Implementing a prohibited transaction exemption under changes to ERISA and the Internal Revenue Code provided by the Pension Protection Act, the Department of Labor adopted Regulation 408g-1 allowing fiduciary investment adviser to provide advice to participants in 401(k) plans. The prohibited transaction rules in ERISA and the IRC generally prevent a fiduciary investment adviser from recommending plan investment options if the adviser receives additional fees from the investment providers. Although these rules protect participants from conflicts of interest, ERISA provides exemptions from the rules in appropriate circumstances and permits DOL to grant exemptions that have participant-protective conditions. The new regulation implements an exemption that Congress enacted as part of the Pension Protection Act to improve participant access to fiduciary investment advice, which contains certain safeguards and conditions to prevent investment advisers from providing biased advice that is not in a participant's best interest
This regulation is separate from and does not affect the Labor Department's proposed rule on the definition of fiduciary investment advice, which the department recently announced that it will re-propose.
To qualify for the exemption in the final regulation, investment advice must be given through the use of a computer model that is certified as unbiased by an independent expert or through an adviser compensated on a level-fee basis, meaning that the fees do not vary based on investments selected. Both types of arrangements must also satisfy several other conditions, including the disclosure of the adviser's fees and an annual audit of the arrangement for compliance with the regulation.
The exemption is conditioned on no fiduciary adviser that provides investment advice receiving from any party any fee or other compensation, including commissions, salary, bonuses, awards, promotions, or other things of value, that varies depending on the basis of a participant's selection of a particular investment option. Consistent with the statute, this provision proscribes the receipt of fees or compensation that vary based on investment options selected, and therefore could have the effect of creating an incentive for a fiduciary adviser to favor certain investments.
The Department intends for this fee-leveling requirement to be broadly applied in order to ensure that the objectivity of the investment advice recommendations to plan participants is not compromised by the advice provider's own financial interest in the outcome. For purposes of applying the provision, the Department would consider things of value to include trips, gifts and other things that, while having a value, are not given in the form of cash. Accordingly, almost every form of remuneration that takes into account the investments selected by participants and beneficiaries would likely violate the fee-leveling requirement of the final rule. On the other hand, a compensation or bonus arrangement that is based on the overall profitability of an organization may be permissible if the individual account plan and IRA investment advice and investment option components are excluded from, or constituted a negligible portion of, the calculation of the organization's profitability.
The Department believes, however, that whether any particular salary, bonus, awards,promotions or commissions program meets or fails the fee-leveling requirement ultimately depends on the details of the program. In this regard, the Department noted that the details of such programs will be the subject of both a review and a report by an independent auditor as a condition for relief under the statutory exemption.
The fiduciary adviser must annually engage an independent auditor with appropriate technical training or experience and proficiency to conduct an audit of the adviser's investment advice arrangements for compliance with the regulation. Within 60 days following completion of the audit, the auditor must issue a written report to the fiduciary adviser and, except with respect to an arrangement with an IRA, to each fiduciary who authorized the use of the investment advice arrangement. The written audit report must set forth the specific findings of the auditor regarding compliance of the arrangement with the regulation.
The regulation mandates certain basic information about the audited arrangement that must be included in the audit report. Specifically, the report must identify the fiduciary adviser and the type of arrangement. Further, if the arrangement uses computer models, or both computer models and fee leveling, the report must also indicate the date of the most recent computer model certification, and identify the eligible investment expert that provided the certification.
If the audit report identifies noncompliance with the regulation, then the fiduciary adviser must send a copy of the report to the Department of Labor within 30 days following receipt of the report from the auditor. This report will enable the Department to monitor compliance with the regulation.