D.C. Pension Geeks
Welcome to DC Pension Geeks, a conversation with top retirement-related policymakers and regulators in and around Washington. Hosted by Brian Graff, an attorney, accountant, former Capitol Hill staffer, and now CEO of the American Retirement Association, it’s an inside view of the ups and downs, ins and outs and sometimes surprising turns Washington takes on the road to ensuring a secure retirement for millions of hard-working Americans.
D.C. Pension Geeks
Tim Hauser - Navigating the Maze of Fiduciary Standards
Use Left/Right to seek, Home/End to jump to start or end. Hold shift to jump forward or backward.
Calling the latest iteration of the fiduciary rule “the third installment of a long running regulatory series,” American Retirement Association CEO Brian Graff went directly to the source, speaking with EBSA COO Tim Hauser about the Retirement Security Rule.
The two fiduciary regulation ‘veterans’ sit down for a (very) comprehensive discussion the primary reasons EBSA thought it necessary to update the regulatory definition of investment advice and the goals and objectives in doing so.
Regulatory Definition of Investor Advice Update
Speaker 1If you're making recommendations about something as important as people's retirement and you're doing that in circumstances where they think they're getting individualized advice that's based on their interests , not your interests , that you're acting in their best interest , you should be held to a fiduciary standard .
Speaker 2DC Pension Geeks brings you exclusive conversations with top retirement policymakers and regulators in and around Washington DC , hosted by Brian Graff , an attorney , accountant , former Capitol Hill staffer and CEO of the American Retirement Association . If you're looking for an insider's view of all the twists and turns that Washington takes on the road to ensuring a secure retirement for millions of Americans , you're in the right place . Welcome to DC Pension Geeks .
Speaker 3Well , hello everybody . It's another in our series of podcasts , DC Pension Geeks , and we've got a big one today with none other than Tim Hauser , who is the Deputy Assistant Secretary for EBSTA , essentially the Senior Career Officer . Tim has actually participated in this podcast before , but we have a little thing to talk about called the Retirement Security Regulation , so I'm going to just jump right into it and start with the questions . Is that okay , Tim ?
Speaker 1Sure .
Speaker 3So this is the third installment , I'll call it of a long-running regulatory series that both of us have been working on for quite some time , and so one of the questions is in light of the fact that 2020 O2 is out there , and given the fact that whenever there's regulatory action in this area , it is , to say the least , controversial , what were the primary reasons why EBSTA believed it was necessary to update the regulatory definition of investor advice ?
Speaker 1They think there are a number of premises , a number of goals behind this effort , and maybe I'll just tell you what our objectives are and then you can tell me what you think . But the first is we do want it to be the case that if you're holding yourself out as an investment professional , providing individualized advice to people based on their best interest , you should be held to it . If you're making recommendations about something as important as people's retirement and you're doing that in circumstances where they think they're getting individualized advice , it's based on their interests , not your interests , that you're acting in their best interest , you should be held to a fiduciary standard and you should be treated as a fiduciary . And what that means is just as a practical matter . It means that you should be giving advice that's prudent .
Speaker 1You adhere to an expert standard of care . You should be giving advice that's loyal , so you don't subordinate your customer's interest to your own competing financial interests . You should take no more than a reasonable compensation from people . You shouldn't overcharge them and you shouldn't make misleading statements . That , in essence , is what this project is . It's about making sure that when you hold yourself out if you're an investment professional and you're holding yourself out to folks as someone who they can rely upon for getting to their best interest in retirement . You ought to be held to these basic standards . You ought to be treated as a fiduciary , and that's how the rule has been structured . It focuses on three circumstances where we think it's fair to say you're holding yourself out that way and then , if you are , you're going to be subject to these standards .
Speaker 1And there's some more complexities to it , but very big picture of that pretty much is what this rule is about . Other goals here are one we think that the federal law , or RISA , contemplates a uniform standard . There's one test for whether you're an investment advisor for a fee under our statute , whether you're a fiduciary advisor for a fee , and there is no distinction in the statute based on whether you're recommending mutual funds , insurance products , commodities , collectibles , crypto , whatever real estate . It's one standard and we think that makes a lot of sense . There should be one standard and people should compete for retirement investors' business based on what's in their best interest rather than nothing . Advice should not be driven or motivated by whether one product or one category of advisor is subject to tighter or looser regulation . Everyone should just compete under the same standard and then at that point the market can do its job and participants can be protected . The other big reason well , two more big reasons , brian and I apologize for kind of going on here , but one more , I think , motivating factor for us is that there are a bunch of gaps right now that regulatory gaps when it comes to advice for retirement investors .
Speaker 1The SEC made a significant step forward for investors when it promulgated regulation best interest . But regulation best interest doesn't extend outside of securities and it doesn't extend outside of retail investors . So , for example , if a broker is making a recommendation to a small plan sponsor who's trying to figure out what goes on their fund lineup , it's not going to be covered by regulation best interest . Non-securities aren't covered . You know , like fixed index annuities , like commodities , like real estate , and the NAICs made some significant progress too toward a best interest standard , but it doesn't comport exactly either with the ERISA standard or with regulation best interest . So we've tried to come up with one sort of uniform standard that applies across the board . And the other thing is it's just this rule . The 1975 rule that's in effect right now has been in effect for , you know , all of those years and it has not been modernized that entire time .
Speaker 1And the reality is the market has really really changed in the intervening period .
Speaker 1It used to be a world of defined benefit plans which were managed by professional money managers .
Speaker 1The people getting advice were typically investment professionals . You fast forward to now and you're talking about a plan universe where a lot of very , very important decision making responsibility has been turned over to small plan sponsors , mid-sized plan sponsors , plan participants , beneficiaries , people who are not themselves experts on you , know all the complexities of investment , but are dependent on these professionals they deal with for good advice , and those professionals , in addition , often have fairly significant conflicts of interest , and the concern is that those conflicts of interest can drive that advice in bad ways if there aren't some guardrails put around it . So those are the goals we're trying to achieve Put some guardrails around it , make sure people honor the you know when they present themselves as best interest advisors , that they're held to that standard , and make sure that that five-part test under the current reg isn't actually working to defeat legitimate expectations of trust and confidence and to defeat , you know , anyone being obligated in this space to actually adhere to some fairly simple precepts of fair dealing with their customers .
Speaker 3So you know , 2020-02 , in its current form in prior to the proposal , had these impartial conduct standards that embedded a lot of this , but what I hear you saying is uniformity across all product lines and two more of a transaction-based approach to evaluating whether someone has provided advice under RISA akin to what Reg VI did . Is that correct ?
Speaker 1Yes , I mean I think that the regulatory structure we're putting forward is very , very in step with regulation-best interest . If you've , and with 2020-02 , if you've really taken regulation-best interest and the requirements of 2020-02 and those impartial conducts seriously and built the compliance structures to comply with them , I think you'll be in good shape under this package as well .
Speaker 3And that's a big part of our goal . Can you expand on that a little bit ? You know , because a lot of people have been saying you know why is this necessary ? Because Reg VI is out there , or what are you know , have been wondering what the differences are between what 2020-02 , as proposed , is requiring versus Reg VI . Maybe identify some of the material differences .
Speaker 1Yeah , sure , so some of the things are first , 2020-02 , I mean , everyone in this audience , I imagine , is aware of this fact , but 2020-02 is just one exemption among many that are available for advice and it's probably , of the exemptions that are currently applicable , is probably the most protective with respect to advice , and so part of this was just to say look , we want everybody under Orissa to be working under a common framework . You know you shouldn't cobble to get you . There shouldn't be a patchwork of different exemptions available for advice . There should be a kind of a common standard that's available for advice arrangements . But , as I said before , the other important piece are their regulation .
Speaker 1Best interests made huge strides , I think , in the marketplace and protection for retirement investors , but there's lots that it doesn't cover . It doesn't cover advice to the plan fiduciary who's overseeing a fund lineup and making important decisions about what to offer to participants in particular . It doesn't cover non-securities . It doesn't cover various categories of insurance products . So all of those things are motivational for us as well . So we are trying to come up with the rule here that honors legitimate customer expectations about what kind of relationship they have with their advisor , In accordance with the Fifth Circuit's opinion in the chamber case . That makes sure that when they have that kind of relationship they're going to be prudent , loyal , not overcharged folks , you know , get more than reasonable comp and not be misleading . And make sure that that applies in a fairly uniform way to everybody .
Speaker 1That's in the plan space and in the IRA space , and that also respects the Fifth Circuit's opinion that we should be very careful about sticking with the remedies that ERISA provides . So what you'll see in this as well is we do not create a bunch of new remedies for violations here . If you give advice in the plan context , you're just subject to the enforcement provisions of Title I of ERISA . If you give advice in the IRA context , post-rollover and excise taxes is potentially what your liability is . We are not . There is no contract like in the 2016 role . There is no warranty requirement is in the 2016 role and we also , while it's not really a remedy issue . The other thing we'd heard a lot from the industry last time around was they really , really hated this requirement that we put in the rule in the exemptions that folks post a public website that disclosed all the compensation they got from third parties in connection with recommendations . You won't see that either .
Speaker 3So this is Although you asked for comments on it .
Speaker 1We absolutely asked for comments on whether that'd be a good idea and whether that wouldn't better promote a tamping down of conflicts and- .
Speaker 3I think it's fair to say you'll get similar comments on that subject .
Speaker 1I would not be surprised .
Speaker 3So one of the things that the critics have been kind of really harping on is and similar to the arguments that were made in 2016 , is that the rule is going to interfere with business models . It's going to prohibit certain forms of compensation . Can you address that ? Are there things that EPSA is trying to root out , or is that just an argument based on that really isn't what is intended by the proposal .
Speaker 1Yeah , so a couple of things there .
Fiduciary Rule and Differential Compensation
Speaker 1One again , if you just go back to what I said at the outset at bottom , if you're subject to this rule as a fiduciary , what it's going to require you to do is be prudent , loyal , not overcharge , not materially mislead people , and a financial institution is going to need to have policies and procedures too that are reasonably calculated . A reasonable person looking at these policies and procedures will conclude that , as a whole , they're going to ensure that the folks who are making recommendations are prudent , loyal , not overcharging and not making misrepresentations . And there's going to be a requirement for a retrospective review every year . Let's take a look , see whether there are policies and procedures are working , and there's a requirement that you actually think hard about rollovers and document what you do At bottom . That's what the rule those are . If you internalize all of those things , that's what this rule really requires . And the question is well , why would ? What is the problem with any of those things ? How would they ? What is the business model that prevents somebody from giving advice that's prudent or loyal or that doesn't involve overcharging people or that requires misrepresentations ?
Speaker 1I don't think a broker model doesn't require that you breach these requirements . The insurance independent producers and insurance agents surely can give advice that's prudent and loyal and doesn't involve overcharging or relying to people , et cetera , et cetera . So I don't . We've tried to accommodate every possible business model here . We've made it clear if you read the preamble to the amended version of 2020-02, . We've gone out of our way to make clear that , of course , you're entitled . You can work on a commission basis . You can work on a basis where there's a restricted menu of options that you recommend , based on the compensation they provide to you . You just have to adhere to these basic safeguards . So we don't think there's any reason to think that any business model out there isn't consistent with this . But there is an expectation that you're going to tamp down conflicts of interest , so you're gonna manage them , that you're gonna make sure that what's driving the train when it comes to investment advice is what's in the customer's interest , not a conflict or an incentive structure that's misaligned with the customer's interests .
Speaker 3So again , no intent to prohibit commission-based or proprietary products , correct ?
Speaker 1Correct . Not only that , I mean we go out of our way to point out that commission-based arrangements are sometimes exactly what's the right thing for customers . If you're a buy and hold customer who's not looking for ongoing advice , and an ongoing advisory fee can be the exact wrong thing for you , and in that case that would be what created a prudence problem . There's no thumb in the scale in this rule for in favor of one compensation model as opposed to another , as long as you're managing conflicts .
Speaker 3So , as a fair say that with respect to those things , it's really not the fact that someone is getting a commission per se or getting whatever the compensation structure is . This really goes back to an issue that I know the department's had for a very long time . It really which I think they have seen , you have seen , as one of the root concerns around conflicts , and this is the issue of differential compensation . Right , it's not so much the fact that there's a commission or other forms of comp , it's the fact that there's differential compensation that exists that creates the conflict . Is that a fair statement ?
Speaker 1Yes , I think to a significant degree . You wanna be very careful about incentivizing people , about giving them special incentives to recommend products that are actually worse for the consumer than other alternatives .
Speaker 3Or that the recommendation is based on what you're getting versus what's best for the particular .
Speaker 1Right , that's right .
Speaker 3I mean , it could be perfectly fine to have differential compensation If , in fact , the advice being given is in the clear best interest of the investor , correct ?
Speaker 1Yes , I mean it's again . The key thing from our standpoint is do you have policies and procedures in place to make sure that the conflict isn't what's driving the recommendation ? And it's not really . In a lot of circumstances , it's not really gonna be possible to make everything perfectly equal or to bring every conflict out of this marketplace . I don't think you can do that , and that's not our expectation . It's about , though , being careful not to introduce conflicts where there's no need for them and making sure that , when there are conflicts , you're being very careful to monitor , manage , control them and make sure that's not what's driving the recommendation .
Speaker 3So let me get into some specific things . One of the many disclosures in 2020 , you know two that are required to avail oneself of the exemption is this and you mentioned this earlier it's acknowledgement that the advisors quote , I'm reading from the rules is providing fiduciary investment advice and is a fiduciary under ERISA . Is the ERISA reference intended ? Is there some desire by EPSIS so that more Americans know what ERISA is ? Or I mean seriously , is that ?
Speaker 1It's in everyone's best interest that they know what ERISA is . Okay , but that is not our goal . No , the key thing is what we want to be . What we want there to be clarity about is are you stepping up to be an ERISA fiduciary or not ? And we think there ought to be clarity upfront in your relationship with the investor on that point . You know if you're gonna comply with this regime you kind of with this regulatory package . You need to know if you're a fiduciary , because things flow from that and your customers should know whether you're choosing to be a fiduciary or not . So that's the goal .
Speaker 1What we had seen , you know and this isn't everybody we'd seen some fairly good disclosure under 2020-02 , as it's currently written . But we'd also seen some disclosure that looked approximately like this it said we acknowledge that we are fiduciaries to the extent we fall within the five-part test set out in the 1975 regulation . Well , you know that kind of disclosure doesn't tell you , the customer , anything . You know you're not committing to being a fiduciary when you make a recommendation . The customer has no basis for knowing you're a fiduciary when you make a recommendation . So we're just saying look , make up , decide if you're going to be a fiduciary . Here you're gonna need to acknowledge that when you make a recommendation you're doing an ERISA fiduciary or is a fiduciary under the code . If you're not a fiduciary , you don't have need of the exception because you don't run into a file of the Prevative Transaction Rules in the first place .
Speaker 3So connected to that , questions have come in around the fact that the SEC has its own rules about holding oneself out as an investment advisor and that triggers investment advisory status under SEC rules which , as you're probably aware , would prohibit commission-based compensation . So can you clarify that ? You know this is sort of connected to coordination with the SEC , that you guys have had discussions with them and that there's no intent here . By holding oneself as an ERISA fiduciary does not mean you're necessarily an SEC fiduciary .
Speaker 1It doesn't right , it doesn't mean you're , it doesn't mean you fall under the Advisors Act , I mean I think is the most precise
Advisor Act vs Best Interest Regulation
Speaker 1way of saying it . I mean at this point , when you look at the conduct standards that govern advisors under the Advisors Act , under the SEC , and you look at the conduct standards that apply to brokers under regulation best interest , they're both , you know , familiar fiduciary status , fiduciary principles derived from the common law of fiduciary behavior . I mean it includes essentially prudence , loyalty , you know fall , and fair disclosure . It's very , very similar as between brokers and advisors , what the standard is , it's a fairly uniform best interest standard with probably the key difference in being an advisor under the Advisors Act and being a broker in the standards that cover broker dealers is that there's not kind of a default assumption in the case of a broker dealer that you have an ongoing duty to monitor , whereas in the Advisors Act there is a sort of default that you have a duty to monitor . But that's one area where ERISA departs a bit from the securities laws in the first place .
Speaker 1I mean ERISA's functional test of fiduciary status is a transactional test . Always You're fiduciary to the extent you give advice for a fee , direct or indirect , and you're not a fiduciary to the extent under that prong , to the extent you're not giving advice . So it's always under ERISA . Fiduciary status under the advice definition is always transactional . Were you a fiduciary with respect to this transaction in this instance ? And we don't , you know . For that reason we don't really impose an ongoing duty to monitor as a default on advisors at all . It really is a question of do you meet this test ?
Speaker 3So is it ? So you know , either has been or are there . I do know that you guys have been in conversations with the SEC because you've said that , mentioned it in the rule and you've also said that publicly . Has this particular issue come up and would there be a willingness to at least make sure that what you're requiring here doesn't necessarily unintentionally trigger a broken someone who is otherwise a broker , who might be getting a commission , which is allowed under the proposed rule , doesn't mean that they're going to be treated as an investment advisor under the 40 Act , because that would then create a problem for that broker in terms of receiving the commission .
Speaker 1Yeah , I mean we've , I don't this . This , this rule doesn't create that problem and we've , we've . We have worked pretty closely with staff over at the SEC on this , so I don't , I don't see that issue .
Speaker 3Great .
Speaker 1Brian , could I back up for just a minute and thinking and thinking about this rule ? I do . I do want to go back to the customer's expectation point , the retirement investor's expectation , and just describe with this , this , how this rule works to to determine fiduciary status . Because if you think back to 2016 and that rulemaking , you know we went from the five part test , which which the five part test has a problem that it makes it very , very easy for people to avoid fiduciary status , even as they're holding themselves out as fiduciaries . I mean really . I mean you can imagine , for example , imagine somebody who is at retirement age they've they've got their entire life savings and they're trying to decide on an annuity purchase and they're sitting across the table from from somebody who makes recommendations about annuities , who holds themselves out as an expert , who , who , who goes in tremendous detail over their financial circumstances , over their financial needs , even tells them look , I'm , I'm doing what's best for you here , I'm making recommendations that are best for you . And you can imagine , for that matter , that it's completely clear to both parties that the person who understands how these annuities work and understands , you know , investments is is the advisor , it's , it's the agent , it's , it's not the customer . The customer is putting themselves at at . You know they're they're relying completely on the advisor .
Speaker 1Under the five part test , though , of our current rule , that that relationship assuming this is the first time that people have have you know , this is the first time the person's getting professional advice from this entity would be treated as non fiduciary , even though you know their person's holding themselves out is giving best interest advice , making a recommendation that's probably the single most important advice person's going to ever receive . They both understand that the reliance is complete . Never , though , and the person could even say I'm your fiduciary , I'm acting in your best interest , they would still fail under our five part test because they it's not given on a regular basis . We don't think that makes sense . On the other hand , when we did the 2016 rule , you know we had we essentially said that retail customer in that situation , as long as there was a direct recommendation to them , they're going to be treated as a fiduciary is , and they got a fee , commission , you know , a UM , whatever , no matter what , almost without regard to the context of the relationship and whether the customer had any expectation at all that this was somebody who they were going to rely upon and trust and confidence and making an investment decision .
Speaker 1The new rule is between those the you know , the poll of the five part test and the 2016 rule . It says , in order for you to be a fiduciary , there are just three circumstances . We're going to make you advice fiduciary . One is you tell the person I'm your fiduciary , say that you should be a fiduciary . The second is is if you're in the business . As a regular part of your business , you make investment recommendations and you're making the recommendation under circumstances indicating that it's based on the particular needs or individual circumstances of the investor and you'll be relied upon as a basis for investment decisions that are in the investor's best interest . The third circumstance is if the customer has literally given you authority over investments they're letting , they've given you discretionary authority . We think that suggests a relationship of trust and confidence , but that's it .
Speaker 1This isn't the 2016 rule . This is . This is really very , very focused on what is the relationship between the person making the recommendation and use the customer , and is it one where the person really reasonably should expect that they can rely upon this advice is based on their interests . That's the focal point , and we think that's what the fifth circuit was looking for , and we think it's both significantly narrower than 2016 rule , but it is broader than the five part test , which which the five part test works great in the sense that if you meet all five parts of that test , there should be no doubt that that you're in a relationship of trust and confidence with the person making the recommendation . The problem is like my example of the people sitting across the table talking about the annuity purchase for all of their retirement savings is it's under inclusive . There are situations where it really dishonors the customer's reasonable expectations retirement investors reasonable expectations by saying they're not going to be a fiduciary , no matter how they held themselves out , and that's not right . We're fixing it .
Speaker 3I appreciate that further application of what you guys were trying to accomplish . So you know , when the rule first came out , the first thing I did because you know , kind of anticipated that you guys were going to address regular basis problem of the five part test I go to Acrobat , I Google regular basis and and lo and behold , I get the regular basis as part of their business test . So my first reaction is what so is that part of me was like is that because they were trying to say this is what we meant all along ? This was supposed to mean , or or why do you think that was important to include that element to this ?
Speaker 1Because that , that element , that that element in particular of the three ways that you can get fiduciary status here , is a function of what people's reasonable expectations are about the relationship . I mean , that's what we're aimed at across the board . They're reasonable expectations and we think that's . You know they have a reasonable expectation when somebody's holding themselves out is giving individualized advice based on their interests , and they're an investment professional , they're in the business . Part of what they do is make investment recommendations . If , on the other hand , you're talking to your car dealer or your uncle and they tell you you know , pull this money out of .
Speaker 1I borrowed you for that , but anyway right , you know , if you're going to pull this money out of , pull the money out of your iron by this , by this Lexus or whatever , we don't know . Nobody thinks that that's investment advice . That they're you know . They don't think they have kind of a fiduciary relationship with the car dealer . It's , it's . It's different when you're an actual investment professional .
Speaker 3So let me give you a couple of common examples here . Oftentimes like , say , a health care broker right will recommend to a retirement retirement plan advisor . You know occasionally when they see an opportunity for a health care client to that that ought to consider putting a plan in and they get a referral fee . Is that an example of a situation where they're not in the regular basis , not on a regular basis as part of their business Providing retirement advice ?
Speaker 1Yeah , I think that's , I think that's that's fair . I mean , bear in mind too this this rule doesn't treat as investment advice recommendations on what health plan to get or what .
Speaker 3No , no , no , I'm saying that the health brokers recommending a retirement plan advisor .
Speaker 1He says on on top of every . You know , in addition to giving you advice on how to and what kind of health plan to to get , here's , here's , here's a tip on , here's something you should , you should , put in your first that I know was great with plans and you should .
Speaker 3I would recommend you talk to him or her about putting a plan in for your workers .
Speaker 1Yeah , I mean it's as written . Unless that , unless the advice is regularly given as to so little bit more complicated .
Speaker 3Oftentimes , wealth people tend to specialize on individual investing advice versus plan advice , so there's some often called wealth advisors . If a wealth advisor will occasionally give a recommendation to another advisor who is a plan advisor but get a referral referral fee , how do you see that fitting in with the regular ? Because it's investment related but it's not plan investment related ?
Speaker 1I mean you're so you're saying that . Let me just make sure I understand the hypothetical . So the person is a wealth advisor . They give advice on how to invest your customers assets . Usually they don't give that advice with respect to risk-covered plans , but in this instance say they do or or , or they .
Speaker 3They are recommending somebody else to be the advisor , so it's . I've got somebody I know down the street their retirement plan advisor . You're looking for someone to . You're considering a plan for your businesses employees .
Speaker 1You should talk to that person right now recommending themselves , but recommending somebody get a referral . Yeah , no , I think they're potentially going to fall within this test if they regularly make those recommendations . Well , if they regularly make investment recommendations even if it's not related to plans .
Speaker 3Okay , All right . So moving on . All right , One quick clarifying question that keeps coming up , Tim , even though I think I know what the answer is .
Regulations on Investment Recommendations and Education
Speaker 3There's nothing in this proposal that would would preclude seps and simple IRAs from being potentially covered if the elements are otherwise satisfied . Correct ?
Speaker 1That's right .
Speaker 3So they are considered the question or risk of plans that potentially could be subject to the rule and advice with respect to those plans would be covered .
Speaker 3Yes , All right . A lot of the questions around plan advice pertain to the threshold element of whether the person is making a recommendation that is individually tailored Very important . So I'm just going to assume that if a person is recommending a retirement plan provider , a platform with literally thousands of QCIPs to choose from , and it's the plan sponsors responsibility to choose from those QCIPs to construct a menu , that that's not going to be individually tailored investment advice . Just take that for granted . But it is very common for plans to be sold that allow planned participants to choose from investment options for pre-constructed lists of fund options for each major asset class . So let's say there's like five investment options for each asset class . It's a pre-packaged product and the advisor doesn't have any flexibility with respect to this product . They're just saying here's a plan with these options and all of the options are essentially pre-selected by the platform provider to give participants five or so choices for each asset class . Is that individually tailored ?
Speaker 1So maybe backing up , I mean what counts as a recommendation for purposes of this rule , a recommendation , really we're using the word in the same sense as under the securities laws and is the same way Finner and the SEC would talk about it . It's effectively , you know , affects the circumstances test . And the question is this a call to action Is express or implicit the notion that by this , hold this , take this investment management approach , hire this other , this third party for providing investment services , as opposed to circumstances where you're not really recommending any particular investment strategy or investment type of investment account or approach to investment management or any particular product . And the question in this scenario is you're bringing up is well , which is it when you look at the facts and circumstances ?
Speaker 1So one could imagine , for example , a platform provider dealing directly with the plan and they just say look , this is what I offer . I'm not going to make any recommendations to you . This is if you're going to deal with me . This is what's on my product shelf , this is what's available to you . You might want to go get somebody to advise you whether this is good . You know good or bad for you , but that's not me . Another circumstance is that you know they really go out of their way to pitch a particular set of options that's available on the platform or to suggest that these options are better than other options , and it's very fact and context dependent . It's a question on the recommendation issue Are you really suggesting to the person that they should go with this product or this lineup or that they should narrow their entire search to this small selection ?
Speaker 3So you're saying you know , when an advisor let's say it's an independent advisor is saying you should you know , if you want a 401k plan , here's a product offered by a you know particular record keeper . The record keeper's products are , you know , the product is , excuse me , eight asset classes , five funds in each , so 40 different funds that participants can choose from . In that instance because there are other products in the universe that might be out there you see that as being a recommendation .
Speaker 1I mean it could be . It just depends on what the context is and how it's lined up . I mean , if the employer , for example , had gone to the person and said I'm looking for providers that offer packages that meet the following attributes , and the person just , and the person just goes out there and finds a bunch of those packages and says here's a bunch . But if , on the other hand , the person really is saying reasonably understood , they're really saying you should go with this provider or you should use this package of investments , or it depends .
Speaker 1An approach here , brian , is , if folks may want to look at the back in , we currently have an interpretive bulletin out that deals with the line between education and advice Right In 96-1 , I mean we aren't upending that the things that would be considered education under that document as opposed to advice , it's still education . And similarly , if you look at in 2016 , when we wrote the rule , we had a very long set of provisions that described how to draw the line between education and advice in a variety of circumstances , including some of these platform provider kind of circumstances . I don't think I think that that guidance in those lines are still in much the same place . I mean as far as whether you're making a recommendation or not . All of that discussion went to this narrow question of is something a recommendation or is it really just education and guidance ? I think that's still how our thinking works here .
Speaker 3I think that's an important point to make , because there's the individually tailored element , which is kind of related to what the questions I've been asking , but there is the fresh , more question of whether someone's making a recommendation or they're just providing education . I think that's going to be one of the critical lines that people are going to be thinking about , because it's a fairly . The scenario I presented to you , particularly in the smaller plan market , is very , very common , as I'm sure you know .
Speaker 1Absolutely . And one thing , brian , I'm sure you're ahead of me on this , but for anyone else too , this is what we're interested in receiving comments on every aspect of the rule , but this in particular seems like a productive area to me . If people have specific views on whether we should say more about what counts as a recommendation and what doesn't , whether we should have an express test in the statute , whether we should delineate a variety of scenarios that count as recommendations and that don't count as recommendations but rather really should be treated as education , we'd be very interested in hearing , you know .
Speaker 3Yeah , I think that could be very helpful , so I appreciate you saying that . So we talked about proprietary products and you made it clear that there is no per se prohibition against them . There's some language in the preamble to 2020 to that , you know , not surprisingly , is created a bunch of questions and some confusion , and so I want to provide this example just to make sure that we fully understand what the intent is . So let's assume you've got someone recommending a retirement plan product with an investment menu that has that I've suggested for the plans that they've suggested for the plan sponsor . Excuse me , it includes some proprietary products of the financial services company and some that are not manufactured by that same financial services company .
Speaker 3The advisor in this example is an employee of the financial institution that produces those proprietary products . The compensate they've structured this , like many in the plan world , as you know , a lot of the industries gravitate towards level compensation , in large part to address the concerns that EPS has been raising for a long time around potential conflicts . And the advisor's comp is level regardless of whatever options are chosen , and there are no , you know , bonuses or other comp that are tied to recommending proprietary products . It's been the general understanding that this scenario would have been able to avail itself of 2020-02 . Is there anything different in either the proposed rule or the exemption that would change that view ?
Speaker 1That if you did all that you wouldn't you'd be good to go . No , I mean , if you've wrung out conflicts to that degree , certainly that would comply with policies and procedures requirement .
Speaker 3And there is an . In fact , for those listening who may not have spent multiple days reading the regulations and the favorite transactions , like we have , there's actually in the preamble an outline of potential policies and procedures specific to proprietary products . That , I think , is new , correct .
Speaker 1Yes . So we specifically wanted to give an example of one approach to offering proprietary products that would work , that we would view as complying with the policies and procedures requirements . So we laid it out . It's not meant to be the exclusive way to deal with it , it's just meant to . We want to be crystal clear . There's you can charge commissions , you can . You can limit a menu to proprietary products , as long as the compensation is reasonable and it's fairly disclosed and your conflicts are fairly disclosed . It's just going to be a question of are you complying with the basic fiduciary ?
Speaker 3Yeah , and just to be clear again , to emphasize my example , there was a mixture of proprietary and non-proprietary . There's also no prohibition if the menu is entirely proprietary . As long as you know , all of the other policies and procedures have been complied with correct .
Speaker 1That's right and you're complying with the impartial conduct standards .
Speaker 3Yeah , that's an
Retirement Plan Fiduciaries
Speaker 3. I think that's an important point for people to hear , because there's folks that are out there suggesting otherwise . Advice to plan participants with respect to plan investments is definitely covered by the proposed rule and this now also clearly applies with recommendations with respect to rollovers . The plan fiduciary in most cases is not going to know if a participant is separately working with an unaffiliated advisor with respect to that participant's plan account . The proposal makes it clear co-fiduciary liability still exists . So can you just have you guys discuss , or can you discuss , whether and to what degree APSIC expects the plan fiduciaries to monitor what these other Orissa fiduciaries may be doing , who are now more likely to be Orissa fiduciaries under the proposal ?
Speaker 1So what's the kind of scenario you're worried about here , Brian ?
Speaker 3Well , this . So right now , you know Advisors talking to participants about rollovers . In many cases , right or wrong , they position themselves so they're not subject to a RISA . Now , under this proposal , if you're giving advice to a participant about a rollover , about effectuating a rollover transaction , almost certainly you're gonna be subject to Aris's fiduciary standard .
Speaker 1So there's good if you're holding yourself out the right way and you correct .
Speaker 3Let's assume all that is it's certainly going to bring much , many more advisors and their financial institutions into being subject to Arisa . Concerns been raised by plan fiduciaries . You know we're we're responsible for the plan . We don't know If a participant is talking to someone who may violate the you know the rules , but there we're all . We're all fiduciaries with respect to the same set of plan assets . Is there some duty to monitor that we're not appreciating here because of the potential Go fiduciary liability .
Speaker 1I mean certainly if it's like an advice arrangement that the plan has set up or or you know that that would that potentially has with it an obligation to monitor . But if you're talking about a Circumstance where the plan participant is is dealing with somebody they've selected , kind of they're on their own initiative , I don't I don't really see when that's , but where an extra kind of fiduciary obligation would come from . You know , unless I suppose theoretically , you know , one of the plans fiduciaries was aware of this kind of A relationship and and was aware that the person had engaged in some conduct or something that should give rise to this .
Speaker 1Oh sure , sure but you know , absent , like if I know that the person's a criminal and their recommendations and I know because they they in fact took the money from me and some previous incarnation yeah , maybe then you had an obligation to step up and say something .
Speaker 1But by and large , the , the plan , the plans fiduciaries don't have kind of an overarching obligation to , to be making inquiries about who planned participants are working with on their own initiative and and how those Relationships are are going . I don't believe and okay , certainly this rule doesn't . I mean that that's kind of a common problem and the with the functional test of fiduciary status generally , there can be quite a range of fiduciaries out there and the obligation of the plan administrator in the name fiduciary and the investment committee fiduciaries and these folks is is is you know they should be prudent and they should be mindful of , of , of you know , those things they should reasonably know about , but they don't . They don't have a duty to start questioning all of the Participants about all of the different mischief they might be getting into on their own .
Speaker 3Maybe . Maybe that you know , emphasizes the importance and certainly something that we stress as an organization of plan sponsors educating participants about what they should be looking for as they get closer to retirement and be thinking about when it comes to their retirement accounts and what they could be . You know what they should be doing In terms of potential distributions . Another kind of enforcement related question the rule and this is not new to the rule , but the the the potential loss of the availability of the exemption is for ten years is obviously a very serious consequence and you know now that the proposal the proposal would be expansive in terms of the number of advisors and institutions that would potentially fall under the umbrella of Eresa . So , while these companies have tens of thousands of employees and , although not common , sometimes employees violate rules , assuming the institution otherwise complies with the exemptions , policies and procedures and and timely response to employee violations , can you discuss how Epsa will address enforcement in those situations ?
Speaker 1There's their . I mean he asked to the institution's responsibility for the individuals making the recommendations . I mean right , right , I mean generally . There's a correction provision and and and both the 2020-02 exemption 84 , 24 . I mean that maybe I should have said already the basic structure here is is , if this regulatory package moves to final , final version as it is now , there's , there's two basic exemptions available and they're broadly similar . It's just one is for independent insurance agents and the other is for everybody , but both of them , either way , have correction provisions and and Within a reasonable period , after you reasonably should have known about a breach , you have an opportunity to fix it and if you fix it , that's , that's fine , you're good to go and and don't lose benefit of the exemption or You're treated as if there there wasn't a violation of the exemptions conditions in the first place .
Speaker 1And then , as far as just a general enforcement strategy for For this moving forward , I think it's fair to say that our our Efforts , especially early on , would I want to get ahead of us . This isn't a final rule yet , but but I mean we'll be focused on compliance . I mean people who are working hard to comply with this document , and you're dealing with legitimate issues Of how to structure arrangements to comply , resolving arguable ambiguities and the Regulatory structure coming up with approaches that they thought would work . But but , but didn't ? I mean , we're gonna work with those people , that's that's great here .
Speaker 1Yeah .
Speaker 3I think that's important . I think it'll you know I'll certainly reduce some Concerns that folks , if the rule should become final , would have with respect to the potential consequences , because you know Footfalls happen . I think the principle you're saying is that as long as they're not systemic , they're not being ignored , there's policies and procedures in place . You're gonna work with the organization to make you know , to help correct things and and perhaps improve the system so it doesn't happen again exactly and and there's cure provisions built into both exemptions .
Speaker 1You can . You can fix mishaps .
Speaker 3So you've mentioned annuities a few times , so I want to . I want to talk about that a little bit because I Personally am a fan of annuities . I think they play an incredibly important role in terms of providing Guaranteed income for tool . You know really millions of American workers who Are looking for some type of guaranteed lifetime income that they can count on of throughout the retirement and relating to plans . As I know you're aware , this been a kind of work done To develop right retirement income solutions for retirement plans and participants . We believe at this organization that it's it's extremely important as millions of Americans approach Retirement with assets in their accounts but no , currently no really clear retirement income plan .
Speaker 3Prior to the White House rollout of the proposed rule , the Council of Economic Advisers issued a blog post specifically on fixed index annuities . That I I thank me I frankly thought was pretty harsh and we think , unfairly and incompletely analyze the consideration surrounding the product . You mentioned one about Commissions versus , you know , advisor based arrangements that really don't Move assets around and continue to charge for long periods of time , and so , in light of that and this has come up some plan sponsors and plan fiduciary advisors have have Wondered whether EPSA has any fundamental concerns with annuities or similar lifetime income products . Fundamentally so , given that these products are integral to the retirement income solutions currently be considered by plan sponsors and their fiduciary advisors . Can you , can you , address these concerns that are that are being raised right now ?
Speaker 1Yes , I mean it . Then Certainly both 2020 and 8424 , as proposed , are available for the recommendation of annuities
Regulation and Complexity of Annuities
Speaker 1and annuities . Good annuities Can be an important part of the solution , I think , for for people in retirement it's very , very hard to to figure out how to manage your the decumulation phase of retirement . It's there is a Sense in which some of these arrangements and some of these annuity contracts can kind of substitute to Imperfectly sometimes maybe , but but for the loss of the defined benefit Kind of plans . I mean they they can provide a guaranteed income stream for people and in their retirement , and and and and reduce mortality and other risks for the investors . So they're clearly important investments , and well thought out , prudent recommendations are important and should be encouraged . That's not to say , though , that there's no concern in leaving that marketplace kind of relatively unregulated by ERISA . The fact is that indexed annuities , which I think are the product that was singled out by the CEA , are quite complicated products . I mean , they singled out a fairly straightforward version of a fixed indexed annuity , but the reality is , in the past couple decades there's been an explosion in the number of types of indexed annuities , of the numbers of indices that one can get reflected in indexed annuities on the marketplace and these are complicated products and one of the challenges for them is it's fairly easy for the consumer to think that if they look at the relevant index that's cited in , say , the name of the annuity product and look at how it's performed over the past few years , they have a pretty good understanding of what they're going to be receiving moving forward . Except that there's downside protection so that they have no downside , and it's fairly easy for consumers to end up with a product that they're buying something that isn't exactly what they expected . I mean , for example , it's not the case that you can't lose money on an index annuity . Most of the time there's a fairly significant period in which a significant part of your assets are locked up and if you try to get them , you're going to pay a fairly steep penalty . So if you have need for withdrawal earlier on that's greater maybe than originally anticipated , for example you can end up really really paying the piper and you can lose money . There's to understand what you're getting from the index . You have to understand how the participation works in the index . You have to understand how the caps work . You have to understand how the buffers and floors work . You have to understand , if there are , if there's a spread fee or an administrative or managerial fee associated with it . You have to understand that they're fairly complicated products and even as a matter of comparing with an index , you need to understand whether you're being credited with dividends . Usually you're not , as compared to the way the index typically works . So it's just .
Speaker 1It's not that any particular category of annuity is presumptively bad or that we're hostile to these annuities . What's important to point out is that a regulatory regime that says we are going to preferentially let people recommend these products and transactions that may involve the entirety of somebody's savings and do it in a circumstance where they're holding themselves out as somebody who's acting in the customer's best interest and giving individualized recommendations and nevertheless have no fiduciary obligation whatsoever , that's not a good regulatory regime . Everyone is going to benefit and everyone's going to be better off if people recommend annuities . But when they're recommending annuities and holding themselves out as having the expertise necessary to analyze some of these products , if they recommend them in a fiduciary capacity , which means they're prudent , loyal , don't overcharge and don't mislead people . That's all it's about . But as far as annuities being per se problematic , I don't agree . I mean with it's Well , I'm going to agree with that .
Speaker 3I mean , I think the concern and I recognize this is the , you know , not always saying people don't appreciate that the administrations are very big and complex and EPSA does not control what the Council of Economic Advisers does . But I think the concern about the CEA blog was that , by singling out this particular product , it inferred that there was something fundamentally wrong about the product , which you know , to be frank with you , I disagree with because you know there is . Let me be clear I recognize that the issues that you're raising , I think , are primarily issues of transparency and making sure that the investor understands what it is that he or she is buying .
Speaker 1They're also brand making sure that the person making a recommendation is recommending a product that's good for the customer .
Speaker 3Fair enough , but I think those would .
Speaker 3Others would argue that the NAIC model rule is attempting to do that .
Speaker 3I think you know the reality is with that particular product . Obviously , you know , by controlling the downside risk right and there is which is something that a lot of investors want , they want to be assured that their losses will not be catastrophic . And you know , recognizing also that there's typically caps that are the trade-off and that there are costs for ensuring downside risk as well as typically some type of death benefit in the meantime sometimes , that all of those things have a cost and there's nothing per se wrong with the fact that those things have a cost . And so I guess what concerned me about the particular blog and the focus on that particular product is it's just , in my opinion , it's distracting from the general principle which is all products should have this standard of care . If there's advice under ERISA and you know we're not saying one is necessarily worse than the other it's really situational and it's really for the principles , the principle of best interest , to determine what is a good option for a particular retirement investor , as opposed to saying this particular line of products are suspect .
Speaker 1Yes , I would agree with your last statement . I mean , I would urge everyone to just read , if not the preamble , read the text of these rules . There's no thumb being put on the scale in favor of one product or another . What's problematic when it comes to , for example , fixed index annuities , is the extent to which they are not covered by a standard that's comparable to the standard applied , for example , to a recommendation of a mutual fund to an ERISA investor . We just want the same standard applying across the board , and that should be coupled with the recognition that these products are complicated and they're suited for some folks and they're not suited for others , and different products within any given category are going to be right for some investors rather than other , and there are conflicts of interest that are fairly significant in this space , and so it's especially important that people making these recommendations be subject to the standard .
Speaker 1I think that the annuity market and annuity recommendations in the long run will benefit from an environment where they are subject to the same best interest standard effectively as others when they hold themselves out as giving them advice , and when the people who really are making really sound recommendations of these products aren't kind of put at a disadvantage by folks who aren't and who are making recommendations that are reflect incentives that run counter to what's in the best interest of the retirement investor . I agree with you . I mean there's no anti-annuity bias in this project . If they can play an important and helpful role in people's retirement , Well , we agree with that .
Speaker 3So there's a question that's come up relating to the disclosures of 2020-02 . I just want to clarify something , and there's a model disclosure in the preamble for 2020-02 . That's extremely helpful . So thank you for that , again citing the fact that the individual investment professional is subject to the fiduciary standards of Title I of ARESA . But there's also a specific disclosure around compensation , including the right of the participant to ask for more specificity with respect to the amount of the comp that the investment professional or financial institution receives . But the clarification I'd like to ask is the fundamental disclosure that a retirement investor would receive is not intended to require the specific amount of compensation , but rather that they , for example , would be receiving third-party compensation . Is that correct ?
Speaker 1So there's some very basic upfront disclosure that has to occur about . Let me just pull up .
Speaker 3And we'll edit some of this pause time out , so don't worry .
Speaker 1That's probably a good thing , but in general , the disclosure that's required up front is the acknowledgement of fiduciary standard of status , the written statement of the best interest standard of care and then a written description of the services that you're going to be providing and of what your material conflicts are For detailed disclosure , by and large under 2020-02 , comes on request .
Legal Protections for Plan Sponsors' Advice
Speaker 1The upfront disclosure about your comp is essentially does the investor pay for it directly or indirectly ? Are there third-party payments ? Is it commissions or transaction-based that kind of thing . But the specifics are you produce upon request of the investor .
Speaker 3I appreciate that . I think that's how we read it as well . So , importantly , you in the proposal talk about severability and obviously you know you can't comment today on the general subject of whether or not there'll be likely to be lawsuits , although I can certainly say the expectation , at least on our part , is that the likelihood in this area of someone suing is fairly high . There is , however , as I indicated in the preamble .
Speaker 1I'm sorry to hear that , Brian .
Speaker 3You know it is what it is when it comes to this topic . I think you understand that the preamble does have a you know ask the question about severability , should the role be challenged , and not surprisingly , you know the issue that we particularly care about are pertaining to advice to plan sponsor fiduciaries . We see as being something distinctly different than advice with respect to individual retirement plan investors . Can you provide some insight as to what EPS is thinking in this regard ?
Speaker 1On the severability issue generally . Well , I mean , apart from what we said in the preamble language , this is one of those areas where , rather than me telling you what I think , it would make sense for a court to treat a severable or not severable . This is another area where I think , like the education advice line , it would be enormously helpful to hear from commenters if they think there are particular issues or particular things that ought to be treated as severable or , conversely , that none of this makes sense if you strike down this provision and should not be treated as severable .
Speaker 3All right . Well , we'll certainly be . You know , as I indicated , you know commenting in this respect because you know the issue of advice to plan sponsors is particularly important to you , know the ARA , and you know particularly so because , as you indicated , currently REGBI doesn't apply to plan sponsor advice , the NEIC model rule doesn't apply to plan sponsor advice , and so , you know , we've asserted for , as I think you know , for close to 20 years , that this is a regulatory gap that needs to get addressed , and so we're very pleased that that department chose to do so . And you know , also , especially because of all of our efforts , administrations , congresses , efforts to expand retirement plan coverage , as well as state efforts to expand retirement coverage , you know we're expecting hundreds of thousands of new plans over the next five to seven years , which is great news . We want to make sure that those plan sponsors , the small business owners , are getting advice that has the protections of ARISA .
Speaker 1Right and most plan sponsors are not , you know , themselves investment experts or retirement experts or investment professionals . There , in a lot of ways , they're in the exact same boat as individual participants or beneficiaries . They need help making a fairly difficult decision and they turn to people who have professional expertise and hold themselves out as such , and it's an unfortunate part of the legal structure here . I think that under the current rule , you know , we can hold potentially that employer responsible for the mistake and relying upon the recommendation they got , but we can't hold responsible the person who held themselves out as the expert and made the recommendation in the first place , and that just seems like a fundamental unfairness in the way the thing is .
Speaker 3Yeah , a plan fiduciary should reasonably expect . That person giving them a recommendation is also subject to the same set of standards and , in particular , because they are , not only are they making them that decision for themselves , as you alluded to , but they're making that decision on behalf of their employees as well . It's really important . So thank you for that , tim . Thank you so much for your time . We've covered up . You know we could do this for six hours , no doubt I'm not going to put you through that torture , but really appreciate you , your willingness to cover all the things that we did cover , and I'm sure that we'll be talking more about the subject and look forward to , you know , providing our comments and discussing it more with you and everyone else at EPSA and hopefully moving this ball forward .
Speaker 1It's a pleasure . Thank you , Brian . Thank you .