Compliance September 12, 2023

Congress, Industry Push Back on SEC’s AI, Safeguarding Rule Proposals

The proposal would require advisers to eliminate conflicts related to a wide range of computational technology.

Reported by


Industry leaders in letters this week called on the Securities and Exchange Commission to fully withdraw its proposals on artificial intelligence and conflicts of interest and on the safeguarding of advisory assets.

Artificial Intelligence and Conflicts of Interest

Want the latest retirement plan adviser news and insights? Sign up for PLANADVISER newsletters.

The artificial intelligence proposal would require advisers to eliminate conflicts of interest that arise from their use of technology that uses “analytical, technological, or computational functions, algorithms, models, correlation matrices, or similar methods or processes that optimize for, predict, guide, forecast, or direct investment-related behaviors or outcomes of an investor.”

A letter from industry leaders was signed by the Investment Company Institute, the Insured Retirement Institute, the U.S. Chamber of Commerce business organization, the American Investment Council and other organizations. They describe the proposal as part of the SEC’s “continued war on technology.”

Specifically, the organizations argue that the “lack of discernible boundaries” on what technologies qualify will function “as a de facto ban on the use of technology.” The definition, they argue, is so broad as to encompass essentially every digital tool and therefore functions as a ban on conflicts of interest, as well as a wide range of technology.

The letter also argues that the SEC lacks the legal authority to require advisers to eliminate conflicts, when in all other cases they are only required to mitigate and disclose those conflicts.

The AI proposal also has opponents on Capitol Hill. At a hearing Tuesday before the Senate Committee on Banking, Housing and Urban Affairs, Senator Tim Scott, R-South Carolina, described the rule as a “power grab to regulate emerging and existing technologies” that goes beyond the SEC’s legal authority and would stifle innovation.

Senator Mike Rounds, R-South Dakota, said of the proposal that it is a “restrictive regulatory regime that will govern any analytics tool and is inconsistent with decades of legal and commission precedent regarding the handling of conflicts of interest.”

SEC Chairman Gary Gensler, who testified at the hearing, argued that artificial intelligence is different from other technologies in important respects, especially as it relates to conflicts of interest. “The nature of artificial intelligence is that it is sometimes has so many factors—millions, if not billions, of variables—that it’s looking at, that it’s very hard to explain” to investors and therefore not suitable for a mitigation-and-disclosure regime. This is because issuers would struggle to explain the technology comprehensively in disclosure documents, and investors would struggle to read them, Gensler argued.

The public comment period for the AI rule closes on October 10.

The Safeguarding Proposal

On Tuesday, 26 industry groups wrote a public letter to Gensler urging the SEC “not to adopt the [Safeguarding Advisory Client Assets’] in its current form.” The letter is signed by the Securities Industry and Financial Markets Association and the Investment Company Institute, among others.

The safeguarding proposal would require advisers to obtain assurances that their client’s assets are segregated from that of the custodian to ensure that the assets are protected in case of custodial bankruptcy.

Since the proposal makes no distinction between assets, it would apply to cash deposits at custodial banks, which is perhaps industry actors’ greatest concern about the rule. The letter cautions that this element would limit banking credit and increase the costs of credit.

Rounds said the proposal would mark “a fundamental shift from current banking practices” related to cash deposits.

The letter also criticizes the proposal for redefining discretionary trading as custody, which they argue will also increase advisory fees.

The public comment period for the safeguarding proposal closes on October 30.

Compliance September 12, 2023

AT&T Receives Industry Backing in 2017 Excessive Fee Case

ERIC, CIEBA, SPARK and ABC submitted an amicus brief on behalf of the firm’s retirement plan.

Reported by


Plan sponsor groups, along with employee benefit and recordkeeping industry advocates submitted an amicus brief to the U.S. 9th Circuit Court of Appeals supporting AT&T in its defense of long-running excessive fee litigation in Bugielski v. AT&T Services Inc. The brief argues that the 9th Circuit erred in overturning a summary judgment that favored AT&T and instead remanding the decision to the district court.

The ERISA Industry Committee, the American Benefits Council, the Society of Professional Asset Managers and Recordkeepers and the Committee on Investment of Employee Benefit Assets proposed the brief to the court, which has yet to accept it. They are represented by the Seyfarth Shaw LLP law firm.

Never miss a story — sign up for PLANADVISER newsletters to keep up on the latest retirement plan adviser news.

The suit against AT&T started in 2017. The plaintiffs, Robert Bugielski and Chad Simecek, alleged that AT&T did not prudently monitor the fee expenses and structure in its retirement plan. In 2021, the U.S. District Court for the Central District of California ruled that AT&T had, in fact, monitored its fee structure prudently.

In August, a three-judge panel on the 9th Circuit remanded the case back to the district court. The appeals court’s ruling stated that when AT&T modified its fee agreements with service providers, it engaged in a prohibited transaction, which would only be permissible if it was necessary for the operation of the plan and if the compensation was reasonable.

Since the fees were the issue, the 9th Circuit ruled that the district court must evaluate the reasonableness of the compensation paid to those service providers, not just whether the process they used was prudent or not.

The brief is intended to strengthen AT&T’s appeal to have the case reheard or heard by the full 9th Circuit in an en banc hearing. The brief says, “The panel’s decision will lead to a flood of speculative litigation, and undo the significant progress the Supreme Court and Courts of Appeals have made in providing clarity on the pleading standard for excessive fee claims.”

The parties’ concern is that the decision effectively requires defendants in excessive fee cases, when motioning for dismissal, to offer an affirmative defense of what are routine fiduciary actions by arguing that there is an exception to a prohibited transaction or that their fees are reasonable. This legal structure would allow more cases to move past early motions for dismissal.

If plaintiffs can simply skip over this stage by alleging that the plan is engaging in a prohibited transaction for routine recordkeeping, then they will often reach the much more costly discovery stage, when fiduciaries will be under great pressure to mitigate legal expenses by settling the claim.

The parties further argue that the 9th Circuit should consider the negative effect the ruling would have on “plan formation and innovation” and Congress’ intent when passing the Employee Retirement Income Security Act.

The 9th Circuit has not yet accepted the brief or ruled if it will rehear the case.

 

«