Best Interests of Care Standard for Advisors #100: Liabilities and Opportunities | Drinker Faegre Biddle & Reath LLP


Key points to remember

The DOL’s expanded definition of fiduciary boards is explained in the preamble to TEP 2020-02.

When conflicting fiduciary advice is given to pension investors, i.e. pension plans, participants (including rollovers) and IRA owners (including IRA transfers), it results in prohibited transactions under the Internal Revenue Code and ERISA. The prohibited transaction is compensation earned as a result of the fiduciary recommendation, for example, fees or commissions from an IRA rollover.

The TEP provides relief for prohibitions resulting from conflicting non-discretionary recommendations. However, the exemption is conditional, i.e. it is only available if all the conditions of the PTE are met.

The compliance deadline was February 1, 2021 for most PTE conditions and July 1 for the only remaining condition – the requirement to provide pension investors in writing with the “specific reasons” for which a recommendation of turnover is in their best interest.

Accordingly, the documentation and processes for compliance with the terms of the PTE 2020-02 should now be completed. This is therefore a good time to consider the liability issues and opportunities created by the PTE.


DOL’s Prohibited Transaction Exemption (PTE) 2020-02, Improving Investment Advice for Workers and Pensioners, allows investment advisers, broker-dealers, banks and insurance companies (“financial institutions” ) and their representatives (“investment professionals”) from receiving conflicting compensation resulting from non-discretionary fiduciary investment advice to ERISA pension plans, participants (including rollover recommendations), and IRA owners (all called “retirement investors”). In addition, in the preamble to the PTE, the DOL announced an expanded definition of a fiduciary board, which means that many more financial institutions and investment professionals are fiduciaries for their recommendations to pension investors and, by therefore, will need the protection afforded by the exemption.

Since a significantly increased number of recommendations to pension investors will be fiduciary recommendations under the expanded fiduciary interpretation, and since many, if not most, of these recommendations will involve conflicts of interest, financial institutions and investment professionals will need to meet the “conditions” (or requirements) in the ETP. The 4 categories of these conditions are: (1) standards of impartial conduct (including the standard of care in the best interests); (2) disclosures (including “specific reasons”), (3) policies and procedures (including conflict mitigation), and (4) annual review and retrospective report.

With the exception of the annual retrospective review and report, the first 3 requirements must be in place and implemented for the recommendations covered. (See Best Interest #93 for a discussion of correcting breaches of these requirements.)

Accordingly, this Best Interest #100, which is the last in this series, is a good place to examine areas of significant potential liability and some planning opportunities related to the TEP.

Potential liabilities

When considering the possibility of liability, I think the clear “winner” is the non-compliant recommendations of plan rollovers to the IRA. First, and obviously, there is often a lot of money involved. When a retired investor suffers material losses after rolling, and especially an older investor, the financial and emotional impacts are significant. These are fuel for the fire of litigation. Second, the DOL guidelines outline a specific 5-step process which, if not followed, would likely result in fiduciary failure. These steps are: (1) obtaining relevant information about the investor’s needs, financial situation, investment objectives and risk tolerance; (2) obtain information about pension plan investments, services and expenses; (3) review information about available ERI investments, services, and expenditures; (4) evaluate the plan information and the IRA information in light of the participant’s profile, and make a recommendation that is in the best interest of the pension participant/investor; and (5) provide the pension member/investor in writing with specific reasons why a rollover is in the investor’s best interest.

The third reason for the increased potential for litigation/arbitration is the requirement for specific written “best interests” reasons. Although the specific reasons are delivered at the same time as the recommendation, they will be considered years later by plaintiffs’ or plaintiffs’ lawyers (or by regulators). If, with the benefit of hindsight, these specific reasons did not make sense or were not implemented, the reasons will likely be used as evidence against the financial institution and the investment professional.

Therefore, careful consideration should be given to (1) determining which specific reasons are compliant, (2) monitoring the reasons provided to ensure that they reflect the investor’s profile and needs, and ( 3) supervising the implementation of the “solutions” suggested by the specific reasons. As an example of this last point, if the specific reasons include the availability of a large number of investments in an IRA, then one would probably expect that some of the many investments that are materially different from the investments in the plan plan are recommended to the investor. Or, if a specific reason is that certain necessary services are needed by the retirement investor and those services can be provided under an IRA rollover, then the supervision must ensure that those services are actually provided.

Beyond the plan-to-IRA rollover scenario, another significant “threat” is that the best interest standard of care, as defined by the DOL, will become the standard of care applied by courts and tribunals. arbitration boards. Although the SEC’s best interest standards for investment advisers and broker-dealers cannot be sued in private suits, the convergence of regulators on the concept of a standard of care in the Best interests and a duty of loyalty may finally be considered the community’s standard of care, much as negligence is now. In other words, failure to meet the expectations of investment professionals to act in the best interests of investors can become the definition of negligence. This process could take years, but it is possible.

Additionally, the requirement in PTE 2020-02 that conflicts between financial institutions and investment professionals be mitigated is an issue that can lead to compliance failures. First, it is a principles-based standard, which means that its application will evolve over time. What works today may not work five years from now…which is the nature of principles-based standards. Think about how the ERISA fiduciary standard has evolved over time. Twenty years ago, there was no litigation over the selection of share classes; today, it may be the #1 issue in ERISA fiduciary breach litigation. Is this regulation by application or is this the nature of principle-based rules? I think it’s the latter.

Planning Opportunities

Although PTE 2020-02 creates threats, it also provides opportunities.

For example, it is possible to use proprietary mutual funds and CITs and charge both advisory fees for the account and management fees for the fund, which is not allowed by the rules. current. The catch is that the PTE only grants a waiver of prohibited transactions when the notice is non-discretionary. Since investment advisors generally manage IRAs with discretion, the relief would not be available on the face of it. However, if the investment advisory agreement for the IRA is amended so that exclusive investment is recommended on a non-discretionary basis (and to eliminate any other discretion related to exclusive investment), the arrangement may be converted to be non-discretionary – and the PTE will be available. The IRA balance can continue to be managed with discretion. Several companies have taken advantage of this opportunity.

If the terms of an investment advisory agreement with an ERISA-regulated pension plan could be interpreted to include recommendations to provide investment advice or investment management services to plan participants, there is a risk that, if a company recommends itself as an advisor-level participant, the resulting fees would be prohibited transactions. However, under PTE 2020-02, a company may, acting as a fiduciary, recommend to itself to provide additional services. In order to avail of the protections of the ETP, the referral must be non-discretionary; however, recommended services could be optional, for examplemanagement of participating accounts.

More generally, now that work on the 2020-02 compliance issues has been completed, financial institutions can consider how the PTE can be used to provide additional services and products and receive compensation associated with those products and services.

Final Thoughts

PTE 2020-02 presents both threats and opportunities. The biggest threat relates to plan rollover recommendations to the IRA that do not meet the terms of the PTE. This is due, for example, to ERISA’s private action for fiduciary breach, the large amounts involved in some rollovers, and the requirement that participants receive specific reasons why a rollover recommendation is in their best interests. .

However, the PTE also creates opportunities to recommend investments exclusive to plans and IRAs and to recommend additional services such as investment management services for participants.


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