Asset Allocation Models
Based on the DOL guidance in FAB 2012-02, many advisers have concluded that asset allocation models (AAMs) can be offered to plans without the need to treat them as designated investment alternatives (DIAs) and, therefore, without the need to report the performance history, expense ratios, etc., of the AAMs.
Unfortunately, that is an oversimplification and may inadvertently lead to problems under both the 408(b)(2) and 404a-5 regulations.
While a thorough analysis of the DOL guidance requires a longer article, the following are the “safe” answers for providing asset allocation models that will not be treated as DIAs:
- The model portfolio must be clearly presented to participants and beneficiaries as merely a means of allocating account assets among the plan’s designated investment alternatives. In other words, it needs to be presented as an asset allocation service using the plan’s core investment line-up.
- The model portfolio cannot use investment alternatives that are not in the core line-up of DIAs.
- A unitized portfolio is not a qualifying asset allocation service; instead, it is a DIA.
- The plan must provide–initially and annually–participants (which includes all eligible employees and beneficiaries) with a written explanation of how the model portfolio works.
- The plan also must explain in writing how the model portfolio differs from the plan’s designated investment alternatives. The explanation must also be provided to participants initially and annually.
While the DOL Q&As do not address the issue, arguably a model portfolio may include a rebalancing feature without becoming a DIA.
It appears that the failure to satisfy any of the DOL’s requirements will cause the model portfolio to be treated as a DIA and, therefore, will require that plans provide historical performance information, expense ratios, turnover rates, and other information to the participants. As a practical matter, that may preclude plans from offering the portfolios. In addition, the 408(b)(2) regulation requires that recordkeepers provide certain investment information about DIAs to plan fiduciaries at the inception of the arrangement.
I am concerned that some advisers do not understand that the DOL attached these conditions. I am also concerned that service providers have not yet drafted the needed language for the participant communications.