A Return to Rollover Advice

Art by Tim Bower

ADVISER QUESTION: I am an RIA [registered investment adviser]. Most of my clients are individuals, and many of my new client relationships are IRA [individual retirement account] advisory accounts resulting from my rollover recommendations to people who are 401(k) participants. I don’t provide advice, or any other services, to 401(k) plans. How does the Department of Labor (DOL)’s recent proposed exemption affect the rollover advice I provide to plan participants?

ANSWER: In the preamble to its proposed exemption—a follow-up to its 2016 fiduciary rule—the DOL changed its interpretation of investment advice to greatly expand the circumstances under which a rollover recommendation could be considered fiduciary advice. Unless the agency changes its position, rollover recommendations to plan participants will, in most cases, result in fiduciary status for the adviser, subject to the standard of care of the Employee Retirement Income Security Act (ERISA) and prohibited transaction (PT) rules. The PT would be receipt of the IRA advisory fee, which would not have been paid absent the participant accepting the advice. In that case, you’d need to satisfy the conditions of an exemption as described below.

The proposed exemption, if it is finalized, will be available to an adviser who makes a fiduciary recommendation and, as a result, receives additional compensation. In most instances, rollover advice will result in additional compensation for the adviser—e.g., the IRA advisory fee—that would not have been received except for the recommendation. The threshold question is whether an adviser who has rollover discussions with a participant is making a fiduciary recommendation under ERISA. If so, the receipt of the IRA advisory fee would be a PT and an exemption would be needed.

A DOL regulation defines fiduciary advice as an arrangement that satisfies a five-part test where the adviser is 1) providing advice about investments for a fee or other compensation, 2) on a regular basis, 3) under a mutual understanding, 4) that the advice will form a primary basis for the investment decision, and 5) that the advice is individualized based upon the investor’s particular needs. In the past, the DOL said (DOL Advisory Opinion 2005-23A) if an adviser who is not already a fiduciary to an ERISA plan recommends a rollover to a participant in that plan, the rollover recommendation is not a fiduciary act under the five-part test; the reason was that the adviser wasn’t providing recommendations on a regular basis.

However, in the new proposal’s preamble, the DOL says it has changed its mind: It’s adopting a new, expansive interpretation, which says a regular basis exists where:

• The adviser has a pre-existing financial advice relationship with the participant, including a non-ERISA fiduciary advisory relationship, and
• The adviser establishes a new relationship that is the first step, or is anticipated to be the first step, in an ongoing advisory relationship—e.g., providing ongoing financial advice to the participant’s rollover IRA.

The DOL acknowledges that merely executing a sales transaction at the plan participant’s request does not by itself confer fiduciary status. However, it points out, even under those circumstances, the regular basis requirement may be met if, for example, the adviser will receive trailing commissions for ongoing services with respect to an annuity.

Under this new interpretation, an adviser who has no prior relationship to the plan or the participant and recommends that a participant roll over 401(k) monies to an IRA with the adviser would satisfy the regular basis requirement. This is because the rollover advice would be the first step in an ongoing IRA advisory relationship. Also, it’s likely that the other four parts of the five-part test would be met. Under a mutual understanding with the client—e.g., an advisory or IRA account agreement—the adviser would be receiving the IRA advisory fee as a result of the rollover advice. The advice to roll the participant’s money over would be individualized based on the person’s needs—e.g., it would have to comply with the Securities and Exchange Commission (SEC)’s requirement that recommendations be consistent with a client’s investment profile—and the advice would be a primary basis for the rollover decision.

If the rollover advice is a fiduciary act under the five-part test, that recommendation would be subject to the ERISA duty of care, and the adviser would be committing a PT in receiving the IRA advisory fee. The adviser could then rely on the proposed exemption, if finalized, in order to receive the otherwise prohibited compensation.

But the exemption will have conditions that must be satisfied. We will discuss these in our next column.

Fred Reish is chairman of the financial services ERISA practice at law firm Faegre Drinker Biddle & Reath LLP. A nationally recognized expert in employee benefits law, 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.