At CLS we strongly believe advisors and investors benefit from transitioning from a commission-based transactional approach to a fee-based model, which utilizes an active money manager. This article will examine how transitioning to a fee-based model is impacted by the DOL’s new fiduciary rule (the “Fiduciary Rule”).
Under ERISA and the Fiduciary Rule, converting from a commission-based transactional approach to a fee-based model is considered a conflict of interest if the transition results in increased compensation to the advisor. As a result, what is required to convert IRAs and other retirement-based accounts will vary at certain times between now and January 1, 2018. The chart below summarizes what will be required over certain time periods.
| Before April 10, 2017 | Between April 10, 2017 and January 1, 2018 | After January 1, 2018 | |
| Decision to convert held to ERISA Best Interest Standard | No | Yes | Yes |
| Best Interest Contract (BIC) Exemption Disclosures Must be Delivered | No | No | Yes |
Under the Fiduciary Rule, accounts enrolled in fee-based management are considered “level fee” and as a result, the advisor on the account is not considered to have a conflict under ERISA. (A “level fee” account is one in which the advisor receives the same fee regardless of how the client is invested or which investment vehicles are utilized.) Since level fee advisors do not have a conflict under ERISA, accounts enrolled in fee-based management will not need to comply with the BIC Exemption. As a result, accounts enrolled in fee-based management prior to April 10, 2017 will not be impacted by the DOL’s new Fiduciary Rule.
Advisors converting an ERISA covered account from a commission-based transactional approach to a fee-based model after April 10, 2017, will be held to the best interest standard under ERISA with respect to this conversion. While we believe switching to a fee-based model is in the best interest of investors and consistent with advisors’ fiduciary duty, being held to the fiduciary standard under ERISA means additional responsibilities and potential liability. Adhering to the ERISA best interest standard has several compliance requirements, including that the transition to a fee-based account must satisfy the best interest standard of care and the advisor may receive only “reasonable compensation.” If the advisory fees are increasing as part of this transition, the additional services must justify the increased advisory fee, especially if the advisor has just received an up-front sales commission from the investor’s securities. To help satisfy these requirements, converting to a fee-based model and adding an active money manager, such as CLS, who tailors investor portfolios to their investment objectives and risk tolerance can help satisfy these documentation requirements.
Finally, if advisors wait until January 1, 2018, they will need to comply with the BIC Exemption disclosure requirements when making this transition. To comply with the BIC Exemption, among other things, the advisor must document in writing the services that will be provided for the fee and why the transition is in the best interest of the investor. This means documenting the services that are currently being provided and the additional services that will be provided under the fee-based model. For additional information on what is required under the BIC Exemption, please see our white paper on the Fiduciary Rule.
If you’re interested in converting existing accounts to fee-based management, contact us today to discuss how CLS can support you with this transition.