RIA Compliance and Practice Management Blog

New DOL Prohibited Transaction Exemption May Impact RIA Firms Advising on IRA Rollovers

Posted by RIA in a Box

Feb 15, 2021 10:29:57 AM

DOL investment advice rule applicability to IRA rollovers

On December 18, 2020, the Department of Labor (“DOL”) published a final prohibited transaction exemption titled “Improving Investment Advice for Workers & Retirees.” The exemption clarifies that the DOL may consider IRA rollover advice provided by financial institutions, such as registered investment adviser (“RIA”) firms, to be under its regulatory purview in many circumstances. While many industry observers anticipated that this new exemption for investment advice fiduciaries would be tabled or delayed by President Biden’s administration, instead the DOL issued a release on February 12, 2021 noting that the exemption “will go into effect as scheduled on Feb. 16, 2021.” As such, RIA firms registered both at the state and federal level with the Securities and Exchange Commission (“SEC”) may need to take immediate action to be in compliance with this new exemption.

Note: RIA in a Box LLC is not a law firm and does not provide legal advice. We strongly advise that all RIA firms that provide services to individual retirement investors, pension plans, profit sharing plans, and/or retirement plans to consult with a qualified Employee Retirement Income Security Act of 1974 ("ERISA") attorney in matters relating to DOL and ERISA law. This overview is provided for general information purposes only and should not be relied upon to take any action. This post below was last updated on February 18, 2021. As the DOL issues additional guidance, we anticipate updates and/or modifications will be made to this solely educational overview.

Two Potential Go-Forward IRA Rollover Options for RIA Firms
This new prohibited transaction exemption generally provides RIA firms with two options as relates to IRA rollovers:

  1. Provide only general investment education regarding rollovers. Here, the RIA firm would not need to avail itself of the new prohibited transaction exemption; or
  2. Provide investment advice regarding rollovers that affects compensation. Here, the RIA firm would need to utilize the new prohibited transaction exemption, with requirements including advice subject to the “Impartial Conduct Standards” and a series of other disclosure, documentation, policies and procedures, and annual review requirements.

While this post is not intended to provide a full overview of the DOL’s new stance on investment advice regarding rollovers, it is worth taking stock of certain actions that may comprise fiduciary investment advice. In particular, the preamble notes:

A recommendation to roll assets out of a Title I Plan is advice with respect to moneys or other property of the plan and, if provided by a person who satisfies all of the requirements of the five-part test, constitutes fiduciary investment advice.

In layman’s terms, this likely means that most RIA firms serving retail clients will not be able claim that they are only providing general "investment education" regarding rollovers. As such, it appears many advisory firms may need to utilize this new prohibited transaction exemption when providing IRA rollover advice to prospective and current clients.

This new exemption is similar to the previous “Best Interest Contract Exemption.” That exemption was originally put into place by the DOL Fiduciary Rule passed during President Obama’s administration, but was later overturned during President Trump’s administration. However, there are some key differences. For example, in the preamble to this new exemption the DOL does explicitly note:

The Department does not intend that the fiduciary acknowledgment or any of the disclosure obligations create a private right of action as between a Financial Institution or Investment Professional and a Retirement Investor, and it does not intend that any of the exemption's terms, including the acknowledgement, give rise to any causes of action beyond those expressly authorized by statute.

Furthermore, the DOL states in the preamble:

While the Department may lack certain enforcement jurisdiction with respect to IRAs, it does not lack the ability to issue exemptions to the prohibited transaction provisions under Code section 4975. The Department has authority to grant prohibited transaction exemptions, as well as the associated authority to determine whether the conditions of its exemption are being met by reviewing records for the purpose of determining that compliance.

Thus, while still an evolving topic, it is anticipated that this new exemption will be enforced directly by the Department of Labor and Internal Revenue Service.

And lastly, it's important to note that his new exemption does not apply to discretionary investment advice:

The exemption is also specifically limited to investment advice fiduciaries within the meaning of the five-part test and does not include discretionary arrangements.

What RIA Firms Can Consider Doing In the Near Term
Although the DOL announced this new exemption would go into effect as of February 16, 2021, the DOL’s release also reaffirmed that the “temporary enforcement policy stated in Field Assistance Bulletin 2018-02 will remain in place until Dec. 20, 2021.” The field assistance bulletin clarifies that:

the Department will not pursue prohibited transactions claims against investment advice fiduciaries who are working diligently and in good faith to comply with the impartial conduct standards for transactions that would have been exempted in the BIC Exemption and Principal Transactions Exemption, or treat such fiduciaries as violating the applicable prohibited transaction rules.

Thus, until December 20, 2021, it's possible RIA firms providing fiduciary investment advice regarding IRA rollovers may not need to meet the full requirements of this new exemption as long as the firm is complying with the 2018-02 bulletin during this transition period.

The Impartial Conduct Standards
The preamble to the new exemption states:

The Impartial Conduct Standards have three components: a best interest standard; a reasonable compensation standard; and a requirement to make no misleading statements about investment transactions and other relevant matters.

Section II of the exemption further notes:

(a) Impartial Conduct Standards. The Financial Institution and Investment Professional comply with the following “Impartial Conduct Standards”:

(1) Investment advice is, at the time it is provided, in the Best Interest of the Retirement Investor. As defined in Section V(b), such advice reflects the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims, based on the investment objectives, risk tolerance, financial circumstances, and needs of the Retirement Investor, and does not place the financial or other interests of the Investment Professional, Financial Institution or any Affiliate, Related Entity, or other party ahead of the interests of the Retirement Investor, or subordinate the Retirement Investor's interests to their own;

(2)(A) The compensation received, directly or indirectly, by the Financial Institution, Investment Professional, their Affiliates and Related Entities for their services does not exceed reasonable compensation within the meaning of ERISA section 408(b)(2) and Code section 4975(d)(2); and (B) as required by the federal securities laws, the Financial Institution and Investment Professional seek to obtain the best execution of the investment transaction reasonably available under the circumstances; and

(3) The Financial Institution's and its Investment Professionals' statements to the Retirement Investor about the recommended transaction and other relevant matters are not, at the time statements are made, materially misleading.

Regarding compensation and fees, the preamble clarifies:

Under the exemption, the Financial Institution and Investment Professional are not required to recommend the transaction that is the lowest cost or that generates the lowest fees without regard to other relevant factors. In fact, the Department agrees with commenters that recommendations of the "lowest cost" security or investment strategy, without consideration of other factors, could in some cases even violate the exemption.

The preamble further notes:

While the Department agrees that the cost of an investment product will be a factor in every recommendation, the best interest standard envisions that all of the characteristics of an investment product—not just its cost—will be evaluated based on Retirement Investors' investment objectives, risk tolerance, financial circumstances, and needs.

With respect to best execution, the preamble highlights:

the Department notes that the exemption's requirement that the Financial Institution and Investment Professional seek to obtain best execution is the second part of an overarching "reasonable compensation" condition which is not limited to best execution…the best execution requirement is consistent with federal securities law, and compliance by the Financial Institution and Investment Professional with the applicable statutory and regulatory provisions is sufficient to comply with the requirement.

What Comes Next
In the February 12, 2021 DOL press release, the agency noted that in the coming days “the agency will publish related guidance for retirement investors, employee benefit plans and investment advice providers.” As such, it is anticipated that additional guidance and clarification will be issued regarding both the definition of “investment advice” and the broader compliance with this new exemption.

In the interim, RIA firms that wish to continue to provide rollover advice should be immediately prepared to meet the transition period requirements and prepare to be in full compliance with this exemption, which includes requirements such as:

  • Comply with the Impartial Conduct Standards
  • Provide disclosure including a written fiduciary acknowledgement, description of services, conflicts of interest, and specific reasons for the rollover recommendation
  • Establish, maintain, and enforce written policies and procedures to ensure compliance with the Impartial Conduct Standards, mitigate conflicts of interest, and document that any rollover recommendation is in the best interest of the investor
  • Review the compliance program, at least annually, which includes a written report which is provided to and certified by a senior executive officer of the financial institution
  • Maintain applicable records and reports for a period of six years

Be sure to check back soon as we continue to provide additional updates related to this latest DOL prohibited transaction exemption.

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Topics: RIA Compliance

RIA in a Box LLC is not a law firm, investment advisory firm, or CPA firm. RIA in a Box LLC does not provide legal advice or opinions to any party or client. You should always consult your relevant regulatory authorities or legal counsel if applicable.

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