As you know, I have done a series of short articles about overlooked and misunderstood issues for 408(b)(2) compliance. This article continues that series.
Category Archives: service providers
408(b)(2) Disclosures for Solicitor’s Fees
In my last article, I discussed our concerns about the lack of awareness of discretionary investment managers concerning 408(b)(2) disclosures. This article addresses another one of our concerns . . . 408(b)(2) disclosures by advisers who refer investment managers and receive solicitor’s fees.
ERISA Disclosures for Discretionary Investment Managers
Covered service providers must make their 408(b)(2) disclosures by July 1, 2012—just weeks away. The failure to make those disclosures will cause their agreements with ERISA plans to become prohibited transactions, resulting in re-payments of compensation to the plans, taxes, interest and penalties.
Continue reading ERISA Disclosures for Discretionary Investment Managers
DOL Activity in 2012
At first blush, it seems like 2012 is the year of plan disclosures and participant disclosures. The 408(b)(2) regulation is effective July 1, 2012, and the 404a-5 regulation follows two months later. However, there is more DOL activity than initially meets the eye.
When are AAMs Considered DIAs?
There is an emerging issue under both the participant and plan disclosure rules concerning the information that must be provided for asset allocation models (AAMs).
It appears that some DOL officials are of the opinion that asset allocation models—at least under certain circumstances—are “designated investment alternatives” or DIAs. If AAMs are classified as DIAs, they are subject to disclosure requirements under both the plan and participant disclosure rules. As a practical matter, it may be impractical or even impossible for recordkeepers, broker-dealers and RIAs to provide that information.
Finally the Final … 408(b)(2) Regulation
The DOL issued the final 408(b)(2) regulation on February 2, 2012.
Key points are:
- The extension of the effective date to July 1, 2012;
- The fact that service providers are not required to provide a summary of the disclosures, though the DOL provided a sample “guide” that is not mandatory;
- The addition of a requirement to describe the arrangement between a covered service provider and the payer of indirect compensation;
- Clarification that electronic transmission of the disclosures is permitted;
- Relief from the disclosure requirements for “frozen” 403(b) contracts;
- A new requirement that plan sponsors terminate the relationship with a service provider who fails or refuses to provide information on request;
- Limited relief for disclosures for brokerage accounts and similar arrangements.
Bruce Ashton and I have drafted a more detailed Alert for our law firm, Drinker Biddle & Reath LLP. That Alert is located at:
http://www.drinkerbiddle.com/resources/publications/2012/finally-the-final-408b2-regulation
New Disclosure Rules
All of the service provider disclosures must be made by April 1, 2012. Once the disclosures are made, the focus will shift from service providers to plan sponsors. That is, after plan sponsors receive the disclosed information, they must prudently review and analyze it. In other words, they must engage in a prudent process to evaluate the services and compensation. That will inevitably lead to a benchmarking of service provider compensation.
My partner, Bruce Ashton, and I have written a detailed Alert on that subject for our firm, Drinker Biddle & Reath, LLP. A copy of that Alert can be accessed through the Drinker Biddle & Reath LLP website, at:
Please copy and paste the link into your browser to access the publication.
Consequences of Failure to Comply
This is another in the series of articles about the 408(b)(2) disclosures – and the consequences of a failure to comply. This article discusses the legal responsibilities of plan sponsors.
If a service provider fails to make the required disclosures, then under ERISA both the service provider and the plan sponsor (that is, the responsible plan fiduciary) have engaged in a prohibited transaction. The 408(b)(2) regulation provides a procedure where plan sponsors can obtain relief for the failures of service providers; however, there is no similar provision for service providers.
What if the disclosures are made, but are not reviewed by the plan sponsor? Then the plan sponsor will have committed a fiduciary breach . . . since there is an affirmative obligation on fiduciaries to review and evaluate the compensation of service providers.
To take it a step further, what if the plan sponsor either fails to review the information, or does review the information, but fails to spot that excessive compensation is being paid to the covered service provider (for example, the recordkeeper or advisor). In that case, both the plan sponsor and the service provider will have engaged in a prohibited transaction. The service provider’s prohibited transaction is the receipt of the excessive compensation; the plan sponsor’s prohibited transaction is that it allowed the plan to pay unreasonable compensation. In these circumstances, there is not relief for the plan sponsor or for the service provider.
As a result, if the DOL or a plaintiff’s attorney spots the issue and files such a claim, both the plan sponsor and the service provider will be in a position of bearing the burden of proving that the compensation was reasonable. With benchmarking services and other comparative information, it will be easier for the Department of Labor and the plaintiff’s attorneys to identify cases where compensation may be excessive.
Expanded Discussion on Failure to Disclose
This is another in a series of articles about interesting issues under the 408(b)(2) disclosure regulation.
In a previous article, I described the likely consequences of a failure to comply with the disclosure requirements—that is, the compensation paid to the service provider would need to be restored to the plan, together with interest. In that article, I also mentioned that there would be penalties imposed by the government. This article expands on that discussion.
The failure to provide the disclosures on a timely basis causes the relationship between the plan and the service provider to be a prohibited transaction. The prohibited transaction rules are found in both the Internal Revenue Code and ERISA . . . and each law has its own requirements and penalties.
Under the Internal Revenue Code, an excise tax of 15% is imposed on the “amount involved.” In the case of a 408(b)(2) disclosure failure, the amount involved would be the compensation. Thus, for the first year of the failure, the tax would be 15% of the compensation paid that year. In the second year, there would be an additional 15% tax imposed on the amount that was paid in the first year, together with a new 15% tax on the amount that was paid in the second year. The tax would continue to grow in that fashion from year to year until it is corrected.
In addition, once the IRS discovered the failure, it would demand that the transaction be reversed and corrected and, if that was not done within 90 days, the IRS could impose an additional tax equal to 100% of the amount involved.
The IRS would also require that tax returns be filed and that the tax be paid. Since, under the circumstances, the tax would not have been paid on a timely basis (since, in all likelihood, the service provider would not have recognized the failure on a timely basis), and thus there would be additional penalties for failure to file and failure to pay taxes.
The DOL could also impose penalties. Under Section 502(l) of ERISA, the DOL can impose a 20% penalty on amounts recovered for an ERISA-governed retirement plan. Thus, if the DOL investigated and identified the failure, it would demand that the “amount involved” be restored to the plan and, when the service provider complied, the DOL, depending upon the circumstances, could would impose an additional 20% penalty since it would have “recovered” the money for the plan. Fortunately, the IRS imposed taxes can be offset against the DOL penalty.
It goes without saying that these penalties are severe. As a result, service providers need to make every effort to comply with the 408(b)(2) disclosure requirements.
More Issues Presented Under 408(b)(2) Regulations
This is another in a series of articles on interesting issues presented under the 408(b)(2) regulation and its disclosure requirements.
It has become fairly common for plans to have expense recapture accounts (which are also known as ERISA budget accounts, PERAs—plan expense recapture or reimbursement accounts, and by a variety of other names). Typically, those accounts are established within a plan when a service provider (most often the recordkeeper) receives compensation through revenue sharing in excess of its reasonable charges. For example, if a reasonable charge for the recordkeeping/TPA services was $50,000 and the recordkeeper received $60,000 in revenue sharing, the excess amount would be deposited into the expense recapture account—thereby avoiding the prohibited transaction issue of excess compensation.
However, sometimes the recordkeeper/TPA places the money in its corporate account and tells the plan sponsor that the money can be spent for the benefit of the plan . . . at the direction of the plan sponsor. While that presents a number of fiduciary and prohibited transaction issues, it also presents an interesting, and problematic, 408(b)(2) compliance issue for service providers.
For example, when an accounting firm audits a 401(k) plan, it is usually compensated by the plan or the plan sponsor . . . and in that context, the accounting firm is not a “covered” service provider for 408(b)(2) purposes. Since the accounting firm is not covered by the 408(b)(2) regulation, it is not required to make the disclosures under the regulation. However, when an accountant receives “indirect compensation” (which, generally stated, is a payment from anyone other than the plan or plan sponsor), the accounting firm becomes a “covered” service provider and thus must make the required disclosures. Since a payment from a recordkeeper/TPA is not from the plan or the plan sponsor, it is “indirect compensation,” and as a result the accounting firm has become a covered service provider and must make the 408(b)(2) disclosures. But, what happens if the accounting firm hasn’t made those disclosures? The answer is simple . . . the arrangement is a prohibited transaction and the compensation belongs to the plan and not to the accounting firm. But, what if the accounting firm didn’t realize that it was being paid from an account of the recordkeeper/TPA? Unfortunately, there doesn’t seem to be any relief from the prohibited transaction consequences.
Similar issues exist for attorneys, actuaries, consultants and others who receive indirect payments.