From Presidential Speeches to an Impact on the Stock Market - ERISA's "Fiduciary" Rule in the Limelight

Back in the day (it seems like so long ago), I posted on the fact that an ERISA defined term ("investment advice") had become the centerpiece of a major presidential policy speech.  Who'da thunk THAT?!?  Well, it became increasingly clear the "investment advice" regulations under the ERISA "fiduciary" rules were becoming quite a "thing", potentially having real impact on financial institutions and their customers.  The ability of institutions to continue making available a range of products and offering traditional compensation structures, and of investors and other customers to have access to those products and structures, was in some amount of serious jeopardy.

In the end, we wound up with a final regulation the release of which seems to have boosted certain financial-sector stocks, while possibly having a dampening effect within the insurance-company sub-sector.  Not only has the President pontificated on a defined term in ERISA, but now the stock market has moved in response to the final interpretation thereof.  Wow - the Little ERISA Engine That Could.

So - how did we get to where we are?  Basically, over the years, the DOL came to be extremely frustrated with the narrowness of its '75 "investment advice" reg., on the basis that it may have been too easy to escape fiduciary status merely by causing any one part of the reg.'s ubiquitous five-part test not to be satisfied.

Why was the test as narrow as it was?  I think there were legitimate concerns that an overinclusion of providers as "fiduciaries" could cause potentially desirable providers not to want to serve or could, at the least, affect pricing.  And there's always the question of the fairness of the definition and its scope.  So the '75 reg. struck a balance.  Was it the right balance?  Is it still the right balance?  These are debatable points.

Regardless, the DOL grew increasingly frustrated over the years with its regulation, both from a compliance perspective in terms of being able to reach providers giving what on some level may have seemed like advice, and in terms of a litigation strategy to try to address perceived fiduciary violations.  In addition, the retirement market had moved dramatically, with a seismic shift from traditional defined benefit pensions to those newfangled individual account 401(k) plans, and with a real change in the nature of investments and investment platforms.  For better or for worse, the DOL came to the conclusion that the '75 balance was not optimal.

The DOL's distrust of financial professionals became palpable.  And, on the flip side, the DOL had the sense that, particularly on the retail side, investors and other customers were not seeing or reading disclaimers and other disclosure and, when they were, were not understanding them. This latter dynamic has been somewhat less focused upon by commentators, but it is a key part of the calculus that led the DOL to the approach it would eventually pursue.

So back in 2010 the DOL uncorked a proposal to expand exponentially the scope of who might be considered a nondiscretionary fiduciary by virtue of providing investment advice.  Leaning heavily on that power plant of electricity known as Reorganization Plan No. 4 of 1978 (see also (with my thanks to Mark G.) P.L. 98-532), the DOL not only reached toward expansively interpreting "investment advice" for ERISA purposes, but also made a play to grab the issue as applied to IRAs.  Pretty gutsy, since Congress itself eschewed IRAs when it came to ERISA coverage - but, nevertheless, there it was.  The DOL saw IRAs as being at or close to the center of the retirement market, and was not about to let some silly little thing like a lack of ERISA applicability stop it from seeking substantively to step in and regulate.  Some have asked whether the DOL had the authority effectively to port ERISA over to IRAs where Congress had pretty clearly decided not to do so.  Maybe even a better question seemed to be: should the DOL be wielding this purported authority in this way?

The ensuing maelstrom was thunderous, eventually resulting in the 2011 announcement that the proposed regulation would be withdrawn.  The financial-services community had credibly made the case that the reg. as proposed would have a palpable adverse effect on that community, assertedly to the detriment not only of financial-services organization but also of the very plan clients and customers that were supposedly the object of the purported protections.  But, supposedly, the regulation would someday be reproposed.

And there it sat for years in a state of atrophy, at least from the outside looking in.  Until, that is, there started to be rumblings towards the end of 2014 that the reg. was not dead.  And then, in early 2015, the other shoe - a really big shoe (apologies to Ed Sullivan), dropped.  The President himself, as noted above, stepped in and in February of 2015 made the as-yet un-reproposed regulatory initiative into the centerpiece of a major policy speech, and it was game on.  Sure enough, in April 2015, we indeed get the reproposed reg.

It was clear that reg.-redux was more carefully thought through than the initial proposal.  And this time the reg. was accompanied by a new exemption, klunkily to become known as the "best interest contract" exemption (or the "BIC" exemption, or just "BICE").  However, on further reflection, the financial-services community at some point gravitated back to a highly adverse approach, and literally thousands of comment letters were submitted.  The DOL was in a bit of a bunker, but, particularly in light now of an express presidential imprimatur, there seemed to be no real path to administrative reversal.  Legislative solutions? - maybe, but not overly likely.  Litigation solutions? - who knows?  (More on that later.)

So barreling down the road to finalization we went.  To the great consternation of some, administrative consideration periods were truncated, and effective-date strategies were conceived, all with an eye towards getting the reg. done before the election and, maybe moreover, before the impending changeover in administrations.  As we saw when Obama took over from Bush (see, e.g., the eventually re-jiggered 408(b)(14) and (g) regulation), pending regulatory initiatives not fully implemented at the time of a turnover in administrations are at risk for being waylaid.  And this particular li'l ERISA reg. had become the object of some real zealotry within the DOL and maybe, to some extent, even within the broader administration.

We move now to yesterday, April 6, and, after all that, we get the final rule.  Many had resigned themselves to the notion that, given the background, the DOL would maybe pay lip-service to some contouring here and there, but would never make any material changes in favor of financial-services organizations.  I didn't share that view.  I agreed that the basic tack of the regulatory effort would indeed not change - that the ocean liner would not turn with enough force to avoid an iceberg - but that there would be substantial and significant major changes to any number of specifics - "the devil is in the details", as they say.  I really had the sense that the people at the DOL, for all their zealotry, very much wanted to try to get it "right".  I guess a question became, could they get out of their own way and put out something that advanced the DOL's agenda without causing further mass hysteria in the financial market?

While we ERISAns will be parsing the details of the rules for who-knows-how-long, several generalities seem to be emerging quickly. Taking a step back, I don't see how one can read these rules and come away legitimately believing that the DOL has not responsive - to one extent or another - to legitimate market concerns.  The changes from the 2015 reproposal are deep and meaningful.

In this regard, the DOL had from the beginning said that the intent was to allow existing products to continue and to allow market-based compensation structures to continue to be used, albeit with new conditions.  Those statements seemed to ring hollow - sure you can still do all this stuff, just by complying with rules and principles that you will in no way ever be able to satisfy.  (You can cross the street, so long as you don't cross the street.)  One might have wondered who the heck was the DOL to be requiring investors to suffer asset-based fees even if they prefer commissions.  One might of wondered who the heck the DOL was to decide that a willing investor has no practical way to be offered the opportunity to invest in a private fund.  And the list went on . . .

Well, the ship has now veered here, too.  It seems clear, for example, that the use of commissions and the offering of proprietary investment products will be doable, with some bells and whistles that may give rise to some discomfort but that would not appear at first blush to render proceeding utterly undoable.  Some other demonstrative examples are:

- Generally speaking, there needs to be a "recommendation" of some type before fiduciary status attaches.

- Efforts to get hired are less likely to be fiduciary in nature.

- Exceptions for "selling" investments are expanded.

- The rules for call centers and the like have been made more flexible.

- Applicable disclosure requirements have been pared back.

- Investment "education" in certain circumstances will be able to identify specific potential investments.

- The BICE will be available with respect to broader types of plans.

- No separate contract will be required under the BIC exemption (which is pretty funny, when you think about the fact that the conditions of the "best interest contract" exemption often won't involve requiring a contract).

- Where contracts are required in order to satisfy a condition in the BICE, the associated mechanical requirements have been streamlined and simplified.

- The BICE is not restricted in its application to specified asset classes.

- The beginning of implementation is generally pushed out a year, and implementation is staged thereafter.

Undoubtedly, there's much to work through, but hopefully the rules are largely workable.  The devil remains in the details, so upon further review things could still turn south.  But that doesn't seem to be where we're fundamentally heading.

But maybe that's just not what happened.  Arguably, the less ambitious final rules would seem in some ways to complement and overlay the rules that have been developed over the years that have increased fee transparency (see the development of the rules under 408(b)(2) and in connection with the filing of 5500s; see also the 404(a)/(c) rules relating to participant-level disclosure), and, frankly, already pushed any number of arrangements towards alternative fee approaches.  Rather than setting up a whole new primary regime where everything else sits underneath, maybe these final rules live in and serve to bolster a world of fee-transparency and increased disclosure.

One way to look at the evolution of the regulation here is that we started with proposals that looked like they would require the reshaping and maybe elimination of a variety of investment products and opportunities, strategies and approaches to compensation.  "What can't I do?" if you will.  And we wound up with conditions and other rules of the game.  "How do I do it?" if you will.  If that's a fair characterization, then this regulatory ocean liner really did experience quite the sea change.  After maybe a bit of a "Rush" to judgment about the regs., it's possible that the DOL may get its chance to bask a bit in the "Limelight", after all.  (Sorry.)

Honestly, though, good for them.  After all, their hearts have always been in the right place.  Maybe they got something done here that gets to the nub of what they were going after, while at the same time scaling back some of the earlier ambitiousness walking away from some of the overbreadth, stridency and unworkability of the earlier proposal and reproposal.

It had appeared that what we might have been faced with here was a comprehensive new regime that essentially would color and fundamentally impact an incredibly broad array of financial products and relationships.  Indeed, given the desire or even need of many financial organizations to standardize disclosures and other practices, one could legitimately have wondered whether the rules were about to bleed over into the realm of personal accounts with no retirement component whatsoever.  What, if anything, was to be left to do by the SEC?  I'm not sure the debate and discourse will continue to be framed in this way in light of the final regs.

And there was talk of lawsuits.  Does the DOL have the authority?  Was the APA fully satisfied?  It remains to be seen whether chatter of that ilk continues to the same extent.  There's always a kid-who-cried wolf concern, where the sky is asserted to have fallen yet again, while maybe it hasn't quite done so. But, as noted, things still need to be worked through.  And certainly there could be be market segments that wind up being more adversely affected than others.

So how big is all this really?  Pretty big.  The President cares.  Financial-services organizations were in a palpable tizzy.  And a number of financial stocks got a bump up, and some went a tick down, on the news that the final regulation might not be as bad as had been feared.

All in all, in the brave new world of the now-final regs., has the DOL found a balance that is more ideal than the ones struck by the old '75 balance and the 2010/2015 proposals?  Certainly, it still remains to be seen.  But at least we've maybe gotten to . . . maybe.

In the end, a regulation governing a defined term in ERISA has been embraced by the President of the United States, and now has apparently had an impact on the stock market.  I like my area of practice, to be sure, but I'm not even sure that I would've seen this coming.  Cool.  And now, as the Foo Fighters might say - done, done and I'm onto the next one . . .