In Regulatory Notice 13-45, FINRA says it plans to take a close look at the way financial services firms—especially broker/dealers—make recommendations to participants in employer-sponsored retirement plans who terminate their employment and must decide how to invest accumulated plan assets.
The notice outlines four options available to participants leaving an employer-sponsored plan. These include the following, which can be used in combination if circumstances permit:
- Leave the money in the former plan, if permitted;
- Roll over the assets to a new employer’s plan, if one is available and rollovers are permitted;
- Roll over the assets into an IRA; or
- Cash out the account value.
Each choice offers advantages and disadvantages, FINRA explains, depending on the desired investment options, advice services, fees and expenses, withdrawal strategy, required minimum distributions, tax treatment and a list of other considerations. The complexity of these choices leads many investors to seek assistance from a financial professional—especially broker/dealers, as about 98% of IRAs with $25,000 or less are brokerage accounts, according to the Employee Benefits Security Administration.
The regulatory notice explains that an adviser or broker/dealer’s recommendations on these options usually involves securities, bringing the advice under FINRA’s regulatory oversight. A firm’s marketing of its IRA services is subject to FINRA rules for largely the same reason, according to the notice.
That means any advice to sell, purchase or hold securities as related to IRA rollovers or the other options must be “suitable” for the customer and the information that investors receive must be fair, balanced and not misleading. The notice goes on to provide guidance on rollover activities, intended to help firms ensure that they have policies and procedures in place that are reasonably designed to achieve compliance with relevant FINRA rules.
One piece of guidance warns advisers and broker/dealers that an IRA often enables an investor to select from a broader range of investment options than a typical 401(k) plan. The importance of this factor depends in part on how satisfied the investor is with the options available through the plan under consideration. For example, an investor who is satisfied by low-cost institutional funds may not regard an IRA’s broader array of investments as attractive—implying an IRA rollover may not be the most suitable option for that investor.
Another important consideration for determining suitability is the level of fees and expenses associated with rollovers, and how they will impact investor assets. Other suitability factors to consider, according to FINRA, are penalty-free withdrawals, protection from creditor and legal judgments, required minimum distributions and employer stock options, among others.
FINRA also warns that rollovers can easily become a source of conflicts of interest for advisers and broker/dealers. That’s because firms and their registered representatives that recommend an investor roll over plan assets into an IRA typically earn a commission or other fees as a result, while a recommendation to keep assets in an old employer’s plan likely results in little or no compensation.
Conflicts may also exist for firms and their representatives that are responsible for educating plan participants about rollover choices. For example, if a representative receives compensation for the number of IRAs that participants open at his firm, he has an incentive to encourage participants to open IRAs rather than maintain their assets in their former employer’s plan.
For their part, firms are required under FINRA regulations to supervise these activities to reasonably ensure that conflicts of interest do not impair the judgment of a registered representative or any other associated person about what is in the customer’s interest.
Also included in the regulatory notice is a section on suitability and fair dealing.
According to FINRA, implicit in all broker/dealer and adviser relationships with customers is the fundamental responsibility for fair dealing. The notice points out that Rule 2111, better known as FINRA’s suitability rule, requires that a broker/dealer have a reasonable basis to believe that a recommended transaction or investment strategy involving a security is suitable for the customer.
Under this standard, a firm and its registered representatives must consider the customer’s investment profile, including the customer’s age, other investments, financial situation and needs, tax status, investment objectives, investment experience, investment time horizon, liquidity needs, risk tolerance, and any other information the customer may disclose to the broker/dealer or registered representative in connection with the rollover recommendation.
In closing, the regulatory notice also makes recommendations for broker/dealers regarding operational supervision and control systems, the training of registered representatives and communications with the public.
FINRA is not the only regulatory agency taking a second look at the way financial services firms market and recommend IRA rollovers. The Department of Labor (DOL) has repeatedly warned that pending regulatory changes could add certain IRA rollovers to the its list of transactions prohibited under the Employee Retirement Income Security Act (see “New Restrictions Loom for IRA Rollovers”).
The complete text of Regulatory Notice 13-45 is available here.