The SEC's Standard on IRA Rollovers

Art by Tim Bower

QUESTION: I’m an investment adviser who provides ongoing advisory services to individuals. In many instances, I advise clients about IRA [individual retirement account] rollovers. Under rules of the Securities and Exchange Commission (SEC), what standard of conduct applies to this IRA rollover advice?

ANSWER: The SEC’s recently issued Interpretation Regarding Standard of Conduct for Investment Advisers clarifies that investment advisers have a duty to provide advice that is in the best interest of the client. In the case of rollovers, that best interest duty applies not only to the advice about the investments or investment strategy for the rolled over assets but also to the advice about the type of account the assets are rolled into.

The SEC interpretation affirms and clarifies an investment adviser’s fiduciary duty. It does not impose any new duty on advisers. However, it does provide additional guidance about what advisers should do to fulfill their fiduciary duties. The fiduciary duty applies to all client relationships—regardless of whether the client is an individual or an institution. While there are two components of the fiduciary duty—a duty of care and a duty of loyalty—the overarching one is to act in the best interest of the client.

What does this mean in the context of rollover advice? The SEC explains that you must make a reasonable inquiry into a client’s investment objectives. For an individual, this means understanding the client’s financial situation, level of financial sophistication, investment experience and financial goals.

Then, based on that information, and considering other factors such as the client’s risk tolerance and costs of the alternatives, you will need to assess whether rolling over assets from a retirement plan into a new or existing IRA managed by you best serves the client. Again, this applies to advice about investments and account type for the rollover.

If you’re an associated person of a broker/dealer (B/D) and a supervised person of a registered investment adviser (RIA)—i.e., you’re dually licensed—you will need to consider all types of accounts offered, both brokerage and advisory, and recommend the one that is in the best interest of that client. The SEC explains that it doesn’t matter whether you work for a dual registrant, affiliated firm or unaffiliated firm. In any of those cases, you must consider all types of accounts offered. Even if you are not dually licensed, you must consider all account types in determining the type that best meets the particular client’s needs.

If an advisory account is not in the client’s best interest, then you will need to acknowledge that to the client, with the recommendation to consider a nonadvisory account, even though these are offered only through a broker/dealer. This may be a surprise to some advisers.

If you have an ongoing advisory relationship with the client, the SEC interpretation confirms that, during the course of the relationship, you have a duty to monitor. This duty encompasses all advice you provide, including an evaluation of whether the account type you recommended continues to be in the client’s best interest. The SEC points out that advisers may find it appropriate to adopt policies and procedures relating to monitoring, to address this duty.

While the SEC interpretation doesn’t go into detail about the process for developing a rollover recommendation, the agency’s Regulation Best Interest (Reg BI) does describe the information to be considered. And it’s safe to assume that the standard of care for RIAs is not lower than the standard for broker/dealers. Included in the information Reg BI says to consider are: how the participant’s account is invested and the costs and services in the plan.

In sum, you need to obtain sufficient information about the investment objectives and financial needs of the client so you can act in his best interest in providing advice about whether the account should be distributed from the plan, the investments to be recommended for the rolled over assets, and the type of account to roll them into. Additionally, for ongoing advisory relationships, you’ll need to monitor that account type and evaluate whether it continues to serve the client. You should review your policies and procedures to insure they address this fiduciary duty.

Fred Reish is chairman of the financial services ERISA practice at law firm Drinker Biddle & Reath LLP. A nationally recognized expert in employee benefits law, Reish has written four books and many articles on ERISA, pension plan disputes and audits by the IRS and Department of Labor.

Joan Neri is counsel in the firm’s financial services ERISA practice, where she focuses on all aspects of ERISA compliance affecting registered investment advisers and other plan service providers.