In December 2020, the Department of Labor (DOL) reinstated the five-part test and issued a revised interpretation of the definition of “investment advice” under the Employee Retirement Income Security Act of 1974 (ERISA). Additionally, a new prohibited transaction exemption (PTE) was established. Then, in 2021, the DOL issued further guidance to clarify the rule changes.
The strengthened requirements for investment professionals include:
- An expanded definition of “investment advice”—such as:
- ○Reinstating the five-part test that determines when someone is providing fiduciary investment advice and interpreting parts of the test
- ○Broadening to include rollover recommendations
- A call for ERISA investment advice fiduciaries to eliminate conflicts or utilize a PTE*
- A newly established PTE (“PTE 2020-02: Improving Investment Advice for Workers & Retirees”) for investment advice fiduciaries—requiring, among other things, that advice be in the best interest of investors
Highlights of the latest DOL changes
The DOL reinstated the “five-part test” that determines when someone provides “investment advice” under ERISA. An investment advice provider who receives direct or indirect compensation is considered a fiduciary under ERISA. The transaction is considered “investment advice” if the person:
- Renders advice as to the value of a security or makes a recommendation to invest, buy, or sell securities;
- On a regular basis;
- Pursuant to a mutual understanding that;
- The advice will be a primary basis for the retirement investor’s investment decision; and
- Will be individualized based on the needs of the retirement investor.
ERISA Investment Advice Fiduciaries
The expanded definition means more entities working with retirement plans, including IRAs and HSAs, may now be ERISA fiduciaries who must eliminate conflicts or utilize a PTE. Advice must be in the best interest of the retirement investor. Compliance with fiduciary standards can also mean added transparency for commissions or fees, as well as that investment advisors must disclose potential conflicts of interest.
PTE 2020-02: Improving Investment Advice for Workers & Retirees
The DOL issued PTE 2020-02: Improving Investment Advice for Workers & Retirees—a new PTE under ERISA and the Internal Revenue Code of 1986. It may be used by investment professionals who provide nondiscretionary fiduciary investment advice to plan fiduciaries and participants of ERISA-covered employee benefit plans, as well as owners of IRAs and HSAs.
Requirements under the new PTE include:
- Compliance with Impartial Conduct Standards: Fiduciaries must advise in the best interest of the investor, are limited to reasonable compensation, and must not include misleading statements.
- Written documentation: New disclosures for retirement investors—including acknowledgement of fiduciary status, disclosure of services and conflicts of interest, and disclosure of rationale for rollover recommendations and account type recommendations.
- Conflict mitigation: Policies and procedures to ensure compliance with Impartial Conduct Standards and mitigate conflicts to avoid misalignment with interests of retirement investor.
- Annual retrospective review: Completion of an annual review to ensure compliance with the PTE conditions.
- Record retention: Documented evidence for six years showing compliance with the PTE.
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