Fiduciary Focus: Proposed Fiduciary Investment Advice Rules

Fiduciary, a term that is rarely used in everyday conversation, has been garnering a lot of attention in Washington, D.C. as of late. While fiduciary status has long been an important issue to retirement plan sponsors and service providers, with all three branches of government weighing in on fiduciary issues, now is a good time to take a fresh look at this topic.

In the retirement plan context, fiduciaries are people or companies that exercise discretion in administering the plan or managing its assets. Importantly, once a fiduciary, the person or company must act prudently in carrying out their duties and act solely in the best interest of plan participants and their beneficiaries. Common plan fiduciaries are the named plan trustees and the company sponsoring the plan; however, there can be others depending on the functions they perform for the plan.

In this article, we will take a look at some major developments regarding fiduciary status and fiduciary duties. The first section will provide an overview of the U.S. Department of Labor’s newly-proposed rules to change the definition of a fiduciary with respect to plan and participant investment advice. In the second part, we will look at the U.S. Supreme Court’s recent decision in Tibble v. Edison International which dealt with a fiduciary’s duties toward the plan and its participants.

The Proposed Fiduciary Definition Rules:

This past spring, the U.S. Department of Labor re-proposed an update to the 40-year-old regulatory definition of fiduciary as it relates to providing retirement plan investment advice. Similar rules were proposed back in 2010, but were ultimately withdrawn before they took effect due to heavy criticism and political pressure. However, the newly-proposed rules have received strong support from the Obama administration and are likely to be implemented in one form or another before the president leaves office in early 2017. The new rules seek to make more investment advisors subject to the fiduciary investment advice standards by replacing the existing five-part test used to determine fiduciary status with the following four-part test: “(1) A person renders advice (a ‘recommendation’ regarding buying, selling, managing, hiring, managers/advisors for, rolling over, or valuing plan assets) to a plan, plan fiduciary, plan participant or beneficiary, IRA, or IRA owner. (2) Pursuant to a written or verbal agreement, arrangement, or understanding (3) that the advice is given for consideration in making investment or management decisions, and (4) that the advice is individualized to, or that the advice is specifically directed to, the advice recipient.”  While on its own, the new definition may seem rather unremarkable, there are several significant changes from the existing rule.  Here are some of the notable changes:

  • The prior “regular basis” requirement is eliminated – one instance of advice is now enough;
  • The prior “primary basis” requirement is eliminated – the advice need only be a “consideration” in making an investment decision;
  • Fiduciary advice now specifically applies to IRAs, rollover transactions, and individual participants; and
  • Advice does not need to be “individualized,” just “specifically-directed.”

Importantly, there are several carve-outs from fiduciary status created by the rules for those providing investment education, platform providers, ESOP appraisers, employees of the plan sponsor, and salespeople for large plans.  Also, a prohibited transaction exemption (the “Best Interest Contract PTE”) was proposed along with the rules that would allow a fiduciary investment advisor to receive variable compensation if he or she acknowledges his or her fiduciary status in writing, commits to acting impartially, and provides appropriate disclosures to the plan sponsor and the U.S. Department of Labor (including having an internet website that discloses its fees).

Despite President Obama’s support, the changes proposed in the new rules are likely to face strong opposition from some members of Congress and advocacy organizations. Opponents of the proposed rules argue that the changes are overreaching and may serve to impede some participants’ ability to access much-needed investment assistance. Currently, there are efforts in the House and Senate that seek to deny funding needed to implement the new rules or delay their effect until 60 days after the Securities and Exchange Commission has issued its own rules on the subject. However, unless the U.S. Department of Labor and the White House are persuaded to change course, it seems likely that some version of the proposed rules will move forward. A public comment period for the proposed rules ended July 21. Next, in early August, a public hearing will be held to discuss the impact of the proposed rules followed by another comment period. Once finalized, the rules will be published in the Federal Registrar and will become enforceable eight months after publication. In any event, it is likely that it will be at least a year before the rules are fully implemented.

Tibble v. Edison International:

On May 18, 2015, the U.S. Supreme Court decided Tibble v. Edison International, a case that deals directly with plan fiduciary issues; specifically, the duty to select and monitor plan investments. In Tibble, the Court addressed the issue of whether ERISA’s statute of limitations barred claims that the plan fiduciaries breached their fiduciary duty by failing to remove several retail-class mutual funds from the plan’s lineup.

The plaintiffs in the case, participants in an employer-sponsored retirement plan, claimed that the company and several other plan fiduciaries breached their fiduciary duty by including several retail-class mutual funds in the plan’s investment lineup when lower-cost institutional-class funds were also available. The funds in question were initially added to the plan’s lineup in 1999, more than six years before the lawsuit was filed by plan participants in 2007. Due to the amount of time that had passed since the funds were initially selected, the fiduciaries argued that the claims should be dismissed because they were time-barred by ERISA’s six-year statute of limitations. The District Court and the Ninth Circuit Court of Appeals both agreed with fiduciaries’ argument. The Ninth Circuit reasoned that because the plaintiffs failed to establish that a significant change in the circumstances had occurred since the funds were initially selected in 1999 the claims should be dismissed as untimely.

Upon review, the U.S. Supreme Court determined that the lower courts had erred in dismissing the claims. Using established trust law as reference, the Court held that in addition to the duty to properly select plan investments, fiduciaries have an ongoing duty to monitor and review those investments and remove funds that are no longer prudent investment options. The Court concluded that failure to remove imprudent investments could constitute a breach of fiduciary duty. The Court remanded the case back to the Ninth Circuit to reconsider whether a breach of the fiduciary duty to monitor plan investments had actually occurred.

Closing Thoughts:

Both the U.S. Supreme Court’s decision in Tibble and U.S. Department of Labor’s proposed fiduciary definition rules highlight the importance of being aware of fiduciary issues involving retirement plans.  We know that fiduciary issues continue to be a top priority for the U.S. Department of Labor and, as illustrated in Tibble, they are likely to be an area of interest for plan participants as well.  Plan sponsors should take the time to identify the fiduciaries of their retirement plan and ensure that each fiduciary acts prudently in carrying out his or her duties and acts solely in the best interest of plan participants and their beneficiaries.

Dakota Zurek and Juhl Stoesz