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DOL Releases Proposed Fiduciary Definition Regulations (Oct 21, 2010)

Instant Insights (Oct. 21, 2010)

DOL Releases Proposed Fiduciary Definition Regulations
On Oct. 21, 2010, the Department of Labor (DOL) released proposed regulations more broadly defining who is considered under the definition of fiduciary by reason of providing investment advice to an employee benefit plan or a plan’s participants. It is anticipated that these proposed regulations will be published in the Federal Register on Oct. 22, 2010, with a 90-day comment period ending in mid-January 2011.

Background
The definition of fiduciary under ERISA can be found at Section 3(21)(A). This definition includes parties rendering investment advice for a direct or indirect fee with respect to plan assets. In 1975, the DOL issued regulations interpreting when offering advice resulted in fiduciary status. The regulations provided a 5-part test. In order to be deemed a fiduciary as a result of providing investment advice, the advisor must:

1. Render advice as to the value of securities or other property, or make recommendations as to the advisability of investing in, purchasing or selling securities or other property
2. Provide the advice on a regular basis
3. Provide the advice pursuant to a mutual agreement, arrangement or understanding, with the plan or a plan fiduciary
4. The advice will serve as a primary basis for investment decisions with respect to plan assets, and
5. The advice will be individualized based on the particular needs of the plan.

In the preamble to the proposed regulations the DOL notes that in the 35 years since the regulations were published there has been significant change in retirement plans, including defined contribution plans replacing defined benefit plans as the predominant form of retirement savings vehicles. They also note that in order to be deemed a fiduciary, an advisor must meet all five of the criteria outlined in the test, limiting the applicability of the original regulations.

The New Test
The proposed regulations would replace the existing five part test with a new test. While the new test does incorporate elements of the old test, it expands upon who may be considered a fiduciary. Under the newly proposed regulations the types of activities related to providing advice that could result in fiduciary status include:

1. Providing advice, appraisals or fairness opinions as to the value of investments, recommendations as to buying, selling or holding assets, or recommendations as to the management of securities or other property. The DOL notes that part of the intent of this portion of the test is to establish fiduciary responsibility on parties who provide valuations of closely held employer securities and other hard to value plan assets.
2. Acknowledgement of fiduciary status for purposes of providing advice. This provision is significant because under the old test, a party could acknowledge fiduciary status, and still fail to be held liable if they did not meet all five parts of the old test.
3. Is an investment advisor under Section 202(a)(11) of the Investment Advisors Act of 1940.
4. Provides advice or make recommendations pursuant to an agreement, arrangement or understanding, written or otherwise, with the plan, a plan fiduciary or a plan participant or beneficiary, where the advice may be considered in making investment or management decisions with respect to plan assets, and the advice will be individualized to the needs of the plan, a plan fiduciary or a participant or beneficiary. While this language is similar
   to some of the language from the old test, there are a couple notable changes. First, the advice no longer needs to be offered on a regular basis—offering advice on a single occasion could result in fiduciary status. Second, the advice no longer need be offered as part of a mutual understanding that the advice will serve as the primary basis for investment decisions— the advice could be part of several factors that the plan sponsor considers and still result in fiduciary status.

It should be noted that meeting any one of the criteria will result in fiduciary status. The proposed regulations also clarify that rendering the advice for a fee includes any direct or indirect fees received by the advisor or an affiliate from any source including transaction-based fees such as brokerage, mutual fund or insurance sales commissions.

Limitations and Exceptions to Fiduciary Status
The proposed regulations do provide for certain actions that are not treated as rendering investment advice and would not result in fiduciary status. These include:

1. Recommendations made in the capacity of a seller or purchaser of a security to a plan or participant whose interests are adverse to the plan or its participants, provided that the recipient of the advice or recommendation knows or should have known that the seller or purchaser was not undertaking to provide impartial investment advice (this exception would not include an advisor who has acknowledged fiduciary status).
2. Providing investment education information and materials.
3. Marketing or making available a menu of investment alternatives that a plan sponsor may choose from, and providing general financial information to assist in selecting and monitoring those investments, provided this is accompanied by a written disclosure that the party is not providing impartial investment advice.
4. Preparation of reporting necessary to comply with provisions of ERISA, the Internal Revenue Code, or regulations or forms issued thereunder.

Other Items of Interest
The proposed regulations would conform the provisions of Section 4975(e)(3)(B) of the Internal Revenue Code relating to prohibited transactions to the new definition of fiduciary advisor. In the preamble to the proposed regulations, the DOL notes that they have historically taken the position that a recommendation to a plan participant regarding plan distributions does not constitute advice, even when the recommendation is accompanied with recommendations on how the distribution should be invested. The DOL specifically asks for comments whether the final regulation should include these recommendations under the definition of advice.

Next Steps
It should be remembered that these are proposed regulations. With a comment period ending in mid-January, it is unlikely that we will see final regulations prior to late next year at the earliest, with an effective date sometime in 2012.

We will discuss these regulations in more detail on our next legislative Webcast on Nov. 18, 2010, at 2 p.m. Central time. Look for more information about this Webcast in the future.

IRS Circular 230 Disclosure: This communication was written in connection with the potential promotion or marketing, to the extent permitted by applicable law, of the transaction(s) or matter(s) addressed herein by persons unaffiliated with JPMorgan Chase & Co. However, JPMorgan Chase & Co. and its affiliates do not provide tax advice. Accordingly, to the extent this communication contains any discussion of tax matters, such communication is not intended or written to be used, and cannot be used, for the purpose of avoiding tax-related penalties. Any recipient of this communication should seek advice from an independent tax advisor based on the recipient's particular circumstances.