Effective June 9, 2017, the Department of Labor expanded the definition of fiduciary (the "Fiduciary Rule") to include any professional, including but not limited to insurance agents and brokers, who makes covered investment advice, recommendations, or solicitations to a retirement plan, plan fiduciary, plan participant and beneficiary, Individual Retirement Account ("IRA"), or IRA owner in exchange for direct or indirect compensation. (See 29 CFR §2510.3-21.zz-1.) The Fiduciary Rule subjects these professionals and other service providers to retirement plans and IRAs to the standards of conduct required of fiduciaries under the Employee Retirement Income Security Act of 1974 ("ERISA"), the prohibited transaction rules of ERISA, and the Internal Revenue Code.
More specifically, during the transition period from June 9, 2017 through January 1, 2018, persons and entities providing advice or making solicitations covered by the Fiduciary Rule and who receive commissions or financial incentives in connection with their advice or solicitations must adhere to "Impartial Conduct Standards." These standards require the professional: (1) to comply with the fiduciary duties of loyalty and prudence; (2) to receive only reasonable compensation in exchange for advice or services rendered; and (3) to not make any misleading statements to clients about fees, assets, or conflicts of interest.
Beginning January 1, 2018, these professionals also must provide clients with a specific disclosure agreement tracking the Department of Labor's newly promulgated Best Interest Contract Exemption ("BIC Exemption") to the Prohibited Transaction Rules under ERISA. The BIC Exemption requires professionals to ensure that their contracts contain, among other things: (1) an acknowledgement of the professional's fiduciary duty to the investor; (2) disclosure of direct and indirect compensation and other fee information; and (3) a list of the steps the professional will adopt to avoid or help mitigate potential conflicts of interest. The contract must be signed by the professional, the retirement investor, and each financial institution whose products or services the professional discusses before any specific product or service is mentioned. (See 82 Fed. Reg. 16902, 16918, (Apr. 7, 2017).)
In short, professionals subject to the new Fiduciary Rule will be held to a higher standard of care. No longer must professionals simply find "suitable" investments for their clients. Rather, such professionals now must act in the best interests of their clients, just as a fiduciary under ERISA would.
To be covered by the Fiduciary Rule, the advice, recommendation, or solicitation must relate "to the advisability of buying, holding, selling, or exchanging securities or other investment property, including recommendations as to the investment of securities or other property after the securities or other property are rolled over, transferred, or distributed from a plan or IRA[,]" including "in what amount, in what form, and to what destination such a rollover, transfer, or distribution should be made." (See DOL Jan. 13, 2017 FAQ, available at https://www.dol.gov/sites/default/files/ebsa/about-ebsa/our-activities/resource-center/faqs/coi-rules-and-exemptions-part-2.pdf) Covered investment advice also includes recommendations as to the selection of other agents and third-party administrators to provide investment advice, manage assets, or provide investment management services. (See id.) However, covered investment advice does not include calling a financial advisor and requesting a specific product or investment. Nor is providing general investment advice based on a person's age or income covered by the Fiduciary Rule.
There are specific exceptions to the Fiduciary Rule. For example, parties transacting business with an independent fiduciary of a plan or IRA in an arm's length transaction are excepted from the Rule if certain disclosure requirements are met and the parties reasonably believe that the independent fiduciary is a bank, insurance carrier, or registered broker-dealer or investment adviser, or any other independent fiduciary who manages or controls at least $50 million. A party's reasonable belief in this regard may be based on representations from the independent plan fiduciary.
President Trump has directed the DOL to conduct an examination of the Fiduciary Rule to determine whether it may adversely affect the ability of Americans to gain access to retirement information and financial advice. Based on the results of the DOL's examination, additional changes to the Fiduciary Rule may be proposed.
What It Means to Insurance Agents and Financial Advisors
Although it applies only prospectively, the new Fiduciary Rule has significant, practical implications for insurance agents and financial advisors. As noted above, for example, the professional's recommendation to rollover funds from a 401(k) plan to an Individual Retirement Account ("IRA") must be in the client's best interest. Likewise, any investments the professional recommends for inclusion in the IRAs must be more than simply "suitable," as the DOL will closely scrutinize whether the professional acted prudently and in the best interest of the client when the advice or recommendations were made.
Moreover, professionals subject to the Fiduciary Rule will have to avail themselves of one or more of the DOL's prohibited transaction exemptions to avoid significant penalties under ERISA. Service providers intending to rely on the BIC Exemption, for instance, should prepare for full compliance with its provisions beginning January 1, 2018.
Additionally, professionals will need to examine their current errors and omissions ("E&O") insurance policies to ensure they are adequately protected. Indeed, traditional E&O policies often exclude coverage for losses arising from or related to any violation of ERISA or similar laws. Breaches of fiduciary duty in the context of an ERISA-governed retirement plan likely would fall under this exclusion. Professionals facing such exposure, therefore, may want to consider purchasing fiduciary liability coverage on a prospective basis.
What It Means to Insurance Carriers
The new Fiduciary Rule likely will cause insurance carriers to examine each agent, broker, and financial advisor E&O claim in the context of a retirement plan with greater scrutiny. In light of the Fiduciary Rule, actions and omissions by retirement plan advisers and agents in the course and scope of their ministerial duties will now be deemed fiduciary in nature. Coverage exclusions in E&O policies, therefore, may be invoked with greater frequency.
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