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Newly Issued Fiduciary Rule Explained

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One of the hottest topics in the financial services industry over the last two years has been the Department of Labor’s “Fiduciary Rule” as it applies to retirement assets. There have been many debates in the U.S. Congress and among practitioners alike about the specifics of the rule and how it affects Americans. Here is a quick summary of the things you need to know.

What Exactly is the New Fiduciary Rule?

The new fiduciary rule elevates all financial professionals who work with retirement plans or provide financial planning advice on retirement assets to the level of a “fiduciary,” including brokers and insurance agents.

When Does the New Rule Take Affect?

The new fiduciary rule officially took affect on June 9, 2017, but it includes a transition period for the applicability of certain exemptions up until January 1, 2018.

What Types of Assets Are Covered Under the Rule?

Under the new fiduciary rule, the following types of assets are covered:

  • Defined contribution plans: 401(k) plans, 403(b) plans, ESOP plans, SEP IRAs, and SIMPLE IRAs
  • Defined benefit plans: pension plans or other plans that guarantee a certain payment to participants as outlined in the plan documents
  • Individual Retirement Accounts (IRAs)

Who Will Be Most Affected by the New Fiduciary Rule?

Brokers and insurance agents who work with retirement assets will feel the greatest effects of the fiduciary standard. Because brokers and insurance agents have historically been held to the “suitability” standard, being elevated to the fiduciary standard of care will likely change many of their standard business practices.

The “suitability” standard states that as long as a particular recommendation is suitable based on information about the client's age, net worth, and income level the broker is permitted to make the recommendation. This doesn’t necessarily mean that every recommendation is in the best interest of the client. For example, based on a client’s net worth, age and income level a risky new-issue IPO may be considered suitable but the client may not have the capacity for this amount of risk so the IPO would not be in the client’s best interest. Under the suitability standard the broker would be allowed to recommend the IPO to the client.

Under the new fiduciary rule, brokers and insurance agents would need to put their client’s best interests first and clearly disclose all compensation and conflicts of interest.  

What Is the “Best Interest Contract Exemption” (BICE)?

The “Best Interest Contract Exemption (BICE)” is a process that allows investment advisors to collect commissions, revenue sharing, or other types of compensation as long as specific requirements are met. It is an extensive contract between financial advisors and clients that addresses the following items:

  • Acknowledgment of the advisor’s and financial institution’s fiduciary duty to the investor
  • Disclosure of compensation and other fee information
  • A warranty that neither the financial advisor nor the financial institution will make misleading statements about information pertinent to a transaction such as fees or potential conflicts of interest
  • A list of steps the advisor/financial institution will take to mitigate potential conflicts of interest

For advisors who still wish to charge commissions for their services they will need to have clients sign a BICE. This disclosure agreement basically removes the liability of potential conflicts of interest as the investment professional has properly disclosed the potential for the conflicts of interest up front. If the client agrees to do business with this particular professional, then they have agreed to do so knowing that their best interests may not be served at all times.

How Does the New Rule Affect Plan Sponsors?

Under the Employee Retirement Income Security Act (ERISA), plan sponsors are considered fiduciaries and are charged with the responsibility of overseeing a retirement plan that works in the best interest of its participants. This includes the selection and monitoring of service providers like recordkeepers, third-party administrators, payroll providers, and investment advisors to help deliver a prudent retirement plan solution.

What will be crucial for plan sponsors to understand is when their service providers are acting as fiduciaries and when they are not. Clearly defining what services are going to be offered by each provider and what the compensation structure will be for that service will be important. When service providers are not acting as fiduciaries, the responsibility falls squarely on the plan sponsor. If any service provider is giving any sort of advice, it must be under the fiduciary standard of care. If any type of advice does not follow the fiduciary standard of care, the plan sponsor may be facing potential liability for failing to monitor its service providers.

Plan sponsors can ultimately seek to mitigate their personal liability by hiring a 3(21) or 3(38) fiduciary advisor, who assumes co-liability for selection and monitoring of investments, but it does not ultimately relieve plan sponsors from their fiduciary responsibility.

What is IFA’s Opinion on the New Fiduciary Rule?

As an independent wealth advisor, we have been held to the fiduciary standard of care since our founding in 1999. We believe that to properly provide financial guidance to investors, putting clients’ best interests first is the only way to do business and to help them succeed. Investment advice should always be motivated by doing what is best for people and grounded in academic and empirically backed research and not salesmanship.

We applaud the Department of Labor’s decision to elevate all investment professionals to the level of a fiduciary when working with something as important as Americans’ retirement assets.

How Does the New Fiduciary Rule Affect IFA Clients?

Nothing changes for current IFA clients. IFA has always been and always will be held to the fiduciary standard of care and we always put out clients’ best interests first.