The possibility of death always confronts skydiving thrill-seekers. Even with the most extreme degrees of caution — having top-notch equipment, ensuring for good weather — jumping out of a plane carries a certain level of risk.
The Labor Department's fiduciary rule is similar, in that the specter of litigation lurks no matter the compliance caution taken by brokerages and other financial institutions, a panel of attorneys said Thursday morning in a presentation on legal risk posed by the regulation.
And it's a matter of when, not if, that litigation occurs, they stressed.
The Department of Labor has “promoted a business form of skydiving,” Lawrence Cagney, partner and chair of the executive compensation and employee benefits group at
Debevoise & Plimpton, told an audience at the law firm's New York City headquarters.
Given the risks involved it would be careless not to be as cautious as possible in compliance with the rule, which raises investment advice standards in retirement accounts, but “once you jump out of the plane, we don't know what's going to happen,” Mr. Cagney said.
He and other attorneys focused on a particular element of the regulation known as the
best-interest contract exemption (BICE), which allows brokers to receive variable forms of compensation such as commissions for their advice as long as certain conditions are met.
It is a broad exemption that represents the cornerstone of the DOL rule, but many view its provisions as particularly onerous, with the
threat of class-action lawsuits from IRA investors as the most daunting obstacle.
Not only is there a litigation threat, but the burden of proving compliance with the provisions of the BICE and its best-interest standard of care falls to the institution claiming the exemption — in other words, the broker-dealer or other financial institution, not the class of investors bringing suit, according to the panel.
It “seems like an impossible test” for an institution to prove it didn't make an investment recommendation with regard to its financial interest when such a recommendation carries an inherent financial interest, Mr. Cagney said.
Due to the “numerosity, commonality and typicality requirements” to bring class-action litigation, such lawsuits are likely to target systemic violations of the rule's impartial conduct standards and disclosure requirements, according to the panel.
While defense attorneys can potentially pose a strong argument over individuality, and whether particular claims are actually relevant to an entire class of investors, higher-level decisions and guidance at the institution level can lay the groundwork for plaintiffs' attorneys to bring a class action, according to Maeve O'Connor, a litigation partner at Debevoise & Plimpton.
One example would be a challenge to an institution's notion of “
reasonable compensation,” because compensation practices are likely consistent across a broad group of its clients, attorneys said.
And necessary disclosures under BICE can serve as a publicly available road map for the plaintiff's bar. Financial institutions should prepare any written record “expecting that record to show up in court,” Mr. Cagney said.
Reliable precedent may also not be available for several years as cases work their way through the court system, attorneys said. Further, if cases settle, they won't generate reliable precedent for the industry, they said.
