Feb 2012 Fiduciary Considerations For Insured Retirement Income[1]
DBR May 2012 408(B)(2)Regulation Impacton Broker Dealers[1]
1. Client Bulletin
May 2012
The Final 408(b)(2) Regulation:
Impact on Broker-Dealers
By Fred Reish, Bruce Ashton and Summer Conley
This is the third in our series of bulletins on the impact of the Department of Labor (DOL)
Final Regulation on service provider disclosures under ERISA Section 408(b)(2). In our
Alert released on February 3, 2012 [http://www.drinkerbiddle.com/DOLreleasesfinal-
408b2regulation], we described the major changes between the Final Regulation and the
Interim Final Regulation issued in July 2010. In our bulletin released on May 10, 2012
[http://www.drinkerbiddle.com/final408b2impactoninvestmentmanagers], we described
the impact of the changes on investment managers. In this bulletin, we discuss the
impact of those changes on broker-dealers. (For background purposes, you can refer to
our Alert describing the impact of the Interim Final Regulation on broker-dealers which is
available at http://www.drinkerbiddle.com/interimfinal408b2impactonbrokerdealers.)
Key Considerations for Broker-Dealers:
>> The compliance date is extended from April 1, 2012, to July 1, 2012.
>> The indirect compensation disclosure must include a description of the “arrangement” pursuant to
which the broker-dealer (or an affiliate or subcontractor) will receive indirect compensation.
>> The preamble provides for simplified compensation disclosures for Broker-Dealers as long as the
responsible plan fiduciary has sufficient information to determine the reasonableness of the broker-
dealer’s compensation. Broker-dealers may also use estimates and/or a reasonable range to disclose
compensation.
>> “Trailing” payments received after the completion of services are still received “in connection with”
those services, thus requiring disclosures.
>> The DOL clarified that insurance brokers and agents selling pension plan arrangements are covered
service providers if they receive indirect compensation.
1. Effective Date. The DOL extended the compliance effective date of the Final
Regulation from April 1 to July 1, 2012. This extension may be particularly
useful to broker-dealers who are still working on an effective disclosure strategy
and need the additional time to comply.
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2. The Final 408(b)(2) Regulation: Impact on Broker-Dealers May 2012
2. Indirect Compensation. Under the Interim Final Regulation, broker-dealers
have been struggling with how to disclose their indirect compensation (as
well as the services, payer and calculation for such compensation). The new
requirement to describe the “arrangement” with the payer that gives rise to
the indirect compensation will create an additional hurdle for broker-dealers.
Some arrangements, such as the receipt of 12b-1 fees, may be relatively easy
to describe. However, there are many different arrangements pursuant to
which broker-dealers receive compensation that may prove more difficult. In
the preamble, the DOL described a scenario in which financial institutions
subsidizing the cost of attendance at a conference must be disclosed as
an arrangement pursuant to which the service provider receives indirect
compensation. In the example, the subsidy related to the provider’s clients and
hence was compensatory. While not addressed in the preamble, if the subsidy
does not relate to the provider’s clients, it is arguably not compensatory and not
indirect compensation. Broker-dealers will need to carefully examine these types
of arrangements to determine whether disclosure is necessary.
3. Simplified Compensation Disclosures. While parts of the final regulation (such as
the requirement to describe indirect compensation arrangements) have added
complication for broker-dealers, the DOL has provided some relief to these firms.
In the preamble, for example, the DOL noted that broker-dealers may not be able
to identify the payer of indirect compensation in advance of the arrangement
because the investments have not been purchased. This is frequently the case
with stock brokerage accounts. To address this issue, the DOL noted that
indirect compensation descriptions “may be expressed in general terms” and
if information is unknown when disclosures are made, “the description need
not identify the specific payer in advance of the service arrangement.” While
this is helpful to broker-dealers struggling with disclosures, it is limited by
DOL caveats - although general terms may be used, the disclosure must still be
“sufficient to permit a responsible plan fiduciary to evaluate the reasonableness
of such compensation in advance of the service arrangement.” Based on the
DOL’s discussions in the preamble, we are helping broker-dealers navigate how
to make disclosures in general terms (e.g., provide a schedule of transactions
and a list of who pays revenue sharing to the broker-dealer), while still providing
sufficient information for responsible plan fiduciaries to evaluate reasonableness
of the total compensation.
Further, the simplification of what must be provided in advance of an
arrangement when the broker-dealer does not know what will be purchased
raises a question as to whether a change notice will be required. The DOL
addresses only the initial notice, leaving open whether the broker-dealer must
provide a change notice when the plan actually purchases an investment. This
raises a critical issue for broker-dealers that requires guidance from the DOL. We
have commented on this issue to the DOL and hope it will be addressed when
the DOL issues the additional guidance that has been promised.
The DOL also provided relief to broker-dealers in the form of addressing
compensation ranges. In the preamble, the DOL noted that disclosing “known”
and “reasonable” ranges under the circumstances could be a reasonable
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3. The Final 408(b)(2) Regulation: Impact on Broker-Dealers May 2012
form of disclosure. We caution broker-dealers to think carefully about what
range to disclose. Disclosing compensation in the range of 0 to 100 basis
points strikes us as not being reasonable – it is unlikely that a broker-dealer is
providing services for 0 basis points. Additionally, if the range is too broad, it
may be difficult for a responsible plan fiduciary to evaluate the broker-dealer’s
compensation. Finally, the DOL refers to “known” ranges, indicating that each
end of the range must be a real amount the broker-dealer may receive.
In addressing whether information can be provided electronically, the DOL noted
that this can be done (e.g., on a website), but noted that the information must
be “readily accessible” and that fiduciaries must be given “clear notification on
how to gain such access.” Thus, broker-dealers making disclosures on websites
will want to make sure they are clearly informing fiduciaries that information is
available electronically and how to access the information.
Thus, while the DOL has softened the disclosure requirements for broker-dealers
somewhat, they must be careful they do not take the DOL’s leniency too far and
fail to provide sufficient information. It is a fine line that broker-dealers should
discuss with legal counsel.
4. Stock Brokerage Accounts. In addition to presenting compensation disclosure
issues, self directed brokerage accounts present questions for broker-dealers
with respect to the recipient of the disclosures. When plan fiduciaries decide to
offer a brokerage account through a specific broker-dealer, the plan fiduciaries
are “responsible” for the selection and should receive the disclosures. However,
when a participant decides to use the broker-dealer, then the participant
becomes the decision-maker about whether and how to use the stock brokerage
account. This raises a question as to whether the plan fiduciaries or the
participant or both are the “responsible plan fiduciaries.” This is another critical
issue that remains unanswered and on which we have commented to the DOL.
Comments for fi360 Regarding Broker-Dealers:
The DOL’s recently issued Field Assistance Bulletin with FAQs on issues related
to the participant disclosure requirements also contains information about
brokerage accounts. For further information, see the article in our ERISA
Newsletter for Retirement Service Providers (which will be distributed shortly
after this bulletin).
5. Trailing Payments. In a footnote to the preamble, the DOL discussed how
to determine whether the $1,000 threshold for a covered service provider is
satisfied, noting that the question is whether the compensation is received “in
connection with” the contracted services rather than when the compensation is
received. Specifically, the DOL noted that “[s]ome compensation, for example,
trailing commissions, may be received after the services have been furnished,
but still be ‘in connection with’ those services.” This may raise an issue for
broker-dealers in determining to whom disclosures should be made. For
example, often a broker-dealer will have so called “orphan accounts” with respect
to which the firm receives trailing payments after the plan’s representative has
gone elsewhere. Broker-dealers are struggling with making disclosures to the
fiduciaries of these plans. Further, as the $1,000 threshold is measured over
the life of the arrangement, counting such ongoing payments makes it more
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4. The Final 408(b)(2) Regulation: Impact on Broker-Dealers May 2012
likely that a broker-dealer will reach that threshold and will be a covered service
provider. Broker-dealers will need to carefully review all of their arrangements so
plans with these trail payments do not slip through the cracks.
6. Insurance Brokerage. In a footnote to the preamble, the DOL addressed a
comment regarding insurance brokerage services provided to qualified plans.
When these insurance brokers receive indirect compensation (which most
do), they fall into the “catch-all” category of covered service providers. (While
the footnote refers to insurance brokerage services, in the past the DOL has
combined insurance brokers and agents, and we assume they intend to do
so here.) Our understanding is that many insurance companies have not
contemplated that agents may be covered service providers. Those insurance
Comments for fi360:
companies will need to move quickly to make the necessary disclosures.
7. Asset Allocation Models. As described in our bulletin [http://www.drinkerbiddle.
com/final408b2impactonrias] regarding registered investment advisers, the
preamble’s discussion of, and the DOL’s informal position regarding, designated
investment alternatives may complicate matters for broker-dealers. If an
asset allocation model is a designated investment alternative, broker-dealers
(and recordkeepers) must provide responsible plan fiduciaries with expense
information as well as information the broker-dealer has, or can reasonably
attain, that is necessary for the participant disclosures. In recent guidance
regarding participant disclosures, the DOL addressed when asset allocation
models will be considered designated investment alternatives. Specifically, the
DOL clarified that if the model is just a vehicle for allocating among a plan’s
designated investment alternatives (and satisfies other conditions), the model is
not itself a designated investment alternative. On the other hand, if the model
is an entity in which participants invest that then invests in the other designated
investment alternatives offered by the plan, then the model itself is also a
designated investment alternative. While this guidance will help broker-dealers
determine what models require the additional disclosure information, broker-
dealers are still struggling with actually gathering the information and many will
be relying upon recordkeepers for making such disclosures.
8. Timing for Initial Disclosures. The Regulation requires that disclosures be
provided to the responsible plan fiduciary “reasonably in advance of the date
the contract or arrangement is entered into, and extended or renewed.” The
Department elected not to provide clarification as to when a contract or
arrangement begins. This is of particular concern for broker-dealers because
broker-dealers are often gathering information and presenting options to plan
fiduciaries before a formal agreement is executed. Clearly the information
should be disclosed before the plan is obligated to pay any compensation to
the broker-dealer. However, it is due before the arrangement is entered into,
which suggests it may be due before the responsible plan fiduciary selects an
investment. Broker-dealers must carefully consider when an arrangement begins
and educate representatives so they understand the importance of providing
disclosures in advance of the arrangement.
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5. The Final 408(b)(2) Regulation: Impact on Broker-Dealers May 2012
9. Guide. The Regulation provides a sample guide that can be used by covered
service providers to facilitate the disclosure process. While the guide is not
required at this time, the DOL will be issuing proposed regulations addressing
a guide requirement in the future. For broker-dealers who will be making
disclosures by cross-referencing multiple documents, the guide requirement
will likely be prospective and only require adjustments to future disclosures
sometime after the July 1, 2012, effective date.
10. Additional Guidance. As mentioned above, the DOL recently issued guidance
regarding the participant disclosure requirements in the form of frequently
asked questions and answers. We expect that the DOL will publish answers to
frequently asked 408b-2 questions in the next few weeks.
The Final Regulation provides some relief for broker-dealers in the form of relaxing
the compensation disclosures to permit estimates, general descriptions, and ranges.
Nevertheless, the relief is limited by the notion that the disclosures must still be
sufficient for responsible plan fiduciaries to evaluate the broker-dealer. Preparing the
compensation disclosures for broker-dealers will require significant time and effort.
Thus, we recommend that broker-dealers who have not started the process of preparing
disclosures do so quickly.
News & Notes
Upcoming Events:
Fred Reish, Partner, Employee Benefits & Executive Compensation (EBEC) Practice, Bruce
Ashton, Partner and Brad Campbell, Counsel, will be presenting at Insured Retirement Institute
(IRI) 2012 Government, Legal & Regulatory Conference in Washington DC on June 26th. Fred will
Comments forand DOL Fiduciary Initiatives”; Bruce will present on “Product Developments: Legal
speak on “SEC fi360:
and Regulatory Challenge”; and Brad will provide a “DOL Fiduciary Update.”
Bruce Ashton, Partner, Employee Benefits & Executive Compensation Practice, will be testifying
before the ERISA Advisory Council on June 13th on retirement income issues.
Summer Conley, Counsel, Employee Benefits & Executive Compensation Practice will be
presenting at the ISCEBS June meeting on June 6th at the Los Angeles Athletic Club. Her presentation
will cover the new disclosure rules for retirement plans which will be effective July 1, 2012.
Upcoming Publication:
ERISA Newsletter for Retirement Service Providers
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![Client Bulletin
May 2012
The Final 408(b)(2) Regulation:
Impact on Broker-Dealers
By Fred Reish, Bruce Ashton and Summer Conley
This is the third in our series of bulletins on the impact of the Department of Labor (DOL)
Final Regulation on service provider disclosures under ERISA Section 408(b)(2). In our
Alert released on February 3, 2012 [http://www.drinkerbiddle.com/DOLreleasesfinal-
408b2regulation], we described the major changes between the Final Regulation and the
Interim Final Regulation issued in July 2010. In our bulletin released on May 10, 2012
[http://www.drinkerbiddle.com/final408b2impactoninvestmentmanagers], we described
the impact of the changes on investment managers. In this bulletin, we discuss the
impact of those changes on broker-dealers. (For background purposes, you can refer to
our Alert describing the impact of the Interim Final Regulation on broker-dealers which is
available at http://www.drinkerbiddle.com/interimfinal408b2impactonbrokerdealers.)
Key Considerations for Broker-Dealers:
>> The compliance date is extended from April 1, 2012, to July 1, 2012.
>> The indirect compensation disclosure must include a description of the “arrangement” pursuant to
which the broker-dealer (or an affiliate or subcontractor) will receive indirect compensation.
>> The preamble provides for simplified compensation disclosures for Broker-Dealers as long as the
responsible plan fiduciary has sufficient information to determine the reasonableness of the broker-
dealer’s compensation. Broker-dealers may also use estimates and/or a reasonable range to disclose
compensation.
>> “Trailing” payments received after the completion of services are still received “in connection with”
those services, thus requiring disclosures.
>> The DOL clarified that insurance brokers and agents selling pension plan arrangements are covered
service providers if they receive indirect compensation.
1. Effective Date. The DOL extended the compliance effective date of the Final
Regulation from April 1 to July 1, 2012. This extension may be particularly
useful to broker-dealers who are still working on an effective disclosure strategy
and need the additional time to comply.
www.drinkerbiddle.com](https://image.slidesharecdn.com/dbrmay2012408b2regulationimpactonbrokerdealers1-13390231650115-phpapp02-120606175434-phpapp02/85/dbr-may-2012-408b2regulation-impacton-broker-dealers1-1-320.jpg)
