Swift Congressional Action Could Follow Fiduciary Rule

Leading a conference call with reporters, Lee Covington, senior vice president and general counsel for the Insured Retirement Institute (IRI), said there is a lot of common ground between investment industry practitioners and federal regulators heading into 2015.

Both camps have a stated focus on solving retirement issues, Covington said, especially in the areas of improving access to lifetime income guarantees through tax-qualified retirement plans and continuing the uptake of automatic plan enrollment and deferral escalation features codified by the Pension Protection Act. However, key points of contention remain between lawmakers and investment service providers working with retail and retirement plan investors, according to the IRI, especially when it comes to the tax treatment of retirement plans and the fiduciary nature of different forms of investment advice.

Covington’s comments were made in anticipation of President Obama’s annual State of the Union address. He said the IRI expects Obama to directly address retirement security issues in this year’s State of the Union, and that the advocacy group is generally optimistic about the chances for investment industry and regulatory professionals to come together on concrete steps to improve American workers’ retirement security in 2015.

Besides the potential for tax reform to diminish the favorable tax treatment of qualified retirement plan investments, one area of uncertainty and disagreement remains the Department of Labor’s (DOL) pending fiduciary redefinition, now referred to by the DOL as the “conflict of interest rule.” The DOL has maintained that it will release the rule sometime near the end January or shortly thereafter, though this timing increasingly seems tenuous, Covington said, given substantial vetting requirements of the Office of Management and Budget, which has reportedly not yet started its mandatory review of rule language from the DOL.

The DOL first proposed the fiduciary redefinition circa October 2010, leading to significant industry backlash claiming the proposed rule was too broad and would disrupt established business practices of financial advice and investment institutions interacting with employee benefit plans. In short, the original rule would have significantly widened the class of investment professionals and firms defined as fiduciary investment advisers, Covington explained.

Then as today, many investment services providers claimed a stronger fiduciary rule will do more harm than good, potentially cutting off advice access for less affluent investors. The DOL challenges this assessment, citing the importance of rooting out conflicts of interest in all parts of the investment advice industry.

Covington said the IRI takes the position that any new fiduciary definition could be harmfully disruptive if not structured appropriately. “If the rule looks like it originally did, and that’s a big if, we think that it’s very likely we will see swift and significant Congressional reaction moving to oppose it.”

Speaking with PLANADVISER after the call, Covington said there are a number of actions that Congress could take to attempt to blunt the impact of a strict new conflict of interest rule. He was quick to warn that it’s still unclear which path will be taken by the now Republican-controlled Congress, or if any of these options will even be necessary.

First, Covington said Congress could take an appropriations-based approach, which would put binding language in the DOL’s funding mechanisms that would prohibit the agency from using any money to move forward with implementing or enforcing the new rule.

“The second option would be the option outlined in Senator Orrin Hatch’s well-known bill, which would restore joint jurisdiction over insured retirement accounts [IRAs] to the U.S. Treasury Department,” Covington said. “Of course, this would only blunt some of the impact of this for the IRA segment of the market.”

Covington said the third option would be for Congress to codify the current five-part test commonly used for identifying fiduciaries (outlined in a DOL fact sheet from 2011), “including the exemptions that are contained in the rule proposal, including the seller’s exception.”

These actions would all most likely require the approval of President Obama, Covington noted. Conceding that it’s usually unlikely for a sitting president to directly oppose the agenda of his own executive agency, Covington noted that the appropriations approach could have some legs moving forward.

“As we all know, federal appropriations bills are often folded up together in very large packages, which could really impact Congress’s and the president’s calculus on that approach,” Covington said. “And again, this scenario only plays out if the DOL proposes a rule that would have the same negative consequences as the original proposal. We’re still hopeful that they will issue a rule that won’t have these problems.”

Covington concluded by observing there are “rumors” that the DOL may deal with some of the industry’s challenges to a stricter fiduciary standard by issuing a long list of prohibited transaction exemptions as part of the new rule, but Covington disputes the logic behind such an approach.

“We don’t think the approach of making a strict rule and then issuing a long list of exceptions would make any sense,” he said. “Why make somebody a fiduciary and then immediately turn around and issue a prohibited transaction exemption for them? What does that accomplish beyond complicating the system even further? All the ERISA experts that we are in touch with say that it would be next to impossible to effectively craft this kind of a rule in that way—relying on a long list of complicated, detail prohibited transaction exemptions. We don't believe it's a tenable approach.”