Over strenuous objection from some members of the financial services industry and some members of Congress, on April 23, 2024, the Department of Labor (DOL) released its final rule (the Final Rule) defining what it means to be an investment advice fiduciary under the Employee Retirement Income Security Act of 1974 (ERISA). The Final Rule is a package consisting of a new final rule and amendments to three existing prohibited transaction exemptions. 

Brief History of the Fiduciary Rule

The journey to this Final Rule has been marked by a series of attempts to strengthen investor protections that have been met with pushback from industry stakeholders and the courts.  

In 1975, the DOL adopted the standard that is known as the “Five-Part Test.” Under the Five-Part Test, a person is an investment advice fiduciary if the person (1) renders investment advice or recommends the advisability of investing in, purchasing, or selling securities or other property, (2) on a regular basis, (3) pursuant to a mutual agreement or understanding, (4) that the adviser's services will serve as a primary basis for investment decisions with respect to plan assets, and (5) the investment advice will be individualized to the particular needs of the plan.  

In both 2010 and 2016, the DOL unsuccessfully attempted to modify this definition of an investment advice fiduciary. After two years of litigation, in 2018, the Fifth Circuit Court of Appeals vacated the DOL’s 2016 regulations that attempted to broaden the fiduciary standard for advisers to ERISA plans and IRAs. 

In October 2023, the DOL revisited the issue and introduced a new proposed rule defining what it means to be an investment advice fiduciary. The unveiling of the Final Rule marks the conclusion of a protracted battle, initiated in 2010, aimed at broadening the scope of individuals falling under the umbrella of investment advice fiduciaries. Yet, as history suggests, the true test may lie ahead in the form of potential litigation.

The 2024 Changes to the Final Rule

The new rule jettisons the Five-Part Test and replaces it with a test that focuses on the context in which a recommendation is made. According to the preamble to the Final Rule, the new rule focuses on relationships of trust and confidence and “will capture more retirement investment transactions in which the investor is reasonably relying on the advice individualized to the investor’s financial needs and best interest.” 

Under the Final Rule, a person is an investment advice fiduciary if the person receives a fee or other compensation for providing a recommendation or investment advice to a retirement investor in one of the following contexts:

• The person either directly or indirectly makes professional investment recommendations to investors on a regular basis as part of their business, and the recommendation:
  • is made under circumstances that would indicate to a reasonable investor that the recommendation is based on review of the retirement investor’s particular needs or individual circumstances, 
  • reflects the application of professional or expert judgment to the retirement investor’s particular needs or individual circumstances, and 
  • may be relied upon by the retirement investor as intended to advance the retirement investor’s best interest; or
• The person represents or acknowledges that he/she is acting as a fiduciary under ERISA. 

The DOL has long been concerned about financial advisers who have strong financial incentives to recommend investors roll money into one of their institutions’ IRAs or annuities. The Final Rule closes this loophole and makes it clear that one-time advice is subject to ERISA if the above requirements are met. This means that a wider range of financial professionals, including brokers, insurance agents, and consultants who provide investment advice or recommendations for retirement plans and IRAs will be subject to ERISA.

What Is the Final Rule Effective?

The Final Rule is scheduled to become effective on September 23, 2024, with a one-year transition period after the effective date to implement certain provisions in the amended prohibited transaction exemptions. 

The Top Five Takeaways from the Final Rule

1. The Final Rule adopts a broader definition of investment advice than what was considered advice under the Five-Part Test.
2. The Final Rule focuses on the context in which investment advice is given. If the context suggests a relationship of “trust and confidence” between investor and adviser, the adviser will be treated as a fiduciary. 
3. The Final Rule makes it clear that investment education or providing information on investments are not covered by the Final Rule. 
4. One-time advice, such as rollover advice or annuity purchase recommendations, will likely now be investment advice covered by ERISA. 
5. The fight over the Final Rule is far from over. Financial services providers, particularly those that must make significant changes to their business models to comply with the Final Rule such as annuity providers, promise to litigate the rule post haste. 

Footnotes

1. Libby Brown is not yet admitted to practice law.