Potential Unintended Consequences of the DOL Fiduciary Rule – Is an Overhaul in Order?
The new fiduciary rule promulgated by the United States Department of Labor (“DOL”) expands the definition of “investment advice fiduciary” to apply to all financial advisors who work with retirement plans or provide retirement planning advice. If the rule is implemented in its current form, financial advisors who work with retirement plans or provide retirement planning advice will be required to act in the best interests of their clients, and to put their clients’ interests above their own.
The intent behind the rule is to reduce what some consider to be exorbitant fees that are viewed as impairing growth in retirement savings. However, the rule also has the potential for unintended consequences. Namely, it could hurt those it was intended to help the most. For example, it could result in less investor choice and service, particularly for those with smaller portfolios. In addition, the rule’s reach could also conceivably extend beyond its intended focus and disrupt well-settled law concerning insurance agents and brokers.
The impending rule has been the cause of much consternation in the financial industry. It could eliminate many commission structures that govern the industry. These commissions can be viewed as creating a conflict of interest in certain circumstances. For example, advisors may receive a higher commission or special bonus for selling a certain product. If advisors wish to continue working on a commission basis, they will likely need to obtain a signed disclosure agreement from their clients, called a Best Interest Contract Exemption (BICE). Fees and the compensation to the advisor must be disclosed, with the goal of ensuring that the advisor is working unconditionally in the best interest of the client.
The rule has been widely criticized as adding expense and complicating compliance. The financial services industry has estimated that the rule could cost the industry over $2 billion per year. Many have speculated that the increased costs will lead to advisors dropping clients with smaller portfolios or adding new fees to offset the increased costs of compliance. The net result is predicted to price smaller investors out of the market or potentially leave them with only cookie-cutter style options to choose from, and no real retirement planning advice.
In addition, there is the potential that the rule will have a broader impact on litigation concerning insurance agents and brokers. It is not uncommon for litigation concerning an insurance product – even one that is technically a security - to be quickly and efficiently resolved because insurance agents and brokers typically owe more limited duties with respect to the sale of insurance – for example to obtain the policy that is requested – not to provide advice concerning the premiums, death benefit, or other aspects of the policy unless asked.
If the rule is implemented as-is, an argument could be made that the duties of an insurance agent or broker who sells insurance that is held within a Qualified Plan or is purchased with plan distributions will be automatically expanded. At that point, the rule could potentially upend well-settled law concerning the duties of insurance agents or brokers, requiring them to recommend a product that is in their client’s best interests and to potentially also explain a whole host of policy provisions they otherwise would not. And with so many products available, with varying structures and benefits, it could prove to be a veritable minefield of potential liability. The rule could intrude upon the statutory authority that parses out the responsibilities of insurers, on the one hand, and their agents and brokers, on the other. This type of overreach is not what was intended by the rule, but it is certainly possible absent clarification of the application of the rule, particularly as it relates to other well-settled law.
The Rule was slated to go into effect on April 10, 2017. However, President Trump issued a memorandum instructing the DOL to perform a new economic and legal analysis of the rule. And on March 2, 2017, the DOL published its proposed delay of the rule by 60 days, indicating that it will accept public comments for 15 days and comments on issues raised in the presidential memorandum for 45 days.
The memorandum echoes industry concerns that the rule may have unintended consequences, including an increase in the cost of providing financial advice, resulting in fewer choices and ultimately less assistance for investors – particularly those with smaller portfolios, which is the primary group targeted by the rule in the first instance. If the DOL finds that the regulation hurts investors or firms, it can propose a rule rescinding or revising the regulation. Whether and to what extent the rule will be modified – or even possibly rescinded – remains the subject of much speculation.