DOL to start implementing new trust board exemption
On December 18, 2020, the United States Department of Labor (DOL) adopted Exemption of prohibited transactions 2020-02, Improving investment advice for workers and retirees (PTE 2020-02 or the Exemption), a new transaction exemption prohibited under Title I of the Employees Retirement Income Security Act of 1974 (ERISA), as amended, and the Internal Revenue Code of 1986, as amended (the Code), which affects registered investment advisers (each, an advisor) who provide fiduciary investment advice to retirement investors, a term which includes plan members workplace retirement plans (plans) and plan beneficiaries, individual retirement accounts (IRAs) and plan and IRA trustees. Specifically, PTE-2020-02 allows such advisors to receive otherwise prohibited compensation, including commissions, 12b-1 fees, trailing fees, selling charges, revenue sharing payments, and mark-ups. and markdowns in certain major transactions, in exchange for a fiduciary rendering of investment advice. It is important to note that the PTE 2020-02 also broadened the scope of the term “fiduciary investment advice” so that more advisers can be considered as trustees under the PTE 2020-02 and will therefore need the protections offered. by exemption. The PTE 2020-02 entered into force on February 16, 2021; however, the application of the exemption has been delayed until January 31, 2022. Therefore, parts of the exemption will be applied from February 1, 2022, and the remaining parts of the exemption will be applied from July 1, 2022.
Fiduciary investment advice
Under ERISA, an advisor to a plan is a trustee when it “makes[ing] investment advice for remuneration or other remuneration, direct or indirect, in respect of any sum of money or other property of these [P]lan, or ha[ving] any authority or responsibility to do so. The Code includes a parallel provision defining a trustee of a tax system, including IRAs. The DOL has adopted a five-step test to determine when recommendations constitute investment advice by a trustee under ERISA, which test also applies to the definition of trustee in the Code. For the purposes of this test, recommendations are considered investment advice when (i) advice is given as to the value of securities or other property, or as to whether to invest, buy or sell securities or other property; (ii) regularly; (iii) under a mutual agreement, arrangement or understanding with the Plan, the Plan Trustee or the Owner of the IRA; (iv) that the recommendation will serve as the main basis for investment decisions regarding the assets of the Plan or the IRA; and (v) that the recommendation will be individualized based on the particular needs of the plan or the IRA.
Under PTE 2020-02, renewal recommendations made to plan members and beneficiaries and IRA owners may also constitute fiduciary boards. The term “renewal” is interpreted broadly to include a transfer from: (i) a plan to an IRA, (ii) a plan to another plan, (iii) an IRA to a plan, (iv) an IRA to another IRA, and (v) from one type of account to another (for example, from a brokerage account to an advisory account). A recommendation for renewal is considered fiduciary investment advice when it passes the five-part test described above. Consequently, a single, discreet recommendation for renewal would not constitute fiduciary investment advice, as it would not satisfy the “regular basis” component of the test; however, a recommendation for renewal made as part of an ongoing relationship or at the start of a planned continuing relationship would likely constitute trust investment advice.
Compliance with PTE 2020-02
Advisors who provide fiduciary investment advice to retired investors under ERISA and / or the Code will be required to take certain steps to receive or continue to receive compensation otherwise prohibited in accordance with PTE 2020-02, including each of the above. the following:
- Comply with impartial standards of conduct. The Standards of Impartial Conduct (the Standards of Impartial Conduct) require that investment advisers and broker-dealers (i) provide advice that is in the best interests of the plan owner or IRA; (ii) charge only reasonable fees (eg customary and reasonable fees based on what the investor receives) and comply with securities laws regarding best execution; and (iii) not to make any misleading statements about investment transactions or other relevant matters.
- Recognition of fiduciary status. Advisors must provide written acknowledgment of their ERISA fiduciary status. The DOL has provided a language model in the preamble of PTE 2020-02 that can be used by advisers to meet this requirement. This requirement can be met by including the language model in the investment management agreement and part 2A of the ADV form. The DOL also recommended that certain additional languages be included in this written acknowledgment, but it is not necessary that such a language be included in the acknowledgment.
- Provide written disclosures about the scope of the relationship and conflict. Advisers should provide written information to their clients regarding the scope of their relationship and any material conflicts of interest resulting from the services provided or any recommended investment transaction. This requirement can be met by including such disclosures on existing disclosure forms, such as ADV form and / or CRS form. In addition, changes may be made to the disclosures in section 408 (b) (2) of ERISA to meet this requirement.
- Provide written information on the rollovers. Advisors who provide rollover recommendations to plan or IRA owners must document in writing the reasons why the rollover recommendation is in the best interest of the retirement investor. The DOL has provided some factors that should be considered and documented when making such decisions. When an advisor’s recommendation is to move from a 401k plan to an IRA, factors to consider and document include: (i) alternatives to a rollover, (ii) a comparison of fees and expenses associated with the plan and the IRA, (iii) whether the employer pays all or part of the administrative expenses of the plan, and (iv) a comparison of service levels and investments available for each plan. The DOL provided similar factors to consider and document when the recommendation is to switch from one IRA to another IRA, including: (i) the long-term impact of increased costs, (ii ) the relevance of the turnover, and (iii) the impact of economically significant investment characteristics.
- Drafting of policies and procedures. Advisors should adopt and implement policies and procedures to: (i) ensure compliance with standards of impartial conduct, (ii) mitigate conflicts of interest, and (iii) document specific reasons for recommendations made to investors retirees.
- Performing an annual compliance review. Advisors are required to conduct an annual compliance review regarding their compliance with PTE 2020-02. This exam is designed to detect and prevent violations of PTE 2020-02. The results of the compliance review should be documented and provided to a senior manager, who will then provide certain written certifications regarding the report. The review, report and certification must be completed no later than six (6) months after the end of the reporting period, and the report, certification and supporting data must be retained by the advisor for a period of six (6 years.
The DOL will begin enforcing the standards of impartial conduct on February 1, 2022 and will begin enforcing other documentation and disclosure requirements on July 1, 2022. Advisors should expect the DOL, Securities and The Exchange Commission and the Internal Revenue Service will work closely to enforce PTE 2020-02 and that the penalties for violations of PTE 2020-02 will be severe. If an advisor violates PTE 2020-02, then the advisor may be barred from using the exemption for a period of ten years, during which time they will be barred from receiving some compensation in exchange for the supply. fiduciary investment advice to a retired investor. .
Advisors should start preparing for compliance with the standards of impartial conduct well in advance of the January 31, 2022 deadline, and should also begin preparing to comply with other documentation and disclosure requirements well in advance of the deadline of January 30, 2022. June 2022. While most companies currently operate with a best interest or fiduciary standard (for example, the fiduciary standard under the Investment Advisers Act of 1940, as amended (the Advisers Act)), adjustments to policies and procedures are still likely to be required. In fact, the DOL has stated that companies that comply with the standards in effect under the Best Interests Regulation (Reg-BI) or the Advisers Act may not necessarily be in compliance with the PTE 2020- 02.