DOL provides temporary enforcement relief for possible prohibited transactions resulting from the Fifth Circuit decision
On May 7, 2018, the Department of Labor published Field Assistance Bulletin 2018-02, Temporary Enforcement Policy On Prohibited Transactions Rules Applicable To Investment Advice Fiduciaries, providing temporary relief for certain prohibited transactions that may result from the Fifth Circuit’s decision vacating the exemptions included in the Fiduciary Rule regulation package.
In this article we discuss why relief may be necessary, what the FAB says, and its significance for plan sponsors.
The deadline for a Department of Labor request for an en banc reconsideration of the Fifth Circuit’s decision vacating in toto the Fiduciary Rule passed on May 7, 2018.
With DOL’s failure to request an en banc rehearing of the case, and the Security and Exchange Commission’s proposal of a “package” of rules “designed to enhance the quality and transparency of investors’ relationships with investment advisers and broker-dealers,” it’s becoming increasingly likely that the Fifth Circuit decision will stand and that DOL will not ask for further review of the decision, e.g., by the Supreme Court.
The five-part test
Until further guidance from DOL (or, conceivably, the SEC), the pre-Fiduciary Rule regulation, in effect, “snaps back” into effect. That regulation provided for a “five-part test” for determining whether a person was an advice fiduciary:
[F]or advice to constitute “investment advice,” an adviser who is not a fiduciary under another provision of the statute must – (1) render advice as to the value of securities or other property, or make recommendations as to the advisability of investing in, purchasing or selling securities or other property (2) on a regular basis (3) pursuant to a mutual agreement, arrangement or understanding, with the plan or a plan fiduciary that (4) the advice will serve as a primary basis for investment decisions with respect to plan assets, and that (5) the advice will be individualized based on the particular needs of the plan or IRA. (Quoting DOL’s 2015 Fiduciary Rule proposal.)
Typically, providers that, e.g., interacted with, and conceivably made recommendations to, participants, who wanted to avoid fiduciary status, would simply include a disclaimer, e.g., that that recommendation did not “serve as a primary basis” for an investment decision.
Problem raised by interim compliance
The Fiduciary Rule was made applicable on June 9, 2017. At the same time, for a June 9, 2017-July 1, 2019 transition period, DOL delayed compliance with certain requirements under related exemptions (e.g., the Best Interest Contract Exemption (BIC)) that were part of the regulation package. Until the latter date, “fiduciaries relying on these exemptions for covered transactions [are required to] adhere only to the Impartial Conduct Standards (including the “best interest” standard), as conditions of the exemptions.”
During the period from June 9, 2017 to the Fifth Circuit’s decision, many providers adapted to the Fiduciary Rule and the related exemptions (e.g., the Best Interest Contract Exemption (BIC)). For instance, many providers no longer disclaimed fiduciary status under the “old” five-part test but instead held themselves out as advice fiduciaries. At the same time, they undertook to comply with the BIC in order to avoid the prohibited transaction issues that their new fiduciary status raised.
When the Fifth Circuit vacated the Fiduciary Rule in toto, it also vacated the related exemptions. The result: even after the Fifth Circuit decision, these “adapting” providers (arguably) were and remain fiduciaries, at least until they once again disclaim fiduciary status. And, because the BIC is no longer available and, indeed, having been vacated in toto, was not ever available, they (arguably) have engaged or are engaging in prohibited transactions that are not exempt.
This presents an obvious problem: providers who diligently sought to comply with the (now-vacated) Fiduciary Rule are exposed to possible ERISA liability for having complied it.
For that reason, DOL has issued FAB 2018-02, providing in its critical part:
[F]or the period from June 9, 2017, until after regulations or exemptions or other administrative guidance has been issued, the Department will not pursue prohibited transactions claims against investment advice fiduciaries who are working diligently and in good faith to comply with the impartial conduct standards for transactions that would have been exempted in the BIC Exemption and Principal Transactions Exemption, or treat such fiduciaries as violating the applicable prohibited transaction rules. Of course, investment advice fiduciaries may also choose to rely upon other available exemptions to the extent applicable after the Fifth Circuit’s decision, but the Department will not treat an adviser’s failure to rely upon such other exemptions as resulting in a violation of the prohibited transaction rules if the adviser meets the terms of this enforcement policy.
Summarizing (and oversimplifying somewhat): DOL is saying that if an advice fiduciary complies with the BIC impartial conduct standards, it will not enforce the PT rules against that fiduciary. Whether the fiduciary has exposure to third party claims is another matter.
Significance for sponsor fiduciaries
As we have discussed in other articles, sponsor fiduciaries have a legal obligation under ERISA to monitor the conduct of plan service providers (including fiduciary-service providers). That fundamental duty does not change as the service provider’s status changes – e.g., from mere service provider, to fiduciary, then back to mere service provider.
Part of what the plan fiduciary must monitor, however, is the service provider’s compliance with applicable law. And as the service provider’s status changes (e.g., from mere service provider to fiduciary), what that compliance-with-applicable-law requires also changes.
An advice fiduciary that is or may be violating ERISA prohibited transaction rules thus creates a problem for plan fiduciaries. This DOL guidance provides ad hoc and temporary relief from that problem, at least with respect to actions by DOL, and so long as the “advice fiduciary” is “working diligently and in good faith to comply with the impartial conduct standards.”
Now that the Fifth Circuit’s decision has become final (and barring any appeal to the Supreme Court by the DOL), the current situation may be summarized as follows:
DOL will probably have to provide further guidance as to the status of advice fiduciaries. In this regard, FAB 2018-02 states: “The Department is evaluating the need for other temporary or permanent prohibited transaction relief for investment advice fiduciaries, including possible prospective and retroactive prohibited transaction relief.”
Providers will want re-evaluate in what circumstances they either must, or would prefer to, operate as advice fiduciaries, and in those circumstances what exemptions will be available to them.
Sponsors and sponsor fiduciaries will want to understand what hat – “fiduciary” or “mere service provider” – their call center operators and advice providers, for instance, are wearing, and what rules are applicable to them. And they will want to consider what steps they should take to monitor, e.g., compliance with applicable rules. We discuss this issue in depth in our article Fiduciary Rule vacated: significance for plan sponsors.
In the latter regard, new SEC rules for broker and adviser conduct may be as significant as any rules adopted by DOL.
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We will continue to follow this issue.