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Guest Article

(From the November 1, 2010 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Labor Department Issues Proposed Regulations on ERISA "Fiduciary" Definition

The Labor Department is proposing to expand the scope of persons who will be considered a fiduciary because they provide "investment advice for a fee." The new definition will include persons who receive a fee for providing an appraisal or fairness opinion regarding assets in an individual account plan for which there is no generally recognized market. More broadly, it will include persons who receive a fee for providing individualized investment advice or recommendations - even where the advice or recommendation is not provided on a regular basis and the parties do not intend the advice to serve as the primary basis for plan investment decisions.

Background

ERISA § 3(21)(A) provides that a person is fiduciary to the extent it: (i) exercises discretionary authority or control over plan assets, (ii) renders investment advice for a fee, or (iii) has any discretionary responsibility in the plan's administration. The Labor Department's proposed regulations deal with the definition under § 3(21)(A)(ii) - when a person is a fiduciary because it renders investment advice for a fee. The current regulations apply a five-part test. Unless a person has discretionary authority regarding the purchase and sale of plan assets, to be a fiduciary under this section the adviser must render advice regarding the value or advisability of investing in the securities or other property on a regular basis, pursuant to a mutual understanding that the advice will serve as the primary basis for plan investment decisions, and the advice is individualized based on the particular needs of the plan. The current rule is supplemented by an Advisory Opinion which concludes that a valuation of closely-held employer securities that is to be relied upon by an employee stock ownership plan in purchasing the securities is not investment advice for this purpose.

The Labor Department is concerned that the 35-year-old regulatory definition does not adequately protect plan participants in light of the significant changes that have taken place in the financial industry and the overall shift from defined benefit to defined contribution plans in which participants direct the investment of their accounts. According to the Department:

...[T]here are a variety of circumstances, outside those described in the current regulations, under which plan fiduciaries seek out impartial assistance and expertise of persons such as consultants, advisers and appraisers to advise them on investment-related matters. These persons significantly influence the decisions of plan fiduciaries, and have considerable impact on plan investments. However, if these advisors are not fiduciaries under ERISA, they may operate with conflicts of interest that they need not disclose to the plan fiduciaries who expect impartiality and often must rely on their expertise, and have limited ability under ERISA for the advice they provide.

Notable Carve-Outs from the Proposed Rule

While the proposed changes will widen the scope of persons who are ERISA fiduciaries because they provide "investment advice for a fee," there are three significant carve-outs.

Recommendations as a Buyer or Seller. A person who provides advice or recommendation in its capacity as a buyer or seller of a security or other property whose interests are adverse to the plan or its participants (and the person is not undertaking to provide impartial investment advice) would not be providing investment advice under this section as long as the recipient (e.g., plan fiduciary) knows or should have known that the person is giving the advice or recommendation in its capacity as buyer or seller.
Individual Account Plan Exceptions. It would not be investment advice to provide investment education consistent with Labor Regulation § 2509.96-1(d). Nor would it be investment advice to market or make available (e.g., through a platform) securities or other property from which a plan may designate investment alternatives if the person discloses to the plan fiduciary in writing that it is not providing impartial investment advice. Similarly, it would not be investment advice to provide general financial data to assist a plan fiduciary in monitoring or selecting securities or other property as a plan investment if the person discloses to the plan fiduciary in writing that it is not providing impartial investment advice.
General Valuation. It would not be investment advice to prepare a general report or statement merely reflecting the value of a plan investment for purposes of complying with Code or ERISA requirements unless the report involves assets for which there is no generally recognized market and serves as a basis on which the plan may make distribution to participants and beneficiaries.

Proposed Changes Would Widen the Scope of Persons Who Are Fiduciaries

The proposed regulation addresses three distinct aspects in determining whether a person is providing "investment advice for a fee" so as to be a fiduciary under ERISA § 3(21)(A)(ii) - the providing of advice, the relationship between the parties, and fees. All three must be satisfied.

A person provides advice if it provides to the plan, a fiduciary, or a participant or beneficiary: (1) advice or an appraisal or fairness opinion concerning the value of securities or other property; (2) recommendations about the advisability of investing in, purchasing, holding, or selling securities or other property; or (3) recommendations regarding the management of securities (e.g., voting proxies) or other property. This expands the scope under the current regulations and guidance by adding appraisals and fairness opinions - as well as recommendations regarding the management of securities or other property - to the acts that will constitute investment-related advice. The regulations also make clear that making recommendations to a plan participant, not just to the plan or its fiduciaries, can constitute investment-related advice that may give rise to fiduciary status.

If the advice is given in the context of certain specified relationships or circumstances, fiduciary status can arise. A person who provides advice (as described in the preceding paragraph) under the following conditions will generally be a fiduciary if it receives a fee.

Acknowledged Fiduciary. The person acknowledges that it is acting as a fiduciary with regard to the advice or recommendations.
Exercises Discretionary Authority. The person exercises discretionary authority or control over the plan assets (e.g., has the power to buy or sell assets) or has discretionary authority regarding the administration or the plan.
Investment Adviser. The person is an investment adviser within the meaning of § 202(a)(11) of the Investment Advisers Act.
Individualized Advice. The person provides advice or recommendations pursuant to an understanding, written or otherwise, that the advice may be considered in connection with making investment or management decisions and will be individualized to the needs of the particular plan, fiduciary or participant or beneficiary.

These identified relationships or conditions also go beyond those prescribed under the current guidance. They include persons with discretionary control over the plan's administration (e.g., plan administrator) and not just persons with discretionary authority over the assets. Investment advisers under the Investment Advisers Act would also be included. The broadest category is arguably the last, which generally covers all persons who provide individualized recommendations to the plan, fiduciary, or participant or beneficiary, which the parties understand may be considered in the investment decisions. Unlike the current regulations, the parties in this case need not intend for the advice to be the primary basis for investment decisions, and the person need not be providing advice on a regular basis for the relationship to apply. As explained by the Labor Department:

The Department believes that when a service provider is retained to render advice, the plan should generally be able to rely on the advice without regard to whether the parties intend it be a primary or lesser basis in the fiduciary's decision-making. For example, in a complex investment decision, a plan fiduciary may need to consult advisers with different areas of investment expertise in order to make a prudent decision. The relative importance of the different kinds of advice that the plan fiduciary obtains may be impossible to discern, and should not affect the question of whether the adviser is a fiduciary. Accordingly, under the proposal it is sufficient if the understanding of the parties is that the advice will be considered in connection with making a decision relating to plan assets.

In terms of fees, the proposed regulation states that a person receives a fee for rendering investment advice if "any fee or compensation for the advice" is received by the person (or by an affiliate of the person) "from any source" as well as "any fee or compensation incident to the transaction." These fees would include, for example, brokerage, mutual fund sales, and insurance sales commissions.

Comments on the proposed regulation are requested by January 20, 2011.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations.

If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact:

Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Bart Massey 202.220.2104, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Deborah Walker 202.879.4955.

BenefitsLink is an independent national employee benefits information provider, not formally affiliated with the firms and companies who kindly provide much of the content and advertisements published on this Web site, including the article shown above.