What Advisers Need to Know Now About Giving Rollover Advice after September 23, 2024

This article was originally published on Kitces.com, on May 15, 2024, and is available at at DoL’s Retirement Security Rule & PTE 2020-02 Amendment: What Advisers Need to Know Now about Giving Rollover Advice After September 23, 2024.

On April 25, 2024, the Department Of Labor (DOL) published its latest attempt to update the definition of an investment advice fiduciary, the Retirement Security Rule (the “Final Rule”). This new rule imposes an ERISA fiduciary standard “that applies uniformly to all investments that retirement investors may make with respect to their retirement accounts”, which means that financial advisers who give advice to clients about whether to roll over assets from a 401(k) plan into an IRA, or many other investment products, are now subject to ERISA fiduciary obligations.

This may seem like old news, given that many Registered Investment Advisers (RIAs) and broker-dealers already comply with Regulation Best Interest (Reg. BI), the Commission Interpretation Regarding Standard of Conduct for Investment Advisers (the “Interpretation”), and the DOL’s Prohibited Transaction Exemption 2020-02 (PTE 2020-02). The DOL, however, felt that these regulations did not go far enough to protect retirement investors from improper investment recommendations and harmful conflicts of interest. The expanded definition offered by the Final Rule will cover more financial services providers (e.g., insurance agents and bank employees) and more investment products (e.g., annuities, real estate, CDs, commodities, and digital assets).

The new rule takes effect on September 23, 2024, with a 1-year transition period after the effective date for some of the conditions in the prohibited transaction exemptions. From a practical standpoint, however, the Final Rule will have a minimal effect on investment advisers that already comply with PTE 2020-02 and the Interpretation. Specifically, the DOL made changes to PTE 2020-02 along with the Final Rule that will require advisers to update their disclosures, policies and procedures for compliance with the exemption.

Historical Perspectives On Fiduciary Duty: Shaping The Retirement Security Rule 

The release of the DOL’s Retirement Security Rule (the “Final Rule”) and its amendments to existing prohibited transaction exemptions PTE 2020-02 and PTE 84-24 are the latest in a long line of attempts to update ERISA’s definition of “investment advice fiduciary” to provide greater protections to retirement investors. Back in 1974, when ERISA was initially passed, the DOL enacted regulations imposing fiduciary liability on advisers for managing assets subject to ERISA if the adviser provided individualized investment advice for compensation on a regular basis that was intended to serve as the primary basis for investment decisions with respect to plan assets. The advice also had to be provided pursuant to an agreement.

Note: The ERISA criteria that determined whether advisers were subject to fiduciary liability are known as the “5-part test”. Under this fiduciary test, a person is an “investment advice” fiduciary with respect to a plan (including an IRA) under the Employee Retirement Income Security Act of 1974, as amended (ERISA), and the prohibited transaction rules of the Internal Revenue Code when: 1) providing advice or recommendations regarding purchasing or selling, or the value of, securities or other property for a fee 2) on a regular basis 3) pursuant to a mutual understanding that 4) the investment advice will serve as a primary basis for an investment decision, and 5) the advice is individualized.

According to the DOL’s Retirement Security Rule Fact Sheet, “advice that was provided on a ‘one-time’ basis, like many recommendations to roll retirement savings out of a workplace retirement plan and into an IRA, was typically not treated as fiduciary advice and therefore was not protected by ERISA’s fiduciary safeguards.”

Over time, the DOL discovered that this combination of criteria made it difficult for regulators to impose fiduciary liability on investment advisers, broker-dealers, and other financial professionals who were providing investment services to retirement investors. Moreover, as noted by the DOL in the final release of the Retirement Security Rule:

…the private retirement savings landscape has changed dramatically [since 1975 when ERISA was enacted]…

Since then, much of the responsibility for investment decisions in employment-based plans has shifted from these large private pension fund managers to plan participants and beneficiaries, as well as IRA owners and beneficiaries, many with low levels of financial literacy. [footnotes omitted]…

Moreover, workers have become more reliant on their retirement savings as Social Security benefits have eroded in recent decades

DOL’s Many Attempts To Amend ERISA

In 2010, the DOL proposed a rule to amend ERISA to impose a fiduciary standard on investment professionals giving advice for a fee regarding asset rollovers from a retirement plan or an IRA to another plan or an IRA. However, this version received huge pushback from the financial services industry and was ultimately withdrawn.

In 2015, the DOL tried again and released an updated rule commonly referred to as “The Fiduciary Rule”, which sought to impose fiduciary obligations on firms providing investment advice to retirement investors, including broker-dealers, investment advisers, and insurance agents and providers. This rule was passed in April 2016, along with the Best Interest Contract Exemption (BICE), which allowed firms and their representatives to receive certain types of compensation, such as commissions and 12b-1 fees, subject to certain conditions. But again, the DOL’s attempt to update ERISA failed. The Fiduciary Rule was vacated by the United States Court of Appeals for the Fifth Circuit in March 2018 because it was an “arbitrary and capricious exercise” of administrative power.

Regulation Best Interest – The SEC’s Approach To Elevate Standards

While the DOL went back to the drawing board, the SEC entered the breach in June 2019 by adopting a package of rulemakings, including Regulation Best Interest, Form CRS, and related interpretations, which were “designed to enhance the quality and transparency of retail investors’ relationships with investment advisers and broker-dealers, bringing the legal requirements and mandated disclosures in line with reasonable investor expectations, while preserving access (in terms of choice and cost) to a variety of investment services and products.”

As part of this package, the SEC issued the Commission Interpretation Regarding Standard of Conduct for Investment Advisers (the “Interpretation”). Briefly, the Interpretation breaks down an adviser’s fiduciary obligations into 2 essential duties: a duty of care and a duty of loyalty. The duty of care means an adviser must provide advice in the client’s best interest, seek best execution where the adviser has the responsibility to select broker-dealers to execute trades, and monitor the client’s portfolio over the course of the relationship. The duty of loyalty hinges on the adviser making full and fair disclosures of conflicts of interest to its clients so they can make an informed decision about whether to hire the adviser and invest in the recommended products.

Similarly, Regulation Best Interest (Reg BI) requires broker-dealers to “act in the best interest of a retail customer when making a recommendation of any securities transaction or investment strategy involving securities to a retail customer”. (See SEC’s Press Release) Under this new regulation, the preexisting suitability standard was replaced with a “best interest standard”, meaning that that broker-dealers and their representatives must act in the best interests of their retail customers when making investment recommendations.

Wrapping up the package with a bow, the SEC also established Form CRS (also known as the Client Relationship Summary form), a disclosure document filed with the SEC and provided to retail investors. The form is designed to help retail investors understand the fees and services being provided, the legal obligations of the firm and its financial professionals, conflicts of interest, and whether the firm and its representatives have any reportable legal or disciplinary history.

Although, arguably, these regulatory changes addressed many of the DOL’s concerns, there were still some loopholes that needed to be plugged. For example, the securities laws (i.e., the Advisers Act and Reg BI) do not apply to advice on investments such as real estate, annuities, commodities, digital assets, and bank products such as certificates of deposit. Additionally, Reg BI only applies to recommendations made by broker-dealers to retail customers. Advice by broker-dealers to plan fiduciaries, such as plan investment options, plan design, and investment strategies, are not covered.

PTE 2020-02 Expands The ERISA Definition Of A Prohibited Transaction

In December 2020, the DOL tried a different tack and adopted Prohibited Transaction Exemption 2020-02 (PTE 2020-02). In the exemption’s preamble, the DOL essentially threw out its longstanding position that advice regarding a one-time rollover was not “fiduciary investment advice” covered by ERISA (see the Deseret Letter). Consequently, the DOL considered financial professionals giving advice about 401(k) plan rollovers to be ERISA fiduciaries and subject to ERISA’s (and the Internal Revenue Code’s) Prohibited Transaction Rules.

Note: The Prohibited Transaction Rules prohibit an investment fiduciary from receiving additional compensation as a result of their advice unless an exemption is available. Under Section 406(b) of ERISA and Internal Revenue Code 4975, a fiduciary is prohibited from:

•         Using ERISA plan assets for their own interest or for their own account;
•        Representing an adverse party in a transaction involving an ERISA plan; or
•        Receiving consideration for a personal account from any party dealing with a plan transaction involving plan assets.

Exemptions are essential since penalties for violating the prohibited transaction rules of ERISA and the Internal Revenue Code are severe and can include an excise tax of up to 100% of the amount involved, compounded over time.

In effect, PTE 2020-02 allowed investment advisers and broker-dealers to receive otherwise prohibited compensation, including commissions, 12b-1 fees, revenue sharing, and mark-ups and mark-downs on certain principal transactions (see the earlier blog post, Complying With PTE 2020-02 Under DOL’s New IRA Rollover Requirements). The exemption requires that firms acknowledge their fiduciary status, comply with the impartial conduct standards, provide written disclosures to clients that the advice given is in their best interest, and conduct an annual compliance review of the firm’s compliance with the Impartial Conduct Standards in PTE 2020-02 (discussed in more detail later).

Some industry grumbling and hand-wringing about the difficulties of meeting these conditions caused the DOL to extend the compliance date from February 16, 2021, when the exemption first went into effect, to February 1, 2022. Nevertheless, many firms serving retirement investors put in place policies, procedures, and processes to comply with the exemption.

State Challenges Against PTE 2020-02

Some members of the financial services industry, however, did not give up the fight against the DOL’s expansion of the definition of fiduciary investment advice. In 2023, there were 2 court challenges to PTE 2020-02 (in Florida and Texas). The courts found that the DOL had overstepped its bounds by stating that an initial recommendation to roll over retirement plan assets to an IRA without a prior relationship could satisfy the “regular basis” requirement and, therefore, be considered fiduciary investment advice under the 5-part test in ERISA Title I and Title II.

The DOL decided not to appeal the Florida court’s decision, but the Texas suit is ongoing. The same plaintiffs in the Texas suit (Federation of Americans for Consumer Choice, Inc., James Holloway, James Johnson, TX Titan Group, LLC, ProVision Brokerage, LLC, and V. Eric Couch) brought a new lawsuit challenging the Retirement Security Rule and the amendment to Prohibited Transaction Exemption 84-24.

Presumably, the Final Rule was drafted in part to address the legal challenges from Florida and Texas. In both cases, the plaintiffs argued that the DOL was attempting to use informal guidance to change existing rules in violation of the Administrative Procedure Act (APA). By adopting the Final Rule, the DOL is attempting to formalize the new definition in compliance with the APA.

The Final Rule And Prohibited Transaction Exemptions

The DOL’s goal in enacting the Final Rule is to ensure that advice given to retirement investors by financial professionals is treated as fiduciary investment advice under ERISA and the Internal Revenue Code (IRC). The Retirement Security Rule broadly treats financial services professionals as ERISA fiduciaries when providing individualized advice to retirement investors, even outside retirement plan rollovers. Therefore, even a one-time recommendation from an investment professional to a retirement investor would be considered fiduciary advice under the new rule, subject to the fiduciary duties of care and loyalty and to the prohibited transaction limitations imposed by ERISA.

Note: Section 4975 of the Internal Revenue Code (IRC) and section 406 of the Employee Retirement Income Security Act (ERISA) both prohibit similar transactions and impose an excise tax on those transactions. However, the definitions of plans covered by section 4975(e)(1) of the IRC and Title I of ERISA are not identical.

The IRC covers IRAs and disallows certain interactions between an IRA and people that are related to the IRA account holder (i.e., “disqualified persons”, including the IRA account holder; the account holder’s spouse, children, parents and spouses of those people; business entities owned 50% or more by these people; and certain business partners, directors, and employees in these businesses).

Similarly, section 406(a) of ERISA prohibits fiduciaries of ERISA plans from entering certain transactions with parties in interest. Parties in interest include any plan fiduciary (e.g., plan administrator, officer, trustee, or custodian), the employer that sponsors the plan or any affiliate, any employee of the employer, and any service provider to the plan (e.g., attorney, auditor, etc.).

The Scope Of The Retirement Investment Rule (aka The Final Rule)

Essentially, the Final Rule expands ERISA’s stringent fiduciary obligations to cover almost any situation where advice is being provided for a fee to a retirement investor where there is an expectation that the advice being given is in the investor’s best interest.

The Final Rule covers advisory firms, including private fund managers, and their representatives providing “fiduciary investment advice” to ERISA and non-ERISA plans, including IRAs. The Final Rule also covers broker-dealers and their representatives, insurance agents, bank branch employees selling bank products, and almost any other entity and its representatives providing recommendations to retirement investors about investing their retirement assets.

The Final Rule also covers many types of investments, including annuities, fixed-indexed annuities, CDs and other banking products, digital assets, commodities, and real estate. For example, an insurance agent recommending that a retirement investor take a distribution from their 401(k) plan to purchase an annuity would also be considered an ERISA investment advice fiduciary under the Final Rule.

Fiduciary Definition Expanded

According to the DOL’s fact sheet, a person is an investment advice fiduciary under ERISA if the following conditions are met:

1.   the service provider makes an investment recommendation to a retirement investor;
2.    the recommendation is provided for a fee or other compensation, such as commissions; and
3.    the financial services provider holds itself out as a trusted adviser by: (i)  specifically stating that it is acting as a fiduciary under Title I or Title II of ERISA; or (ii)   making the recommendation in a way that would indicate to a reasonable investor that it is acting as a trusted adviser making individualized recommendations based on the investor’s best interest.

Notably, the DOL revised the Final Rule to refer to “professional” investment recommendations, a change designed to exempt ordinary communications of human resources employees with plan participants from being treated as investment recommendations.

In addition to being subject to ERISA’s fiduciary obligations, “investment advice fiduciaries” under ERISA are prohibited from engaging in certain transactions and, more specifically, from using ERISA plan assets for their own account. Consequently, routine transactions, such as an adviser recommending that a retirement investor take a distribution from their 401(k) plan and invest it in an IRA, are now considered prohibited transactions under ERISA Section 406(b) of ERISA and IRC 4975.

The penalties for violating the prohibited transaction rules of ERISA and the IRC are severe and can include an excise tax of up to 100% of the amount involved, compounded over time. Therefore, an exemption is required for investment professionals and their firms to continue serving retirement investors.

Note: Notably, the penalties for prohibited transactions under ERISA and the IRC differ. Under ERISA, the DOL can assess a penalty against a party in interest of up to 5% of the amount involved for each year or part thereof during which a prohibited transaction continues. IRC Section 4975 allows the IRS to impose a 15% excise tax.

Both ERISA and IRC can impose penalties of up to 100% of the amount involved if the transaction is not corrected in a timely manner. A prohibited transaction may also violate the exclusive benefit rule in IRC section 401(a), potentially resulting in an IRA losing its tax-exempt status.

So, in addition to the Final Rule, the DOL also amended existing Prohibited Transaction Exemptions, including PTE 2020-02 and PTE 84-24. As discussed in more detail later, PTE 2020-02 allows financial institutions to give fiduciary investment advice to ERISA plans, ERISA plan participants, and IRAs and to receive otherwise prohibited compensation resulting from that advice, provided that certain conditions are satisfied. Similarly, PTE 84-24 provides relief for certain parties to receive commissions when plans and IRAs purchase recommended insurance and annuity contracts and mutual fund shares sold by principal underwriters (since PTE 84-24 deals primarily with insurance products and mutual funds, it is outside the scope of this article).

Changes From The Proposal Clarifying The Definition Of Recommendations

In its original rule proposal, the DOL defined “fiduciary” as a person (or its affiliates) who gives investment advice or makes an investment recommendation to a retirement investor and has “discretionary authority or control” over the assets. However, the discretion requirement was dropped because commenters raised concerns that it would include affiliates that have discretion but no direct relationship with the retirement investor.

But what specifically is a recommendation? The Final Rule defines a “recommendation” to include advice about:

•  the advisability of acquiring, holding, disposing of, or exchanging securities or other investment property, investment strategy, or how securities or other investment property should be invested after the securities or other investment property are rolled over, transferred, or distributed from the plan or IRA;
•   the management of securities or other investment property, including, among other things, recommendations on investment policies or strategies, portfolio composition, selection of other persons to provide investment advice or investment management services, selection of investment account arrangements (e.g., account types such as brokerage versus advisory) or voting of proxies appurtenant to securities; and
•   whether to roll over, transfer, or distribute assets from a plan or IRA, including recommendations as to whether to engage in the transaction, the amount, the form, and the destination of such a rollover, transfer, or distribution.

As discussed in the Final Rule’s release, the rule covers not only securities recommendations but also recommendations by investment professionals to retirement investors regarding account types, plan investment line-ups, and investment strategies and policies. In addition to securities recommendations, the Final Rule also applies to annuities, fixed indexed annuities, CDs and other banking products, digital assets, commodities, and real estate. The Final Rule does not provide an exception for investments in private funds.

The DOL clarified that the term “investment property” does not include health, term life, and disability insurance policies as long as they do not include an investment component.

Sales Pitch And Educational Exceptions

In the Final Rule’s release, the DOL stated that investment advice does not include:

• A sales pitch for a product or investment strategy where the recommendation is not made using professional expertise or considering the retirement investor’s specific needs and circumstances; or
• Educational information not accompanied by an investment recommendation. Examples include:
  • General conversation about retirement planning;
  • General investment and financial information; and
  • Asset allocation models.

While private fund managers may take advantage of the “sales pitch” exception to avoid being considered an investment advice fiduciary under ERISA when soliciting investors, such managers should be very careful when discussing their funds with retirement investors to avoid making a recommendation. They should adopt an overall communication strategy for retirement investors to help them stay on script and avoid sending any messages that recommend their funds as appropriate investments to meet their specific needs.

How The Final Rule Defines A “Retirement Investor”

The Final Rule defines “retirement investor” as a plan, plan participant or beneficiary, IRA, IRA owner or beneficiary, or IRA fiduciary. This definition includes defined contribution plans, Health Savings Accounts (HSAs), certain 403(b) plans, Keoghs, Savings Incentive Match Plans for Employees (SIMPLEs), SIMPLE IRAs, and Simplified Employee Pensions (SEPs).

This definition of retirement investor is narrower than the original proposal’s definition. Specifically, the Final Rule does not apply to plan and IRA fiduciaries who are “merely themselves investment advice fiduciaries.” This change appears to exempt advice given to financial professionals as fiduciary investment advice (e.g., wholesalers).

Liability Disclaimers Not Allowed

The Final Rule explicitly states that written statements by a person disclaiming status as a fiduciary will not control “to the extent they are inconsistent with the person’s oral communications, marketing materials, applicable State or Federal law, or other interactions with the retirement investor.”

What The Final Rule Means For Investment Advisers

The Retirement Security Rule applies both ERISA fiduciary standards and its prohibited transaction rules to investment professionals who provide investment advice to retirement investors about how to invest their 401(k) plan and IRA assets. Investment advisers and broker-dealers may be asking, what’s the big deal? Fiduciary duties have already been imposed on us through Reg BI and the Advisers Act. How much worse can this be?

There is a difference between the fiduciary duty imposed under the Advisers Act and that imposed under ERISA and the IRC. A fiduciary under the Advisers Act must consider conflicts of interest and address them through disclosures, internal controls, or policies and procedures. Under ERISA and the IRC, however, certain conflicts cannot be resolved through disclosure and the client’s consent. These conflicts are described in the Prohibited Transaction Rules under ERISA and the IRC. The DOL grants exemptions to these rules to allow certain transactions, but only under conditions that mitigate the conflicts. As previously discussed, exemptions to ERISA and IRC Prohibited Transaction Rules are essential since penalties for violating them are severe and can include an excise tax of up to 100% of the amount involved, compounded over time.

When the DOL expanded the definition of fiduciary investment advice to cover recommendations regarding 401(k) plan rollovers in the Final Rule, this meant that investment professionals who advised retirement investors on how to invest these assets – and received a fee for doing so – were engaging in a prohibited transaction. Recognizing that retirement investors still needed professional advice to manage their assets, the DOL needed to provide an exemption to allow investment professionals to provide this advice and get paid for it.

Long story short, the DOL was concerned that retirement investors were not being provided appropriate disclosures about the role of investment professionals and the fees and costs associated with investment products offered. The DOL’s goal was, and continues to be, to require financial professionals to put their clients’ interests first when giving advice to retirement investors.

Changes To PTE 2020-02

According to the Final Release to the Amendment to Prohibited Transaction Exemption 2020-02 (the “Amendment”), the changes to PTE 2020-02 are intended to make it “more broadly available” for “Financial Institutions and Investment Professionals to receive reasonable compensation for recommending a broad range of investment products to Retirement Investors, including insurance and annuity products.”

The most significant changes to existing PTE 2020-02 include:

• Expanding its scope to include “recommendations of any investment product, regardless of whether the product is sold on a principal or agency basis”;
• Adding non-bank Health Savings Account (HSA) trustees and custodians to the definition of “Financial Institution”;
• Revising the disclosure requirements to be more in line with the SEC’s Regulation Best Interest (Reg BI), the Commission Interpretation Regarding Standard of Conduct for Investment Advisers (the “Interpretation”), and other regulators’ disclosure requirements;
• Allowing robo-advisers to use the exemption;
• Allowing Pooled Plan Providers (PPPs) providing investment advice to Pooled Employer Plans (PEPs) to use the exemption (however, a PPP’s decision to hire an affiliated or related party as an advice provider is excluded);
• Increasing the circumstances for disqualification from reliance on the PTE;
• Requiring firms to correct, report, and pay excise taxes to the IRS for any non-exempt prohibited transactions that occurred as a result of providing fiduciary investment advice; and
• Changing the correction procedures to allow firms to self-correct violations without reporting to the DOL.

Comparing The Original PTE 2020-02 Requirements To Amended PTE 2020-02

While the amended PTE 2020-02 applies starting September 23, 2024, a 1-year phase-in period begins on September 23, 2024, which allows investment professionals to receive reasonable compensation if they comply with the fiduciary acknowledgment requirement and “Impartial Conduct Standards” (as discussed below). The following discussion compares the original PTE 2020-02 as adopted on December 18, 2020 to the amended PTE 2020-02.

Acknowledgments And Disclosures

In the original PTE 2020-02, parties providing fiduciary investment advice to retirement investors were required to make certain disclosures and acknowledgments, including their fiduciary status under ERISA. Amended PTE 2020-02 makes the following changes:

• Adds clarification that the disclosures can be made when recommendations are made, or on the date when the financial institution or investment professional becomes entitled to compensation as a result of the transaction.
• Requires that the acknowledgment make it “unambiguously clear” that the recommendation is being made in a fiduciary capacity under ERISA or the Code.

The original PTE 2020-02 requires disclosure to the client about the scope of the relationship and all material conflicts of interest. Where the existing exemption required a written acknowledgment that the firm and its investment professionals are fiduciaries, an explanation of the services to be provided, and an accurate description of material conflicts of interest of the firm and its financial professionals, Amended PTE 2020-02 also requires:

• A written statement of PTE 2020-02’s care and loyalty obligations;
• The written acknowledgment of fiduciary responsibility (described above);
• Disclosure of the material fees and costs that apply to the retirement investor’s transactions, holdings, and accounts;
• Disclosure of the scope of services being provided and any material limitations on those services; and
• All material facts relating to conflicts of interest associated with the recommendation.

The DOL stated that these disclosures were intended to be consistent with a broker-dealer’s obligations under Reg. BI.

The original PTE 2020-02 requires that prior to engaging in a rollover recommended under the exemption, the financial institution should provide documentation of specific reasons for the rollover recommendation. The Amended Exemption adds prior guidance from the DOL stating that factors to be considered must include:

• The retirement investor’s alternatives to a rollover, including leaving the money in their current employer’s plan, if applicable;
• The fees and expenses associated with both the plan and the recommended investment or account;
• Whether the employer pays for some or all of the plan’s administrative expenses; and
• The different levels of services and investments available under the plan and the recommended investment or account. 

According to the final release for the Amended PTE 2020-02, the exemption no longer requires disclosures regarding advice for a retirement investor to roll over its account from one IRA or another IRA or to change account type. This disclosure requirement only applies when the investment professional provides advice to engage in a rollover to a plan participant or beneficiary regarding the post-rollover investment of ERISA plan assets. Additionally, the rollover disclosure requirement does not apply when the investment professional does not make a recommendation.

Impartial Conduct Standards

The original PTE 2020-02 required investment professionals and financial institutions to comply with the Impartial Conduct Standards, which included a “best interest” standard, when providing fiduciary investment advice to retirement investors.

Best interest is defined under Original PTE 2020-02 as:

Exercising reasonable diligence, care, skill, and prudence in making a recommendation, meaning that the firm and its investment professionals must have a reasonable basis to believe that the recommendation being made is in the best interest of the client, based on that client’s investment profile and the potential risks and rewards associated with the recommendation.

Amended PTE 2020-02 drops the term “Best Interest” and replaces it with the SEC’s language from the Commission Interpretation Regarding Standard of Conduct for Investment Advisers (the “Interpretation”), which requires that the financial institution and investment professional provide investment advice which satisfies a duty of care and a duty of loyalty, as discussed earlier.

Simply put, an investment professional is supposed to make investment recommendations that are in the best interest of the client based on their stated needs and not on the amount the investment professional will get paid. The DOL provides specific examples, stating that an “Investment Professional generally could not recommend that the Retirement Investor enter into an arrangement requiring the Retirement Investor to pay an ongoing advisory fee to the Investment Professional, if the Retirement Investor’s interests were better served by the payment of a one-time commission to buy and hold a long-term investment.”

While the DOL did not provide any further explanation, the SEC has applied a reasonability standard, stating in the Interpretation that, “[i]n providing advice about account type, an adviser should consider all types of accounts offered by the adviser and acknowledge to a client when the account types the adviser offers are not in the client’s best interest.”

The remaining Impartial Conduct Standards from the Original PTE 2020-02 did not significantly change in the amended version. These standards include the following requirements for financial institutional and investment professionals:

• Receive only reasonable compensation (as compared to the marketplace) and seek the best execution of the transaction;
• Ensure that statements made to retirement investors about the recommended transaction are not materially misleading (in Amended PTE 2020-02, however, the DOL added language stating that the definition of “materially misleading” includes “omitting information that is needed to prevent the statement from being misleading to the Retirement Investor” under the circumstances); and
• Provide written disclosures to retirement investors of the reasons the rollover recommendation is in their best interest. The DOL also narrowed the required rollover disclosure so that it applies only to recommendations to roll over from an ERISA plan to an IRA. Original PTE 2020-02 also required disclosures for recommendations to roll over from one IRA to another or to change account type.

New! Correction Of Good Faith Disclosure Errors

Amended PTE 2020-02 allows financial institutions to correct errors or omissions in the required disclosures if they are made in good faith. The corrected disclosure must be provided no later than 30 days after the date the error is, or should have been, discovered.

Changes To Policies And Procedures Requirement

The original PTE 2020-02 requires that financial institutions “establish, maintain, and enforce” written policies and procedures designed to ensure that the firms and their investment professionals comply with the Impartial Conduct Standards. Amended PTE 2020-02 changes this obligation by requiring that the policies and procedures address all the requirements of PTE 2020-02, not just the Impartial Conduct Standards.

While the original PTE 2020-02 prohibited firms from using practices that create an incentive for a financial institution or investment professional to place their interests ahead of retirement investors, amended PTE 2020-02 includes specifics, stating that firms may not use “quotas, appraisals, performance or personnel actions, bonuses, contests, special awards, differential compensation, or other similar actions or incentives” that would lead investment professions from meeting their care or loyalty obligations.

Annual Retrospective Compliance Review And Self-Correction Procedure 

The original PTE 2020-02 required financial institutions to conduct an annual review of the firm’s compliance with the Impartial Conducts Standards and its policies and procedures governing compliance with the exemption. and document the results in a written report to a “Senior Executive Officer” of the financial institution.

The amendment requires that the review must test compliance with all the conditions of PTE 2020-02, not just the Impartial Conduct Standards. The review also must include a certification from the Senior Executive Officer that the financial institution has corrected, filed reports with the IRS, and paid excise taxes for any non-exempt prohibited transactions discovered by the financial institution.

The original PTE 2020-02 included a procedure to allow financial institutions to self-correct violations of the exemption. If the procedure was followed, a non-exempt prohibited transaction would not be deemed to occur. PTE 2020-20 also required firms to report each self-correction to the DOL. Amended PTE 2020-02 drops this reporting requirement.

Disqualification Provisions

The original PTE 2020-02 prohibits financial institutions and investment professionals from relying on the exemption for 10 years for certain crimes arising out of investment advice to a retirement investor. Other activities that make PTE 2020-02 unavailable include engaging in a pattern of violating the conditions of PTE 2020-02 or providing materially misleading information to the DOL regarding a financial institution’s conduct.

Under Amended PTE 2020-02, the DOL added more crimes to its list, including affiliate and foreign convictions. The exemption also removed the stipulation that the crime arises from the provision of investment advice. Finally, the amendment limits the 10-year disqualification for non-criminal conduct (such as a pattern of violations of PTE 2020-02’s conditions) to serious misconduct that has been determined in a court proceeding.

Under the original PTE 2020-02, the DOL had the authority to determine whether an investment professional or financial institution should be disqualified for non-criminal conduct.

Relief For RFP Responses

Amended PTE 2020-02 clarifies that responding to a Request For Proposal (RFP) to provide services as an ERISA section 3(38) fiduciary does not qualify as fiduciary investment advice if certain conditions are satisfied. To qualify, the RFP responder must comply with the Impartial Conduct Standards of PTE 2020-02. This relief is limited to the RFP process; activities after being hired are not covered.

Tips on Retirement Security Rule and Compliance with Amended PTE 2020-02

The following points offer investment advisers suggestions to consider how to approach the Retirement Security Rule and the amendments to PTE 2020-02.

Tip #1: Be Specific When Acknowledging Fiduciary Status. Advisers should review the written acknowledgment of fiduciary status currently being made in compliance with PTE 2020-02 and ensure that it is clear and unqualified. In the preamble to the Amended PTE 2020-02, the DOL stated that “It is not enough to alert the Retirement Investor to the fact that there may or may not be fiduciary obligations in connection with a particular recommendation without stating that, in fact, the recommendation is made in the requisite fiduciary capacity.”

Firms should avoid using terms such as “may be acting as a fiduciary” or language that states the firm and its investment professionals are fiduciaries “to the extent” they meet the definition of fiduciary investment advice under ERISA or the IRC.

The DOL provided the following model language to satisfy the disclosure requirements In Section II(b)(1) and (2) of PTE 2020-02:

We are making investment recommendations to you regarding your retirement plan account or individual retirement account as fiduciaries within the meaning of Title I of the Employee Retirement Income Security Act and/or the Internal Revenue Code, as applicable, which are laws governing retirement accounts. The way we make money or otherwise are compensated creates some conflicts with your financial interests, so we operate under a special rule that requires us to act in your best interest and not put our interest ahead of yours.

Under this special rule’s provisions, we must:

• Meet a professional standard of care when making investment recommendations (give prudent advice) to you;
  
• Never put our financial interests ahead of yours when making recommendations (give loyal advice);
  
•  Avoid misleading statements about conflicts of interest, fees, and investments;
  
•  Follow policies and procedures designed to ensure that we give advice that is in your best interest;
  
• Charge no more than what is reasonable for our services; and
  
• Give you basic information about our conflicts of interest.

Tip #2: Revise Rollover Disclosure Requirements. The amendments to PTE 2020-02 continue to require financial institutions and their investment professionals to provide documentation supporting their rollover recommendations where the recommendation involves moving assets from a retirement plan subject to ERISA, such as a 401(k) plan, to an IRA. But this rollover disclosure will no longer be required for recommendations to switch from one IRA to another or from one account type to another (e.g., from an advisory account to a brokerage account).

The fiduciary obligations of care and loyalty still apply, however, so advisers still need to perform and document the analysis supporting that their recommendation for a change is in the retirement investor’s best interest. Although the analysis does not need to be provided to retirement investors in those situations, it still must be documented and retained.

Amended PTE 2020-02 also requires that financial institutions document and disclose the following to retirement investors:

The alternatives to a rollover, including leaving the money in the current employer’s plan, if applicable;

•  The fees and expenses associated with the employer’s plan and the recommended investment or account;
•  Whether an employer or other party pays for some or all of the plan’s administrative expenses; and
•  The different levels of services and investments available under the plan and the recommended investment or account.

Firms should ensure that their rollover disclosures address these points.

Tip #3: Update Disclosures To Include Descriptions Of The Care Obligation And The Loyalty Obligation. Advisers should review disclosures provided to retirement investors to ensure they describe the care obligation and loyalty obligation, as described in Amended PTE 2020-02. The DOL included a model disclosure for these obligations (see Tip No. 1). These disclosures could be included in Form ADV Part 2A or in a separate disclosure document. Firms should also consider incorporating these descriptions into investment management agreements to have written confirmation from clients that they have received the disclosures.

Tip #4: Amend Policies And Procedures To Address Compliance With PTE 2020-02’s Conditions. The original PTE requires that financial institutions establish, maintain, and enforce written policies and procedures to ensure that the firm and its investment professionals comply with the Impartial Conduct Standards. The amended PTE 2020-02 also requires compliance with all other exemption conditions. Firms should confirm that their policies and procedures include this additional requirement.

Tip #5: Update The Process For The Annual Retrospective Compliance Review. Under the Amended PTE 2020-02, the retrospective review requires that financial institutions test compliance with all of PTE 2020-02’s conditions, not just the Impartial Conduct Standard.

Additionally, the amendment requires that a senior executive officer must certify that the firm has corrected, filed Form 5330 with the IRS, and paid excise taxes for any non-exempt prohibited transactions discovered by the firm in connection with investment advice covered under the IRC.

Tip #6: Review The New List of Disqualifying Crimes. The list of crimes that can disqualify a financial institution and its investment professionals is expanded under Amended PTE 2020-02. Firms should review this list and ensure that the firm, its affiliates, or investment professionals have not committed these crimes or engaged in any other activities that could lead to disqualification.

Tip #7: Update Self-Correction Procedures. PTE 2020-02 includes a self-correction procedure that allows financial institutions to avoid non-exempt prohibited transactions. The original PTE 2020-02 mandates that firms report each self-correction to the DOL, but Amended PTE 2020-02 drops this requirement.

Keep in mind, however, that self-corrections still should be reported in the annual retrospective compliance review. Firms should review their current policies and procedures and amend them to drop this DOL reporting requirement once Amended PTE 2020-02 becomes effective.