DOL Releases Final Investment Advice Fiduciary Rule

On April 23, 2024, the Department of Labor (DOL) released its Retirement Security Rule (the Final Rule) representing the latest chapter in a long effort by the DOL to (1) expand the definition of “investment advice fiduciary” for purposes of the Employee Retirement Income Security Act of 1974 (ERISA), as amended, and the Internal Revenue Code (the Code) and (2) generally narrow the availability of several prohibited transaction class exemptions that are widely relied upon by financial institutions in day to day interactions with retirement plans and individual retirement accounts (IRAs). The DOL’s last major regulatory effort (in 2016) to revamp the definition of “investment advice fiduciary” and the related suite of prohibited transaction exemptions (PTEs) was highly controversial and the Fifth Circuit Court of Appeals vacated the 2016 revamped regulations in their entirety in 2018. For more background, see our previous Advisories from April 2016, July 2018, July 2020, January 2021, February 2023, and November 2023.

For the financial services industry, understanding whether or not the financial institution and its employees and agents are acting in a fiduciary capacity for purposes of ERISA and/or the Code is critically important from a compliance perspective: if a person is acting as a fiduciary, their conduct is restricted by the prohibited transaction rules and related exemptions and, in the case of interactions with a plan subject to ERISA, strict statutory fiduciary duties apply. At a high level, the Final Rule both (1) significantly expands the circumstances in which interactions between financial professionals and retirement plans and IRAs will be fiduciary in nature and (2) adds new conditions and restrictions to PTEs commonly utilized by financial professionals for exemption from the prohibited transaction restrictions in the course of such interactions. As a result, financial professionals should evaluate how the Final Rule may impact their business practices.

Our initial observations on select key aspects of the Final Rule are summarized below.

Expanded Definition of Investment Advice Fiduciary

The Final Rule replaces the longstanding “five-part test,” including the “regular basis,” “primary basis,” and “mutual agreement” prongs thereof, with two completely new tests to determine whether a person is an “investment advice fiduciary.” In the preamble to the Final Rule, the DOL explains its reasons for this change: the “five-part test” is not sufficiently protective in the current marketplace because it does not impose fiduciary status in some circumstances where the DOL believes that an investor would reasonably understand that they are receiving fiduciary advice (e.g., advice on a one-time transaction, such as the purchase of an annuity or a rollover to an IRA, which generally did not result in fiduciary status under the five-part test).

Under the Final Rule, a person is an “investment advice fiduciary” if the person, for a direct or indirect fee or other compensation, makes a “recommendation” regarding any securities transactions or other investment transactions or any investment strategy (expressly including rollover transactions) to a “retirement investor” (i.e., a plan, plan fiduciary, plan participant, IRA owner or beneficiary, or IRA fiduciary), in one of the following contexts:

• The person either directly or indirectly (e.g., through or together with any affiliate) makes professional investment recommendations to investors on a regular basis as part of their business, and the recommendation is provided under circumstances indicating to a reasonable investor in like circumstances that the recommendation:
  • Would indicate that the recommendation is based on a review of the retirement investor’s particular needs or individual circumstances
  • Reflects the application of professional or expert judgment to the retirement investor’s particular needs or individual circumstances
  • May be relied upon by the retirement investor as intended to advance the retirement investor’s best interest
• The person making the recommendation represents or acknowledges that they are acting as a fiduciary for purposes of ERISA and/or the Code when making investment recommendations.

Determining whether there has been a “recommendation” is, according to the preamble to the Final Rule, an “objective” analysis based on all the facts and circumstances, e.g., the more tailored the communication is to a particular investor’s circumstances, the more likely it is that the communication will constitute a recommendation. As a result, one-time advice by a financial provider to an IRA or a financial professional’s advice with respect to a single transaction may result in a fiduciary relationship if all requirements of the “investor advice fiduciary” under the Final Rule are met. Notably, the Final Rule clarifies that certain types of communications to investors, such as sales pitches (to the extent they do not involve a “recommendation”) and providing investment education, do not constitute fiduciary advice.

Certain Changes to Prohibited Transaction Exemptions

The Final Rule also makes changes to the following PTEs:

• PTE 2020-02, as amended, which DOL expects will be widely utilized by investment advice fiduciaries, expands the circumstances in which a fiduciary will be disqualified from using the exemption in the event of certain criminal and civil infractions, and prohibits the required fiduciary acknowledgement from being conditional. On the other hand, PTE 2020-02, as amended, will now be available to cover certain transactions involving pooled employer plans and “pure” robo-advice arrangements.
• PTE 84-24, as amended, narrows the scope of investment advice fiduciaries eligible for exemptive relief to insurance professionals who are “independent producers” (persons selling insurance products of two or more unrelated insurers) that sell “non-securities” annuities or other insurance products not regulated by the Securities and Exchange Commission. In a departure from the DOL’s proposal, the amended PTE 84-24 does not limit covered compensation to “insurance commissions” but more broadly covers the receipt of “reasonable compensation,” subject to compliance with the exemption’s Impartial Conduct Standards. Persons in the insurance business, or who otherwise relied upon PTE 84-24, will want to carefully consider the impact of the amendments to PTE 84-24 as the revised exemption is narrower and more restrictive than the historic PTE 84-24.
• PTEs 75-1, 77-4, 80-83, 83-1, and 86-128 are also amended to eliminate the ability of investment advice fiduciaries (as opposed to discretionary fiduciaries) to rely on these exemptions for certain covered transactions. Investment advice fiduciaries that previously relied on these exemptions will need to identify an alternative exemptive strategy.

Next Steps

The Final Rule (including the associated amendments to the PTEs) is scheduled to become effective on September 23, 2024, although compliance with certain conditions of the amended PTEs 2020-02 and 84-24 is subject to a one-year transition period during which fiduciaries must satisfy the fiduciary acknowledgement requirement and comply with the Impartial Conduct Standards in order to qualify for relief under the amended PTEs. The Final Rule is already subject to a legal challenge in federal court and it is uncertain whether the Final Rule will come into effect as planned or if the legal challenge may block some or all of the Final Rule. Nonetheless, financial institutions should review the impact of the Final Rule on their business practices, as necessary, to develop a prospective compliance strategy in anticipation of the Final Rule potentially becoming effective as early as September.

© Arnold & Porter Kaye Scholer LLP 2024 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.