Court Defeat is Guide for Labor Agency Retirement Adviser Rule

The US Labor Department’s federal court defeat in a case challenging its expanded definition of retirement plan rollover advice is likely to influence its strategy in writing a new regulation.

The Employee Benefits Security Administration has previewed rulemaking that would serve to cover larger portions of the insurance and securities markets by its strict fiduciary standard of advice. A Florida federal district court Feb. 13 struck down a portion of the agency’s 2021 guidance that expanded the definition of a retirement plan fiduciary.

The court’s emphasis on a 1975 regulation that clarifies the legal definition of an investment adviser bound by fiduciary standards could encourage the agency to do away with the older regulation altogether, or eliminate key requirements that advisers maintain an ongoing relationship with their clients to meet the fiduciary definition under the law.

The Biden Labor Department need only find a more moderate pathway that undoes a “regular basis” provision without triggering the legal trouble it did under the prior administration, agency observers said.

“The court’s decision almost certainly increases the urgency for the DOL to issue a proposed regulation that defines rollover recommendations as fiduciary advice, subject to the fiduciary standard of care and the limitations on conflicts,” said Fred Reish, a partner at Faegre Drinker Biddle & Reath LLP.

Together with a 2022 New York federal case restricting how the term “fiduciary” is applied, the Feb. 13 decision marks the biggest stumbling block for EBSA as it tries to extend its regulatory reach into individual retirement accounts and annuities.

The meaning of the term investment advice fiduciary hinges on whether the recommendation to rollover retirement assets out of a workplace plan is investment education or salesmanship. The Biden administration seems intent on eliminating the potential for conflicts of interest in those trades, according to its regulatory agenda.

Stakeholders say the industry has been destabilized by those efforts.

“It’s hard to operate in an uncertain regulatory environment, and we’ve been living in an uncertain regulatory environment for close to 10 years now,” said Jennifer Eller, principal at Groom Law Group Chartered.

The ruling also highlights vulnerabilities the agency faces when it bypasses formal rulemaking in favor of guidance.

New Fiduciary Rule

A US District Court for the Middle District of Florida judge voided the EBSA’s standing interpretation of the “regular basis” prong of a 1975 test for determining investment advice fiduciaries. That interpretation, which came in the form of frequently asked questions guidance, embroiled broker-dealers providing first-time rollover advice merely if it marked the beginning of an “ongoing relationship.”

The Florida case brought by the American Securities Association and an earlier case in a New York federal court demonstrate that the DOL’s 2020 interpretation of the “regular basis” prong of the 1975 fiduciary definition will be hard to defend, said Steve Rabitz, co-chair of the employee benefits and executive compensation practice at Dechert LLP. But that challenge persists only so far as the agency looks to the 1975 test as defining regulation for a fiduciary.

“It wouldn’t surprise me if the Labor Department did away with that and decided its high time to change this regulation once again,” Rabitz said.

The real definition of an investment advice fiduciary has been in a near-constant state of flux for more than a decade, since the Obama administration tried to apply fiduciary standards to all financial professionals who associate with ERISA-covered participants.

That regulation was struck down by the Fifth Circuit US Court of Appeals in 2018. The Trump administration reverted back to the 1975 definition.

The regulator’s existing guidance is unreasonable because it ignores the clear meaning of the 1975 regulation defining reoccurring advice and it extends the fiduciary definition beyond a workplace plan and out of the realm of the Employee Retirement Income Security Act of 1974 (Pub.L. 93-406), the court found.

Judge Virginia M. Hernandez Covington relied on the September 2022 findings of the US District Court for the Southern District of New York in Carfora v. TIAA where the court determined that the 1975 definition of fiduciary investment advice ends once the assets are rolled into a plan that is ungoverned under ERISA.

“Before a rollover occurs, a professional who gives rollover advice does so with respect to an ERISA-governed plan,” Covington wrote. “However, after the rollover, any future advice will be with respect to a new non-ERISA plan, such as an IRA that contains new assets from the rollover. The professional’s one-time rollover advice is thus the last advice that he or she makes to the specific plan.”