The Department of Labor (“DOL”) recently published a new rule that will hold all financial professionals to the same standard when offering retirement advice. In its simplest form, the new rule provides that financial advisors and brokers must act in the best interest of their clients when providing retirement advice. This best interest, or “fiduciary” standard, is a higher bar than the “suitability” standard that applied to much retirement plan advice in the past. Fundamentally, the new rule requires advisers to put their clients’ best interest before their own profits. The final text can be found here.
The new DOL rule does not change how Sensible Financial® operates: we have always been a fiduciary for all of our clients’ accounts that we manage, including both retirement and non-retirement accounts. This means, among other things, that we are required by law to put the best interest of our clients above our own and that we operate exclusively as a fee-only financial planner. Our standard exceeds the one set by the new rule.
What has changed?
In order to expand this standard to include more advice givers, the DOL has changed the definition of fiduciary status under the Employee Retirement Income Security Act of 1974 (ERISA) – the law that gives the DOL the power to regulate retirement advice. Previously, a five-part test was employed to determine whether someone was providing “investment advice” and would therefore be acting as a fiduciary under ERISA. Importantly, in 1975 when this rule test was put into place, 401(k) plans did not even exist and IRAs had just been introduced. Today, pension plans have largely been replaced by 401(k)s and IRAs, transferring the responsibility for investment decisions from the employer to the employee.
Under the new rule, a fiduciary advisor now includes any individual who is compensated for making a “recommendation” related to a retirement account. Covered investment advice includes not only the straightforward, such as management of securities and portfolio construction, but also the less obvious, such as recommendations about rollovers, transfers or distributions from a plan or IRA. Additionally, financial institutions will have to disclose their compensation models and any conflicts of interest to clients.
Not all communications will be considered covered fiduciary investment advice. Importantly, the DOL has identified a number of exceptions to the rule. These exceptions include information of a certain type (education about retirement savings and general communications) and transactions executed by certain parties (recordkeepers, third-party administrators, and financial professionals). The DOL also included a number of Prohibited Transaction Exemptions (PTEs) that allow financial professionals to receive compensation that would otherwise create a conflict of interest, such as a commission, if certain requirements are met.
While this rule is certainly not perfect (no rule is), it goes a long way toward protecting individual investors’ rights when it comes to retirement advice. Now that the DOL has published this rule, it will be interesting to see how the SEC responds, since we’ll soon have a world in which investors’ retirement accounts will be subject to a higher standard than their brokerage and other non-qualified accounts.
How this rule affects Sensible Financial and our clients
Even the DOL’s more expansive definition of “covered investment advice” includes things Sensible Financial is already doing. For example, the new rule requires that financial professionals put clients’ best interest ahead of their own when making rollover recommendations. We already examine the rollover decision from multiple perspectives, including investment options and costs, creditor protection and distribution options.
Ultimately, Sensible Financial supports the DOL’s new rule, which we believe has the potential to help millions of American investors make more sensible investment decisions. We’re also proud to say that we’ve been well ahead of the curve on this important issue. And, for non-retirement accounts, the fiduciary standard we must meet is stronger than the suitability standard that governs advisors (including brokers) not regulated by the SEC.