401k Advisors: New Potential Pitfall under Proposed DoL Fiduciary Rule


As I have written before, advisers have largely been absent from lawsuits in the 401k arena. But, as the song goes, it appears that times they are a changin’.

In a conversation last week, another opportunity for an adviser to become embroiled in a suit dawned on me: Advisors who cause their clients to pay for services they don’t need could find themselves facing a lawsuit under proposed rules from the Department of Labor.

Currently, providers are finding themselves under the proverbial microscope. Lawsuits are beginning to analyze the correlation between cost and services provided. Suits like the one recently filed by Schlichter, Bogard & Denton against Chevron identify a rate for which the provider is willing to provide a set of services and allege a breach when revenue rises (rising markets and accounts with asset based charges are responsible) without a corresponding increase in services.

The proposed Fiduciary Rule from the Department of Labor is currently with the OMB and aims to make a fiduciary out of any advisor working on a plan. Once the new fiduciary status rule is effective, an advisor will be prohibited from causing a plan to pay for services that are not essential to the operation of the plan or fees that could be deemed excessive due to the advisor’s new fiduciary status. This liability could cover fees related to any recommended service providers as well as the advisor’s own fees.

Quoting Prohibited Transactions of ERISA directly:

(a) Transactions between plan and party in interest Except as provided in section 1108 of this title:

(1) A fiduciary with respect to a plan shall not cause the plan to engage in a transaction, if he knows or should know that such transaction constitutes a direct or indirect—

… (C) furnishing of goods, services, or facilities between the plan and a party in interest; [29 U.S. Code § 1106]

Section 1108 goes on to discuss the how a plan can engage a service provider under the exemptions to the prohibited transaction listed above, namely only paying for those services which are necessary and paying fees which are reasonable [29 U.S. Code § 1108(b)(2)]. Common examples of services could include recordkeeping, employee education (404.c type services), and fund monitoring.

As a fiduciary to the plan under the new Fiduciary Rule, an advisor cannot cause the plan to engage in a prohibited transaction. Therefore, it becomes necessary for the advisor to understand completely which services the plan needs and differentiate from the services he can provide. The services that are not utilized by the plan fiduciaries or participants should be carved from the offering, and the corresponding fees should also be cut.

While this may seem pretty basic, the twist is that the advisor would be responsible for the reasonableness of his own fees/commissions as well.

Said another way, an advisor could be on the hook for forcing the plan to pay him more than is reasonable given the services provided. What is unreasonable? That is tough, but this post shows what is undisputedly unreasonable.

Failure to properly mitigate unnecessary or excessive fees could be construed as a fiduciary breach by the adviser. Currently, only responsible plan fiduciaries have to worry about this aspect of ERISA. The change of fiduciary status for advisors will open them to potential liability for the same issue. There is no doubt that advisors and their compliance departments should be actively seeking solutions to provide a process for understanding plan level needs as well as the monitoring of the fluid relationship between fees and service.

As usual, I am not an attorney or an accountant, so please take this piece for what it is worth.

This is repost. The original can be found here.