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October 30, 2023

Background on DOL Rule to Protect Investors from Conflicts of Interest from Advisers

To: Interested Parties
From: Legal Director and Securities Specialist
(Media Contact: Anton Becker, Dir. of Communications
Date: October 30, 2023
Re: Background on DOL Rule to Protect Investors from Conflicts of Interest from Advisers

The Department of Labor (DOL) is about to release a rule proposal that is expected to strengthen protections for retirement savers who receive conflicted advice from their financial advisers.  Due to loopholes in the DOL’s current rules, financial professionals and firms are free to put their own self-interest ahead of retirement investors’ interests. They may steer retirement savers into products, services, or account types that maximize their own revenues but come with excessively high costs, poor performance, unnecessary risks, or illiquidity, thereby undermining retirement savers’ financial security. Conflicts of interest among many advisers take a huge toll on the ability of millions of hardworking Americans to have a financially secure and dignified retirement.

We hope and expect that the DOL’s forthcoming rule will close those loopholes to ensure that all financial professionals are required to provide advice that is in retirement savers’ best interest and that any conflicts of interest do not taint their advice. It’s important that this standard apply regardless of the type of financial professional that the retirement saver turns to or the type of product that a financial professional recommends.

Retirement savers are not adequately protected from conflicted investment advice.

Because of loopholes in the definition of who is considered a fiduciary under the Employee Retirement Income Security Act (ERISA) of 1974, some financial professionals are allowed to provide investment advice without being held to the high professional standards appropriate to their vital role. Studies indicate that the annual costs to retirement savers attributable to conflicted advice is huge, representing tens of billions of dollars in lost savings every year, and those were conservative estimates.

In 2016, the DOL under the Obama Administration finalized a rule that would have addressed this problem, but industry trade associations challenged that rule in court.  The courts repeatedly rejected those challenges but the industry finally found a sympathetic panel in the U.S. Court of Appeals for the Fifth Circuit., which vacated the rule in March 2018.  Thereafter, the DOL under the Trump administration finalized another rule in late 2020, but it failed to close the loopholes and ensure that advisers must always put their clients’ interests first.

The rule must provide a number of key protections. 

It’s important that any new DOL address a number of gaps in the current rules.  For example, those who provide investment recommendations are not subject to the ERISA standards unless they render advice to their clients on a regular basis.  That means that advice to roll the accumulated assets in a retirement plan over to another type of account or investment vehicle, including an IRA, is not covered.  Yet those decisions can be among the most important financial choices a person ever makes.  Similarly, many sponsors of 401(k) plans are individual employers who rely on advisers to help them select a menu of investment options for their employees.  The advice they receive from an adviser may also fall outside the scope of the current rules, leaving a plan sponsor exposed to the adviser’s conflicts of interest.  And it is key that any rule apply to a broad range of investments, including securities, non-securities, and insurance products.

The arguments against the anticipated rule are groundless.

Over the years, many in the financial services and insurance industries have staunchly opposed efforts by the DOL to fix the problem.  However, their arguments are not persuasive.

The SEC has not solved the problem.  For example, some say that the SEC’s so-called “Regulation Best Interest” or “Reg BI,” issued in 2019, means that retirement savers have adequate protections.  But Reg BI does not and legally cannot protect retirement savers from adviser conflicts of interest.   Reg BI, which enhanced the standard of conduct for broker-dealers, does not apply to all financial professionals, all products, or all accounts. Reg BI is limited to securities recommendations to retail customers. Thus, to the extent a financial professional recommends non-securities to their clients, such as real estate, futures or options, precious metals, some cryptocurrency offerings, and a number of insurance products, Reg. BI simply doesn’t apply. Similarly, to the extent a financial professional provides recommendations to retirement plans, which do not meet the definition of retail customer, Reg. BI doesn’t apply.

The NAIC provides weak protections.  Attempts to shore up the standards applicable to insurance professionals have proven even less effective.  The National Association of Insurance Commissioners (NAIC) adopted updates to its Annuity Transactions Model Regulation (#275) in 2020. The NAIC Model Rule adopted an almost meaningless standard:  It simply states that an insurance professional “has met” their best interest obligation if they “have a reasonable basis to believe the recommended option effectively addresses the consumer’s financial situation, insurance needs, and financial objectives.” This “effectively addresses” standard is a lower standard than the one Reg. BI places on broker-dealers. In addition, the NAIC Model Rule actually excludes compensation from its definition of “material conflict of interest.” As a result, the NAIC Model Rule does not require financial professionals recommending annuities to mitigate their compensation-related conflicts. This fractured regulatory environment has created uneven protections for investors, where annuities that are regulated as securities are subject to Reg. BI while annuities that are not regulated as securities are subject to the weaker NAIC Model Rule.

Strong protections won’t deprive retirement savers of access to advice.  This is another argument that has been repeatedly launched against a strong DOL conflicts of interest rule, but it’s only a scare tactic. The reality is that many advisers believe in a strong fiduciary standard and operate under it very successfully, while serving clients all along the income spectrum.  A strong rule will create essential protections without depriving anyone of sound investment recommendations.



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