FINRA’S Reminder About Rollovers: News to Many
By Fred Reish, Bruce Ashton, Mark Costley and Joan Neri
A number of government and regulatory agencies—the Government Accountability Office (the GAO), the Department of Labor (the DOL) and, most recently, the Securities and Exchange Commission (the SEC), and the Financial Industry Regulatory Authority (FINRA) –have focused on the practices surrounding 401(k) rollovers to IRAs. Driven by a concern for aging baby boomers and their retirement needs, regulators believe that industry practices encourage retirees to make rollovers without a full understanding of their options and the relative costs for each option.
This article explores FINRA’s guidance for broker-dealers and their registered representatives and the potential implications for registered investment advisers (RIAs). Couched as a “reminder,” FINRA’s year-end Regulatory Notice 13-45 describes practices that many broker-dealers and their registered representatives will find difficult to implement. Yet, there are steps broker-dealers and their registered representatives can and should take to address FINRA’s concerns. As discussed below, broker-dealers should use the information detailed by FINRA in its Regulatory Notice to develop procedures and documents specific to the broker-dealer’s business model. One example is an educational brochure for participants about their distribution options. Other possibilities are discussed in this bulletin. Broker-dealers may need to develop supervisory procedures related to these materials as well. RIAs should also consider taking similar steps because FINRA’s suitability factors may be viewed as part of the prudent process required of an ERISA fiduciary.
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Rollover Practices – An Exam Priority for SEC and FINRA
These examination priorities were likely influenced by the GAO’s recent report on participant rollover practices which focused on the lack of complete information and on misinformation provided to participants. Coupled with the expectation that the DOL will expand its guidance on “capturing” rollovers in its re-proposed fiduciary regulation, it is now clear that rollover practices are the subject of increased scrutiny by regulators.
In Regulatory Notice 13-23, FINRA turned its attention to the marketing of IRA services, stating that marketing communications must be fair and balanced and not mislead. For example, marketing materials cannot indicate an IRA is “free” when account fees will be incurred.
The recently issued Regulatory Notice 13-45 “reminds” broker-dealer firms of their responsibilities for suitable recommendations about distributions and rollovers.
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Leave the money in the current plan.
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Transfer the money to a new employer’s plan.
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Rollover to an IRA.
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Take a taxable distribution.
FINRA indicates that the broker-dealer’s recommendation should take into account factors relevant to each of the four options and consider the importance of the factors in the context of the participant’s needs and circumstances. FINRA then lists seven factors which should be considered, noting that the list is not exhaustive:
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Investment Options. While IRAs may offer a broader range of investment options than retirement plans, FINRA points out, by way of example, that this advantage should be balanced against the often lower-cost investments available through the employer plan.
Comment: Although not specifically highlighted by FINRA, other considerations may be the availability of retirement income products – in or out of the plan – and whether the plan offers a self-directed brokerage account.
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Fees and Expenses. FINRA describes the full range of expenses that should be considered: plan administrative fees and IRA account fees, investment-related expenses (such as mutual fund expenses) and fees for services (e.g., access to services and advice). FINRA also points out that consideration should be given to whether the employer pays for some or all of the plan’s administrative expenses.
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Services. The services available under the plan – investment advice, educational materials, workshops, etc. – need to be considered and evaluated against the services offered under the IRA – brokerage services, person-to-person advice, distribution planning, etc.
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Penalty-Free Withdrawals. FINRA notes that the participant may be able to take a penalty-free withdrawal under his retirement plan at an earlier age than under the IRA – age 55 vs. age 59½ – or may be able to take a plan loan, which is not available in the IRA.
Comment: Evaluation of some of these factors – loan availability, withdrawals – requires knowledge of the terms of the current plan (and, probably, the new employer’s plan). |
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Required Minimum Distributions. The plan may allow the participant to take a required minimum distribution later than age 70½ if he is still working. FINRA observes that this is not allowed in a non-Roth IRA.
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Protection from Creditors and Legal Judgments. FINRA also points out that plan assets have greater protection from creditors under federal law than IRAs. However, in some states, IRAs receive similar protection.
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Employer Stock. If the participant’s plan account includes employer stock that has appreciated in value, then the negative tax consequences of rolling over that stock to an IRA should be considered. On the other hand, the risks of holding too much employer stock in a retirement account should also be taken into account.
Comment: The guidance lists these points as factors that broker-dealers and their registered representatives must consider and evaluate to determine whether a recommendation to take a distribution and rollover is suitable. In practice, broker-dealer firms and their representatives will have a difficult time obtaining this information. Evaluation of these factors may require additional training for registered representatives. |
Shortly after issuance of the Notice, FINRA published an investor alert – The IRA Rollover: 10 Tips to Making a Sound Decision” (the FINRA Tips). The FINRA Tips discuss these factors, as well as other issues, that should be considered by the participant. These include the tax implications of rolling into a Roth IRA or traditional IRA and taking a direct rollover as compared to an indirect rollover (i.e., a plan distribution that is rolled over into an IRA within 60 days). The FINRA Tips also point out that participants should be wary of IRA advertisements and that participants need to consider the inherent conflict of interest that exists when an advisor has a financial incentive to recommend a rollover.
B. The Implementation of the Rollover
Once the participant has decided to take a distribution and make a rollover, the implementation of that decision - that is, the investment of rollover money in an IRA - is also subject to the suitability rule. FINRA reminds broker-dealers and their registered representatives that they must consider:
Another suggestion is to have participants sign acknowledgements as part of the IRA account opening procedures. The acknowledgement would cover a number of points, including that the participant received the educational pamphlet and considered the information in making its decision. Some broker-dealers may have a business model that supports evaluation of the seven plus factors. In that case, the broker-dealer should consider developing a checklist for supporting recommendations. We have developed drafts of the educational and checklist materials. Broker-dealers should implement supervisory procedures that are consistent with these materials and procedures.
How Does this Impact RIAs
The material contained in this communication is informational, general in nature and does not constitute legal advice. The material contained in this communication should not be relied upon or used without consulting a lawyer to consider your specific circumstances. This communication was published on the date specified and may not include any changes in the topics, laws, rules or regulations covered. Receipt of this communication does not establish an attorney-client relationship. In some jurisdictions, this communication may be considered attorney advertising.