Securities Law & Corporate Counsel Blog

In early 2021, a prohibited transaction exemption (“PTE”) issued by the Department of Labor (“DOL”) took effect that allows qualifying investment advisers to receive conflicted compensation resulting from nondiscretionary fiduciary investment advice.

The PTE permits the authority for investment advice fiduciaries to roll over assets from an Employment Retirement Income Security Act (“ERISA”) Qualified Plan (each a “Plan”) to an Investment Retirement Account (“IRA”), and to engage in principal transactions, that would otherwise violate the prohibited transaction provisions of Title I of the ERISA Act of 1974 and the Internal Revenue Code of 1986. The PTE is titled “Improving Investment Advice for Workers & Retirees.”[1]

From the guidance provided thus far, the PTE applies to Securities and Exchange Commission-and state-registered investment advisers, broker-dealers, banks, insurance companies, and their employees, agents, and representatives that are investment advice fiduciaries. It is believed that the PTE exemption will retain a broad protective framework, including the Impartial Conduct Standards; disclosures, including a written acknowledgment of fiduciary status; policies and procedures prudently designed to ensure compliance with the Impartial Conduct Standards and that mitigate conflicts of interest; and a retrospective compliance review. 

The DOL’s 5-Step Test

It is believed that part of the PTE exemption will include references to allow the DOL access to review record keeping; written disclosures as to why the recommendation was made, and reasons that the rollover recommendation was in the Plan holder’s best interest. It is also anticipated that the PTE exemption will include a five-part test to determine if an individual or entity is deemed an ERISA fiduciary for purposes of qualifying for the PTE exemption.

Based on the published guidance so far, and under the 1975 regulation issued by the Department of Labor, in order for advice to constitute “investment advice,” a financial institution or investment professional who is not a fiduciary under another provision of such 1975 regulation[2]  must do all of the following:

1. Render advice as to the value of securities or other property, or make recommendations as to the advisability of investing in, purchasing, or selling securities or other property,
2. The aforementioned advice shall be offered on a regular basis, 
3. Such advice is provided pursuant to a mutual agreement, arrangement, or understanding with the Plan, Plan fiduciary or IRA owner, that, 
4. Such advice will serve as a primary basis for investment decisions with respect to Plan or IRA assets, and, 
5. Such  advice will be individualized based on the particular needs of the Plan or IRA.

How the DOL Defines “Rollover”

It is understood that the PTE exemption and associated expansion of the definition of “fiduciary advice” may be advantageous for those fiduciaries governed by the PTE who make recommendations to Plan participants to consider taking rollovers to IRAs.

In pertinent part, the DOL considers a recommendation for a direct or indirect rollover to be:

• A recommendation to take a distribution and transfer it to another Plan,
• A recommendation to take a distribution and transfer it to an IRA,
• A recommendation to transfer money from an IRA to a Plan,
• A recommendation to transfer money from an IRA to another IRA, or
• A recommendation to transfer money from a tax-qualified or ERISA-governed Plan to another type of account, such as one from a commissioned-based account to a fee-based account.

Developing Required Processes, Policies, and Procedures

Since there were less than 60 days from the effective date (i.e., December 20, 2021) of the DOL’s exemption, it is believed that compliance departments will have had insufficient time to put the requisite processes, policies, and procedures in place. Accordingly, the DOL and IRS have stated that financial institutions and investment advisers can rely on Impartial Conduct Standards until December 20, 2021[3]. It is anticipated that compliance on all conditions in connection with the PTE exemption will become mandatory after that date.

It is recommended that all compliance personnel and department(s) note the differences in language used by the DOL and the U.S. Securities and Exchange Commission (SEC) when making a fiduciary or best-interest recommendation for a rollover.

The Value our Skilled Consultants Can Provide

It’s easy to feel overwhelmed by the DOL’s new PTE exemption, the SEC’s pending investment adviser marketing rule, and the many emerging challenges that your firm may face. The legal and compliance experts at Jacko Law Group, PC, can help you and your team through these challenging times. Contact us at 619.298.2880 or online at www.jackolg.com to schedule a consultation.

[1] See Prohibited Transaction Exemption 2020-02 - https://www.govinfo.gov/content/pkg/FR-2019-07-12/pdf/2019-12208.pdf

[2] See https://www.govinfo.gov/content/pkg/FR-2020-12-18/pdf/2020-27825.pdf

[3] See https://www.federalregister.gov/documents/2016/07/11/2016-16355/best-interest-contract-exemption-correction