Biden Rule Raises Bar for Big Banks’ Pass to Manage 401(k) Cash

A new Biden administration regulation toughening the rules big banks have to comply with to oversee US retirement funds will further restrain asset managers from having free rein over workplace 401(k)s, despite concessions made after Republican lawmakers’ and industry criticism.

Final qualified professional asset manager amendments (89 Fed. Reg. 23090) the US Labor Department released Tuesday make it more difficult for foreign governments to exert influence on an estimated $38 trillion retirement industry, quashing an alleged threat GOP lawmakers had initially raised. The rule that takes effect in June was also modified to eliminate a potentially costly proposal that would have required all financial actors to modify contracts with their plan sponsor clients.

Despite these changes in the final version of the regulation, the DOL’s Employee Benefits Security Administration will still make it harder for most investment banks, securities firms, and insurance companies to rely on the same broad exemptions they’ve always used to oversee retirement assets. Regulators say the update is necessary as the industry has changed since QPAMs were introduced in 1984, in ways that drastically reshape what it means to be a major financial player and allow global events to more easily impact workers’ nest eggs.

Yet, critics have continued to chide EBSA for proffering a rule that they say punishes the industry for the behavior of only a select few.

“Recently, after the financial crisis, I think there’s been more activist voices that have said the Department of Labor should look at the culture of compliance franchise-wide, sort of an ‘if there’s smoke, there’s fire,’ regardless of whether it’s in a different forest or a different state,” said Steven W. Rabitz, a partner at Dechert LLP in New York who advises banks and other investment managers on employee benefit plan compliance.

READ MORE: The Price of Holding Retirement Assets: QPAMs Explained

Major global investment banks such as Deutsche Bank AG, UBS Group AG, JPMorgan Chase & Co., Goldman Sachs Group Inc., and Credit Suisse Group AG are among those that have applied for and received individual exemptive relief since President Joe Biden took office. They had applied because their foreign affiliates engaged in criminal conduct that forced thebanks to lose their QPAM class exemption, a baseline designation many companies enjoy if they meet certain DOL standards.

The DOL’s final rule codifies the inclusion of foreign convictions as disqualifying in addition to domestic ones, and broadens requirements to cover US-based deferred- or non-prosecution agreements as well.

Regulators excluded countries and individuals on the US Commerce Department’s foreign adversaries list, including China, Cuba, Iran, North Korea, Russia, and former Venezuelan President Nicolás Maduro. The DOL also eliminated an original proposal that would have included prosecution agreements in foreign courts.

But the individual country carveouts are likely inconsequential in practice, and merely serve as a response to criticism from Republican lawmakers that the proposed rule as written would empower foreign powers to interfere in domestic markets, according to benefits attorneys and advisers.

‘Corporate Culture’

The QPAM exemption allows financial service firms of a certain size or status to bypass broad conflict-of-interest provisions in the Employee Retirement Income Security Act of 1974 (Pub. L. No. 93-406). The law prohibits managers from transacting with “parties in interest” to the plan, a term so broad that investment managers operate under the assumption that an exemption is necessary to function in the US retirement market.

The QPAM exemption has been traditionally viewed as the “gold standard” for investment managers acting as ERISA fiduciaries, said Erica Rozow, a partner at Simpson Thacher & Bartlett LLP in Washington. The department’s final rule will require companies to register their activity as QPAMs, apply new levels of equity and client assets under management in order to qualify, and force firms to keep more detailed records of who they do business with and why.

In an effort to clear up ambiguity about whether foreign criminal convictions will cause QPAMs to lose their valued status, the text of the Labor Department’s final rule struck a distrustful stance on the “corporate culture” of companies using the QPAM exemption.

“The DOL is clearly trying to rein in what it views fairly or not as pervasive misconduct,” said Alexander P. Ryan, a Willkie Farr & Gallagher LLP partner in Washington who advises plan sponsors and service providers on executive compensation and employee benefits. “The department is making it more challenging for the financial services industry to rely on the QPAM exemption, certainly in cases where there have been incidences of misconduct. By raising the thresholds, that obviously is going to exclude certain companies from qualifying.”

The QPAM exemption was always intended to be reserved for the largest, most well-regarded investment managers in the industry, but market developments since the 1980s have led more companies to qualify and those companies to get involved in more lines of international business.

“Serious criminal misconduct is a red flag indicating potential compliance problems that extend beyond the specific actors that directly engaged in the misconduct,” the department said in its final rule.

Big Players

To some, the actions of one or two individuals in a far-off place who work for a multinational bank have little to do with that company’s US-based institutional asset management business.

“There’s the buy side and the sell side,” said Rabitz.

Compared to the total number of US QPAMs, those that have engaged in any criminal conduct overseas or in the US is very small, “but it’s obviously the big players,” said Ruth E. Delaney, a Los Angeles K&L Gates LLP partner in the firm’s asset management and investment funds practice group.

The DOL’s rule doesn’t distinguish much between the number of total QPAMs it might impact, focusing instead on the total number of participants and beneficiaries it believes should be protected from potential criminal actors.

But the rule goes beyond simply prohibiting more QPAM conduct, forcing companies to engage with the DOL over their exemption status in a way they’ve never done before.

The regulated community has never had to contend with whether or not individual transactions took advantage of the QPAM exemption. Companies could apply the exemption retroactively if they later discovered that a transaction occurred with a party in interest. The DOL’s requirement that all QPAMs register on a publicly available list puts an end to that, Delaney said.

The QPAM exemption has historically been a robust and versatile exemption with which to comply.

Under the DOL’s new regulatory regime, companies will have to “self-analyze in the context of all the facts by tracking prohibited misconduct that they and their affiliates may have engaged in,” said George M. Gerstein, a senior counsel in Simpson Thacher’s employee benefits practice.

“This is going to fundamentally change who operates as a QPAM,” Delaney said. “There’s now a process to rely on the exemption when there wasn’t a process there before.”