On October 21, 2010, the U.S. Department of Labor (“DOL”) released a proposed regulation under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), to define more broadly the circumstances in which a person may be considered a “fiduciary” by reason of providing “investment advice” to an employee benefit plan or its participants. The proposed regulation would amend a 1975 regulation which the DOL believes may inappropriately limit the types of investment advisory relationships that subject an investment adviser to fiduciary duties under ERISA.
In the 35 years since the existing regulation was adopted, the retirement plan world has undergone significant change — most notably, a shift in popularity from defined benefit plans to defined contribution plans. The financial marketplace has also changed considerably, with a dramatic increase in the variety and complexity of the investment products and services available to plans. The regulation (if adopted as proposed) would significantly expand the range of investment advisory relationships that give rise to fiduciary duties. The DOL explained that its proposed changes are intended to discourage harmful conflicts of interest between plans and their service providers, to improve the value of the services plans receive, and to enhance its ability to redress plan abuses and more efficiently allocate its enforcement resources to better protect the interests of plans, and their participants and beneficiaries.
The deadline for submitting comments on the proposed regulations is January 20, 2011. The proposed regulations, as modified following the comment period, will become effective 180 days after their publication in final form in the Federal Register.
The 1975 Regulation
ERISA deems a person rendering investment advice to be a fiduciary with respect to a plan to the extent it has or exercises any discretionary authority or control over management or administration of the plan, “renders investment advice with respect to any moneys or other property of [the] plan for a fee or other compensation, direct or indirect, or has any authority or responsibility to do so.” ERISA § 3(21)(A). The 1975 regulation significantly narrowed this broad definition by imposing a five-part test that must be satisfied before a person or entity can be treated as a fiduciary subject to ERISA by reason of rendering investment advice. Under that test, advice is considered “investment advice” if the adviser does not have discretionary authority or control with respect to the purchase or sale of securities or other property for the plan, and renders advice:
- as to the value of securities or other property, or makes recommendations as to the advisability of investing in, purchasing or selling securities or other property;
- on a regular basis;
- pursuant to a mutual agreement, arrangement or understanding with the plan or a plan fiduciary;
- that will serve as a primary basis for investment decisions with respect to plan assets; and
- that will be individualized based on the particular needs of the plan.
The proposed regulation would modify the 1975 regulation by:
- expanding the definition of the term “investment advice;”
- providing for a new set of alternative conditions that must be met in order for a person rendering investment advice to be considered a fiduciary; and
- imposing certain limitations on, and providing certain exceptions to, the alternative conditions.
Definition of the Term “Advice”
The proposed regulation would redefine the types of advice and recommendations that may result in fiduciary status to include:
- advice, appraisals or fairness opinions concerning the value of securities or other property;
- recommendations as to the advisability of investing in, purchasing, holding, or selling securities or other property; or
- advice or recommendations as to the management of securities or other property.
This definition of advice differs from the 1975 regulation in three ways. First, the proposed regulation would specifically include the provision of appraisals and fairness opinions in order to combat frequent problems involving incorrect valuations of employer securities. Second, it would make specific reference to advice and recommendations as to the management of securities or other property. Finally, it would clarify that fiduciary status may arise from providing advice or recommendations to a plan participant or beneficiary rather than just to a plan fiduciary. Whether or not this will apply to recommendations that a plan participant take a distribution otherwise authorized under the plan (which the DOL has historically treated as non-fiduciary advice) is a question that has been reserved for resolution in the final regulations.
Conditions Resulting in Fiduciary Status
The proposed regulation would establish four alternative conditions, at least one of which must be met by a person rendering investment advice in order for that person to be considered a fiduciary. These conditions generally relate to the degree of authority, control, responsibility or influence held by the person rendering advice, and may be met by a person acting directly or indirectly (such as through an affiliate).
- Condition One: Persons representing or acknowledging status as an ERISA fiduciary.The DOL has concluded that if a person represents or acknowledges its status as an ERISA fiduciary in connection with the provision of advice, that act alone is sufficient to create fiduciary status. The representation or acknowledgement may be made either orally or in writing.
- Condition Two: Persons who exercise discretionary authority or control respecting management or administration of a plan or its assets.Although most persons who have such authority or control are fiduciaries under the 1975 regulation, the proposed regulation would also include any person who has or exercises any discretionary authority or control with respect to management or administration of the plan. Thus, under the proposed regulation, it is not necessary for a person to exercise authority or control relating to purchases or sales of investments for a plan for that person to be considered a fiduciary.
- Condition Three: Persons providing advice or recommendations that are investment advisers under Section 202(a)(11) of the Investment Advisers Act of 1940.Section 202(a)(11) generally defines an investment adviser as any person who, for compensation, engages in the business of advising others as to the value of securities or the advisability of investing in, purchasing or selling securities, or who promulgates analyses or reports concerning securities, with the following exceptions:
- A bank, or a bank holding company that neither is an investment company nor acts as an investment adviser for a registered investment company
- Any lawyer, accountant, engineer, or teacher whose performance of these services is solely incidental to the practice of his or her profession
- Any broker or dealer whose performance of these services is solely incidental to the conduct of his or her business and who receives no special compensation for these services
- The publisher of any newspaper, news magazine, or business or financial publication of general circulation
- A person providing advice related to certain “exempted” securities
- Such other persons as may be designated by the Securities and Exchange Commission
- Condition Four: Persons providing advice or making recommendations pursuant to an agreement, arrangement or understanding.Persons who provide advice or make recommendations to a plan or a plan participant or beneficiary pursuant to an agreement, arrangement or understanding may be considered as fiduciaries. While this condition is based on the 1975 regulation, two important differences exist. First, the advice would no longer need to be provided on a continuing or regular basis. As the DOL notes, service providers frequently act as consultants and appraisers rendering advice in discrete and distinct investment transactions. Second, there would no longer need to be a mutual understanding that the advice is to serve as a primary basis for investment decisions. For example, in a complex investment decision, a plan fiduciary may need to consult with advisers with different areas of expertise in order to make a decision. Under the proposed regulation, if the understanding of the parties is that the advice will merely be considered in connection with making a decision relating to plan assets, that fact alone would be sufficient to cause the adviser to be considered to be a fiduciary.
Limitations and Exceptions
In the event a person providing investment advice meets one of the four alternative conditions giving rise to fiduciary status, the proposed regulation would contain four limitations or exceptions that may prevent the person from being deemed a fiduciary merely by providing investment advice.
- Limitation One: The recipient of the investment advice knows that the advice is not impartial.A person would not be considered a plan fiduciary if he or she can demonstrate that the recipient of the advice knows, or reasonably should know, that the person providing the advice or making the recommendations:
- is doing so in its capacity as a purchaser or seller of a security or other property with interests adverse to those of the plan or its participants; and
- is not undertaking to provide impartial investment advice.
This limitation is designed to prevent persons selling securities to a plan or plan participant (if not acting in an investment advisory capacity) from becoming fiduciaries by nature of their job. Importantly, this limitation would not apply if the person providing advice has accepted or acknowledged fiduciary status under ERISA.
- Limitation Two: Provision of general investment education advice.In the context of individual account plans, the DOL has previously determined that providing investment education information and materials designed to provide the investor with general knowledge will not constitute rendering investment advice that would give rise to fiduciary status. Examples of such information include plan information, general financial and investment information, asset allocation models, and interactive learning materials.
- Limitation Three: Marketing or making available investments without providing impartial investment advice.Also in the context of an individual account plan, marketing or making available (without regard to individualized needs of the plan or its participants or beneficiaries) securities or other property, from which a plan fiduciary may select investment alternatives for plan participants or beneficiaries, will not be treated as rendering investment advice giving rise to fiduciary status if the person making available such investments discloses in writing to the plan fiduciary that the person is not providing impartial investment advice.
- Limitation Four: Provision of information to a fiduciary without undertaking to provide impartial investment advice.Providing certain information and data to assist a plan fiduciary’s selection or monitoring of plan investment alternatives would not be treated as rendering investment advice if the person providing such information or data discloses in writing to the plan fiduciary that it is not undertaking to provide impartial advice. Examples include general reports or statements that reflect the value of an investment made by a plan or a participant or beneficiary and are provided as required under ERISA or the Internal Revenue Code.
The DOL intends for these proposed regulations to better reflect the statutory language of ERISA, while simultaneously addressing the realities of the current investment marketplace. When final regulations are issued, the result will likely significantly increase the number of persons providing investment advice who are held accountable as fiduciaries under the law. The proposed regulations place all service providers who provide investment advice on notice that the definition of a fiduciary under ERISA is broadening, and that the impact will be widespread.