.
  • Relaxing some of the education definitions. Under the proposed rule, some common planning tools such as asset allocation models could trigger fiduciary status.
 
Regardless of the changes, Gaudreau of NAIFA said the fiduciary rule occupies the top three most important items on his agenda. He predicts “unforeseen consequences” two or three years down the road that will lead to “everything being redefined again.” The cost to the industry will be significant, he added.
 
“The increased cost of business as a result of that liability and compliance with the rule is really what has frightened our members,” said Gaudreau, adding that agents always put clients first and the debate over the rule has never been over whether they should “act in the best interest.” 
 

 

Business for annuity agents will change under the Department of Labor’s fiduciary rule — but will it be a significant shift or a disastrous disruption?
That’s the question many are asking as the DOL prepares the final version of its rule. More than five years after the regulation was first proposed and then re-proposed, it appears the DOL will publish its final rule in 2016. 
 
It is designated the “Conflict of Interest” rule by the DOL, a reference to how financial professionals are compensated. In fact, many of the rule’s opponents say the department is trying to force everyone — agents, broker/dealers and advisors — into a ubiquitous, fee-based system. And it seems that rule proponents are saying that’s not such a bad outcome. 
 
The DOL fiduciary rule was released in April and vetted throughout the summer, culminating with the department’s own four-day public hearing in August. DOL staffers are secluded with more than 391,000 comments and petitions, having vowed to take every one seriously and amend the rule accordingly.
Although opponents of the rule are fighting the regulation in the Obama administration and in Congress, the consensus seems to be that the rule will go into effect in some form.
 
The rule is expected to be published in the spring, followed by an eight-month transition period. That would put the regulation in line to become effective before President Barack Obama leaves office in January 2017.
 
Annuity products are specifically targeted by the rule. In particular, the sale of fixed index annuities (FIAs) and variable annuities (VAs).
 
Under current rules, commissions and other compensation are permissible if the conditions of Prohibited Transaction Exemption (PTE) 84-24 are met. 
 
For insurance agents who don’t sell annuities, your life will basically remain the same. But if you offer annuities, here are the significant changes:
 
  • Fixed annuities, including FIAs, will remain covered by PTE 84-24, and agents can continue accepting commissions. However, the exemption is beefed up to include an “impartial conduct standard” that bans all other forms of compensation, including incentives, revenue-sharing and bonuses. In the new rule, agents would need to provide disclosures covering fixed products and total compensation received.
  • VAs were removed from 84-24. In order to sell VAs with commissions, financial professionals need to adhere to the Best Interest Contract exemption, which includes a signed contract with the client and several disclosures on the product and any compensation received.
“The proposed changes to how annuities are sold will unnecessarily burden agents and cause many to leave the business,” said Kim O’Brien, CEO of Americans for Annuity Protection, an organization advocating for annuity access. “Study after study of annuity purchases demonstrates higher consumer satisfaction with both the product and the sales process than any other financial product.”
 
The DOL might not stop there. The department’s staffers have indicated that they might pull FIAs from the 84-24 exemption and treat them the same as VAs, according to an insurance executive who met with top-level staff members.
 
“Basically, they said that four days after they released their proposal in April, they realized they had made a mistake and that indexed annuities shouldn’t have been treated like fixed annuities in their rule proposal,” said John E. Dunn, who is vice president and investment products and services counsel at Northwestern Mutual.
 
For agents, the fiduciary rule brings a substantial regulatory burden to the selling process. If the DOL goes all the way and removes FIAs from PTE 84-24, it will add one more hurdle: A signed contract must be executed before the agent can talk specifics.
 
Although the DOL may delay when a contract would have to be signed, the impact on agents and clients is undeniable, O’Brien said.
 
For small savers, it “will mean the loss of crucial retirement saving options at a time when they need them most,” she said.
 

‘Am I now a fiduciary?’

The foremost concern for anyone working in the retirement plan space hangs on one question. Every impact of the new rule on agents hinges on this distinction. 
“There’s probably some hoops that they’re going to have to jump through. And the first one is, ‘Am I now a fiduciary?’” said Cathy Weatherford, president and CEO of the Insured Retirement Institute, which opposes the rule. 
 
The proposed new rules broaden the circumstances under which an advice provider will be treated as providing investment advice in a fiduciary role.The broader scope of the rule also covers advice to individual retirement accounts (IRAs) and their owners.
 
In short, any individual being paid for providing advice that is “individualized or specifically directed” to a retirement plan sponsor, plan participant or IRA owner that affects a retirement investment decision is a fiduciary. The fiduciary status applies for each transaction only, unless an exemption is granted.
 
Such decisions can include what assets to purchase or sell, whether to roll over from an employer-based plan to an IRA, and recommending an advisor. The seller can be a broker, registered investment advisor, insurance agent or other type of advisor.
 
Being a fiduciary under the new rule does not mean a seller has to recommend the lowest-fee option, experts say. Fiduciary means acting in a client’s best interest, and other factors such as risk tolerance can be part of the recommendation. Many rule opponents say the suitability standard already requires many elements of the best-interest standard.
 

Compensation Changes

The rule prohibits a fiduciary from accepting any payment creating a conflict of interest, unless the fiduciary qualifies for an exemption. Examples of what the DOL considers “conflicted” compensation include brokerage or insurance commissions, mutual fund fees and revenue-sharing payments.
 
This is a big change driving concern throughout the industry. While many financial firms have been migrating toward a “hybrid” model combining commission and fee-based components, the DOL would accelerate the fee model. 
 
Sixty-six percent of financial advisors charge some combination of fees and commissions, according to 2014 research by Cerulli Associates.
 
At the firm level, a major decision will be necessary on whether to abandon the commission-based system for fees. The rule allows those companies servicing retirement accounts to continue under the former system, as long as they comply with the BIC.
 
If FIAs are treated the same as VAs in the final rule, insurance firms will be facing this decision as well.
 
What the BIC ends up mandating will be crucial in making that call. As written, its arduous disclosure requirements will require companies to add technology and hire extra staff to keep up with compliance regulation.
 
Jules O. Gaudreau Jr. is president of The Gaudreau Group, a multiline insurance and financial services agency based in Wilbraham, Mass. The agency insures more than 5,000 businesses and families in 12 states and has annual sales of more than $80 million.
 
Gaudreau, who recently took over as president of the National Association of Insurance and Financial Advisors (NAIFA), has long-term concerns about the financial services industry if its compensation model is changed so drastically. After all, the commission-based formula has long been the way the industry attracts and retains new financial experts, he said.
 
The insurance business already has a high attrition rate without adding another factor, Gaudreau said.
 
The DOL rule stipulates that agents collect “no more than reasonable compensation,” be it fees or commissions, but the department has not clarified further how it will define that standard.
 
“What is ‘reasonable compensation?’” Gaudreau asked. “Everybody is so concerned about what everybody is making … but I don’t know how you decide that.”
 
 

Push to Fees?

Labor Department foes say the Obama administration is trying to push the financial services industry into a fee-based model.
 
Cerulli Associates’ data shows the industry is already moving in that direction. 
 
Many financial professionals say the DOL’s stifling regulation will leave low-income savers on the outside.
 
“Certain broker/dealers or large institutions would simply say to their advisors or their representatives that due to the litigious nature of our society and our fear of liability that we’re just simply not going to allow our reps to work with clients below a certain number of assets,” Gaudreau said. 
 
Carl Wilkerson, vice president and chief counsel of securities and litigation for the American Council of Life Insurers, pointed to the ongoing problems the United Kingdom is experiencing after abolishing commissions in 2012.
 
Studies show 11 million small savers have fallen through the cracks since the UK adopted a similar fee-based system, he told the DOL at an August public hearing.
 
The DOL fiduciary rule includes several waivers, known as “carve-outs.” These are designed to exempt certain individuals and activities from the rule, as well as to allow commission-based compensation structures to continue.
 
The carve-outs and exemptions are focused on allowing four significant activities to continue:
 
  • Order takers. When a customer calls a broker and tells the broker exactly what to buy or sell without asking for advice, that transaction does not constitute investment advice. In such circumstances, the broker has no fiduciary responsibility to the client.
  • Education. As written, the rule permits advisors and plan sponsors to continue to provide general education on retirement saving across employment-based plans and IRAs without triggering fiduciary duties. As an example, education could consist of general information about the mix of assets an average person should have based on their age, income and other circumstances, while avoiding suggesting specific stocks, bonds or funds that should constitute that mix.
    The education aspect is under scrutiny, and changes are expected here.
  • BIC exemption. Also expected to change in the final rule, the BIC allows members of the industry to continue to set their own compensation practices so long as they, among other things, commit to putting their clients’ best interests first and to disclose any conflicts that may prevent them from doing so. Common forms of compensation in use today in the financial services industry, such as commissions and revenue sharing, will be permitted under this exemption, whether paid by the client or a third party such as a mutual fund.
  • Sales pitches. Most large-plan sponsors (with more than 100 employees) are managed by financial professionals acting as fiduciaries. With that in mind, this carve-out will permit brokers to make sales pitches to these large plan sponsors in a nonfiduciary role. 
 
The DOL opened the door for another exemption that would permit “conflicted” compensation to financial professionals recommending “certain low-fee investments.” While the idea appears aimed at small savers, it is unknown whether the DOL will follow through and offer this exemption in the final rule.
 
A DOL spokesman declined comment on any possible changes to the rule.
 
Labor Secretary Thomas Perez frequently touts online investment advice as a way to serve people with small accounts in rural America and elsewhere. During a June 17 congressional hearing, he called technology “a linchpin to the innovation that’s enabling more people to get access to advice.”
 
The secretary’s message is clear: Robo-advisors can fill the void for small savers needing financial advice. Industry observers, even some who support the rule, do not agree.
 
In addition to being a law professor, Mercer Bullard has testified before Congress on a number of regulatory reform initiatives. As the vice president of Plancorp, Bullard calls himself “a leading advocate for investors.”
 
“I disagree with the idea that robo-advisors are a relevant substitute for services provided by financial advisors,” Bullard said. “Robo-advisors are simply an inferior choice compared to an insurance agent, broker or financial planner.”
 

Educational Aspect

Tied to fiduciary status is the education aspect. In the new fiduciary world, all agents selling in the retirement planning space need to behave cautiously while discussing saving and investing. 
 
Particularly in the early era of the new rules, the line between education and advice will take getting used to. Further clarification from the DOL will be helpful, experts say.
 
As it stands, providing general investment information does not trigger fiduciary status. Anything beyond that has financial professionals nervous. It is permissible under current FINRA rules to provide information about the options a person has when leaving an employer as long as there is no “call to action.”
 
“I think they will be using the FINRA definition of recommendation, so I think they will expand the definition of education,” said Judi Carsrud, a legislative analyst for NAIFA, which opposes the rule.
 
At a recent LIMRA conference in Boston, James Jorden, a shareholder in Carlton Fields Jorden Burt law firm, said many innocuous day-to-day educational activities must be viewed through fiduciary eyes once the rule becomes law. 
 
He gave an example: “An employee who is 90 percent invested in company stock receives a flier detailing the benefits of diversification and the risks associated with individual securities.”
 
Fiduciary act or not? The activity “could be interpreted as rendering advice for a fee,” said Jorden, who represents financial institutions in securities, corporate and pension litigation.
 
As long as financial professionals steer clear of specific recommendations, the rule does allow for a bevy of educational activities seen as crucial to the industry business model. They include:
 
  • Information about a retirement plan or IRA, such as information about the costs and benefits of rollovers, risk and return characteristics and historical return information of investments within the plan.
  • Information about various financial, investment and retirement concepts, such as diversification, dollar cost averaging, compound interest, tax deferral, historic differences in performance among asset classes, effects of inflation and risk tolerance.
  • Asset allocation models that portray portfolios of hypothetical individuals with different time horizons and risk profiles.
  • Interactive investment materials that estimate future retirement income needs and assess the impact of different asset allocations on retirement income. 

Three Possible Penalties

Among things to be revealed in the final rule are specifics on compliance terms. Some believe that the DOL will expect compliance during the eight-month implementation period but will not enforce penalties during that period.
 
Attorneys on all sides are wondering if the DOL will grant any “grandfathering” terms for ongoing accounts. Otherwise, the department has not communicated how existing accounts and relationships will be treated under the new rule.
 
The rule subjects financial professionals to three possible compliance actions, the DOL said:
 
  • DOL enforcement. The department has the right to bring enforcement actions against fiduciary advisors who do not provide advice in their clients’ best interests.
  • Arbitration. The BIC allows customers to hold fiduciary advisors accountable for providing advice in their best interests through a private right of action for breach of contract. This feature of the best-interest contract exemption is modeled on the rules under FINRA, which is a nongovernmental organization that regulates advice by brokers to invest in securities but not other types of retirement savings covered by ERISA.
  • An IRS “excise tax.” The IRS can impose a tax on transactions based on conflicted advice that is not eligible for one of the many proposed exemptions. The rule does not indicate how these fines would be calculated.
 
Foes on both sides of the fiduciary debate generally agree it will lead to lawsuits. But rule proponents say that’s a good thing.
 
“Consumer litigation firms will have a better understanding as they bring lawsuits against investment advisors who violate this, and they will be able to use the books and records of the companies to build a case,” said Bartlett Naylor, financial policy advocate for Public Citizen, which supports the rule. “Presumably, the existence of that litigation machinery will itself be a deterrent and a remedial factor.”
 

Small Plan Issues

Even proponents of the DOL’s efforts say its treatment of small plans needs to be changed to better serve small investors. 
 
The fiduciary rule applies without exception to all plans with fewer than 100 participants, while larger plans can qualify for “carve-outs” exempting them from the regulations. To the DOL, the thought is that bigger plan sponsors have existing internal fiduciary protections.
 
Critics have said the fiduciary-only mandate will deter small employers from even offering retirement plans. Those smaller employers don’t want to have to pay advisors out of company funds. As a result, plan compensation tends to be commission-based, opponents have said.
 
Both sides say the DOL is likely to tweak the rule to permit more flexibility for small-plan investing.
 
Restrictions on proprietary products are another area critics are hoping the department pays heed to the comments it received.
 
On one side, the DOL insists that offering a limited range of proprietary products cannot serve the best interests of the client. The industry maintains that the DOL’s stifling fiduciary-only rule will discourage investors from buying retirement savings products at all.
 

Potential Changes

While Secretary Perez remains coy on possible changes, a consensus of sorts has emerged on what to look for. InsuranceNewsNet talked to several advisors, consultants, analysts and other industry officials, and they expected changes including:
  • Delaying signature of the Best Interest Contract (BIC) Exemption. Atop the list of industry concerns, the BIC proposal would require a contract with clients before any financial discussions take place. It appears the DOL recognizes how paralyzing that could be for the industry and will push the contract signing deadline back.
  • Streamlining some of the disclosure requirements. During public hearings with the DOL, industry representatives said the disclosure information — which includes descriptions of material conflicts of interest, a statement about all fees and any third-party payments, among others — would be very costly and time consuming to track. 
    “I believe the DOL has been convinced that there just aren’t the systems in place to do that,” said Fred Reish, a partner at Drinker Biddle & Reath and a longtime industry analyst.
  • Relaxing some of the education definitions. Under the proposed rule, some common planning tools such as asset allocation models could trigger fiduciary status.
 
Regardless of the changes, Gaudreau of NAIFA said the fiduciary rule occupies the top three most important items on his agenda. He predicts “unforeseen consequences” two or three years down the road that will lead to “everything being redefined again.” The cost to the industry will be significant, he added.
 
“The increased cost of business as a result of that liability and compliance with the rule is really what has frightened our members,” said Gaudreau, adding that agents always put clients first and the debate over the rule has never been over whether they should “act in the best interest.” 
 

 

InsuranceNewsNet Senior Editor John Hilton has covered business and other beats in more than 20 years of daily journalism. Follow him on Twitter @INNJohnH. John may be reached at [email protected].


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