Insights from the experts in investment fiduciary responsibility.

Q&A on the DOL Rule: Compensation

Posted by Duane Thompson on May 06, 2016

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Two weeks ago, we presented webinars covering the DOL’s recently released fiduciary rule. A recording of that webinar is now available. During that webinar we received over 80 questions. We were not able to answer all of those during the one hour session, but we have compiled and answered them here. The questions are categorized, and we will do separate blog posts to address all of the questions within a given category. These questions are not comprehensive of the rule, they only address the questions that were submitted. Think of them as an addendum to the webinar. For a more comprehensive view of the rule, we recommend you view the recording, as well as download our Executive Summary and Client Memo documents.

In our fifth Q&A blog post from the webinar, we are looking at technical questions around compensation requirements under the rule. Please note: the views expressed herein are strictly informational, do not represent an official position of fi360 on regulatory or legislative matters, and should not be relied upon as legal, compliance or investment advice.                                  

Q. Are funds with 12b-1 fees able to be utilized by an independent registered investment adviser (RIA) who doesn't receive them for ERISA plans and IRAs?  If so, must an ERISA account be established for purposes of crediting the 12b-1 fees to such account to defray plan expenses so the broker-dealer (BD) doesn't get paid this?

A. It depends on how you define ‘independent.’  A truly ‘independent’ RIA – one that is not affiliated with a BD -- would generally not be eligible to accept 12b-1 fees

Your second question suggests the RIA is affiliated with a broker-dealer (BD).  In that case, the firm and broker can certainly accept 12b-1 fees for taxable accounts as they always have.  However, with regard to an ERISA account or IRA, they will need to avoid third-party compensation through a rebate unless the BD decides to use the Best Interest Contract Exemption (BICE).

Q. How does the new DOL Rule impact hourly, fee-only advisors who do not accept ongoing fees for AUM?

A. It doesn’t matter whether you charge by the hour or AUM.  As long as the fee does not vary with the particular investment recommended, and the fee reflects the fair market value for the services provided, hourly compensation is OK.

Q. Must platform providers keep revenue on investments level or is it sufficient that the compensation to the advisor be level?

A. There is no level-fee requirement for platform providers who are not fiduciaries.    However, compensation for any ERISA service provider must be reasonable.  They also may need to rely on a prohibited transaction exemption for receipt of commission or other third-party compensation.

Q. How will split-commission arrangements between securities and insurance brokers be affected under the Rule? 

A. In general, service providers’ compensation must be disclosed under Rule 408(b)(2), which would presumably include information on split-commission arrangements.  If these same brokers were deemed fiduciaries under the new Rule, other disclosures would be required including a duty to act in the client’s best interest.

Q. Is sharing advisor revenue with IARs based on new business that they bring in and maintain (clients are not charged beyond standard fee) considered a sales incentive under the Rule?

A. This is what most attorneys would call a facts and circumstances issue that requires a more detailed legal analysis of your compensation arrangements.  That said, since the IAR you describe receives variable compensation, and has a financial incentive to recommend his firm to prospective clients, he would be subject to the SEC’s solicitor’s rule and most likely BICE in rollover situations.

Q. Level compensation--is that by client or by the entire book of business?

A. The Level-Fee Exemption, as described by the DOL, is available “if the only fee or compensation received by the [firm, advisor or affiliate] in connection with the advisory or investment management services is a “level fee.”  [Emphasis added.]  The DOL goes on to say that the Exemption “focuses on the discrete recommendation that requires an exemption.”  This suggests that a firm may be dually registered as a broker-dealer, but that if it receives commissions “beyond the Level Fee in connection with investment management or advisory services…to the plan or IRA, [the firm] will not be able to rely on these streamlined conditions.”

Q. How are referrals/solicitation agreements between RIAs affected by the DOL Rule?

A. The DOL Rule may come into play in at least one situation based on the above scenario.  Receipt of referral payments may make the RIA ineligible for the Level Fee Exemption.  The DOL has not addressed this particular situation, so you would need to check with counsel or contact the Department for guidance.

Q. I have some retail accounts that pay 12b-1 fees.  Will I need to get a BIC contract signed in order to keep these accounts, or are they fine as is?

A. You do not need BICE for taxable accounts that are paying 12b-1 fees.  Nor is BICE needed for ongoing revenue streams from retirement accounts after the new Rule goes into effect  after Apr. 20, 2017.  However, if you provide advice on these ERISA or IRA accounts after Apr. 20 (and receive a commission, trails, 12b-1 fees, etc.) you will need to rely on BICE.

Q. Did the DOL clarify what "disclose fees and compensation" means?  Is that dollar amount, percentage or other?

A. If you’re referring to the BIC Exemption, it leaves the form of disclosure up to the firm.  Specific disclosure of costs, fees, and compensation, including 3rd party payments, can be described in dollar amounts, percentages, formulas “or other means reasonably designed to present materially accurate disclosure of their scope, magnitude, and nature in sufficient detail to permit the Retirement Investor to make an informed judgment about the costs of the transaction…”

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