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Guest Article

(From the October 31, 2011 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Labor Department Finalizes "Investment Education" Regulation

Last week the Department of Labor finalized the regulation under ERISA § 408(g), which allows "fiduciary advisers" to provide individualized investment advice to participants and beneficiaries of individual account plans without violating the prohibited transaction rules. Effective December 27, 2011, fiduciary advisers can provide investment advice under a level-fee or a computer model arrangement under the exemption. The regulation explicitly provides that guidance previously issued by the DOL on the question of whether investment advice constitutes a prohibited transaction is unaffected by the new regulation and remains valid.

Fiduciaries Can Provide Investment Advice under ERISA § 408(g)

Under ERISA, a fiduciary includes a person who renders investment advice for a fee. ERISA generally prohibits fiduciaries from dealing with plan assets in their "own interest" or from receiving any consideration for their "own personal account" from anyone who is dealing with the plan in connection with transactions involving plan assets. The purpose of this prohibition is to ensure that investment decisions are made in the best interest of the plan participants without the bias that would develop if fiduciaries were permitted to receive compensation for selecting one investment over another. In the absence of an exemption, fiduciaries are prohibited from giving investment advice to plan participants about investments that result in the payment of additional fees to the fiduciaries or their affiliates.

Congress enacted such an exemption in the Pension Protection Act of 2006 (PPA) to provide individuals in participant-directed individual account plans with greater access to fiduciary investment advice. The PPA amended ERISA section 408 to exempt advice that a "fiduciary adviser" provides to such a participant or beneficiary under an "eligible investment advice arrangement." A "fiduciary adviser" is a person who is a fiduciary to the plan because of providing investment advice to the participant, and is: (1) a registered investment adviser, bank or similar financial institution, an insurance company, or a registered broker dealer; (2) an affiliate of any such entity; or (3) an employee or registered representative of any such entity or such affiliate. Under new ERISA section 408(g), there are two types of "eligible investment advice arrangements"—a level-fee arrangement, and an unbiased computer model.

New Regulations Implement the Exemption

The DOL's will implement new ERISA § 408(g) effective December 27, 2011. The regulation describes the scope of the exemption, details the requirements for an "eligible investment advice arrangement," enumerates the recordkeeping requirements, and spells out the notice and audit requirements. It is similar to, but has significant changes from, the regulation that was previously finalized and withdrawn by the DOL. Briefly, the new final regulation provides:

Prior Guidance Remains in Effect—Nothing in the provisions added by the PPA or in the final regulation affects prior DOL guidance regarding the provision of investment advice and whether it constitutes a prohibited transaction. Experts had voiced concern over whether previously established investment advice programs would still pass muster and not violate the prohibited transaction rules. The regulation puts these fears to rest.
Requirements for Any Eligible Investment Advice Arrangement—Under either a level-fee arrangement or a computer model arrangement, the investment advice must be based on generally accepted investment theories that take into account historic returns of different asset classes over defined periods of time (including investment management and other fees attendant to the recommended investments). It must also take into account, to the extent furnished, information relating to age, time horizons (e.g., life expectancy, retirement age), risk tolerance, current investments in designated investment options, other assets or sources of income, and the investment preferences of the participant or beneficiary. The fiduciary adviser is required to request this information.
Level-Fee Arrangement—Additionally, under this arrangement no fiduciary adviser (including any employee, agent, or registered representative) that provides investment advice can receive from any party (including an affiliate of the fiduciary adviser), directly or indirectly, any fee or other compensation (including anything of value) that varies depending on the basis of a participant's selection of a particular investment option. This level-fee requirement does not apply to affiliates of the fiduciary adviser unless they are also a provider of investment advice to the plan participants. Moreover, the preamble explains that, if compensation received by such an affiliate of a fiduciary that provides investment advice does not vary or is offset against that received by the fiduciary for the provision of investment advice, no prohibited transaction would result (and, therefore, no exemption is needed). This reaffirms the DOL's earlier-stated position in Advisory Opinions.
Computer Model Arrangement—Under this arrangement, the only investment advice that can be provided is that generated by a computer model consistent with the regulation. (The withdrawn regulation would have permitted individualized investment advice to be provided after the computer model, but those provisions were removed.)
The computer model must also utilize appropriate objective criteria to provide asset allocation portfolios comprised of investment options available under the plan, and must avoid investment recommendations that inappropriately favor either (1) investment options offered by the fiduciary adviser (or a person with a material affiliation with the fiduciary adviser) over other investment options, or (2) investment options that may generate greater income for the fiduciary adviser (or a person with a material affiliation with the fiduciary adviser). The model must take into account all designated investment options available under the plan without giving inappropriate weight to any investment option, although it may exclude annuity options (to which a participant may allocate assets toward the purchase of an income stream) or investment options the participant requests to exclude.
Before the computer model can be utilized, a written certification must be obtained from an eligible investment expert that the model meets the requirements of the regulation.

A plan fiduciary must expressly authorize the plan's use of an eligible investment advice arrangement, and the fiduciary adviser must at least annually engage an independent auditor to conduct an audit of that arrangement. The fiduciary adviser must also provide written notice to the fiduciary that it intends to comply with the requirements of the exemption, that it will have the arrangement audited at least annually, and that it will provide a copy of the auditor's findings within 60 days of completion of the audit. The fiduciary advisor must maintain records for at least six years after the provision of investment advice. The fiduciary adviser must also give notice, without charge, to the plan participants of various items (e.g., the role of any party in the arrangement that has a material affiliation with the fiduciary adviser, all fees or compensation the fiduciary adviser is to receive in connection with providing the advice, that the fiduciary adviser is acting as a fiduciary, etc.). A model notice to participants is included in the regulation.

According to a Fact Sheet released by the Labor Department, an estimated 16,000 investment advisory firms are expected to provide investment advice pursuant to the exemption, and approximately 134,000 defined contribution plans covering 17 million participants and beneficiaries will offer investment advice pursuant to the exemption with approximately 3.5 million of those participants and beneficiaries seeking the investment advice.

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, Erinn Madden 202.220.2692, 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.