Finally Final: Court’s Mandate Terminates DOL Fiduciary Guidance
The U.S. Fifth Circuit Court of Appeals has finally made it official—the 2016 Department of Labor (DOL) fiduciary investment advice final regulations and accompanying guidance are repealed. On June 21, 2018, the Fifth Circuit issued the formal mandate that implements its March 2018 ruling vacating (i.e., making null and void) this much-contested guidance, whose purpose was to provide retirement savers with greater protection from conflicted and potentially exploitive investment advice. Attempts during the March-to-June interval to appeal the Fifth Circuit’s ruling and save the fiduciary guidance ultimately proved unsuccessful.
It is not completely clear what this outcome will mean for investment advisors and advisory firms in their future relationships with retirement savers. DOL regulations dating back to 1975—intended for replacement by the now-repealed 2016 guidance—may once again provide the standard that determines fiduciary status. DOL sub-regulatory guidance from 1996 and 2005 may also shed additional light. It is hoped that the DOL will release formal guidance soon in order to provide greater clarity regarding future investment fiduciary standards.
How the DOL Investment Fiduciary Guidance Was Defeated
Several earlier District Court challenges to the fiduciary guidance ended with multiple lower courts all upholding it. One of these was a Texas District Court decision, which was appealed to the Fifth Circuit Court of Appeals. There the fiduciary guidance suffered its first defeat. Perhaps more important, the Fifth Circuit’s March ruling had sufficient authority to vacate “in toto” the final regulations and several accompanying prohibited transaction exemption (PTE) components. All were eliminated, in all legal jurisdictions nationwide. The Fifth Circuit judge writing for the majority rebuked the DOL for over-stepping its authority in issuing the 2016 guidance.
The Fifth Circuit’s decision was not unanimous. The three-judge Fifth Circuit panel (the full Fifth Circuit Court of Appeals has nine members) that rendered the decision was split 2-1. Had this ruling occurred during the Obama administration, with the same DOL leadership that had issued the guidance, the loss would in all probability have been appealed. With the Trump administration and its new DOL leadership committed to revising or withdrawing the guidance, the Fifth Circuit’s ruling was welcomed by the DOL, rather than challenged. Others—including the states of California, Oregon, and New York, in concert with the American Association of Retired Persons (AARP)—sought standing to appeal, but were denied. The ultimate deadline of June 13, 2018, for a DOL appeal to the Supreme Court passed as expected, and eight days later came the Fifth Circuit mandate that sealed the fiduciary guidance’s fate.
What Happens Next?
Over the slightly more than two years since the DOL investment fiduciary final regulations and exemptions were issued in April 2016, many financial organizations and investment advisors have made changes to their business models, compensation practices, and investment lineups to comply with new rules. Some even acknowledged fiduciary status as part of the new compliance regime. Will these changes be modified or reversed? Can a firm or advisor disclaim a fiduciary role after having embraced it? Does any DOL guidance issued from 2016 to the present have continued purpose or bearing on investment advising relationships?
Other DOL Investment Fiduciary Guidance; More Is Needed
Financial organizations, investment advisors, and service providers who serve them are wondering what past guidance can—or should—be relied on now that the 2016 final regulations and accompanying PTEs have become invalid. Possibilities include the following.
The DOL 1975 regulations specified a five-part test to determine if investment advice is fiduciary in nature, but generally apply only to advising that is associated with employer-sponsored retirement plans, not IRAs.
Interpretive Bulletin (IB) 96-1 clarified what constitutes investment information versus investment advice. IB 96-1 describes safe harbors to help employers guard against unintentionally providing information that could be construed as investment advice.
DOL Advisory Opinion 2005-23A addressed limited circumstances in which a person who is already a fiduciary to an employer-sponsored retirement plan could become an investment fiduciary when plan assets are rolled over from the plan to an IRA. According to this 2005 guidance, an individual who is not already a plan fiduciary may provide IRA rollover advice without becoming an investment fiduciary.
DOL Field Assistance Bulletin (FAB) 2018-02 was written after the Fifth Circuit’s March ruling vacating the final investment fiduciary regulations and exemptions. Anticipating this guidance to be eliminated, FAB 2018-02 provided for a transition period during which relaxed impartial conduct standards are to apply, accompanied by lenient enforcement. The impartial conduct standards require that those who provide investment advice for a fee
make no misleading statements,
receive only reasonable compensation, and
act in a client’s best interest.
FAB 2018-02 states that these standards are to apply “until after regulations or exemptions or other administrative guidance has been issued.”
The DOL has remained silent following the Fifth Circuit’s June 21, 2018, mandate officially invalidating the investment fiduciary guidance. Within the investment advisory and retirement industries it is widely hoped that the DOL will soon release more definitive guidance, providing greater clarity and assurance regarding the agency’s investment fiduciary standards and compliance expectations.
Proposed SEC Fiduciary Guidance
As the fate of the DOL investment fiduciary guidance was being determined in the judicial system, the Securities and Exchange Commission (SEC) in April issued proposed guidance for broker-dealers and registered investment advisors who make recommendations to retail clients. The agency did so eight years after the Dodd-Frank Wall Street Reform and Consumer Protection Act gave the agency a directive to consider issuing standards of conduct for investment recommendations.
The proposed rules generally do not apply to banks or credit unions unless they are (or own) a broker-dealer or a registered investment advisor. The rules do appear to cover individual plan participants receiving direct investment recommendations, but exclude employer plans per se as a business exception. The guidance is also believed to cover investors in individual tax-advantaged accounts, such as IRAs, health savings accounts, and Coverdell education savings accounts, but only for securities investments, which greatly limits the reach of this SEC guidance.
The proposed SEC package contains three items.
A “Regulation Best Interest” for broker-dealers
A rule requiring disclosure of the nature of the advising relationship (fiduciary or not), and restraints on use of the term “advisor”
Clarifications on fiduciary standards applicable to investment advisors
Although the full impact of the SEC proposed guidance is undetermined at this time, the SEC has indicated that the final guidance will generally include advice given to retirement savers who are invested in securities and are receiving investment advice from broker-dealers or registered investment advisors. The SEC is accepting public comments for a 90-day period, which began on May 9, 2018.
Still unknown at this time is the extent to which there will be coordination—and hopefully commonality—between the SEC and DOL guidance that will ultimately govern investment advising relationships.
NOTE: See Ascensus Washington Pulse, “SEC Best Interest Standard is Major Departure from DOL Fiduciary Guidance,” for more information on the proposed SEC guidance, or visit Ascensus News for the latest developments.