The Impact of DOL Fiduciary Rule on Distribution Partners

COMPLIANCE & ETHICS FORUM FOR LIFE INSURERS The Impact of DOL Fiduciary Rule on Distribution Partners CEFLI DOL Fiduciary Rule Summit Meeting May 10-11, 2016

pwcregulatory.com DOL Fiduciary Rule May, 2016

Today s agenda 1. Final rule overview 2. Comparison of proposed vs. final rule 3. Industry impacts and reactions 4. Industry next steps 5. Common questions asked by industry participants 2

DOL Fiduciary Final Rule 1. Final rule overview 3

Evolution of the DOL Fiduciary Rule Existing fiduciary definition was issued in 1975 DOL s Initial Proposal (2010): Withdrawn amidst controversy DOL released a proposal on April 14, 2015, with the final rule released on April 6, 2016 1974 ERISA passed into law October 2010 DOL NPRM Col rule August 2015 Public hearing June 7, 2016 Effective date Today May 10, 2016 January 1, 2018 Full compliance 1975 DOL primary fiduciary interpretive September 2011 DOL withdraws NPRM April 2015 DOL NPRM April 6, 2016 Final rule released April 10, 2017 Phase 1 compliance 4

10 key points from the final rule 01 02 03 04 05 The commission-based compensation model will likely survive. The DOL has provided examples distinguishing between investment advice and investor education. Best interest contracts (BIC) are more flexible and simpler to initiate than as proposed. Negative consent permitted to update existing contracts for BIC exemption compliance. Proposed fee disclosure has been eliminated; however, fees, costs and other compensation must be made available upon request. 06 The limited list of permissible investment products was not retained in the final rule; however, the preamble makes clear that the recommendation for any product must be in the best interest of the client. 07 Sales of variable and fixed indexed annuity products must be under the BIC exemption. 08 09 10 A new level fee fiduciary concept was introduced under the BIC exemption. Recommendations to independent fiduciaries will not be deemed investment advice. The regulation will be applicable April 10, 2017. Full compliance with the BIC exemption is required by January 1, 2018. 5

DOL Fiduciary Final Rule 2. Comparison of proposed vs. final rule 6

Final vs proposed rule (1 of 2) # Topic Change from proposal to final version So what? 1 Applicability date 2 Annuity products 3 Permissible assets 4 Educational materials Two-phased implementation: applicable in April 2017, and full compliance (w/ exemptions) in January 2018 Advisors will have to now have to use the BIC exemption to recommend variable and fixed indexed annuity products List of permissible assets covered by the BIC exemption has been removed Clarified definition of investor education An asset allocation model or interactive tool that does not identify specific investment options is not investment advice 5 Disclosure The 1, 5, and 10 year fee projection point of sale and annual disclosure requirements have been eliminated A transaction disclosure is now required and fee, cost and other compensation information must be available upon request Website disclosures still required but individual compensation need not be disclosed 6 Level Fee fiduciary 7 Contract timing A new level fee fiduciary concept has been included under the BIC exemption Best interest contracts can be entered into before or at the time of the execution of a recommended transaction Allows firms more time to make strategic and operational decisions and implement changes The need to utilize the BIC exemption to sell variable and fixed indexed annuity products may lead to new products or compensation arrangements Investors will still be able to invest in complex products, subject to best interest standard Current educational materials and other tools will need to be reviewed to determine whether they will be considered advice The form of, and approach to, the transaction disclosure will need to be developed Database for fees, costs and other compensation must be developed Website disclosure must be developed and updated quarterly Advisors can advise on transitions, including rollovers, if they receive a level fee and can document that such recommendation is in the clients best interest without need of a contract Advisors can communicate with investors and enter into a best interest contract up to and including the first transaction. 7

Final vs proposed rule (2 of 2) # Topic Change from proposal to final version So what? 8 Contract parties 9 Negative consent 10 Proprietary products 11 Transactions with independent fiduciaries Required parties to a best interest contract are the firm and client Clarifies that a negative consent process can be used to amend existing contracts Includes special provisions for sales of proprietary products and receipt of third party payments Prior large plan carve-out modified Advice given to independent fiduciaries or fiduciaries of plans with at least $50 million is not deemed investment advice The advisor is no longer a required party to the contract Significant decrease in burden of repapering client contracts Firms will still be able to recommend proprietary products if additional disclosure is made Fewer plans will be able to avail themselves of this exception 12 Data retention Data collection requirements were eliminated Firms need to retain documentation to show that they have complied with the law 13 Marketing Clarification of customer solicitation issues Advisors can have hire me conversations without acting as a fiduciary 14 Grandfathering relief 15 Principal Transactions Exemption Grandfathering relief for compensation from retirement investments made before the applicability date Types of securities/transactions eligible for exemption now include riskless principal transactions as well as certain CDs, UITs and asset backed securities Clarified best execution requirement to mirror FINRA standards and does not require disclosure of markups and markdowns Allows firms and advisors to continue receiving compensation from previously sold products Compliance with exemption may be more manageable 8

DOL Fiduciary Final Rule 3. Industry impacts and reactions 9

Impacts across the financial services industry The impact of the final rule will be widespread across the financial services industry; however, the impact to specific industry participants will vary in scope based upon business models as well as the product and service offerings. Wealth BIC exemption allows commission-based compensation model Principal Transactions Exemption may be feasible Insurance Exemptions must be leveraged to sell annuities Asset Cost to comply may have decreased 10

Impacts to wealth managers Wealth Insurance Asset Final rule Changes from proposed rule lessen documentation and disclosure requirements, but business impact, and strategic opportunity, still exists New processes and technology to support required disclosures and documentation expectations will need to be developed BIC exemption Most firms will likely take advantage of the BIC exemption Some levelization of fees is expected Must utilize this exception in order to continue current business practices Allows class actions lawsuits against financial institutions with no limited liability Principal Transactions Exemption Feasibility of the Principal Transactions Exemption is being re-considered PTE 84-24 Sales of variable and fixed indexed annuity products must comply with BIC exemption requirements 11

Wealth Insurance Key issues and actions for wealth managers Asset Should alternate account types/service models be considered? Wealth managers should understand the cost and compliance risk of current and possible models, as well as potential third party vendor platforms/technologies that can be leveraged. What products would or could utilize the BIC or Principal Transactions Exemptions? Determine what costs and operational changes would be required in order to use those exemptions versus moving to a different model. Are level fees an option? Develop segmentation of clients to identify those that may be eligible for the level fee fiduciary provision of BIC exemption. How does the BIC exemption impact robo-advisors? Evaluate impacts on roboadvisors and identify opportunities/synergies for traditional players. Robo-advisor technology and disclosures may require a review in light of final rule. What litigation exposure faces the firm? Work with counsel to determine scope of possible exposure and any potential mitigants. What technological changes will have to be implemented? Updated POS disclosures may be required, depending on whether a third party is leveraged. Industry technology shift may also result in more streamlined client communications. 12

Impacts to insurers Wealth Insurance Asset Final rule While most changes from the proposed to final were viewed positively by the financial services industry generally, the scope of insurers impacted by the final rule expanded Advisors can continue selling proprietary products BIC exemption Sales of variable and fixed indexed annuity products must comply with BIC exemption requirements Applies to sales to small plans with less than $50 million in assets PTE 84-24 Scope limited to fixed annuity products Upfront fee disclosure required and impartial conduct standards must be followed 13

Wealth Key issues and actions for insurers Insurance Asset How should compensation be structured going forward? Evaluation of compensation structure reasonability will inform future models. Is there an opportunity for the firm to expand or streamline operations in either product creation or distribution? Inventorying products from the perspective of manufacturing and distribution will help baseline the current footprint. Additional analysis and implementation planning would provide next steps. How will BIC exemption requirements for IRA recommendations of fixed indexed and variable annuity products be met? Conduct an impact analysis identifying the key touchpoints of BIC exemption requirements on the annuity business, including costs and required infrastructure. What changes, if any, are needed to continue relying on PTE 84-24 when offering fixed annuities? Review PTE 84-24 requirements in light of final rule to determine any impact. 14

Impacts to asset managers Wealth Insurance Asset Final rule Grandfathering provision alleviates requirement for brokers to adhere to new fiduciary standard for previous recommendations to customers and allows brokers to continue receiving compensation from previously sold products Compliance with the rule may be less costly than originally expected The development of new disclosures, training, and processes, along with supporting technology, will be required BIC exemption Though there are no restrictions on product offerings, "best interest standard" will force both intermediaries and manufacturers to reevaluate the performance - fee equation. High fee products may have a hard time justifying their value. Consequently, the move from active to passive products will continue to accelerate. Accurate? 15

Wealth Insurance Key issues and actions for asset managers Asset What fee arrangements may be problematic under the final rule? Evaluate current fee arrangements (i.e., 12b-1 fees, loads), shares classes, related disclosures, and payment processes to determine whether changes are required to comply with final rule. What potential new business opportunities may exist for the firm? Given the product composition will be primarily based on performance-fee characteristics, many small / boutique asset managers may find it easier now to get on intermediary platforms if they have a high performing product at low fee compared to products from established players. Complete a strategic review of current businesses to understand the impact of the final rule. Evaluate whether current products may be sold to institutional fiduciaries without modification. 16

DOL Fiduciary Final Rule 4. Industry next steps 17

Next steps for industry participants 1. 1 Determine applicability of the final rule to relevant business issues 2. 2 Undertake qualitative and quantitative impact assessment 3. Evaluate final rule implications to formulate a go-forward strategy encapsulating business model, operating model, technology and compliance considerations 4. Establish program office to oversee multiple workstreams and modify existing project plan in light of changes in the final rule e.g. Reduced and/or eliminated annual disclosure efforts, web disclosure Effective negative consent procedure Handling grandfathered pre-existing transactions Identification of all fees, costs and compensation and process to appropriately disclose this information upon request Evaluation of whether fees can/should be levelized 5. Understand the impact of the full BIC exemption compliance extension (January 2018) as it relates to the April 2017 applicability date 18

Go-forward strategy Business Model, Op Model Business Decisions Operating Model Decisions 1. Alternative channels architecture and advice model configuration assessment 2. Decisions on taking exemptions BIC exemption, Principal Transactions Exemption, other exemptions 3. Client segmentation and migration thresholds 4. Client value proposition 5. Client experience design 6. Service levels and pricing 7. Product shelf rationalization 8. Revenue sharing arrangements 1. Monitoring tools and services 2. Platform compensation normalization 3. Build vs. buy vs. partner decisions 4. Ops / IT changes to enable decisions 5. Compliance, supervision and internal controls 6. Product shelf redesign execution 7. Marketing collateral changes 8. Advisor / CSA outreach and training 9. Client communication 19

DOL Fiduciary Final Rule 5. Common questions asked by industry participants 20

Contacts Michael Spellacy Partner, Global Wealth Mgmt Leader Chris Joline Principal, Insurance Michael Bernardo Managing Director, Broker-Dealer Lisa Herrnson Managing Director Debbie Packer Director Bob Lavigne Manager, Broker-Dealer michael.spellacy@pwc.com (646) 471-2076 chris.joline@pwc.com (646) 471-5659 michael.bernardo@pwc.com (732) 904-1548 lisa.b.herrnson@pwc.com (646) 471-8227 debbie.packer@pwc.com (646) 471-7238 robert.p.lavigne@pwc.com (617) 530-4740 21

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