DOL Brief In Lawsuit Over Advice Fiduciary PTE
On September 2, 2022, the Department of Labor filed a “cross-motion to dismiss for lack of jurisdiction or, in the alternative, for summary judgment, and opposition to plaintiffs’ motion for summary judgment” in Federation of Americans For Consumer Choice, Inc. v. Department of Labor, a lawsuit challenging DOL’s reinterpretation, in the preamble to its 2020 Prohibited Transaction Exemption (PTE) 2020-02, of its “five-part test” for determining whether a person is an “advice fiduciary” under ERISA. In this note, we briefly discuss DOL’s arguments in support of its motion – arguing that its reinterpretation of the five-part test did not change the 1975 rule, but rather adapted it to changing “market conditions,” applying a “facts and circumstances” analysis to certain key elements of the test.
Why this matters to sponsors: DOL’s “reinterpreted” five-part test may in some situations apply to sponsor officials – e.g., an HR official who casually gives advice about how to select a target date fund option. And, to the extent it expands the rules applicable to plan service providers/outside fiduciaries, sponsor fiduciaries will have an expanded duty to monitor.
In 1975, DOL published a rule for determining when a person becomes an ERISA fiduciary by virtue of giving advice to, e.g., a plan sponsor or participant. The heart of the rule was a five-part test for determining fiduciary status. Key elements of the five-part test included: that there was a “mutual agreement, arrangement or understanding” that advice would serve as a primary basis for investment decisions with respect to plan assets; and that the advice was provided on a “regular basis.”
Prior to publication of the preamble to PTE 2020-02, the “mutual agreement, arrangement or understanding” element of the five-part test was interpreted as allowing advisers to avoid fiduciary status by disclaiming any such agreement. And its “regular basis” element was interpreted as meaning that an initial sales conversation/contact was not “fiduciary advice.” And, in a 2005 Advisory Opinion, DOL took the position that ERISA fiduciary rules did not apply to rollovers.
In 2016, DOL finalized its 2016 “Fiduciary Rule,” characterized by the Fifth Circuit Court of Appeals as “an overhaul of the investment advice fiduciary definition, together with amendments to six existing exemptions and two new exemptions to the prohibited transaction provision in both ERISA and the [Tax] Code.” That rule explicitly applied ERISA fiduciary advice rules to rollovers, eliminated the mutuality and regular basis requirements, and required that advice fiduciaries enter into a contract (the “Best Interest Contract”) promising to conform to “impartial conduct” standards.
In changing these rules (and in the subsequent 2020 reinterpretation of the five-part test), DOL’s primary target has been rollovers, persons giving advice about whether to rollover, which firm to rollover to, and how to invest rolled over assets.
In 2018, the Fifth Circuit vacated the Fiduciary Rule.
In the face of the Fifth Circuit’s 2018 decision, in an effort (it is fair to say) to save as much of the substance of the Fiduciary Rule as possible, the preamble to the 2020 PTE “reinterpreted” the five-part test’s mutuality and regular basis rules, subjecting them to an “objective” “facts and circumstances” analysis. Thus, after the publication of the PTE, a mutual understanding could be found even where there was an explicit disclaimer of mutuality, and the regular basis test could be satisfied (critically with respect to a rollover) based on the existence of a continuing advice relationship after the initial contact (that is, after the rollover).
And in connection with the proposal of the PTE, DOL reversed its position in the 2005 Advisory Opinion, now applying ERISA fiduciary rules to advice with respect to a rollover.
This “reinterpretation” of DOL’s 47-year old advice rule was novel and (it is fair to say) somewhat surprising to the adviser community.
DOL’s brief in support of its motion to dismiss
In its brief DOL argues two broad points.
First, it denies what it calls “[t]he crux of Plaintiffs’ Complaint … that the Department’s new regulatory interpretation impermissibly resurrects a 2016 [Fiduciary Rule] that was invalidated by the Fifth Circuit.” To the contrary (DOL argues), the PTE preserves the five-part test and does not require the fiduciary to enter into a “Best Interest”-style contract.
Second, while admitting that the preamble to the PTE represents “the Department’s final interpretation of when … advice would meet the statutory and regulatory definition of fiduciary investment advice, as spelled out in the 1975 Regulation,” and that “the application of the 1975 test to rollovers is in some respects a ‘new’ interpretation,” it denies that its reinterpretation of the five-part test was arbitrary and capricious. Instead, the regulatory innovations introduced in the preamble to the PTE were justified by changes in the retirement savings market and by changes in securities regulations:
The Department interpreted the 1975 Regulation to apply to rollover advice in light of the growth of 401(k) plans and IRAs, which were not popular retirement investment vehicles when ERISA was enacted, as well as from a desire to better align the Department’s approach with the SEC’s Regulation Best Interest and the NAIC’s [National Association of Insurance Commissioners’] Model Regulation 275, both of which generally hold brokers and insurance agents to a best interest standard.
Finally, DOL argues that it is not substantively changing the five-part test. Instead, it is applying an objective, facts and circumstances analysis of some of its key elements. Thus, in considering whether there is a “mutual agreement, arrangement or understanding” that advice would serve as a primary basis for investment decisions with respect to plan assets, it will consider all facts (including any disclaimer) but will make the fiduciary status determination based on the “on the mutual understanding of the parties.” With the clear implication being that if the parties “really knew” that the advice would serve as a primary basis for decision making, the disclaimer would not prevent the attachment of fiduciary status.
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This case is being heard in United States District Court for the Northern District of Texas, which is in the Fifth Circuit. The Fifth Circuit was (in its 2018 decision) very unfriendly to DOL’s first attempt to extend the reach of ERISA’s fiduciary advice rule, holding that:
The Fiduciary Rule conflicts with the plain text of the “investment advice fiduciary” provision as interpreted in light of contemporary understandings, and it is inconsistent with the entirety of ERISA’s “fiduciary” definition. DOL therefore lacked statutory authority to promulgate the Rule with its overreaching definition of “investment advice fiduciary.”
It will be interesting to see whether, this time around, the courts of the Fifth Circuit will buy DOL’s argument that, with the preamble to PTE 2020-02, it has threaded the needle – that is, expanded the reach of the fiduciary advice rule to rollovers, without, e.g., conflicting with the plain text or the entirety of ERISA’s “fiduciary” definition.
We will continue to follow this issue.