Lawyer James Denison | Top Attorney Litigation

Financial Advisors & Wealth Managers

The New DOL Fiduciary Rule

The Fiduciary Rule Is Coming! The Fiduciary Rule Is Coming! … But When?

I originally wrote this when all the polls said Hillary Clinton was going to win, and so it was reasonable to expect that regulations implemented by the Obama administration would surely be carried forward unless they were invalidated by the courts. Today, the likelihood the Fiduciary Rule is going to stand has been questioned, in light of the actual election results. Donald Trump did not actually identify the Fiduciary Rule as an issue during his campaign, but it will be interesting to see if those he installs in his cabinet make an issue out of the Rule. As addressed below, even if the the Trump administration does not take on the Rule in the near term, certain of the lawsuits challenging the Rule made some valid points that might result in invalidating the Rule, if not in the immediate future in the lower courts, then in the appellate courts. 

The first court to rule on challenges to the Rule did so on November 4, 2016, in National Association for Fixed Annuities (NAFA) vs. Perez (Secretary of the DOL). Filed on June 2, 2016, the NAFA v. Perez plaintiff association asserted six arguments for invalidating the Fiduciary Rule. First, it contended that the Employee Retirement Income Security Act (ERISA), under which the Rule was enacted, was not intended to govern insurance agents, as opposed to plan advisors. The district court rejected that contention, finding that the new Rule’s definitions were, if anything, more consistent with Congress’s intent than the rules the DOL had been using to interpret ERISA for the past 25 years. Extending the law to insurance agents as well as plan advisors who rendered advice was within ERISA’s intent, according to the court. 

Next, NAFA argued that ERISA fiduciary rules can only cover employer retirement plans, not IRAs. The new Rule, NAFA pointed out, borrows from existing ERISA law expressly governing employer retirement plans only. Again the court rejected NAFA’s position. The court reasoned that there was nothing preventing the DOL from imposing the same fiduciary rules already governing employer plans on both employer plans and IRAs.

Third, NAFA took issue with the new regulatory scheme involving best interest contracts and exemptions (the “BICE” part of the Rule). In particular — and perhaps most significantly — NAFA argued that the creation of a new form of lawsuit claim exceeded the agency’s powers. Although buried in its pleadings as argument No. 3, this was probably NAFA’s best shot at invalidating the Rule. The court even acknowledged that private rights of action to enforce federal law must be created by Congress, not by federal agencies, and that ERISA did not include a private BICE claim. But the court still found that a private claim based on the BICE provisions would be OK. 

According to the court, the DOL would not offend ERISA if it dictated terms that financial institutions must include in their IRA contracts in order to qualify for a BICE exemption under ERISA. If that meant that IRA account holders would then have a contract claim they could assert in state court, so be it. The court reasoned that this state of affairs did not result in the creation of a new legal cause of action by the DOL.

NAFA's fourth argument was that the Rule’s requirement that financial advisors receive no more than “reasonable compensation” is so vague as to be unconstitutional. (Laws and regulations must always be sufficiently clear so not to violate due process. Otherwise, potential defendants have no way of knowing what is prohibited.) The court disagreed again. It noted, among other things, that challenges to the term “reasonable” on vagueness grounds have usually failed, and the term “reasonable compensation” has been used in other ERISA regulations for years. In fact, the definition of “reasonable compensation” under the new Rule cross-references the factors considered under the existing ERISA statute.

Fifth, NAFA argued that the DOL failed to follow proper notice procedures when it determined to include fixed indexed annuities (FIAs) in the BICE provisions of the Rule. As a result, NAFA claimed, NAFA and its members were not afforded an opportunity to comment on the switch to include FIAs in the final Rule. The court rejected this argument because the DOL had asked for comments on whether including variable annuities but excluding FIAs from the BICE provisions was advisable. The court found this was sufficient notice.

Finally, NAFA challenged the government’s analysis of the impact of the new Rule as inadequate. The court found that this challenge only required a finding that the DOL addressed all the relevant impacts, not that it reach a conclusion that the Rule was inadvisable in light of each of the costs versus benefits. The court therefore predictably rejected this argument as a basis for invalidating the Rule.

These rulings of the D.C. court hearing the NAFA challenge to the Rule do not end the legal battle, of course. NAFA will have an opportunity to appeal the decision to the D.C. Court of Appeals. The panel assigned to hear the appeal, through luck of the draw, can make all the difference in the world. (I know this from past experience litigating the type of Administrative Procedure Act issues NAFA raised. In one case, we had two panels, at two different stages of the proceedings, who came to diametrically opposite conclusions. The latter and final ruling fortunately was in our favor.)

Based on the present composition of the D.C. Circuit, I would expect the lower court’s ruling to be affirmed. If the right panel hears the case, however, the issue NAFA raised that is most likely to resonate is whether the DOL could create a new legal cause of action through the BICE provisions when, as the lower court acknowledged, Congress never authorized it. Given the odds against the case succeeding before the D.C. appeal judges, one has to assume that the reason NAFA chose the forum was with an eye toward obtaining review from the Supreme Court.

In the meantime, there are five other similar cases progressing through other courts in varying stages. The likelihood the Supreme Court would decide to review the NAFA case could depend on the outcomes of those other cases. If, for example, the courts in Texas reject the NAFA court’s analysis of whether BICE created a new, Congressionally unauthorized cause of action, the Supreme Court would have every reason to step in and resolve the split among the courts.

The first case pending in the Northern District of Texas, Chamber of Commerce of the United States et al. v. Perez, was actually filed the day before the NAFA case. The Chamber plaintiffs, like the NAFA plaintiffs, argued that the DOL’s BICE regulatory scheme impermissibly created a Congressionally unauthorized cause of action through the back door. The Chamber plaintiffs bolstered this argument with a more extensive consideration of whether the Rule also runs afoul of the Federal Arbitration Act by dictating that BICE agreements must not include class action waivers. The Chamber plaintiffs also contended that Congress already has legislated the rules that should apply in this area, in the Dodd-Frank Act and other securities laws that have been left to the SEC to interpret, not the DOL.

Other of the Chamber plaintiffs’ arguments include criticisms of the DOL’s costs and benefits analysis, its reliance on studies that were not made available for public comment during the rule-making process, and the burdens imposed on commercial speech allegedly in violation of the First Amendment. 

Cross-motions for summary judgment are scheduled to be heard on November 17, 2016. The judge hearing the case, Hon. Barbara M.G. Lynn, is a Bill Clinton appointee. She has not been called upon to determine challenges to agency regulations or conduct often, outside of mostly inmate cases in which she has generally sided with the Bureau of Prisons. In ERISA cases, she has issued some fairly pro-plaintiff decisions. Given that the Chamber plaintiffs are asking Judge Lynn to override the head of the Department of Labor and prevent anyone from enforcing the Rule until the Texas case runs its course, I think it is most likely that she will fall in line with the D.C. district judge and uphold the Rule.

American Council of Life Insurers (ACLI) et al. v. Perez was filed in the Northern District of Texas a few days after the NAFA and Chamber cases, on June 8, 2016. It raised mostly the same arguments as the plaintiffs had in the earlier cases, with some greater emphasis on the costs and benefits the plaintiff contended the DOL failed to take sufficiently into account. It was consolidated with the other Texas case. The ACLI plaintiffs’ motion for summary judgment, like the Chamber plaintiffs’ motion, is scheduled to be heard on November 17, 2016.

Indexed Annuity Leadership Council (IALC) v. Perez et al. was also filed on June 8, 2016, in the Northern District of Texas court. The IALC case was consolidated with the other two Texas cases. The plaintiffs’ arguments largely echo those in the ACLI case. The IALC plaintiffs’ motion for summary judgment is also scheduled to be heard November 17, 2016.

Market Synergy Group v. DOL, Perez was filed on the same day as the ACLI and IALC suits, but in a Kansas federal court. Market Synergy, like the plaintiffs that preceded it in other courts, contends that the DOL (i) failed to give sufficient notice of the treatment of fixed rate annuities under the final Rule and (ii) failed to adequately consider the costs and benefits of the Rule. Unlike the D.C. and Texas cases, in which motions to end the cases were filed, Market Synergy instead filed a motion for “preliminary injunction.” In essence, Market Synergy seeks to maintain the status quo and delay implementation of the Rule until the case runs its course. The judge, Hon. Daniel D. Crabtree, is an Obama appointee with a background in representing government entities. Given that the Market Synergy plaintiffs omitted the more persuasive arguments other industry plaintiffs have pursued, it would be surprising if Judge Crabtree ruled in their favor even regarding the more modest relief Market Synergy is seeking.

Thrivent Financial for Lutherans v. Perez was the most recent case to be filed, in a Minnesota federal court on September 29, 2016. Thrivent filed a motion for summary judgment on November 4, 2016, to be heard on March 3, 2017. Thrivent’s sole argument is that the Fiduciary Rule’s BICE-mandated contract terms violate the Federal Arbitration Act. Thrivent is not seeking to prevent implementation of the Rule in its entirety. It only seeks to have the BICE provisions that dictate arbitration terms and prohibit class action waivers from taking effect. The judge hearing the case, Hon. Susan Richard Nelson, is an Obama appointee. Although Thrivent raises an important issue that it may be difficult for the DOL to reconcile, I would expect that if the BICE arbitration requirements of the Rule are rejected by a court, it will be by a panel of the Eighth Circuit Court of Appeal, not by the district court in March.

The takeaway: The likelihood is not great that any of the six lawsuits attempting to derail the Fiduciary Rule achieve their objectives in the near term. If any of the cases are to succeed, it would likely depend on a panel of the Fifth or Eighth Circuits. Until the new administration or Congress steps in and overrides the Rule, financial advisers and brokers will be unable to determine whether they can put off efforts to comply with the new Rule in the hopes that the Rule may ultimately be invalidated.

James Denison