United States: What's Next For The DOL's ‘Fiduciary' Rule?

Under consideration for over 15 years, the rule's applicability date lands shortly after the Republicans gain control of both houses of Congress and the Presidency. This short client alert outlines some of the options available to Congress and the President to limit the rule's impact. 

On April 6th of this year, the US Department of Labor ("DOL") issued its final "fiduciary" rule that for the first time since the passage of ERISA,1 subjects the investment and rollover recommendations made to retail retirement clients to ERISA's fiduciary standards.2 The rule starts applying to financial institutions and financial advisors on April 10, 2017.

The final rule has already had a major impact on the financial services industry. Broadly, the industry has sorted itself into two camps: those financial institutions that will no longer offer commission-based products to their retail retirement clients; and those who will rely on the DOL's so-called "best interest contract" or "BIC" exemption to continue to accept third-party payments and pay brokers and private wealth managers on a commissioned basis. Further, advisers and fund sponsors have developed new share classes and products to assist in the transition to level-fee arrangements.

It is too early to predict how the rule will fare under the incoming administration. Outlined below are options available to the President and Congress should they align with the rule's many detractors and elect to repeal, revise or delay the rule's applicability.

Repeal Options

A Statute to Rescind; Action by Congress under CRA

The most straightforward path to eliminating the rule would be a bill approved by Congress and signed into law by the President, and a blueprint for such a bill is already on the books. On September 13, 2016, the Financial Services Committee of the House of Representatives passed the Financial CHOICE Act (the "FCA").[3] Introduced by FSC Chair Hensarling, and spanning over 500 pages, the FCA's purpose is to reform the financial regulatory system by, in part, repealing or amending a large portion of the Dodd-Frank Act. The FCA includes a provision that would eliminate the fiduciary rule and prevent the DOL from promulgating a new rule until the date that is 60 days after the SEC issues a final rule relating to standards of conduct for brokers and dealers pursuant to Section 15 of the Securities Exchange Act of 1934.

Although a number of news reports have discussed the ability of Congress to repeal regulations through the Congressional Review Act ("CRA"),5 the CRA would not be available to Congress to repeal the fiduciary rule. The CRA allows Congress to repeal any major regulatory action passed by a federal agency within sixty legislative days of being submitted to Congress. Further any agency that promulgates a rule repealed under the CRA would not be permitted to issue a new rule that is substantially similar, unless authorized by Congress. The fiduciary rule, having been submitted in April, will not be subject to the CRA as the Congressional Research Service has determined that only regulations submitted after May 30, 2016 will be subject to review.6

Action by the DOL

The requirements of the Administrative Procedures Act (the "APA") generally apply to both the promulgation of a regulation, as well as the repeal of a regulation.7 As a result, the new administration would have to follow the notice and comment procedures dictated by the APA and could only repeal the fiduciary rule "[a]fter consideration of the relevant matter presented."8 With respect to a full repeal of the fiduciary rule, this would most likely have to be a lengthy process in order for the DOL to avoid a court determining that its decision was "arbitrary and capricious."9

Further, a repeal of the rule might be categorized as a "significant regulatory action" under Executive Order 12866 and would therefore require the department to undertake a time-consuming cost-benefit analysis. Finally, this type of major action is traditionally not taken until a new Secretary of Labor is confirmed by the Senate. Any such action by the DOL would likely encounter strong resistance from those within the DOL who support the rule's implementation.

Delay Applicability

In order to allow more time for a full repeal (whether through the legislature or the DOL), the Trump Administration may consider postponing the rule's April 10, 2017 applicability date.

It is typical for a new presidential administration to order each department to issue, or consider issuing, a rule that postpones the effective date of all rules that have been published in the Federal Register, but are not yet effective. (These rules are typically referred to as "midnight regulations.")10 The fiduciary rule, however, will not be affected by an order of this type, as the rule became effective on June 7, 2016. The rule, however, is somewhat unique from other rules in that it has an applicability date (April 10, 2017), in addition to its effective date. The DOL could, therefore, issue a proposed rule that pushes back the applicability date of the rule. Following a 30-day comment period, a final rule would then be issued with a new applicability date. Alternatively, the DOL could determine that the "good cause" exception to the APA is available.11 In that case, it could issue an "interim final rule" with a new applicability date that would be effective immediately. Delaying the applicability date would be substantively the same as postponing the effective date and would not likely be a "significant regulatory action" triggering the cost and benefits analysis required by Executive Order 12866 or statutes such as the Regulatory Flexibility Act. 

A new Secretary of Labor does not have to be confirmed by Congress in order for the DOL to take this action. The Federal Vacancies Reform Act permits a president to appoint an interim head for a period of time during a vacancy.

Refusal to Enforce

A statement by the DOL that it will refuse to enforce the rule is likely to have little effect on the financial services industry's approach to compliance, given the prohibited transaction implications and the possibility of third-party claims. The so-called "BIC" exemption provides retail investors with a private right of action against firms that choose to rely on this exemption as part of their compliance efforts.

Refusal to Defend

There are currently four lawsuits challenging the validity of the fiduciary rule.12 The plaintiffs in these cases generally argue that the DOL violated the APA by regulating products and institutions over which the SEC and FINRA have primary responsibility, and by promulgating the rule in an "arbitrary and capricious manner." In one of these cases, National Association for Fixed Annuities vs. Lopez, the District Court of Washington DC granted summary judgment to the DOL on November 4th, and the plaintiff is appealing. In Chamber of Commerce of the United States of America et al. v. DOL et al, the plaintiffs also challenge the rule on as a violation of the First Amendment in that it restricts the commercial speech of financial advisers. 

In this and other cases, the possibility of a nationwide injunction against the rule remains a possibility, and any such action by a court would likely remove the urgency for the President-elect and Congress to address the fate of the rule in the early days of the new administration. The refusal of the incoming administration to defend the rule in these cases could hasten the rule's demise. However, a court decision that is limited to the federal circuit in which the decision is rendered would likely make compliance more difficult for financial organizations that operate throughout the United States.

Conclusion

To our knowledge, the President-Elect has not listed repeal of the rule as part of his 100-day plan, nor has he listed repeal as a goal on his transition website, although repeal appears to be top-of-mind for some members of Congress and some of the President-Elect's advisers. The opening days of the Trump administration promise to be busy, as Congress and the President work through both the President-Elect's and the Republican Congress's stated, and sometimes differing, priorities. It remains to be seen whether or not the fiduciary rule makes it onto the agenda.

Footnotes

1. The Employee Retirement Income Security Act of 1974, as amended.

2. The final rule is available at: https://www.dol.gov/ebsa/regs/conflictsofinterest.html. For a complete overview of the final rule, you may wish to refer to our client publication: "The US Department of Labor's Final 'Fiduciary' Rule Incorporates Concessions to Financial Service Industry but Still Poses Key Challenges," available at: http://www.shearman.com/~/media/Files/NewsInsights/Publications/2016/04/The-US-Department-of-Labor-Final-Fiduciary-Rule-Incorporates-Concessions-to-Financial-Service-Industry-CGE-041416.pdf. For a discussion of the disclosure requirements of the new prohibited transaction exemptions, you may wish to refer to our client publication: "The DOL's New Fiduciary Rule: The Details on Disclosure," available at: http://www.shearman.com/~/media/Files/NewsInsights/Publications/2016/05/The-DOLs-New-Fiduciary-Rule--The-Details-on-Disclosure-CGE-05052016.pdf. For a discussion of how the final rule differentiates between investment advice and education, you may wish to refer to our client memo: "The DOL's New Fiduciary Rule: The Thin Line Between Advice and Education," available at: http://www.shearman.com/~/media/Files/NewsInsights/Publications/2016/05/The-DOLsThe-Thin-LineEducation-and-Advice-CGE-051116.pdf. For a discussion of the application of the final rule to rollovers, you may wish to refer to our client publication: "The DOL's New Fiduciary Rule: Capturing the Apparent Conflict at the Moment of Rollover," available at: http://www.shearman.com/~/media/Files/NewsInsights/Publications/2016/06/The-DOLs-New-Fiduciary-Rule-Capturing-the-Apparent-Conflict-at-the-Moment-of-Rollover-CGE-060816.pdf.

3. H.R. 5983, available at http://financialservices.house.gov/uploadedfiles/bills-114hr5983ih.pdf.

4. 15 USC § 78o(k).

5. See 5 USC §§ 801 – 808.

6. See Congressional Research Service Memorandum, "'Major' Obama Administration Rules Potentially Eligible to be Overturned Under the Congressional Review Act in the 115th Congress," November 17, 2016.

7. See 5 USC § 551(5), defining "rule making" as "agency process for formulating, amending, or repealing a rule."

8. See 5 USC § 553(c). Although the APA contains a "good cause" exception to the notice and comment requirement, an agency must find that the use of these procedures is "impracticable, unnecessary, or contrary to the public interest" (5 USC 553(b)(B)). These exceptions have been narrowly applied by the courts and are unlikely to apply with respect to the fiduciary rule.

9. See 5 USC § 706(2)(A).

10. See, e.g., "Memorandum to the Heads of Executive Departments and Agencies," from Rahm Emanuel, January 20, 2009 ("[A]t the direction of the President, I am requesting that you immediately take the following steps... Consider extending for 60 days the effective date of regulations that have been published in the Federal Register but not yet taken effect...")

11. See fn. 6, supra.

12. See National Association for Fixed Annuities v. DOL et al, Docket No. 16-05345 (D.C. Cir. Nov. 28 2016); Market Synergy Group, Inc. v. DOL et. al., Docket No. 5:16-cv-04083 (D. Kan. Jun. 8, 2016); Chamber of Commerce of the United States of America et al. v. DOL et al, Docket No. 3:16-cv-01476 (N.D. Texas, June 1, 2016); Thrivent Financial for Lutherans v. Perez et al, Docket No. 16-cv-03289 (D.Minn. Sept. 29, 2016).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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