DOL fiduciary rule's 'grandfathering' exemption may be lost by changing firms

Regulatory experts believe there's a strong likelihood advisers would lose the grandfathering exemption granted under the DOL rule simply by switching RIAs or broker-dealers

Jul 26, 2016 @ 1:50 pm

By Greg Iacurci

+ Zoom

Advisers banking on “grandfathering” pre-existing investments in retirement accounts under the Labor Department's fiduciary rule may not be able to rely on the provision indefinitely.

As it turns out, industry executives and regulatory experts believe advisers switching firms could lose the grandfathering privilege upon switching firms, leading to a potential stymying effect on adviser recruitment and moves.

“It would really be a gray area as to if grandfathering would be lost,” Marcia Wagner, principal at The Wagner Law Group, said. “But who would want to take that risk?”

The Department of Labor's fiduciary regulation, which raises investment advice standards in accounts such as 401(k)s and IRAs, grants an exemption for investment recommendations made prior to the rule's applicability date in April next year — as long as advisers adhere to specific rules.

Basically, an investment paying variable compensation to an adviser wouldn't require the more stringent regulatory compliance steps that would normally be involved post-rule implementation.

However, it's not entirely clear that advisers and brokers changing firms wouldn't break the parameters of the exemption by virtue of switching firms.

“I think you probably will lose grandfathering in that situation,” Bruce Ashton, partner at Drinker Biddle & Reath, said.

Generally speaking, an investment arrangement that comes up for renewal and is subsequently renewed after the rule's applicability date would likely trigger a loss of the grandfathering exemption, experts said.

Upon switching firms, an adviser's clients would have to enter into a new account opening agreement, which the Labor Department would likely view as a renewal or extension of an agreement, thereby breaking terms of the exemption, Mr. Ashton said.

If it turns out an adviser would break grandfathering by moving to a different broker-dealer, wirehouse or RIA, then “I think it'd really be a chilling effect on investment adviser representatives or registered reps to move,” Ms. Wagner said.

Advisers and firms would need to complete a lot of additional paperwork in this circumstance, including signing Best Interest Contracts with the client, and the additional compliance and legal hurdles could be a deterrent, Ms. Wagner explained.

Judson Forner, vice president of investment marketing at ValMark Securities Inc., an independent broker-dealer with approximately 400 advisers, agrees there could be a chilling effect on adviser moves, because firms may not want the associated risk involved.

“While nothing outside of the adviser's affiliation appears to change from the viewpoint of the client, and in many cases the advisers themselves, the responsibilities are on the new institution from a DOL-fiduciary-rule perspective,” Mr. Forner said. “It is a new account for the receiving institution, so we feel it creates a situation where it will be much more difficult for brokers and advisers to change affiliations.”

Ultimately, the issue isn't exactly black-and-white. Experts question how many advisers will use grandfathering, or how many firms will allow advisers to do so, given its terms are quite narrow and would be tough not to break.

Further, the DOL could issue guidance explaining that switching firms without altering investment arrangements wouldn't break grandfathering, experts say.

Even then, some firms could choose not to allow grandfathering in order to reduce liability, according to Colleen Bell, first vice president of fiduciary services at Cambridge Investment Research Inc., a broker-dealer with around 3,000 advisers.

“Although the rule may allow for it, there are some firms who'll say the risk is too great that the adviser provides a recommendation as defined by the rule,” thereby breaking grandfathering, Ms. Bell said. In that case, it'd perhaps be best from a liability standpoint to put would-be-grandfathered clients within the confines of the best-interest contract exemption (BICE) anyway, she added.

Cambridge is still evaluating whether it will use the grandfathering exemption, or if it poses more risk to the firm than using the BICE.

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