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Aftermath of the DOL Fiduciary Rule:

Fred Reish Discusses the Role of the SEC, Best Interest & the States

NEW: Bonus Question

Question: Can a failed retirement plan coverage test be fixed with a QNEC or QMAC contribution?


Answer: Provided by Chad Johanson (aka The 401(k) Nerd)

The minimum coverage test (as found under IRC 410(b)) is one of many nondiscrimination tests that a 401(k) plan must abide by. This test was designed to make certain the ratio of benefiting Highly Compensated Employees (HCE's) versus the ratio of benefiting Non-Highly Compensated Employees (NHCE's) is not to swayed to heavily in the favor of the HCE's.


In an oversimplification, 410(b) testing states that we must cover 70% (of NHCE's) of the percentage of HCE's that the plan benefits. This test must be ran on each contribution type and only includes members that have met your plans eligibility. If the plan fails coverage testing for a specific contribution type there are corrective measures that can be taken.

For example, if the 401(k) plan excluded managers from participating in elective deferrals and the elective deferral coverage test did not pass then the a retroactive amendment can be made to fix the exclusion that cause a coverage test failure and a Qualified Non-Elective Contribution (QNEC) should be made. The QNEC is providedsince these employees did not have a chance to defer during the plan year. If done in the approved timeline this QNEC can be calculated as 50% of the missed deferral. The missed deferral can be calculated as the plans NHCE ADP rate from the plan year. Based on your correction timing you may have to use the Self Compliance Program (SCP) or the Voluntary Compliance Program (VCP) to properly correct this coverage failure

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With Guest:
J.D. Carlson, 
President & CEO of Plan Design Consultants, 
One Fourth of the Retireholiks

J.D.. Carlson is the President & CEO of Plan Design Consultants,

a retirement company that since 1975 has been providing businesses with affordable, quality plans customized to meet the specific needs of our clients.

Over four decades in the business has given PDC the experiences we need to evolve our service model to what it is today.  A smart, easy process centered on the needs of our clients.  A service model designed to be AWESOME!

It is our deep understanding of all areas of retirement plans combined with a constant commitment to customer service that sets us apart.  We share our expertise with our clients to make sure they are comfortable and confident in making decisions around maintaining a successful Employer sponsored plan.

As an independent company, client advocacy is a major strength of our firm.  We partner with Financial Advisors to offer our clients a very healthy choice in vendors.  A strong understanding of fees and services allows PDC to help clients find the perfect fit.

Thousands of retirement plan clients from all over the country have relied on PDC to assist them in offering the right plan to help their employees reach retirement goals. 

Recap, Highlights, and Thoughts

Today we have a little fun, I am excited to welcome back J.D. Carlson who by day is the President & CEO of Plan Design Consultants, a Third Party Administration firm and by night is a YouTube sensation as one fourth of the Retireholiks.  Our conversation is a follow-up to one we had on the podcast last year where we tackled some tricky workplace retirement terms to either decipher some industry jargon, declare they are pure Gibberish or if they are real terms or concepts that can be confused or jumbled together.  I think the conversation we have falls into the edutainment category.  Oh, and two things not to miss this week, our bonus question which you can find a and when JD gets fired up towards the end of the episode.  


While you don’t have to listen to the first version of Jargon, Gibberish or Jumbled, you can find it here or by scrolling through your favorite podcast app and look for the title Frustrated Complex 401(k) Terms in March of 2018.  While you are there, we do have over 175 episodes in our podcast library.  If you find something else that catches your eye, give it a listen as well.  Our episodes are evergreen and don’t tend to expire over time.  

Before we get started, if you have been enjoying the podcast if you could either go to your favorite podcast app and either like or leave a comment.  Based on the way their technology works, that goes a long way in helping other people find the podcast.  As our audience grows, it helps me continue to attract great guests and bring you their unique perspectives on workplace retirement plans.  

Thanks for listening!​​

Sincerely Your Host, 

Rick Unser

NEW: Episode Transcript

Rick:    Well, Fred, welcome back to the podcast. We had a great conversation last year about sort of the death or the demise of the DOL fiduciary rule, and, man, it sure seems like a lot has gone on since then, so I am really looking forward to hearing what you have to say today.

Fred:    Well thank you, Rick. It's hard to believe it was only a year ago. It seems like a lifetime ago, and that's partially because so much has happened since then. It's taken a lot of time and effort to keep up with everything that's going on, so I think we'll have a good call today.

Rick:    I'm looking forward to it. I guess, just kind of picking up where we left off... And again, if I'm using the wrong words please correct me, but when the DOL vacated the fiduciary rule, I think they certainly started something with that whole concept. It seems to me like they didn't get their rule across the goal line. So others stepped in and sort of picked up the ball, and either started running with it or kept running with it, to where we are today. I mean, is that kind of a good way to think about kind of how things have transpired?


Fred:    Yeah, I would even go back one step before that, though, Rick, and say, "Well, why did the DOL have a fiduciary rule?" In other words, what is it that is the concern that the SEC, and the states, and others have that they're trying to carry forward? From my perspective, we live in a world where a lot of responsibility is put on individuals, and the financial world is incredibly complex, but people are expected to navigate it.


Fred:    So with half the households or so owning mutual funds directly or indirectly through 401(k) plans or personally or in IRAs with the variety of different kinds of annuity products, with exotic investments, somehow unsophisticated investors who have no experience and no education on investing are supposed to be able to handle all that. Of course, the truth of the matter is they can't. Therefore, the need for advice is greater than ever, but it needs to be good quality advice that's not negatively impacted by conflicts of interest. For example, by an advisor saying, "Hey, I make more money if I sell you this, than if I sold you that."


Fred:    What this is really all about is a change in how things have happened. If you go back to the 60s and the 70s, I think only about 15% of the household held securities investments. Now it's probably over 50%, and it's everyday people. It's not just high income earners, highly educated folks. So the system really needed to change to say wait a second, it's too complex for the typical person to navigate, we need the help of advisors, but we've got to protect people against bad advice.


Fred:    So what we're going to do is we're going to increase the standard of care and that's what a fiduciary rule is and we're going to increase the responsibility for managing conflicts and that's what the best interest contract exemptions are. Now people may disagree with how the DOL did it in terms of whether they had the authority or not, and they may disagree with how they did it. That is, were they too demanding? But I think the point is there's a lot of agreement that advisors should be held to a fairly high standard of care and that conflicts need to be managed and mitigated.


Fred:    So then you roll forward into the SEC rule and the SEC issued four final rules on June 5th of this year. A little over a year after the 5th circuit vacated the DOL role. These are now final rules. A couple of them [inaudible 00:03:48] interpretations. Interpretation of standard of conduct for investment advisors and the interpretation of the meaning of [inaudible 00:03:54] incidental for broker dealers is ... Those are already affecting [inaudible 00:03:59] people need to comply with them or take advantage of them if they expand your opportunities.


Fred:    Now, the other two, the Form CRS, which is designed to help people decide between broker dealers and investment advisors generally and then specifically between different investor advisors or different broker dealers. The first [inaudible 00:04:20] investment advisors and broker dealers will have to distribute it by June 30 of next year all of their existing clients and thereafter, all new clients. You can first begin distributing it on May 1 of next year. A little wonder there.


Fred:    That's Form CRS. It's a two page broad based description of your services, your conflicts, how you get paid, whether you have a disciplinary history, on and on, and that could be impactful. It's really hard to estimate what the effect of that's going to be, but not [inaudible 00:04:54] conflicts of interest in that. Then you go over to Reg BI, and Reg BI says that broker dealers will be subject beginning June 30 of next year also on a best interest standard of care. Unfortunately, it's undefined and if you want we can get into that a little later on, what does best interest mean? But the best interest standard of care has a care obligation which is the best interest standard. It has a disclosure obligation. As you might imagine, disclosure limitations and costs and it has a conflict of interest obligation. The conflict of interest obligation is partially disclosure based.


Fred:    So it's connected at the hip with a disclosure obligation, but then it's also where the conflicts create incentives for advisors and you might ... Ordinarily, that [inaudible 00:05:44] financial incentive to sell something that might not be in the best interest of the investor. For example, I make more if I sell this than I do if I sell that, and it's sort of okay for the investor but it's not really where they could best go. That is a conflict of interest, obviously, and that has to be mitigated by the broker dealer. In other words, the broker dealer has to have systems and supervision with training, confrontation [inaudible 00:06:11] arrangements on and on in place to dampen the incentive to the point that it doesn't encourage behavior that's not in the best interest of the investor. Long story short, there's a heightened duty of care just like the DOL rule that [inaudible 00:06:28] and there is also a requirement to manage conflicts of interest a little different than the DOL but for the same purpose.


Fred:    In some ways, it's much more expansive. For example, it covers all investors; individual investors, IRA investors, participants in plans. However, it doesn't cover plans. That's a bit of a [inaudible 00:06:50], but because small plans can be managed by people that are pretty unsophisticated in some cases. In any event, it's got very broad coverage and I think it's going to be pretty impactful, particularly if the SEC and FINRA enforce it the way that it's written, and that, of course, remains to be seen. So I've had a long time to do a big picture, Rick. I apologize for that, but-


Rick:    No, it's super helpful.


Fred:    But like we said there's a lot that's going on, and I didn't even really get into the states, if you want to go there.


Rick:    Yeah, no I definitely do and maybe just help me understand. So hey, I'm an employer. I'm running my business. I'm certainly very interested and I'm certainly very attuned to our retirement plan as part of our benefits package or certainly attuned to the fact that we need to do a good job overseeing and be good fiduciaries et cetera. I guess where does the rubber meet the road here in terms of where some of these new, whether it's the SEC or the states or whatever, what are some of the different moving parts that they should be asking questions about or that might be impacted in either their lives or their employees' lives with some of these new rules and regulations?


Fred:    There's a practical side of that and a legal side of that. I mean the practical side is, among other things, you want to have people who are experienced in plans like you have. If you have a $5 million plan, they'd like to see people [inaudible 00:08:24] a lot of plans than the one [inaudible 00:08:25] $10 million because certain providers are good and [inaudible 00:08:28] the experience of the advisor will enable you to make good recommendations appropriate for that plan. Now, the practical side aside, going to the legal side of things, under the new rules it's clear that an RIA, a registered investment advisor, a magical [inaudible 00:08:48] investment advisor is a fiduciary [inaudible 00:08:51] they give to plans and to participants. So unlike Reg BI, the standard of care for investment advisors to plans, so will typically sign on as fiduciaries for plans.


Fred:    It is a fiduciary standard and a duty of care and a duty of loyalty that is high. It's a pretty high level of duty. And as an employer, you'd like to get a fiduciary advisor. It doesn't mean you can't get good advice from the advisor who won't sign on as a fiduciary, but it's nice to know that your advisor has to operate at the same level of care that you do. So even under Reg BI, broker dealers can give advice to plans, they just don't have to act in the best interest of the fiduciaries of the plan and they can, but they aren't obligated to.


Fred:    So I think consideration of plan and plan sponsor would want was we want to know what category our advisor falls into. We want to know what duty of care they have vis a vis the plan. We want to know if they're a fiduciary under a ERISA, which brings a lot of protection. We want to know if they're a fiduciary under the securities laws, which is good protection or we want to know if they're an insurance agent or a broker dealer [inaudible 00:10:10] some other level, which doesn't mean they're bad advisors. It just means they're not obligated to adhere to the same standard of care. And then if that's the case, if that's what the plan sponsor wants to do, work with somebody who's subject to a lower standard of care, then I think they need to understand that and they need to vet everything a little bit more [inaudible 00:10:39] because they don't have the same legal protections.


Fred:    So I think if somebody signs on as a fiduciary advisor to a plan, notwithstanding all of the rules we've talked about so far today, Rick, they're subject to the DOL's fiduciary rule, the part that's still in effect. That is the most demanding of all of the standards and as a result, as a lawyer, I can see the advantages to that to a plan sponsor. Once you get beyond the plan level issues, then I guess, to the [inaudible 00:11:15] level issues. As a plan sponsor, are you going to allow your advisor to work with participants on how to invest their account and whether [inaudible 00:11:25] or IRA [inaudible 00:11:26] leave the company. If so, you want to have some understanding what is the process we're going to use for that.


Fred:    Are they a fiduciary for that purpose? Are they obligated to act in the best interest of the participants for giving advice? I think that sometimes plan sponsors and 401(k) plans in particular think that if they let ... when an advisor talks to the participants, they really don't have any responsibility for that, but if the employer has allowed the advisor onto the premises, if the employer has provided the advisor with contact information for the participants either directly or indirectly, then, yes, there is some responsibility. You want to make sure that you're allowing high quality people who are largely conflict free and giving good quality advice are the ones you want talking to your participants because you can end up having some responsibility there if things don't work out.


Fred:    I don't know want to make it sound too negative and I think I have, but you do need to know that and the fiduciaries have to know what's going on and they have to make decisions. And just to give you another example, the same thing applies to the record keepers. Sometimes I think with employers it's like, well, the record keepers are experts on all of this stuff. We'll just rely on them. Well, now, wait a second. The plan sponsor, acting as fiduciary [inaudible 00:12:50], hires and fires the record keeper. They need to understand what's going on there as well. Anyway, I'm beating the drum on that, Rick, but that's sort of the full picture.


Rick:    Yeah, no, but I think that's really important and I kind of had this conversation with your colleagues Bruce Ashton the other/ day just a different topic. We were talking about loans. He was really very eloquent and did a great job talking about that, but I feel like that's one of those moments here too where it's like, "Okay, Fred, hold on a second." As a plan sponsor, as an employer, I am concerned about my employers well being and retirement and I want to provide them some tools and resources to help them plan or better manage their journey to retirement, so whether it be an advisor or whether it be a record keeper, I'm going to make them available on site. I'm going to provide contact information. I'm going to give people these tools and resources.


Rick:    And now what we're saying is, hold on a second. You might actually be putting yourselves in harm's way as the employer, as the plan fiduciary by doing that. And, again, let me know if I heard you right, but as I'm listening, that's kind of what I'm hearing you say. I guess, if somebody wants to go down that path, is there a way to do that under Reg BI or the state rules or other things that are floating around out there where they can still have that, let's call it altruistic intention of trying to help their employers, but also do it in a way that they protect themselves or don't put themselves in unnecessary harm?


Fred:    Yeah. I mean, I think absolutely and I think it's a good idea to help the employers in that way and maybe we could get into that [inaudible 00:14:39] also other ways to do it. But in terms of having people actually meet with the employees and help them face to face or in group meetings, you just want to make sure you're vetting what's going on so that you're not allowing somebody just to come in and [inaudible 00:14:57] to the participants and they're in there thinking that this is a meeting or a one on ones that are endorsed by the plan sponsor because that is in fact what they will think.


Fred:    So what do you do about that? Well, if you're working with an advisor to the plan and the advisor says, "Hey, I'm a fiduciary," that's a pretty good sign that it will be okay to have that advisor work with the participants as well I mean because the plan sponsor has seen that advisor in meetings with a plan committee or in meetings with the officers of the company, maybe they've seen the advisor conduct enrollment meetings. In other words, they've got experience. They have actual observations that they can use to make a determination, yes, this is a quality advisor. Yes, it's appropriate for this advisor to be talking directly to my employees.


Fred:    Generally, with a provider, I mean, most good quality retirement plan advisors would be great at that. Most of the providers, in my experience, are really high quality, but if you're going to have them come on and talk to the employees, you want to have some idea of what they're going to talk about. What are you going to talk about? Are you going to try to [inaudible 00:16:08] to my employees? Will you be trying to get commissions on those sales? If so, what kind of disclosures will you be making to them?


Fred:    I'm not talking about really complicated questions. I'm just saying, basically, before you let somebody come on and do things for the employees, I know what they're going to [inaudible 00:16:24]. And if you don't like it, then don't let them do it. If it all makes sense, move ahead. Then, the only thing you really have to pay attention to for the next months or a year or two is are you getting any complaints. So if you did a proper job of understanding what you're doing at the beginning and then the meetings happen and your employees are satisfied and you're not getting any complaints, then that's a good sign ... That's a good way to monitor, in effect, what's going on is to see whether there are any employee complaints.


Fred:    Obviously, if there are, that's a bad sign and the employer should get involved. But, yeah, I think you should do it. I address these things as a lawyer, so I'm always looking for risks, but I think the risks can be adequately managed. And just using the same kinds of business practices that companies do to hire employees, to select vendors. I can talk about some magical, really different type of process. It is just a fundamentally sound business process to look at what people are going to be doing with your employees before you let them do it. There you go.


Rick:    Yeah, no, and I think that makes all the sense in the world. Do you get the sense from some of the employers that you are working with or interacting with or just have conversations with. Do you get the sense that employers are asking those questions today or is this maybe a new line of questioning that needs to be introduced into people's kind of fiduciary oversight process to make sure they understand, well, all of those things you just laid out?


Fred:    Two thoughts on that. I think when you get to the really big plans, yes, they are asking those kinds of questions, but for the size of plan that was more commonly went into, a mid-market or smaller plan, I think they're relying a lot on trust and if we're going to do that, then, to me, the key is to have a really high quality retirement plan advisor. Don't have a guy who has a few plans. Don't have a gal that only works with very small plans if you have a big plan. I mean, just find somebody that says, "I won't give conflicted advice to the plan. All I get is my fee. There's five plans some of the years and you can call as referrals.


Fred:    Just the process that you might use to find a surgeon for a hip replacement, just check it out, but make sure you have a really good quality advisor who has some plans your size. Then, while the law doesn't exactly read this way, I think then it would be reasonable for the plan sponsor to say, "Advisor, I've got to rely on you for this because I don't feel like I have the knowledge or the experience to do it. I want you to check the services offered by the record keeper to my employees. I want you to offer employee services my [inaudible 00:19:25] and then I want you to augment that with other services that the record keeper can provide, but I want you to vet the record keepers services [inaudible 00:19:32]."


Fred:    The smaller the plan gets, the more the owner and executives have to put their time into running the company. The less time they can devote to this ... The more time they should rely on their advisor, can rely on their advisor if they have a really good advisor, an experienced, level fee, no conflicts, fiduciary advisor, then I think that justification can then allow them largely to rely on the advisor to vet the rest of the process for them.


Rick:    And speaking of business, one thing I know when the DOL fiduciary rule was in the works and seemed imminent, there were a lot of people in the retirement business whether it be record keepers, advisors, whatever, the were very concerned about the impact of that regulation on their business models or on the sustainability of some of their business models and I also know that a lot of people make changes as a result of that. So, I guess as you sit here today, late 2019, I know you work with a lot record keepers. I know you work with a lot of people within the industry. I mean, do you get the same sense that some of the rules and some of the changes with either Reg BI or, I know we haven't really gotten into the states yet, but some of the things that are being talked about at the state level, do you see a lot of the service providers out in the market really concerned about being able to deliver services to employees in workplace retirement plans or is it not quite the same level of concern as we saw maybe 18 months ago?


Fred:    Rick, it's not even close. One thing that people haven't talked about very much in terms of why the DOL fiduciary rule was so much dread about it is it created private rights of action and it had a class action provision, the best-interest contract exemption [inaudible 00:21:35] and the fiduciary rule on the [inaudible 00:21:37] that creates a private right of action, meaning I can sue you if you don't give me good advice or with a broker dealer or a record keeper, this may be kind of a fiduciary, you can have a class action lawsuit. Those are fearful things for service providers, particularly the class action lawsuit provision, but both of them were fearful.


Fred:    Regulation best interests does not create a private right of action. Only the SEC and FINRA can enforce regulation best interests. So if June 30 of next year, I get bad advice that's not in my best interest from a broker dealer, I don't have a right to file a lawsuit or support for a legal position even in an arbitration against the broker dealer to say, "Oops, you violated the best interest standard of care." Now, I mean, I can always claim that and it's possible that some arbitration panel somewhere would say, "Makes sense to us," but it's not a right that I have.


Fred:    So that's a huge difference, just that litigation difference under the DOL rules versus Reg BI, it is all the difference in the world. Now, when you get to the specifics of the rules, Reg BI is much more structured to match how broker dealers do business. For example, it's based on supervision and policies and procedures and how broker dealers pay their advisors. My point here is that if you look at it, it's the broker dealer [inaudible 00:23:15] that gets regulated for the most part by the SEC and by FINRA. It's not so much the individual advisor unless something goes up with the individual advisor. But if you think about how private litigation and the DOL rules work, they go after either the plan fiduciaries or the advisor or service provider.


Fred:    The DOL can come in and will investigate at any level, but if they find a bad situation in a plan, they can just take a left turn and have after and have after the advisor or have after the record keepers. So the DOL rules operated more at the individual level or the SEC rules operated more at the entity level. So if a broker dealer has the policies and procedures in place and good supervision and somebody just happens to get bad interest advisor or worse interest advisor, to make up a name, nobody [inaudible 00:24:08] and has no right to file a private right of action on that claim.


Fred:    Now, I'm saying it can percolate up to the SEC and they can come then. I don't meant to suggest that couldn't be the case, but when you think of the millions of times advisor is given every year, the SEC just doesn't have enough people to examine all those individual relationships. But, lucky DOL could because they come [inaudible 00:24:33] better plan and then [inaudible 00:24:34] the advisor. Anyway-


Rick:    No.


Fred:    ... those are some of the differences. The best interest contract exemption was too restrictive, to be honest. With the advantage of hindsight, it was just too restrictive or Reg BI is much more based on the structure of broker dealers, so it's easier for them to live with.


Rick:    So, I guess on that level, maybe we pivot to the states for a second because I understand there are several states that are looking at creating their own fiduciary rule and I also think, maybe I'm not reading this right, but there are eight states, maybe specifically, that have take exception to the SEC Reg BI rule and have decided to sue them, so what is going on at the state level?


Fred:    Yeah, in a nutshell, the states, and many of those are the larger, more urban, more liberal states, think New York, California, believe that the SEC regulation best interest didn't require enough, that it let broker dealers off the hook too easily and so they're looking to fight that in two ways. One, through the litigation. I think seven or eight states filed, but through that lawsuit, to get regulation best interest vacated the same way that the chamber of commerce on the business side of the House got DOL rule vacated. I don't think the odds are that high that the states are going to succeed in their litigation, but regardless, it is ...


Fred:    I don't know if it's ever happened before in our history as a country the states have gone after an agency of the federal government like the Securities Exchange Commission and said ... or at least in the securities area [inaudible 00:26:24] has happened where they're trying to say you issued a terrible rule, then it's thrown out. You want the courts to throw it out. So in and of itself, it's somewhat momentous politically, but if you just look at it in terms of the litigation, I think the odds are pretty low that it will succeed. Now, having said that, Rick, I've done wrong once or twice in the past.


Rick:    No.


Fred:    You don't know. It's like handicapping a race. You just don't know. Now going to the rules, the general systems are the same. [inaudible 00:26:59] states in effect are saying, "We think the SEC crafted a really lenient rule, that the SEC is backing the broker dealers by making a rule that's easier for them to comply with and it's not backing investors and consumers and therefore, we think that we need to adopt rules within our states that are more protective of the people who live in our states, who are residents.


Fred:    And I'm not commenting on whether that's correct or not. I'm just saying I think that's their theory. And so you have a sort of a state versus federal government argument where the states are saying, "We have a right to draft rules and protect our residents because the federal government is failing to do so." And you have the federal government saying, "Wait a second. You're disrupting our process. We're going to try to overturn your rules in court." One of the ironies of this all is that the states are the Democrats, by large, Democratic states and the federal government is Republican, so it's Republicans saying to states, "You shouldn't be able to protect your own residents."


Fred:    Historically, Republicans always said, "We believe in state rights," but it's creating some very odd bedfellows here. It's a strange situation politically. I mean, there are some federal rules that could create some grief in this area, but I suspect the states will succeed on this. The leading state is New York so far. There's a little bit difference than the others. All these rules are either called fiduciary or best interest and I would just use those two terms interchangeably.


Fred:    New York applies to insurance products and you might think, "Well, why is Fred talking about insurance products?" Well, because variable life and variable annuities are both insurance products and securities and so it will impact broker dealers and investment advisors in New York and hold them to a fiduciary-like standard for their sales practices or annuities and variable and all annuities, but variable annuities, in particular, securities and variable life. There are others. Nevada's working on theirs. They're pretty far along and other states are a little further back.


Rick:    And I guess one thing that, I don't know, this kind of strikes me like some of the state and retirement plans that are popping up where, okay, I get it. You feel like there's a void and you feel like there's something that the states can step in and maybe do a little better that would be more tailored or specific to their employees or their population. But as I think about a lot of employers out there, I mean, it's not unusual that somebody would operate in multiple states. As I think about service providers, it's not unusual that service providers would be providing services, whatever it is, investment related or other to employees [inaudible 00:30:08] to plan sponsors in multiple states.


Rick:    So, I guess, maybe putting the intentions aside, how do some of these affect the practicality of either employers and what they need to be doing or what the service providers out there, how they would be able to kind of manage or offer their products within different states to different employees?


Fred:    Yeah, I think there's no doubt that it would be better to have a federal rule for fiduciary standard, federal rule for who has to set up a retirement plan even if it's just a deferral based, IRA based plan because of the uniformity of the rules that you mentioned. I mean, there are 50 states, but with technology and travel and communication, I mean, we've really shrunk. This is an example. Last week, next week and the week after, I'll be in Washington D.C. three times and in Chicago one time. We're just a small country now in terms of [inaudible 00:31:11] and it would be really helpful in terms of efficiency if all of us were federal.


Fred:    What does that mean to employers? Going back to one thing I said earlier, the one area where we are federal is the ERISA and if somebody says, "I agree to be a fiduciary advisor to your plan under ERISA," then that's where it does it right there. I mean, the employer, knowing that would know that they're held to a very high standard of care and very high standards for managing any conflicts of interest, so that's the starting point, Rick. I mean, if you just wanted an easy one size fits all answer, there it is that [inaudible 00:31:55] a small employer or any employer.


Fred:    In terms of state laws, seventh of the state proposals and rules exempt, that is to say, carve out retirement plans as does Reg BI. The reason being, I think, is because, at least for the states, there is a preemption provision on ERISA that essentially has nobody else to regulate retirement plans. So the states are saying, "Hey, we don't want our fiduciary rules or our state plans to be thrown out on the basis of ERISA preemption." So most of them do exempt plans.


Fred:    So, from a plan sponsor perspective, like I said, the first step is will somebody sign on as an ERISA fiduciary? If they do, then you got federal law and uniformity like if you look at it in three states, same rule's going to apply in all three. If the advisor won't sign on as a fiduciary, then I think the plan sponsor should say, "Well, tell me what your standard of care is? What is the duty you owe us as an advisor and tell me about how you're going to manage conflicts? And, as a part of that, tell me about every penny you get or your entity [inaudible 00:33:10] you get other than just a fee that you would charge to our plan. We want to be able to calculate it to a dollar amount," because that's the job.


Fred:    That's the job of the fiduciary to have to know all the money that their service providers are making because that's how you evaluate their compensation to see if you're getting services that are the equivalent of the money that you're paying directly or indirectly. So you can't just say, "Oh, yeah, I saved that little bucket of money. I know they're getting that." You got to understand all the money they got.


Fred:    So number one, what's their standard of care? Number two, tell me about the conflicts and enable me to calculate the compensation that you and anybody you're affiliated with is making off of my participants' backs. In other words, off of my plan. Those are the big things. I mean, I would want to see at least that [inaudible 00:34:03] and I think that'll answer 99% of the questions right there.


Rick:    Perfect. And just maybe kind of in the similar vein but slightly different path here. One thing that you highlighted for me was, certainly there's a lot of talk about conflicts of interest at this point in time as it relates to Reg BI, etc., but I guess prior under the DOL or under the fiduciary rule, there was a lot of focus on prohibited transactions. If I'm saying that right, is that also another big pivot here between what people were kind of ramping up for with the DOL fiduciary rule versus where we are today with the SEC and Reg BI?


Fred:    To a degree, yeah. I mean, when you asked the question, it sort of reminded me of that old saying, a rose by any other name. A prohibited transaction is a financial conflict of interest, so if I was a fiduciary advisor to a plan and let's say I charged a 1% fee, but then I was getting payments from the record keeper that I didn't disclose, I mean, well, first [inaudible 00:35:20] that's a conflict of interest because I'm supposed to have a duty of loyalty to the client, plan and the participants. Secondly, the failure to disclose it, I mean, is just awful. I violated [inaudible 00:35:31]. I violated other provisions of ERISA, but my point being, Rick, any financial conflict of interest that results from fiduciary advice to a plan is prohibited. It's a prohibited transaction.


Fred:    So almost any prohibited transaction involves the flow of money somehow. It could be the flow of money from the plan to the employer or money from the plan to service providers or money from investments in the plan to service providers. I mean, there's just so many ways that money can move around and anytime you see money moving in a plan other than for the direct benefit of the participants, your initial reaction is I've got to examine this as a prohibited transaction.


Fred:    But if you leave ERISA and you're over to the securities laws, they're called conflicts of interest. By and large for both investment advisors and broker dealers, conflicts of interest need to be disclosed, but they're not prohibited. The new thing in Reg BI is that the financial conflicts of interest are the incentives for individual advisor [inaudible 00:36:45] broker dealer. But the individual advisor, if there are financial incentives for that advisor to recommend one kind of investment or another, that has to be mitigated under Reg BI. Now that begins next June.


Fred:    But mitigated means that somehow the incentive affect has to be dampened to the point that it's not likely to result in a recommendation that is not in the best interest of the investor. That's vague. I mean, it sounds great on paper. That's a pretty vague standard and I think one of the dangers of a big standard like that is we don't really know what it means until after the fact, after the SEC or FINRA's coming in to enforce it.


Fred:    So both that mitigation of conflicts at the individual advisor level for broker dealers, it sort of feels like an ERISA prohibited transaction, but with an exemption that says that you can commit the prohibited transaction as long as it's managed in the following way. So the Reg BI mitigation provision really feels a lot like a prohibited transaction exemption in the kinds of conditions that get attached to an exemption. It's like that part at least of the securities laws is becoming a little more like ERISA, but only for individual advisors and broker dealers.


Rick:    Got it. And as you were talking through some of that, I mean, I guess is I'm thinking about potential areas where there can be conflicts of interest at the plan level. I mean, let's put aside some of the participant stuff around rollovers and products that people might be moved into as part of that exiting of a plan. But I'm curious if any of this is contemplated or addressed in Reg BI or other things that are floating around out there. I think with some of the evolution in the retirement industry, there's been sort of a conflating of roles in some cases where you have record keepers that are offering investment products. You have investment advisors that are also offering investment products to plans.


Rick:    I think if you, again, are just looking at the surface level, you can say, "Well, hey, we're with ABC record keeper and we have ABC investments or we're with XYZ advisor firm and we're using some of their XYZ investments." Is any of that part of this or is that sort of separate and distinct as it relates to this broader movement that's afoot with either the SEC or the states?


Fred:    It's not so much a part of those four pieces of guidance issued by the SEC, except I would say Reg BI does require disclosure of certain things like proprietary investments. In terms of disclosure you might think the ABC family funds is related to us if we [inaudible 00:39:47] investment in those funds in addition to our commissions, we also receive an investment management fee or our affiliate also receives the investment management fee. That would take care of it. Therefore, we have an incentive to recommend them. That's a pretty darn good disclosure.


Fred:    The problem with disclosure though is after you get 50 or 100 pages of disclosure, who reads it, but there is disclosure, but that doesn't have to be mitigated. Now, the broker dealer and the advisor has a separate duty of care because there is a conflicts obligation, a disclosure obligation and a care obligation. Under the care obligation, there's a duty to care [inaudible 00:40:30] recommendations that are in the best interest of the investment. And the care obligation has to be satisfied separately, independently of the conflicts and disclosure obligation.


Fred:    So if those are all really expensive comfortable or poorly managed investments, then I don't know how you would satisfy the care obligation. What that care obligation is is part of what's going to have to play out over the next four or five years. But, no, there's not really ... nothing that would be similar to the DOL rules in terms of recommending proprietary products or revenue sharing being paid to record keeping platforms. The action on those have really all been on the litigation side. I've written a series of articles for my blog about best practices for plan sponsors where I talk about whenever the case is. That's FredReish, one word, dot com if people want to go look at it.


Fred:    But, there, the approach of the [inaudible 00:41:38] firms and the four cases I most recently wrote about are all [inaudible 00:41:41] Flector firm which is very well known in this area. Essentially, the Flector law firm goes out and says the fiduciaries breached their duties because when you look at the revenue sharing plus what they paid record keeper, it was too much money. It was excessive. In other words, the employers lost out and the record keeper won because the fiduciaries were asleep at the switch. There are a handful of issues. I'm just raising one to give you an example of how that issue is in fact coming up, but it's coming up in litigation, not in guidance.


Rick:    Perfect. One other thing as we were kind of talking about the conflict of interest versus prohibited transaction, I don't know, I mean, it's always kind of struck me that to the laymen or to somebody who's not, let's call it well-versed in the language and some of the nuances of what we've been talking about here. The difference between, well, hey, I'm a fiduciary, so I have to act in your best interest or I'm a broker and I'm acting in your best interest with the guidance or the products that I'm talking to you about or presenting to you. I don't know. I mean, to the average person, boy, that sure sounds really darn similar. I mean, do you see the potential for some confusion in the marketplace with the very people that the SEC is looking to protect by just some of the language that's being used here or am I dumbing that down way too much?


Fred:    No. I think there's an element of that. [inaudible 00:43:22] best of standard of care. For example, the SEC said in the investment advisor interpretation that an investment advisor's duty of care and duty of loyalty when combined are referred to as a best interest standard of care. So, yeah, both are subject to a best interest standard. Now, only investment advisors can have continuous discretion. Broker dealers can't. Well, let's take discretion off the table. Broker dealers under the new rules will be able to monitor periodically if they want to [inaudible 00:44:02] for example. So it's possible that when you look at non-discretionary investment advice or investment recommendations, [inaudible 00:44:11] say, "Hey, we'll monitor [inaudible 00:44:13]."


Fred:    That non-discretionary investment advice by an investment advisor and non-discretionary investment advisor or broker dealer who monitors are beginning to look remarkably alike because they're both subject to the best interest standard of care. In other words, it's hard to find any [inaudible 00:44:29] in terms of how the rules look on paper. So then the question becomes how's that going to get enforced by the SEC and FINRA?


Fred:    Now, there are some cases where the broker dealer scenario could make more sense. For example, if somebody wants a 529 plan and they want advice on how to invest and they're going to put a lump sum in right now or a lump sum in their IRA and then not change for 20 years. Well, that could make financial sense. On the other hand, if somebody says, "No, I'm an executive at the company. I travel a lot. I don't have time to pay attention to this stuff. I want you to manage my accounts." Well, then that's pretty obviously what a discretionary investment advisor would do that a broker dealer couldn't do.


Fred:    With that background, the place the SEC's trying to go and I don't know if they're really going to get there, but their objective is to educate the public on those kinds of differences and that's part of the job or the Form CRS, customer relationship summary, as being the first piece of paper that a customer will receive from a broker dealer before the broker dealer [inaudible 00:45:46] that the client would receive from an investment advisor before the investment advisor's hired to make a distinction between the two. In a perfect world, that would be beautiful. I just think it's going to be really hard for it to be as effective as the SEC thinks it's going to be.


Rick:    Yeah, and if I'm thinking about that Form CRS that you've been talking about, in a certain way to me, that sounds like an investment advisor there have to produce a Form ADV. Is that similar in concept or are those just two different concepts that are not related or not in the same conversation?


Fred:    Here's a good lawyer answer for you, Rick? Yes and no. In fact, the Form CRS for investment advisors is also called the ADV Part 3, so, yeah, they're really similar. It's delivered at the same time and it sort of does the same thing except the CRS cannot be any longer than two pages. Boom. That's a rule.


Rick:    Wow.


Fred:    That's not just an idea. That's a rule.


Rick:    How small can the font be?


Fred:    Well, unfortunately, has to be written in plain English, which means lawyers can't write it and it has to be written in big font. I mean, not ridiculous but it can't be shrunk. In other words, the other reason lawyers can't write it is because it can't have fine print. I don't know. It looked like a fifth grade [inaudible 00:47:27]. It's going to have to be simply written. Maybe it'll have pictures and graphics, but obviously, it can't say much. There's five parts that's prescribed by law but has to be in each of those parts. Reg BI is 175 pages long on the federal register of fine print. The CRS regulation is 178 pages long in fine print about what has to go into a two page document in big print.


Rick:    Wow.


Fred:    In other words, it's heavily prescribed. Reg BI is largely principles based. Form CRS is rules. It's just rule after rule after rule. Now, part of the rule's about what you link to and how to deliver it and how to file it. And they're also, I think, seven questions you literally have to have on the Form CRS, questions for the investment to ask the advisor. Literally, like seven, I think. Whether or not it's an effective educational tool, which is what it's intended to be, we'll have to wait and see. I think investors will end up a little more knowledgeable, but I don't know if it's really going to make a difference.


Rick:    Yeah. I mean, like you said, time will tell. I do want to ask you one philosophical question before we close, but I guess, before I go down that path, is there anything that we've missed that, at this point, will be helpful to employers, helpful to their service partners that are helping them kind of go through some of these conversations that we should touch on before I kind of wax philosophical for a minute?


Fred:    At least in your world and my world, the retirement world, it's all about employees retiring. Then we call them participants, but it's about real working people working on their careers and they bubble wrapped 401(k) plan where the fiduciaries protect them by having good [inaudible 00:49:28]. Somehow, we've got to help get those folks to retirement and then we have to get them through retirement. There's 10,000 baby boomers a day retiring now. That's becoming a huge issue, that transition period and then the retirement part. So what I would really love to see plan sponsors do is talk to their advisors and their providers about how to best do that.


Fred:    And let me give you some concrete examples. One, I think giving people projections of their retirement income based on their accounts and their practices and then giving them a benchmark that their service providers can [inaudible 00:50:04] roughly how much people need and then helping them understand if they need to defer more to get there. It's called gap analysis. Here's where your account projects to. You're either on course or you're not. Here's how to close the gap. So [inaudible 00:50:19] any one thing a plan sponsor can do to make a difference [inaudible 00:50:22] their advisors and providers to do what I just said. Down the line, obviously helping people get to retirement. More and more employers are now allowing employees to keep their money in the plan. They're providing for monthly distributions out of plans that investors don't get charged for every check and they're even adding some guaranteed lifetime income products whether they're annuities or guaranteed benefits or whatever.


Fred:    And I would say keep your mind open to that because with all the talk that we're [inaudible 00:50:52] about rules and laws and regulations and advisors and litigation, is still really about the employees. It's really about the participants. It's really about people living 20 or 30 years in retirement on hopefully enough money that lasts. On a more detailed level, I just want to reiterate one thing I said earlier, which is it's a cultural change. We live in a complex world. Some of this financial stuff is very difficult for a typical person to understand and make good decisions about.


Fred:    And I would just say that the fiduciary responsibility of plan sponsors [inaudible 00:51:32] high quality advisors and providers should not be underestimated. If you do a good job on those two things, a lot of the rest of it, can fall into place, but to do a really good job after you've selected good quality advisors and providers, it would be to say to them, "Tell me how to improve my plan. How do I make my plan better?" because employers only have one plan. Those advisors and providers have hundreds if not thousands of plans. They have this incredible experience base where they can help plan sponsors and yet so often, I see plan sponsors get involved in the micro aspect of looking at how the plan's operating today and not using their advisors and providers in the macro aspect of saying, "How do I make this better for me employers?" So, anyway, that's a little bit philosophical. I almost jumped it [crosstalk 00:52:26].

Rick:    No, that's really good input. So here's my philosophical question and I think after everything you just said there, the hundreds and hundreds of pages of regulation, the fine print and everything else that is going on here ... and I had a really interesting conversation several months back with Don Trone where we talked about fiduciary governance and all of that and I asked him the same question. I said, "Don, with all of this, can you really regulate good fiduciary behavior or is that something that just is more ... you just kind of have to find the right people that are going to act in that capacity?"


Rick:    So I don't know if I said that perfectly, but I guess the end result would be of all of this, will this really regulate better behavior by service partners or others that are either needing to act in a fiduciary capacity or in a best interest capacity with employees, employers, etc.?

Fred:    I think so. It's more evolutionary than this is the day a rule becomes effective. Everybody's going to be good that day. It's not that. It's that expectations change and the rules, to a degree, reflect the expectations, but the rules also shape expectations. And I think all of the education that [inaudible 00:54:03] around the rules, the broker dealers [inaudible 00:54:06] policies and procedures and the litigation as the issues become better known. Yeah, so I think all of that does change how people see things.


Fred:    Well, specifically for plan sponsors, I would encourage them to have fiduciary education at least once a year for their plan, at least one quarterly meeting, allow an hour. The reason being that a fiduciary relationship as a pure responsibility is not normal, at least with regard to people that you don't even know. As a committee member, as a fiduciary of a plan, you have a duty of loyalty that runs directly to the plan participants. It's not to the plan. It's not to your employer. It's to the participants. That's not a natural state of affairs.

Fred:    I think maybe the only place you actually have that feeling where you put somebody else's interest ahead of your own might be with your family or as a parent, your kids matter [inaudible 00:55:05] or maybe with a good friend where you would put their interests ahead of yours. It's not normal. Therefore, to get past that fact that the law demands of a behavior that isn't just a natural way of thinking about things, I think sometimes it's great to have a fiduciary education where you can talk about the principles, but then you can also give examples.

Fred:    And then each year thereafter, you would just try to bring in a new committee members along, but then also talk about carnage. It's like right now missing participants is a big issue for fiduciary responsibility. For the last several years, monitoring the compensation paid to service providers been a big issue. Not too many years ago, most of us didn't even know what a [inaudible 00:55:51] of a mutual fund was. Now, it's probably the number one litigation issue and they're a list of cases out there. People probably don't realize yet that some of the plaintiffs' attorneys are now saying we don't think that mutual funds are cheap enough. We think you should be looking at collective trusts, understanding that, having that on the horizon, but those are the kinds of things.


Fred:    I think it's hard for a committee member [inaudible 00:56:14] all day long your work is somehow related to [inaudible 00:56:19] to then walk into a room, spend a couple hours four times a year and become an expert in all this stuff, which is why I said earlier, talk to your advisor, talk to your provider and at least once a year, talk to your lawyer. So that's what I would recommend.


Rick:    Good advice as always. One thing I was remiss to ask you and we can either address this as a bonus question on the website or if you've got any thoughts, I'd love to get them. Is the DOL going to take another bite at the apple here on the fiduciary rule or has that ship sailed and not going back?


Fred:    I think they will. I think it's been delayed a little bit for a variety of the resignation of the secretary of labor, a new nominee that has to be confirmed by Senate. And so I think it's been slowed down, but they need to create an exemption, a prohibited transaction exemption where there's a little more flexibility for variable compensation so that, potentially, people who receive commissions can sign on as fiduciaries. But beyond that, I think they want to update the new rule at least a little bit. If they do, two areas they might look at ... Well, they might just kick the old rule, the five part test and bring it in and then modify it rather than rewriting a whole new rule.


Fred:    And the two areas that they might want to look at is can they make recommendations of rollovers even if there's only one recommendation a fiduciary act. And then the other is more generally, can they make it a four part test rather than a five part test and the part that would be removed would be the requirement that the advice be regularly given. In other words, can one time advice to a plan or a participant be turned into a fiduciary advice. That's what I think they're looking at.


Fred:    If they don't do that ... We've got a Republican in the Department of Labor now. If they don't do anything, if they just bring in [inaudible 00:58:27] replacement rule and the Democrats win next November, win the White House, and therefore the administration next November, you can bet they will bring in a new rule and it will not be what the Republicans will like. I think there's a lot of incentive for them to do something, but I don't think it's going to be ... Other than rollovers, I don't think it's going to be major.

Rick:    Yeah. And that could be a great topic for a future episode to have you back again, so. But before we sign off, you put so much great content out into the marketplace for employers, for retirement, folks in the retirement industry. I know you mentioned your blog, but maybe if you want to mention that again. And is there anywhere else that you would suggest people either follow you or find you if they want to hear more of what you have to say?


Fred:    My blog is One word. F-R-E-D-R-E-I-S-H dot com. And I pretty much post every week, so there'll be like an article where you can just sign up, your articles are emailed to you so you don't have to go look for it. There's just a few things. I write a regular column for InvestmentNews. I write a regular column for an advisor magazine. I'm part of [inaudible 00:59:46] in the firm for advisors. This is for advisors. It's not for plan sponsors. To have another [inaudible 00:59:53] and we all share responsibility for it. It's called, not very imaginative, but that's one word. BrokerDealerLawBlog, so it's just as [inaudible 01:00:05] BrokerDealerLawBlog, one word, dot com. We post articles there every week or two. There's a focus on broker dealers, but also articles about investment advisors and different SEC examinations programs, litigation rules and regulations, but everything to do with advice and the governance of advice. So those are the things I think of.


Rick:    Perfect. Fred, always a pleasure, really appreciate everything you shared today, and I'm sure, as events unfold, we'll have an opportunity to chat again. So thanks again.


Fred:    Hey, Rick, thank you so much.

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