October 3, 2011 / 4:41 PM / 8 years ago

Brokerages may have to change business practices: DOL

(Reuters) - The Labor Department wants to change the way some financial advisers are paid for giving IRA advice, even if it means brokerages will have to alter longstanding business practices, a Labor Department official said.

A proposal that will likely include IRA advice under a definition of fiduciary, could also take aim at revenue sharing, according to Phyllis Borzi, assistant secretary of the Labor Department’s Employee Benefits Security Administration.

The proposal, expected in early 2012, will revise an earlier version the Labor Department withdrew on Sept 19 that would have included IRA advice in a definition of fiduciary under the Employee Retirement Income Securities Act, known as ERISA. The 1974 law set standards for employer-sponsored retirement plans and authorized creation of IRAs as a savings vehicle.

Revenue sharing, or fees that brokerages receive from some securities issuers for promoting those products, can sway advisers to recommend them to IRA investors, even when those products are not in the client’s best interest, Borzi told Reuters in a recent interview.

“By and large, are compensating brokers for steering clients to their products,” said Borzi, the proposal’s chief architect. “If a brokerage’s business model is built around compensating them for giving conflicted advice, then they would have to change their advice.”

Until recently, the Labor Dept. focused its attention on 401(k)s and largely left IRA advice alone. That changed with its a recent proposal to update a piece of ERISA.

If the ERISA update moves IRA advice under the fiduciary definition, brokerages will likely have to make significant changes to their compensation models. That’s because they would no longer be able to act in a clients best interest under ERISA in cases where they receive money from a securities issuer.

Exactly how those compensation practices might change aren’t clear and will depend on the final rule, Borzi said.

Concerns by the securities and insurance industries that following a fiduciary standard will jeopardize their ability to charge commissions are misplaced, Borzi said. Commissions for basic types of investments that IRA holders have, such as mutual funds and other securities, have been exempted from a list of so-called “prohibited transactions” since the mid-1980s, Borzi said.

“It’s not the commissions that are the problem. It’s this revenue sharing,” she said. Still, limiting those practices would cut into industry profits.

Ken Bentsen, head of public policy and advocacy for the Securities Industry and Financial Markets Association, doesn’t deny the practice exists, but says it should be exempted from the new rule.

Without an exemption, fewer brokerages would offer IRA accounts or they would sell IRA advice through costlier fee-based accounts, in which investors pay annually a percentage of their total assets, he said.

Those oft-cited arguments, said Borzi, “take your breath away.” A cost benefit analysis of IRAs, to be included in the new proposal, will assess the costs of fee-based accounts to investors, and the financial impact of “conflicted advice,” among other things, she said.

Critics of the Labor Department proposal also worry it would conflict with a separate fiduciary rule that the Securities and Exchange Commission is planning to govern brokers who give investment advice to individual clients.

The Labor Dept. is working to ensure that there are “no conflicts” between what the SEC intends to propose and its upcoming rule. “It is important to us that we don’t create a situation where compliance with one agency’s rules creates non-compliance with those of another,” Borzi said.

An SEC spokesman declined to comment.

Borzi has been increasing the Labor Department’s focus on IRAs, which have ballooned into a $4.9 trillion market since ERISA became law. That exceeds the $4 trillion that is invested in company sponsored retirement plans like 401(k)s. One-time rollovers by 401(k) plan investors into IRAs are a big factor fueling the growth.

(Reporting by Suzanne Barlyn; Editing by Jennifer Merritt

and Walden Siew)

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