As the summer closes and we all prepare for our final quarter of activity, the April 10, 2017 deadline for complying with the DOL Fiduciary Rule looms ever nearer.
The DOL told Americans for Annuity Protection (AAP) recently that they expect to release a new Frequently Asked Questions guidance memo shortly. However, AAP’s work with ERISA and DOL experts offers some guidance we can share today.
AAP receives dozens of calls and emails every week asking questions about the rule: here are our top five.
What is a “Best Interest Contract” and When is it Needed?
The BIC, or “Best Interest Contract,” is required for all variable and fixed indexed annuity recommendations. The BIC is between the Financial Institution and the customer. It also covers the advisor’s discussions with and recommendations to the customer.
At its core, the BIC expressly prohibits the payment and receipt of variable compensation unless it qualifies as “exempt.” Variable compensation is essentially compensation that varies depending on the product you recommend. In our world receiving any variable compensation - which is how we pay commissions on most annuities today is prohibited UNLESS certain conditions are met.
The BIC exemption PERMITS variable compensation if the advisor:
1. Acts with the care, skill, prudence and diligence under the circumstances then prevailing that a prudent person would exercise;
2. Determines the investment objectives, risk tolerance, financial circumstances and needs of the client, without regard to the financial or other interests of the fiduciary or any other party.
3. Discloses all material conflicts of interest; and,
4. Makes no misleading statements or disclosures.
Additionally, if that compensation does qualify, it must be reasonable. Forms of compensation that do not qualify is any compensation that incentivizes the advisor to make the specific recommendation – like trips, awards programs, productions bonuses, and marketing dollars based on production or performance.
The exemption is called the BICE – Best Interest Contract Exemption. Under the BICE, Financial Institutions (which today are insurance companies, banks, broker-dealers, and RIAs) must adopt and warrant that their advisors comply with compliance policies and procedures that are reasonably and prudently designed to prevent conflicts from causing any violations of the Impartial Conduct Standards fiduciary.
What is do you mean an “Impartial Conduct Standards?”
At the heart of the fiduciary duty and specified under the BICE for variable and indexed annuities and Exemption 84-24 for fixed rate annuities is the requirement that any recommendation to move (or keep put) qualified money must meet "Impartial Conduct Standards" and triggers the fiduciary duty of the advisor.
That recommended must be provided as stated in items 1-4 above.
According to Section 404 (a) (1) of ERISA, inherent in this responsibility is the obligation to “[diversify] the investments of the plan so as to minimize the risk of large losses, unless under the circumstances it is clearly prudent not to do so.”
The same applies to the individual’s personal assets. That is why the opportunity for guaranteed income and asset protection with insurance will play and essential role in any fiduciary’s recommendation for qualified accounts.
How do we know if compensation is reasonable?
The DOL states in the preamble to the rule that a recommendation need not be the “lowest cost” or, in our world, the lowest compensation.” Furthermore, the DOL states that the compensation is “reasonable” if benchmarked to a market-based compensation percentage or fee.
And, the market-based benchmark should be for products in a similar class or category. There is legal precedence and DOL guidance that holds as a test for reasonability that the compensation not be “excessive.”
In addition, a higher differential in compensation for “like” products requires that you demonstrate objective and neutral reason(s) for the difference (additional service, value or time spent). For example, an advisor who recommends a 7 percent 10-year FIA over a 6 percent 10-year FIA would need to document objective factors that justified the 1 percent differential.
The differential can simply be demonstrated by the product benefits and features such as an income rider or long-term-care benefit. Objective factors also could include the company’s strength, your experience in the industry, your education and knowledge (authorized designations), services like annual checkups with your clients, etc.
It is not very likely that a 1 percent differential over a 10-year surrender will be considered “excessive,” however, you know what they say - lawyers can only be lawyers - and you should be prepared to identify and defend your value-adds.
How do I know that the products I am licensed to sell are the best solution?
Based on conversations with and reports by legal and fiduciary experts, the product solution does not need to be the BEST product in the universe, but needs to serve the client’s interest without regard to your interest. That interest is determined by the very individual, specific needs and requirements identified by the client.
In addition, as with all advisors today who currently offer fiduciary advice, under the DOL rule, the advisor need not avail him or herself to the entire universe of products, but may determine the firm’s “shelf” of product solutions that serve his business practice and clientele best – using standards for selection and adhering to them.
The DOL stated recently in their response to a pending lawsuit that the rule “does not require an advisor to “scourer the earth for the best product.”
What will I need to do to comply with the Rule?
There is much uncertainty about the final outcome of this rule and it may be months before we know the results of ongoing litigation. Adopting processes and procedures today that can help you prepare for whatever outcome is smart business planning and will ensure that your business continues to thrive.
Follow these three C’s today and your business will be in the best position for tomorrow:
1. Categorize your clients – know where their qualified money is and their non-qualified. Know what insurance products your client owns and which ones they don’t.
2. Create your record keeping protocols or clean them up.
3. Communicate the potential change in your business with your clients. They will be hearing about the Fiduciary Rule from the mainstream press or maybe a competing advisor or annuity selling program. Let them know your commitment to them and to their objectives and goals.
To quote a legal friend: “defendants with documentation, records and client acknowledgements are the best protection from the plaintiff’s bar.” But, it’s also the best way to protect consumers.
Because litigation can be costly, lengthy and full of frustrations and anxiety. It is much better to get it right the first time and have the documentation and support that demonstrates to your customers why you recommended what you did. It will also serve as a great roadmap for ongoing consultations and assessments.
Need more answers? SAVE THE DATE: our September 29th webinar “Selling in the Fiduciary Sea: Compliance Tips to Keep Your Business Afloat and Successful.”
Kim O’Brien is the vice chairman and CEO of Americans for Annuity Protection. She has 35 years of experience in the insurance industry. O’Brien served The National Association for Fixed Annuities (NAFA) for almost 12 years and led the organization to defeat the SEC’s Rule 151A.
Contact Kim at email@example.com.
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