The Fiduciary Rules go into effect April 10, 2017 and must be fully operational by January 1, 2018. These applicability dates set the timelines for decisions, preparation and implementation of alternatives to comply with these regulations.
The Conflict of Interest Rules (“COIR”) replace the 1975 definition of what constitutes a fiduciary for ERISA plans and IRAs. The effect of COIR is to transform currently permitted practices into prohibited fiduciary acts.
Institutions and individuals must cease these prohibited fiduciary acts or use an exemption to legitimize these activities.
The Chosen Exemption
Among the exemptions is the provision in the 2006 Pension Protection Act that exempts advice delivery by a certified computer model from prohibited conflicts of interest (408(g)). The use of 408(g) has certain advantages when business circumstances permit its use and the requirements are achievable. Advantages can include:
Overcome conflicts of interest and differential compensation from related businesses
A superior solution for investors
Lower risk for the fiduciary
Lower cost to implement, operate and to maintain
Shorter time to market
Scalable to handle high volumes
Flexibility to make changes and adapt to new investment types and practices
Under 408(g) Computer Models can only be certified by an eligible investment expert, with the appropriate technical training or experience and proficiency to analyze, determine and certify, in a manner consistent with the regulation. DALBAR has met these qualifications and has been performing certifications since the inception of the regulation in 2009.
AREAS EXAMINED DURING CERTIFICATION
The certification attests to five dimensions:
- Regulatory Compliance
- Capabilities, strengths and weaknesses
- Consistency with offers and agreements
- Reasonableness and cost
In addition to compliance with securities laws the computer model may be certified as compliant with regulations as they apply to:
Managed account QDIAs
Capabilities are evaluated in three areas:
Discovery… information gathered about the client and defaults used when information is not available
Interpretation… how client information is applied
Investments… universe of investments available
Participation in up markets
Capital preservation in down markets
Consistency of communication and model results:
Contracts, descriptions, brochures and other materials
Appropriateness for audience and expected knowledge to meet the requirement: “Calculated to be understood”
Tests run with multiple scenarios
Reasonableness is an overall evaluation of all observations taken together in relation to the cost to users of the mode
REQUIRED STEPS FOR CERTIFICATION
Application with attachments received in good order
Review materials for disqualifiers and terminate engagement if uncorrectable
Determine and request any additional materials
Investment Theory Evaluation
Determine if exception procedures will be required
Examine samples in up and down markets Cost Evaluation
Determine if direct and indirect cost to the client is reasonable
Review items specifically suggested by DoL
Test models and communication for consistency
Review any exceptions or deficiencies and determine if resolution is feasible
Issue certification, good for one year from date of issue
SERVICES AVAILABLE TO ENHANCE USE OF CERTIFIED COMPUTER MODEL
DALBAR offers a number of services to enhance the utility of the computer model and the effects of the Fiduciary Rule on the use of the model as an alternative to the Best Interest Contract Exemption. These services are separately purchased and are not included in the certification.
Current implementations of the computer model are examined for possible violations of the new Conflict of Interest Rules, Areas of concentration include handling of rollovers and potentially conflicting exemption requirements.
DALBAR will perform a subset of the certification process before changes are made to comply with 408(g). In this way, findings from the pre-certification can be incorporated add to or reduce the changes being made. The cost of pre-certification lowers the cost of the actual certification.
The usability is based on criteria for a particular target audience. The access to, use of, exception conditions and the follow through are evaluated.
Contact Center Monitoring
Contact center representatives who use the certified computer model must comply with the requirements of 408(g). The contact center monitoring adds a level of oversight of the required practices and is evidence of “best efforts” in the event of a failure to comply or litigation.
Consulting engagements may cover planning, diagnosis, cost/benefits, research and other services that utilize DALBAR’s expertise, knowledge of the market, practices and regulations.
Cory Clark (617) 624-7156