Art by Tim BowerThe
Department of Labor (DOL)’s final rule expanding the definition of “investment
advice,” its issuance of related new prohibited transaction exemptions (PTEs)
and changes to long-existing exemptions through rulemaking have thus far
survived several legal challenges. While under the prior administration these
litigation victories would have paved the way for implementation of the rule,
the presidential election has made the rule’s future uncertain.
Trump administration has already signaled that it might pull the rule back. On
February 3, the administration issued a presidential memorandum directing the
DOL to review the viability of the rule, and, on February 27, the department
issued a proposed rule delaying the applicability date. In view of these and
other unfolding events, it is increasingly likely that—by the time this column
is published—a delay will be in effect.
this uncertain future, the favorable litigation outcomes may have numerous
implications regarding how the DOL views its rulemaking and interpretive
authority, and may also embolden its future litigation and enforcement efforts.
This may be the case even if the current five-part test for determining whether
an adviser provides investment advice, as set forth in the Employee Retirement
Income Security Act (ERISA) and the Internal Revenue Code (IRC), and the
pre-rulemaking PTEs remain the law of the land for the foreseeable future. In
this respect, the courts’ decisions clarify and confirm several aspects of the
DOL’s authority, both generally and regarding the rule, specifically.
DOL has broad and substantial authority to regulate the financial services
industry to the extent that financial institutions provide advisory services to
ERISA-covered plans, individual retirement accounts (IRAs) and other qualified
through the issuance of class and individual PTEs, the DOL can control how
advisers sell their products and services. This can be accomplished by grouping
certain advice-related prohibited transactions under one exemption, e.g., the
Best Interest Contract (BIC) exemption, and others under another exemption,
e.g., Prohibited Transaction Exemption 84-24. On the other hand, the DOL may
simply choose not to issue an exemption, thus possibly precluding the sale of
certain products and services to qualified accounts altogether.
DOL’s authority to regulate the financial services industry is separate from
the authority conferred on the Securities and Exchange Commission (SEC),
Financial Industry Regulatory Authority (FINRA) and state insurance, and other,
regulators. Notwithstanding the potential conflicts and overlaps, the courts
appear to believe that the DOL and other regulators can co-exist and
effectively regulate together. Notably, the District Court for the Northern
District of Texas opined that part of the purpose of ERISA was to fill
regulatory gaps, which presumably include those left by other regulatory
regimes and their related agencies.
respect to the particular issue of investment advice, one of the courts
specifically agreed with the DOL’s long-held view that the concept of
“incidental” advice does not apply under ERISA and the IRC. In other words, the
test regarding whether an adviser provides investment advice is not whether any
of the advice is incidental to a securities recommendation, but rather whether
the advice occurs by reason of the current five-part test or other definitions
pursuant to DOL regulation.
Northern District of Texas agreed with the DOL’s position that the prohibited
transaction rules under ERISA and the IRC—even pre-rulemaking—require that
compensation paid to a fiduciary or nonfiduciary service provider because of
services supplied to an ERISA-covered plan, IRA or other qualified account must
be “reasonable compensation” as set forth by ERISA. Regardless of the future of
the rule, this point will surely have lasting implications.
In light of
the foregoing, advisers cannot simply ignore the litigation over the rule on
the belief that the status quo will return if the Trump administration pulls
the rule back. This is not necessarily the case. The DOL’s recent litigation
victories provide important takeaways on the extent of its interpretive and
enforcement authority and may thus embolden the agency, regardless of the
future of the rule.
uncertain time, advisers should certainly review how they provide services to
determine whether they are, in fact, fiduciaries under the five-part test.
Further, both fiduciary and nonfiduciary advisers should consider whether they
provide services in accordance with the pre-rulemaking prohibited-transaction
The DOL will
be under new political leadership in the coming weeks or months, so it is
difficult to predict the priorities of its Employee Benefits Security
Administration (EBSA), the author and overseer of the rule.
is a principal in the fiduciary responsibility practice group at Groom Law
Group, Chartered, in Washington, D.C. He has an extensive background in the
financial services sector. His range of experience includes handling fiduciary
matters affecting investment managers, advisers, broker/dealers, insurers,
banks and service providers. He served on the Department of Labor’s ERISA
Advisory Council from 2012 through 2014.