Category Archives: Industry News

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.

Education Isn’t a Best Practice It Is A Requirement

Expect to see more articles on the subject of Fiduciary Education in the months to come e.g., (Investment News) and do not be surprised to see the following Department of Labor (DOL) position on training from the preamble quoted in those articles:

In particular, Financial Institutions must ensure that Advisers are provided with information and training to fully understand all investment products being sold, and must similarly ensure that customers are fully advised of the risks.” 

While we await the DOL’s response to many questions, a plain reading of the statement above implies a new fiduciary standard of product expertise, not previously expected of advisers in the past, has been established. Although adviser success has historically been measured by who they know, it now appears that adviser success will be based on what they know especially if fiduciary risk mitigation is an adviser priority.

More specifically, does the adviser fully understand the risk associated with the recommendation and has the adviser fully educated the investor of all risks so s/he can make an informed decision? Furthermore, is the adviser educated on the role a recommendation might fill under an ERISA standard of care? In other words, the adviser not only needs to be educated about the products they recommend but also why the products recommended are prudent and meet the best interest standard of care.

With less than 7 months before April 10, 2017, effective date, product manufacturers are under the gun to provide the necessary product education to their distribution channels. Smart compliance officers will demand documentation to support a claim their adviser has been adequately trained on each product they sell before permitting an adviser to sell that product after April 10, 2017. I also foresee a compliance officer prohibiting any adviser from selling products without documented proof they have been properly trained to mitigate litigation risk. Unfortunately, it is impossible for a product manufacturer to train all the advisers they have agreements with by April 10, 2017, if the education is delivered face to face. To reach all advisers that have or may sell your products you must establish an online Learning Management System (LMS) deliverable.

In other words, training must be web-based, on-demand, and gamified. Training tracks should include multiple modules that are content-rich. Between the education and the test, it should take no more than 15 minutes per module. Upon completing each module and successfully passing the test the adviser should be given a certificate of completion with a compliance officer access to pull reports that track adviser activity. Content must not only cover the product comprehensively, it must also address ERISA nuances especially fiduciary duties. ERISA training should be provided by a law firm since plaintiff attorneys tend to hold training from the peers in higher regard than ERISA laypeople. In short, training provided by an attorney on ERISA statutes, regulations, and judicial decisions is a strategy that maximizes risk mitigation.  However, product modules should be prepared by the product manufacturer to avoid liability for education that cannot be controlled by a party outside of the product manufacturer.

FRA PlanTools and Wagner Law Group have partnered together to provide a low-cost solution that can be provided for free to advisers if structured properly.

To learn more about this solution visit www.erisatraining.com. For more information, contact David Witz at 704-564-0482 or dwitz@fraplantools.com

Seriously? Yale Law Professor Sends Letters to Plan Sponsors Alleging Potential Fiduciary Breach

In an article published this morning on napa-net.org by Brian Graff, CEO/Executive Director of ASPPA and NAPA, the retirement industry has learned that a Yale law professor is sending out letters to plan sponsors claiming that he has identified their sponsored retirement plan as a “potential high-cost plan.” In response, a plan sponsor is supposed to (a) contact Ayres if they have questions or (b) go to brightscope.com and search for their plan.

In the redacted example letter posted by napa-net, Ayres claims that the plan ranks 34,367 out of 46,875 plans in the brightscope database analyzing 5500 data from 2009.

The professor, Ian Ayres, and colleague Quinn Curtis, also claim to be publishing a study in the spring of 2014 about the “financial impact of investment and administrative fees in retirement plans.”  A draft of that study is available on Ayres’ website.

Graff is, unsurprisingly, highly critical of Ayres’ letter writing campaign, calling the tone of the letters “shocking.” His list of criticisms include:

  • The data is old — 2009 Form 5500 data — and insufficient to make any meaningful relative comparisons.
  • The data is incomplete since it ignores fees paid directly by the plan sponsors, thus not allowing for a complete assessment of the reasonableness of aggregate fees.
  • The data does not take into account the relative complexity of the plan design.
  • The data does not factor in levels of service or relative performance, including whether a professional plan advisor is helping the plan sponsor and participants.

We at FRA PlanTools have reviewed the draft study as well as another version of the letter being sent to plan sponsors. This letter doesn’t offer a ranking of the plan, but instead after claiming the plan is a potential high-cost plan, apparently offers unsolicited legal advice:

  • “As a 401(k) plan administrator, you have a fiduciary duty to plan participants. Fiduciary duties are the most stringent imposed by the law, and require administrator to act solely in the interests of plan participants. Plaintiffs have won substantial settlements, for example in Braden v. WalMart Stores (2009), by claiming that plans imposed excessive costs. Menus that don’t allow for sufficient diversification can also give rise to liability for the plan sponsor. To best comply with your duties to plan investors, I recommend that you improve your plan offerings, including adding lower-fee options, both at the plan and fund-level, and consider eliminating high-fee funds that do not meaningfully contribute to investor diversification.”

Additionally interesting to us is that in the letter posted to napa-net, Ayres claims to be comparing the targeted plan against a universe of 46,875 plans, where as in his draft study, he has limited the universe to just 3,552 due to the difficulty of comparing plan costs. Another unexplained inconsistency is that the draft study claims that brightscope only has 12,475 plans with an end date of December 31, 2009, but again, the letters being sent claim a universe of 46,875. 

Also unexplained is, if they already have their draft study and a universe of plans to draw their assumptions from (3,552 plans), what is the motive of these professors and brightscope in sending these letters? What’s the next step by a plan sponsor that helps the professors with the draft study? What’s the next step by a plan sponsor that helps brightscope?

Finally, let me provide a brief  insight into my previous life as an ERISA litigator on behalf of plan participants. I spent considerable amounts of time analyzing Form 5500 data in support of potential and actual litigation. This has led to me being asked to speak at the CFDD conference on the topic in October and previous blog posts on the subject. I can say with a 100% guarantee that we never threatened fiduciary breaches or filed litigation alleging the same with only data from Form 5500s. Especially using data that is currently 4 years old and will be 5 years old at the time these plan sponsors will allegedly be “out-ed” on Twitter and in the New York Times.

The response of the industry to these letters and study will be interesting, to say the least.