Setting up a potential split in the Circuits and a possible trip to the Supreme Court, on Friday, November 4, 2016, Judge Randolph D. Moss of the United States District Court for the District of Columbia fully endorsed the Department of Labor's (DOL) final conflict of interest regulation and related exemptions (the Fiduciary Rule), siding with the DOL on every issue, and rejecting the effort to invalidate the Rule brought by the National Association for Fixed Annuities (NAFA). 

NAFA has indicated that it will file an expedited appeal of the decision, and NAFA has already filed for a stay of Judge Moss' opinion pending appeal. But the greatest threat to the Fiduciary Rule is not the appellate court or even the Supreme Court. A senior adviser in the Trump Administration has indicated that it is likely to withdraw or, at a minimum, significantly delay the effective date of the Fiduciary Rule. 

For now, however, even with two other courts considering the issues, Judge Moss' decision stands. Although the ruling contained few surprises, Judge Moss did suggest that an argument could be made in the other court cases that the DOL exceeded "the authority of an agency to mandate that regulated parties include particular terms in their contracts." While frequently reverting to the DOL's "broad authority," in the 92-page decision Judge Moss went further than even the DOL in eviscerating the 1975 five-part regulation, remarking that it was in "considerable tension" with the statute and that the "new interpretation better comports" with its text. While suggesting that the DOL has been applying the wrong interpretation for nearly 40 years, his reasoning provides stronger support for the Fiduciary Rule than the change-in-market-circumstances put forth by the DOL. In 1974, when the statute was enacted, Congress could not have been aware of or contemplated the current investment environment, making an argument that the Fiduciary Rule is a better reflection of congressional intent more vulnerable. 

Delving into the weeds of the opinion, Judge Moss focused primarily on NAFA's argument that the DOL exceeded its authority under the Employee Retirement Income Security Act of 1974, 29 U.S.C. § 1001 et seq., (ERISA) by modifying the definition of "fiduciary" to eliminate the requirement that a fiduciary that renders investment advice must provide the advice on a "regular basis" in order to be a fiduciary. Consistent with Judge Moss' questioning at the August 25, 2016 hearing, he seemed largely dismissive of NAFA's remaining arguments, including its claim that the DOL exceeded its exemption granting authority, that the DOL impermissibly created a private right of action renders the regulation void for vagueness, and that the DOL acted arbitrarily and capriciously in removing fixed indexed annuities (FIAs) from the protection of Prohibited Transaction Exemption (PTE) 84-24 and subjecting them to the BIC Exemption. 

The DOL Did Not Exceed Its Authority. The court examined the statutory text of all three of ERISA's fiduciary definitions and concluded it was consistent with the DOL's new "investment adviser for a fee" fiduciary regulation. According to the court, ERISA's two other statutory fiduciary definitions, which concern management and administration of ERISA plans and individual retirement accounts (IRAs), are independent of the "investment advice" prong and foreclose NAFA's argument that sellers of investment products should not be fiduciaries because they do not manage or administer ERISA plans or IRAs. Further, Judge Moss also referenced the ordinary usage of the terms "investment" and "advice," whose dictionary definitions "all but replicate[d]" the DOL’s interpretation. As foreshadowed by Judge Moss' statement at the hearing that purchasing an annuity is not akin to purchasing an item at the grocery store, the court found that the DOL's inclusion of annuity sellers was supported by the text of ERISA, given that annuity sales necessarily contain an investment advice component due to the complexities of the products. 

The court also rejected NAFA's efforts to argue that the Fiduciary Rule is inconsistent with common law trust standards. The court explained that Congress departed from the common law of trusts in several areas of ERISA, including in its expansion of the common law definition of fiduciary. Citing Supreme Court precedent, the court held that where "the text of ERISA goes beyond the common law, and where the purpose of the statute does not compel a different result, the text controls." Judge Moss also rejected NAFA's position that the securities laws are inconsistent with the DOL's fiduciary interpretation, stating that Congress did not replicate the exclusions for broker-dealers found in the securities laws when it passed ERISA. 

Notably, the court acknowledged that the Fiduciary Rule may be vulnerable to a challenge on the grounds that the DOL impermissibly subjected -- and then exempted -- individuals who Congress did not intend ERISA to cover. Nevertheless, because the potential overbreadth related to activities outside of the sale of annuities, Judge Moss held that NAFA lacked standing to raise the issue. 

The DOL Did Not Abuse Its Exemption Granting Authority. NAFA also asserted that the DOL, through the BIC Exemption and PTE 84-24, impermissibly utilized exemptions as a means of extending ERISA fiduciary duties to IRAs and others not subject to those duties. This argument came "closer to the mark," the court acknowledged, because Congress distinguished between Title I and Title II of ERISA by imposing fiduciary duties on Title I (which covers employee benefit plans) and not Title II (which covers IRAs). This distinction, NAFA argued, implicitly precludes the DOL from imposing Title I fiduciary duties on those governed by Title II. Nevertheless, the court rejected this argument, ruling that the DOL acted within Congress' broad grant of exemption authority to require "adherence to those duties as a condition of granting an exemption" under Title II. With respect to NAFA’s argument that the DOL was attempting to "mandate" a compensation structure that excluded commissions rather than merely setting forth conditions for an exemption, Judge Moss was particularly unsympathetic, commenting that "the prospect of alternative compensation methods" may be "difficult and costly," but even though the “choice may not be pleasant . . . it is real." Thus, neither the breadth of the Rule nor the onerous conditions are grounds for invalidation. 

The Written Contract Requirement Did Not Create a Private Right of Action. The court easily dismissed NAFA's argument that the DOL exceeded its authority by creating a private right of action through the BIC Exemption written contract requirement. This written contract requirement, far from creating a private right of action, "merely dictates terms that otherwise-conflicted financial institutions must include in written contracts" to qualify for the exemption. Because the contracts would be enforced under existing state law, Judge Moss held that no new right of action was created. 

"Reasonable Compensation" Not Void for Vagueness. NAFA argued that the BIC Exemption requirement limiting compensation to "reasonable compensation" should be deemed void for vagueness under the Due Process Clause of the Constitution. The court rejected this argument, explaining that the term "reasonable compensation" is "a phrase that is common in trust law; that has existed in ERISA since it was enacted; that has existed in PTE 84-24 and its predecessor since 1977; that is (at least partially) explicated in regulations; and that has been discussed and applied in the case law." Judge Moss allowed, however, that the concept of identifying a "reasonable" amount of compensation is "inherently imprecise." 

Not Arbitrary and Capricious for the DOL to Move FIAs from PTE 84-24 to the BIC Exemption. The court dismissed each of NAFA's numerous arguments that the DOL acted arbitrarily and capriciously in moving FIAs from PTE 84-24 to the BIC Exemption. According to Judge Moss, treating FIAs as securities did not conflict with the Dodd-Frank Act, because the DOL did not classify FIAs as securities, and even if it had, the Dodd-Frank Act only relates to the treatment of certain annuities for purposes of the federal securities laws, not for purposes of ERISA or the Internal Revenue Code. NAFA's arguments that the DOL did not provide proper notice and opportunity to comment also fell flat, as the court adopted the DOL's position that comments from industry groups on this point reflected appropriate notice to the industry. The court also upheld the DOL's cost-benefit analysis, explaining that the DOL had to strike a difficult balance between the benefits of protecting investors and the costs to the financial industry, and holding that the DOL's decision was reasonable. 

What to Expect Next 

In order to obtain an expedited appeal to the DC Circuit Court of Appeals, NAFA must demonstrate it will suffer irreparable injury from Judge Moss's decision. Although the DC Circuit internal procedures indicate that motions for expedited appeal are "very rarely" granted, given the impending compliance deadlines and the wholesale reorganization of the FIA model required by the Fiduciary Rule, this could be an ideal candidate for expedited review. Regardless of whether an expedited appeal is granted, however, an appeal could still take a year or longer for a decision and would not stay the implementation date of the Fiduciary Rule. To do that, NAFA would need to request that the appellate court issue such a stay if Judge Moss does not grant a stay. 

The District Court of Kansas has yet to issue its decision in the Market Synergies case, which we expect will be before Thanksgiving. Earlier today, in the Texas consolidated litigation involving the Chamber of Commerce, ACLI, and IALC, the parties presented their oral arguments. As we noted above, however, the fate of the litigation and the future of the Fiduciary Rule itself is somewhat uncertain due to the change in Administration. Despite signals that the Rule could be withdrawn or delayed, we will be watching for a definitive statement of intent. 

For more information, please contact:

Theresa S. Gee, tgee@milchev.com, 202-626-5928

Erin M. Sweeney*

Yongo Ding*

Nicholas P. Wamsley*

*Former Miller & Chevalier attorney

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