Part IV of a Four-Part DOL Rule Series: Duty of Loyalty

Commentary

Welcome back to our fourth and final article in the Impartial Conduct Standards series! For those of you who need to catch up or are just starting on the Series, our first three articles are linked below:

Part I: Permitted Activities for Life-Only Licensees

Part II: the Duty of Care

Part III: Duty of Diligence

There is still much head-in-the-sand activity where annuity and life insurance advisors seem to think that they really don’t have to change their work practices other than adding a disclosure document to qualified sales. Americans for Annuity Protection began this series to explain the responsibilities of a fiduciary, how impartial conduct standards differ from suitability and what practices must be adhered to under the Rule.

And advisors are not only required to simply adhere to them, they must also demonstrate and document that they are adhering to them. The systematic process of demonstration and documentation is where most of our laissez-faire advisors will likely get caught in the legal crosshairs.

Under the duties of care and diligence, you must show that you fully understand your client’s financial goals and circumstances. That includes identifying their needs, concerns, risk tolerance and planning time horizon. You must show your knowledge and skill in diligently analyzing and selecting products that will best help them meet their goals. You must document your selection process.

Under the duty of loyalty, you must act for the sole benefit of your client in accordance with their financial goals. One of the elements of loyalty is that the advisor cannot engage in self-dealing, meaning that he or she cannot take advantage of the position for personal gain.

The law takes this duty seriously. All self-dealing transactions are prohibited by the Rule and the costs of a prohibited transaction under the current transitional application of the Rule is squarely on the shoulders of the advisor.

Prior to the IRS notice in conjunction with the DOL Guidance, advisors who engage in prohibited transactions face an excise tax of 15 percent of the “amount involved,” rising to 100 percent if the transactions aren't corrected within certain timeframes. However, in April, advisors were given temporary relief to the most onerous aspect of transactions deemed prohibited by the Rule. For now, the costs will be legal bills and probable commission repayment.

How to Comply

How do you comply with acting in the client’s sole benefit when you aren’t working for free? The rule requires that you take no more than “reasonable compensation” and “make no misleading statements” about that compensation or other conflicts of interest.

Americans for Annuity Protection has long held that the compensation an insurance company pays the advisor has long been reasonable and it covers, in part, the advisor’s cost of doing business, paying its office expense and employees and providing services to you. The commission is one of many costs which the Insurance Company considers and factors into the product͛ design, including the guaranteed and non-guaranteed benefits and features that may be offered.

But, what is reasonable compensation? In the FAQ published by AssessBEST, Inc., a sales-maker and compliance system built by the CEO of Americans for Annuity Protection, we answer it this way:

Reasonable compensation is a vague and undefined standard, but the DOL has held ERISA plan fiduciaries to this standard for many years which gives much precedent to the application of the standard. Reasonable compensation has traditionally been interpreted and applied by the DOL as a standard that is tested against market-based benchmarks.

Compliance with this standard will be determined based on whether your compensation is in line with amounts being received by others in the market making recommendations of similar products, as well as the services, rights, and benefits you and your firm provide to your clients.

The reasonable compensation standard does not dictate any specific amount of compensation you and your firm can receive, but it can be expected to target at least true outliers (compensation that is far out of line with the market). The reasonableness of your compensation will depend on the facts and circumstances at the time of the recommendation.

You should review the compensation you are paid on the products you are authorized to recommend and identify products whose compensation is outside what is typical for the market of similar product types (e.g., FIAs) and class (i.e., surrender period).

Recommendations of these products will be subject to higher scrutiny and require detailed justification and documentation that they were the product that best met your client’s objectives, needs, time horizon and risk tolerance compared to other similar products available to you.

'Neutral Factors' in Play

However, reasonability of compensation is not the only compensation consideration of impartial conduct standards. If compensation differs among products of the same type and surrender period and you make a recommendation with a higher compensation, that differential must be justified by “neutral factors.”

Neutral factors can include the services you provide, your experience, the time it took you to assess and analyze product options, customer preferences, company strength and rating as well as product features and benefits.

Since it is very rare that two products are “exactly alike,” the product (and its benefits and features) that appears best able to meet the client’s needs and objectives without consideration of the compensation paid to you will likely be justifiable.

Providing more than one product for consideration and documenting how you and your client arrived at the final product(s) selection will be critical to defending a best-interest recommendation and justifying reasonable and differential compensation.

Finally, the duty of loyalty means that you make no misleading statements and disclose all conflicts of interest, including compensation. Therefore, a compliant 84-24 disclosure is important when making IRA recommendations. AssessBEST offers a fully compliant disclosure to its licensees that has been reviewed and approved by ERISA lawyers. Find out more at www.assessbest.com.

Being a fiduciary is a practice, NOT a license. Americans for Annuity Protection encourages you to adopt fiduciary principles, policies and procedures and follow them. If you do, when your client asks if they come first you can answer honestly and simply – YES and I can prove it.

Kim O’Brien is a 35-year veteran of the insurance industry specializing in guaranteed annuities and life insurance. She is the current CEO of Americans for Annuity Protection and Founder of AssessBEST, Inc., a sales and compliance software system. Visit www.AAPnow.com or www.AssessBEST.com for more information.

This article is provided for educational and informative purposes only and not for the purpose of providing legal advice. Readers should consult with their own legal and compliance counsels to obtain guidance and direction with respect to any issue or question.
Contact Kim at [email protected].

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