Category Archives: ERISA Compliance

Is the DOL Fiduciary Rule the End of Solicitor Arrangements? – Part 2

In my last blog, I discussed why the solicitor structure has grown in popularity and why it will continue in the future but without the same benefits enjoyed in the past. In this blog post, I review how the DOL’s Fiduciary Rule will change the role and structure of the solicitor.

First and foremost, every solicitor will become a fiduciary on April 10, 2017. As a fiduciary, a financial adviser (FA) is subject to an ERISA fiduciary standard. This alone may be sufficient reason for some FAs to exit the industry, but what is more likely to happen is a flood of new fiduciaries will be marketing to retirement investors. Consider that there are approximately 700,000 retirement plans filing a 5500, but this number is dwarfed by the 40+ million homes that hold an IRA. In other words, there are approximately 60 times more IRAs than retirement plans, so it is safe to assume there are more FAs handling IRAs than retirement plans. In short, we will see a drastic increase in the number of fiduciary advisors in the market.

In addition, based on our own internal survey, IRA assets held by a Broker-Dealer (B-D) range between 40 and 80% of B-D total assets. However, many of these FAs know very little about ERISA fiduciary standard of conduct. This lack of knowledge increases B-D litigation risk as tens of thousands of misguided fiduciary missiles seek to secure new engagements or service existing clients. B-Ds will have to establish new training protocols in conjunction with compliance oversight to mitigate this risk. More on training to follow in our next blog.

Keep in mind that many of the FAs that handle IRA assets have historically avoided the retirement plan market place altogether; however, if they want to continue working and building their IRA practice they now have they have no choice but to become familiar with and adopt the ERISA fiduciary standards and obligations into their practice. As a result, we will likely see a drastic increase in FAs and Insurance Agents taking the Series 65, and I would not be surprised to see testing centers unable to accommodate FA’s date requests the longer the FA procrastinates. My advice, order the Series 65 study materials now and take the test ASAP.

After the Series 65 is passed, FAs will have to secure Fiduciary Errors & Omissions (E&O) coverage. Trust me, your competitors that live and breathe ERISA will be sure to tell your clients (their prospects) they should not deal with anyone that does not have Fiduciary E&O. Of course, this is an added cost of doing business that has not been necessary in the past for most FAs. Small B-Ds that have prohibited their registered reps from using the “f” word will find this cost difficult to swallow, whereas many of the larger B-Ds have turned this cost area into a profit center due to their bulk buying power. I suspect between this cost and the technology costs necessary to monitor the FAs business subject to the new DOL Fiduciary rule, many small B-Ds will give consideration to a merger or acquisition.

Once the FA has secured the Series 65, consideration should be given to the FA’s business model. Whether an FA decides to adopt a fee-based business model or continue exclusively in a commission-based, new agreements, contracts, policies, procedures, and website disclosures will need to be created. The cost for ERISA legal counsel to draft these documents after gathering an understanding of the business model will be a new cost for the FA, their B-D and/ RIA. Small independent RIAs will bear the full brunt of this cost whereas much larger organizations may be able to secure these documents as part of normal overhead. Either way, these new documents and disclosures represent more work and cost.

Regarding the business model, an FA currently in a solicitor arrangement will need to update their contract with the client to reflect their fiduciary status. This represents additional work and client education, but, more importantly, it changes the dynamic of the FA’s relationship with the RIA they referred. First, the FA will need to address their responsibility to monitor the RIA. Remember, recommending an RIA to a retirement investor is a fiduciary act. As a fiduciary act you must monitor the RIA to ensure they continue to meet the client’s needs and objectives. So, there is more work and risk to the FA for no additional pay. Second, since the FA is a fiduciary, the recommendation to use an RIA could be challenged as a prohibited transaction. You may recall, a fiduciary cannot use its position to increase its compensation. This is found under 29 C.F.R. 2550.408b-2(e)(1) which states:

“Thus, a fiduciary may not use the authority, control, or responsibility which makes such person a fiduciary to cause a plan to pay an additional fee to such fiduciary(or to a person in which such fiduciary has an interest which may affect the exercise of such fiduciary’s best judgment as a fiduciary) to provide a service. Nor may a fiduciary use such authority, control, or responsibility to cause a plan to enter into a transaction involving plan assets whereby such fiduciary (or a person in which such fiduciary has an interest which may affect the exercise of such fiduciary’s best judgment as a fiduciary) will receive consideration from a third party in connection with such transaction.[Emphasis added.]

I suspect this is more of a concern for the FA that provides no service other than a referral, than for the FA that was engaged to provide non-fiduciary services. However, every financial institution will need to consult with their legal counsel to determine the extent to which this issue presents a fiduciary risk.

As you can see there are numerous issues that both the Financial Institution and the FA will need to address. I am sure that some FAs will choose to leave the industry, but it seems hard to fathom a smaller number of marketing RIAs in the future. Those that choose to stay engaged will need to change their business model to align with the new DOL Fiduciary Rule. It will cost more, there will be more work, more risk, and no additional pay at this point. FAs that have never provided an investment review to monitor the investments will need to do so in the future to justify their compensation especially on complex products. Of course, there is plenty of opportunity but even the optimistic FA will need to temper their enthusiasm with a large dose of pragmatism.

As printed in the eMoney Blog.

Additional Thoughts on the Latest Tussey v. ABB Decision: Fiduciary Lessons Aplenty

As we covered in our last post, the district court’s latest decision in Tussey v. ABB found ABB breached their fiduciary duties but imposed no monetary damages on a procedural technicality. The moral victory for the plaintiffs, however, can still prove to be instructive for other fiduciaries responsible for the selection and monitoring of plan investments. Based on this case, past case law, as well as Department of Labor publications including the most recently issued Field Assistance Bulletin 2015-02, there are six basic obligations a fiduciary must consider when selecting and monitoring investments including:

  1. Engage in an objective, thorough and analytical search,
  2. Avoid self-dealing, conflicts of interest, or other improper influence,
  3. Consider the risk associated with the investment versus alternatives,
  4. Consider ALL costs in relationship to services provided,
  5. Ensure the investment is diversified to minimize the risk of large losses, and
  6. Consult with experts when that expertise is lacking.

Not adhering to this six step process, ultimately resulted in a finding of a breach. According to the court, “ABB’s inconsistent explanations for removing the Wellington Fund and mapping its assets to Fidelity Freedom Funds, the fact that ABB took a substantial part of the PRISM Plan’s assets and put them in an investment that was so new that ABB needed to make an exception to the IPS, and Fidelity’s explicit offer to give ABB a better deal if the Wellington assets were mapped into the Fidelity Freedom Funds” were all reasons cited for the court’s conclusion that ABB was conflicted when it chose to replace Wellington with Fidelity Freedom Funds. Had ABB adhered to the six step process, the outcome would likely have been different because documentation showing compliance with ERISA’s fiduciary duties would have been in place to exonerate ABB.

So what is the lesson here for other ERISA fiduciaries? If you are faced with the opportunity to reduce costs by using proprietary investments, consider documenting your reasons to adopt proprietary funds by answering the following questions:

  1. Are we using proprietary funds?
  2. Are we replacing an existing fund with a proprietary fund?
  3. Have we selected proprietary funds based on the standards and criteria established in the IPS?
  4. If an exception is necessary to use a proprietary fund, should we change the IPS standards and criteria permanently?
  5. Are we using a proprietary fund because it is in the best interests of participants or because it reduces the cost to the Plan Sponsor?
  6. How are we accounting for any additional revenue sharing from the use of the proprietary funds?

It is worth noting that case law has not prohibited the use of proprietary funds, the collection of revenue sharing, or the payment of plan expenses from plan assets. However, fiduciaries must understand that the use of proprietary funds creates an opportunity for additional liability issues to arise that must carefully and deliberately be addressed.

$140 Million Settlement: What it Means to Your Retirement Plan Practice

[The following article by David Witz originally appeared on the eMoney Advisor blog and is reposted here with permission]

In December 2014, two parties in a high-profile ERISA fiduciary breach case filed a motion for the court to approve a settlement worth $140,000,000. This settlement is nearly 10-times greater than some other recent high-profile settlements. To date, this is the largest settlement ever in an ERISA fiduciary breach case involving the receipt of revenue sharing by a service provider.

The lawsuit was originally filed against the defendant in 2001 over an allegation that undisclosed revenue sharing payments from non-proprietary mutual funds were made in violation of ERISA. By no means is this an indication that group annuity contracts are prohibited from use or that the settlement is an admission there was any wrong doing or that the allegations are true. However, the settlement does include a number of action items that I suggest represent a blueprint to mitigate litigation risk for any retirement plan whether it is funded with a group annuity contract or a trust.

If you are an advisor that sells and services retirement plans, you need to consider adopting the following recommendations in your business. These recommendations will require the establishment of new documented processes and procedures that will add to an advisor’s labor burden but result in mitigated litigation risk.

  1. Present all products offered by a single-covered service provider (“CSP”) that your prospect or client qualifies to purchase. Typically, multiple products are tied directly to different pricing scenarios that should be communicated to the responsible plan fiduciary (“RPF”) in order to make an informed decision. Any changes that affect pricing after the buying decision is made should also be reviewed with the RPF within 60 days. Clients using Legacy products that have been replaced with more efficient and cost-effective contemporary solutions should be informed of the opportunity to adopt a better solution.
  2. If the CSP offers the same investment option in multiple share classes, present your recommended menu with each share class, or at least the book-ends to demonstrate each pricing scenario or range.
  3. Identify which investment options are proprietary, non-proprietary, and sub-advised, and identify the cost impact by using one type of fund over another.
  4. Disclose the gross and net operating expense ratio, the 12b-1, and any other indirect fee by fund. In addition, disclose the amount as a percent and dollar amount, who can receive it, and who pays it.
  5. Provide the RPF with an estimate of the revenue sharing expected for each fund at the beginning of the plan year and a final tally of the revenue sharing paid for each fund at the end of the year. The amount of revenue sharing paid should be compared to other platforms to confirm that the amounts received are competitive.
  6. Document the file for any investment option additions, removals, or substitutions added during the course of the contract year by the plan sponsor and the effect that will have on overall cost. Documentation must include affirmative consent to the investment change by the plan’s trustees or the investment manager. Investment changes imposed by the CSP, i.e., product vendor, must provide the RPF with the option to terminate the relationship.
  7. Provide access to this information on your website and store the information in a document lockbox.

Keep in mind that these recommendations are not legal requirements, though some are imposed specifically on the defendant as a result of the settlement agreement. To learn how PlanTools technology can assist with meeting these objectives contact David J Witz by email or at 704-564-0482.

Benchmarking – All About that Fee

Stealing a tag line from the new hit song “All About That Bass” this blog post outlines a practical approach to benchmarking fees in a manner that complies with ERISA 408(b)(2) fee disclosure. As you may recall, ERISA 408(b)(2) is designed to provide a responsible plan fiduciary (“RPF”) with sufficient information to determine if fees are reasonable and conflicts are avoided.

In general, the information a covered service provider (“CSP”) is obligated to provide a RPF includes their fiduciary status, a description of their services, and the fees charged for those services. This information provides the foundation for preparing a quantitative fee benchmarking assessment. Once this information is in hand, it can be loaded into a benchmarking database to run a comparative assessment. Databases with information on many different plans are better than ones that represent a single service provider platform.

For the results to be reliable, the plan must be benchmarked against other plans that are similar in size by plan assets and participant count. The more similar, the more accurate the benchmarking results. It is also best practices for a quantitative assessment to be accompanied by a subjective qualitative analysis from the perspective of the RPF. Complex plans with size advantages may be better off using benchmarking combined with a formal request for proposal (“RFP”) process to validate fee reasonableness.

The depth of your benchmarking report will impact your ability to draw reasonable conclusions about fee reasonableness. Failure to comprehensively consider services rendered, who pays for those services, and how those services are paid are all material elements of sound benchmarking. Taking short cuts in the collection and evaluation of pertinent data, subjects benchmarking results to criticism the process was imprudent. In short, this is one process that cannot be taken lightly.

However, implementing a proper process with appropriate documentation to support fiduciary procedural prudence protects both the plan sponsor and the CSP by preventing a plan from paying unreasonable fees and protecting a CSP from receiving less than reasonable fees for services rendered.

If you would like further information on how to ensure a retirement plan is paying reasonable fees or how to benchmark a plan’s fees, call or email me at 704-699-7031 or jwitz@fraplantools.com.

Settlement Provides Guidance on Fiduciary Governance

Once the parties in complex litigation agree on the terms of a settlement, it is not common for a court to reject the settlement unless there is some profound error or injustice. As the the recent settlement in Goldenstar Inc. v. MassMutual Life Insurance Co. (see MassMutual Settles Excessive Fee Lawsuit) is very similar to past ERISA settlements including the recent one against ING (see ING Settles ERISA Class Action Lawsuit Over Revenue Sharing Practices) we anticipate the settlement will be approved. While a settlement holds no weight beyond the signatory parties, and here the class represented by the named plaintiffs, the terms of a settlement can be highly instructive to observers.

As such, a fiduciary should view this settlement as an opportunity to adjust internal policies, processes and procedures of their fiduciary governance as the issues raised in this case could affect how fiduciaries and service providers interact. For example, at the next fiduciary committee meeting or before signing a service agreement with any covered service provider (“CSP”), the following questions should be considered by the responsible plan fiduciary(ies)?

  1. Has the CSP provided us a list of all available investment options?
  2. Does our CSP provide a notice of any additions and deletion from the menu of options?
  3. Does any CSP have the discretion to remove an investment from the menu without the prior authorization of the responsible plan fiduciary?
  4. Has your CSP agreed not to delete, change or replace your investment options without providing the responsible fiduciary with 60 days advanced notice and their affirmative agreement to the change?
  5. Has the CSP agreed to provide the responsible plan fiduciary with a disclosure that identifies the operating expense ratios for each investment alternative along with the revenue paid (revenue sharing) by the investment alternative to any CSP other than for investment management services?
  6. Does the responsible plan fiduciary have the option to pay all plan fees except the operating expense ratio for investment management services directly from the corporate account versus deducting the fees from indirect fees passed to the CSP from the investment alternatives as revenue sharing?
  7. Does the responsible plan fiduciary have the option of using investment alternatives that do not provide any indirect payments to the CSP?
  8. Does the CSP have the discretion to unilaterally adjust their compensation?
  9. Does the responsible plan fiduciary require a description of any previous or active law suits or settlements resulting from litigation filed against the CSP?

By addressing these questions, a fiduciary can make an informed decisions based upon a documented process that will go towards addressing the procedural prudence required by ERISA.