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New Rules for IRA Financial Advisors

By Blair Rugh 9 Nov 2016

On April 8, 2016, the Department of Labor issued new regulations under the Employee Retirement Income Security Act (ERISA) expanding the obligations of persons who are financial advisors to an Individual Retirement Account (IRA) and providing the owners of those accounts additional protections from advisors who have a conflict of interest in the advice that they are providing. Most of the provisions of the new rules take effect April 10, 2017.

Because the new rules were issued by the Department of Labor, they went unnoticed in many quarters. Recently, however, we have had several calls from community banks inquiring about how they might be impacted.

The heart of the new rules is the expanded definition of "financial advisor". Fundamentally, a person or organization is a financial advisor if it provides any type of investment advice, either directly or indirectly, to the beneficiary of an IRA for a fee or other compensation. Investment advice is defined as broadly as possible. It includes advice on whether or not to purchase, sell or hold an investment, portfolio management and diversification, IRA distributions and so forth. If a person is providing a service to an IRA and has a question about whether that service constitutes investment advice, it probably does. The purpose of the Department of Labor was to expand the definition as much as possible.

There are two steps to being a financial advisor. The first is to provide some form of investment advice. The second is the receipt of some form of compensation for doing so. The good news is that most community banks whose only relationship with IRA accounts is offering an IRA relationship for the purchase of certificates of deposit are not affected. First, offering a variety of time deposits or other deposit accounts that can be purchased in an IRA relationship is not the provision of investment advice. Second, the financial institution offering the accounts is receiving no fee or compensation for doing so. Hopefully the account will be profitable to the institution, but that is a different issue. On the other hand, if the bank has a trust department that administers IRA accounts, then as to those accounts the trust department and thereby the bank is probably a financial advisor. First, the trust department receives a fee for its services. Second, even if it is a self-directed IRA the trust department is probably providing some form of investment advice.

The principal obligation of a financial advisor is to provide advice that is in the best interest of the customer. It is principally directed at instances where the advisor has a conflict of interest, which is where the advisor is receiving additional compensation or fees if the IRA invests in a certain investment. It also has aspects of the National Association of Securities Dealers rules on the suitability of investments. That rule requires that investments be suitable to the investment profile of the customer. For example, it would not be suitable to sell an elderly person with limited means a highly speculative security, nor would it be suitable to sell a tax advantaged investment to a person who does not pay income taxes. There is an exception to the conflict of interest rules known as the "Best Interest Contract Exemption". If there is a conflict of interest, and that is revealed to the customer and the investment is still in the best interest of the customer, then it is allowed.

Financial institutions who are subject to the new rules should contact their attorney to obtain a complete understanding of the new rules.

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