Will Fiduciary Rule Survive Rising Tide of Lawsuits?

The first week of June saw the filing of two lawsuits challenging the Department of Labor’s final fiduciary rule and its accompanying exemptions.  Those in a position to know were confident that it was only a matter of time before additional lawsuits were filed, and they were right.  At the time of drafting this blog, the number of suits had increased to five.  Just how many will ultimately be filed is still an open question.  The common aim of these legal actions is an injunction to prevent the collective guidance from being implemented, despite the official June 7th effective date and start of transition period having already been reached.  It is the hope of some opponents that an injunction could buy time, and that a new administration in the White House might choose to nullify the guidance.

Regardless of the probability of success of these legal challenges, it seems this result was inevitable, if for no other reason than that this guidance has been accompanied by more controversy than the industry has seen in a very long time. 

The plaintiffs in the first lawsuit filed included a group of chambers of commerce and financial services industry groups, filing in a jurisdiction – the U.S. District Court for the Northern District of Texas – that is not particularly cozy with Washington, D.C., interests.  Whether this venue – a venue also chosen for at least one of the subsequent lawsuits – will translate to an injunction remains to be seen.  Even if this happens, it is certain that the DOL would file an appeal in an attempt to vacate the injunction.  Some speculate that the legal process could ultimately lead to the U.S. Supreme Court. 

The plaintiffs’ arguments for an injunction are numerous, and while similar in nature,  are not completely uniform from one lawsuit to another.  Collectively, they include – among other charges – DOL infringing on the authority of other federal and state agencies, doing financial harm to investors, violating the Federal Arbitration Act, violating the First Amendments freedom of speech, exposing financial advisors and their employers to litigation risk, and issuing a final rule with new conditions that allowed no opportunity for public review and comment. 

This last accusation is one that is thought to have a greater chance of swaying a court in favor of the plaintiffs.  There were, in fact, some important new provisions in the final rule that were not open to comment, if for no better reason than that no one knew of them before April’s release.  One of these was a sweeping definition of the “management” of securities.  Another was the loss of the prohibited transaction exemption for Indexed annuities.

 Another charge that might have some possibility of “sticking” is that DOL, despite their claims to the contrary, does not appear to have coordinated in a serious way with the Securities and Exchange Commission (SEC), an agency empowered by the Dodd-Frank Wall Street Reform Act to undertake such a regulations project as this.  DOL has released e-mails as evidence of some communication with SEC, but many feel these do not come close to the level of cooperation or coordination hoped for and expected.

More than one of the lawsuits charged that DOL was “arbitrary and capricious” in formulating its final regulation.  This may have merit from the standpoint that DOL could reject at will any of suggestions in the more than 3,500 comments it received on the regulations.  But the long history of these regulations – dating back to 2010 – and the multiple comment periods and public hearings, suggest a deliberate process rather than caprice.

To obtain an injunction, plaintiffs must generally demonstrate certain things.  For instance, convincing a court that the plaintiff’s case has merit and could potentially be won at trial.  Or, that failure to issue the injunction will result in injury to another party, such as retirement investors.  These may not be so easy to prove to a court’s satisfaction.

There is a history of federal agencies being given the benefit of the doubt in interpreting statutes and issuing regulations.  We have, however, seen cases in which the courts have overruled federal regulatory agencies, such as a U.S. Tax Court ruling that overrode a 30-year IRS interpretation of how many IRA rollovers a taxpayer is entitled to.  But the courts are inclined to defer to the interpretive judgment of federal agencies unless there is a compelling reason to do otherwise. 

Perhaps this is one of those compelling situations.

Legal actions like these motions for injunction end in a formal request for remedies.  Perhaps surprising in our generally secular society, the official name for this request for remedy is called a “prayer for relief.”  Perhaps that’s fitting, since both supporters and opponents are hoping for a little divine intervention for their side.  Whether, or how, that happens will ultimately be up to the courts.

Let’s Hope the Regulation is Worth It

I’m sure that “the regulation” needs little, if any, further definition. Just as “the drive” in Super Bowl annals will always be associated with John Elway and the Denver Broncos, “the regulation” is a good candidate to forever be associated with the Department of Labor and its fiduciary definition package of final regulations and exemptions.  This guidance has been that big.

Big, of course, can mean a couple of things.  In terms of length in its Federal Register-published version – or any version, for that matter – the guidance is certainly big.  It fills more printed pages than any other in my 31 years in the retirement industry.  In terms of its potential impact on the way advisors do business with retirement investors, it is certainly big.  While notably improved over the proposed regulations, the final regulations are likely to be just as demanding in terms of the analysis required to comprehend what it all means, and configure operations and administration in order to comply. 

These DOL regulations contain a Regulatory Impact Analysis that attempts to quantify in dollars-and-cents terms the effort – translated into cost – that will be required to comply.  Notably, the costs being accounted for – whether or not they are reasonably accurate – measure chiefly those costs incurred by individuals and organizations involved in the advising relationship.  The brokerage, the mutual fund company, insurance company, street corner bank or credit union, and their employees or affiliates, are theoretically taken into account in this assessment of effort and cost.

One expense we can find no evidence of being taken into account by DOL is the effort being expended by organizations that consult with, and counsel, financial organizations and advisors who must comply with the new rules.  Benefits consulting firms, including law firms whose practice specializes in retirement benefits, are included in this group. 

DOL might argue that their final regulations and exemptions are a boon to such businesses, and a revenue stream for the analysis and guidance that must be given to their clients.  If only that were true.  Certainly there are firms that work strictly on a billable-hours basis, and for them the changes may trickle down to a better bottom line.  But that is far from universally true.   My firm is a typical for-instance.  We serve qualified retirement plan recordkeeping clients, IRA, HSA and ESA custodians, trustees and issuers, and have many partners and clients that use a wide variety of our services and products that are tied to tax-favored savings.

Almost without exception, our service agreements include interpreting and sharing findings related to our clients’ compliance responsibilities.  Whether we inform them in web site postings, in articles written for industry media, create special webinars, or assist in strategizing changes to product offerings, we are “at their service.”  We don’t shrink from such responsibilities; such relationships are a privilege.  But such relationships do not yield windfalls, as some might believe.

Even a very superficial tallying of the “man hours” that have gone into analyzing this fiduciary guidance reveals that it has been a huge expenditure of time and talent for our staff to understand and share their meaning and impact.  We take pride in our ability to dissect and interpret, and to be an important compliance resource to our clients.  But when all is said and done, the cost of adapting to these regulations will be far greater than four pages of the April 8, 2016, Federal Register suggest.  We truly hope the benefits delivered to retirement investors will prove to be worth it.