If you’re a wealth manager who offers investment advice to IRA owners, you must be aware of the Department of Labor’s (“DOL”) Prohibited Transaction Exemption 2020-02 (the “Investment Advice PTE”). According to the PTE, ERISA considers most recommendations to roll over an IRA as fiduciary investment advice, effective as of February 16, 2021.
The PTE lists several inherent conflicts of interest that investment advisers must consider to avoid involvement in a prohibited transaction. These include receiving variable compensation or compensation from a third party related to providing fiduciary advice.
This ruling affects all wealth managers who advise rollovers, even if they have no former advisory relationship with a plan. The ruling also conflicts with traditional practices where advice to roll assets out of a Title I Plan did not constitute investment advice. Even when the advice was combined with a recommendation related to the investment of the distribution, it was not considered investment advice.
Now, any fiduciary adviser who advises a client to move assets from a plan to an IRA risks engaging in a prohibited transaction if paid because of the recommendation. This also applies to new clients if the adviser recommends a rollover expecting additional future compensation. Only one recommendation by a fiduciary adviser alone is enough to constitute a prohibited transaction under the PTE.
The Investment Advice PTE defines a rollover to include a transfer of assets from a(n):
- ERISA-covered plan to an IRA,
- ERISA-covered plan to another ERISA-covered plan,
- IRA to an ERISA-covered plan,
- IRA to another IRA, to the extent permissible under the Code, or
- different account type to another account type.
The law severely punishes a prohibited transaction with an excise tax of up to 100 percent of the amount involved, compounded over time. Also, the IRS may disqualify the IRA, which would require IRA owners to include the entire value of the IRA in their income for the year that the breach occurred.
ERISA has traditionally forbidden an investment adviser from receiving additional compensation that results from a recommendation to a plan or plan participant unless an exemption applies. The new interpretation makes rollover advice conflicted. Even if advisers receive no compensation when the recommendation is made but later receive compensation in the future from the IRA, i.e., “additional compensation,” they risk making a prohibited transaction.
The law considers this as advice because it recommends liquidating or transferring the plan’s property interest in the affected assets and the participant’s property interest in plan investments. The ruling considers more transactions than those traditionally thought to be rollovers.
The PTE does not cause IRAs to become plans subject to ERISA. The DOL has the authority to interpret what are prohibited transactions under ERISA and as related to IRAs. The new guidance confirms the DOL’s authority to conclude what is “investment advice” for either type of retirement program so that it may adequately determine and evaluate the existence of a prohibited transaction. The IRS remains the only body that may enforce the tax rules that affect IRAs.
Fortunately, there is broad relief available under the Investment Advice PTE. It extends to conflicts caused by all types of compensatory arrangements that would otherwise be prohibited. The PTE forgives the receipt of third-party compensation such as 12b-1 fees, revenue sharing, and sub-TA fees, as well as commissions, bonuses, and other forms of compensation.
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