August 11, 2016

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In the best interest of - Department of labor fiduciary rule

The proposal of Department of Labor (DOL) the definition of Fiduciary under the Employee Retirement Income Security Act (ERISA) will have significant impact to the advice landscape around 401K and will have great effect for retail distribution channels generally when it comes to effect in April 2017

The advisors who typically represent an Insurer advise customers on number of things like investments, retirement plans, education plans etc. At times, the advisors can direct the advice towards unnecessary products and investments that yield more commissions to the advisors.

The DoL wants to expand the definition of the word Fiduciary with a good intent of serving the best interest of the customer to include a broader range of financial advisors such as Insurance agents and others.

Though the impact of this rule are many I have only highlighted few expected concerns and ambiguity as a result of implementing the extended definition.

Impact

  1. The new mandate by DoL will require a move from commission based system to fee-based system and many middle and low income group customers would not want to pay a fee upfront for the financial advice . This in fact may discourage customers from saving for future
  2. Need for a system with in detail product info and regular updates: So far the advisors advised customer based on their knowledge and experience but with the need to offer what is in the best interest of the customer, the advisor needs to know a lot more – more products and more details about each product so that he/she can evaluate what is best for customer. Also, the products available in market change rapidly and there will be a need for a system to provide this info with regular updates
  3. Timing is crucial:
    • The definition of “in the best interest of customer” is ambiguous as the product advice given at 10 am will be different from what can be given at 4 pm as market place is constantly changing .
    • Advisor would have advised customer and customer may take a week to decide. By the time this happens the product that would service best interest of the customer would also have changed in the market place
  4. Since there is a shift from commission based to fee based. The insurer will have to change its business model to offer advise/business only to customers who can afford it
  5. Redesigning products that includes serving the best interest of the customer: The insurer also offers other financial products, it now needs to re-evaluate in context to this change. Since the demographics of the customers change, the suite of products will also need to change
  6. Since migration from commission based to fee based, a new compensation structure needs to be in place to motivate advisors
  7. What happens to the in the best interest of the customer if he/she wants to rollover to other plans like IRA
  8. Agreement needs to be signed with Customer before the advice can begin. The advice advisor provides to the customer will have to be documented irrespective of whether or not the customer agrees

Well with these impacts and concerns the FI will have to figure out how to retool their systems, their compliance, their structure, their business model etc. and it will be interesting to see how the financial institutions fit the new fiduciary landscape