Best Practices for ERISA ' 408(b)(2) Compliance

From an auditor's perspective, I know firsthand that the price for a pension plan audit for Plan A and Plan B, as defined below, varies greatly.

Plan A Features (less complex):

1. 125 eligible participants;
2. Only a 401(k) deferral feature;
3. No participant loans allowed;
4. Plan offered only to salaried employees;
5. Only one business location;
6. Plan sponsor is a law firm;
7. Plan assets of $5 million; and
8. All plan investment choices are readily marketable mutual funds.

Plan B Features (more complex):

1. 10,000 eligible participants;
2. Employee 401(k) deferral feature and a discretionary employer contribution;
3. Three loans outstanding allowed per participant;
4. Plan offered to monthly, biweekly and weekly paid employees with bonuses and overtime;
5. Multiple business locations;
6. Plan sponsor is a publicly held, multinational organization;
7. Plan assets of $100 million; and
8. Plan investment choices of varying levels of complexity and risk.

If your firm had Plan A, you would not want to benchmark your plan against Plan B because if Plan A fees and expenses were similar to those of Plan B, would they really be reasonable? Of course not. Therefore, one would expect an audit of Plan B to cost significantly more than an audit of Plan A.

There exist independent benchmarking firms that have accumulated data on fees and expenses that can provide your firm with an independent study on the reasonableness of your plan fees and expenses. They would need copies of all your agreements with your service providers, copies of your plan documents, and copies of other information about your company and plan. You may also want to consider having your ERISA attorney review the benchmarking report for reasonableness and give you a legal opinion, especially if the firm is considering some type of transaction such as a merger.

Best Practices

Even if your plan does not have more than 100 eligible participants or is not otherwise required to have a plan audit under ERISA, you should make sure your house is in order with the following best practices:

1. Know your plan! Read and understand all plan documents including prototype plans, adoption agreements and customized non-standardized plans.
2. Make sure all agreements are in writing. Obtain, read and understand all service agreements.
3. Review all service agreements for compliance ' are you getting the services you are paying for?
4. Understand all fees being assessed and how compensation of service providers is being determined.
5. Summarize all direct and indirect compensation related to and paid by the plan or among service providers or other parties that the plan will pay and how it will be paid ( i.e., billed to plan, deducted from plan accounts, etc.). Expenses paid by plan sponsors and not by the plan fall into a separate fee category and are not considered expenses of the plan as they are not paid by the plan.
6. Read carefully all contract termination fees. These fees have come as a big surprise to some firms and have prevented changes in plan service providers due to the economic burden of terminating contracts.
7. Benchmark fees for reasonableness as discussed above.
8. Set up processes to address unreasonable fees and expenses if they exist.
9. Form a pension plan (audit) committee with meaningful participation from those in charge of governance to be a watchdog for what is in the best interests of the plan participants.
10. Ensure evidence documenting compliance with the new laws and requirements is readily available.
11. Retain all communications with participants.
12. Retain all plan information electronically in a secure, readily accessible location that meets disaster recovery standards.
13. Keep an electronic file or three-ring binder that includes the following: a) 408(b)(2) disclosures that were provided by advisers; b) 408(b)(2) disclosures that were received from other service providers; c) Annual 404(a)(5) disclosure due out this summer, d) Correspondence (including e-mails) exchanged between plan sponsor and parties in interest and other sources concerning fee-related matters; e) Correspondence (including e-mails) exchanged with participants on plan, fee or investment-related matters; f) Memoranda or communications sent to participants regarding the plan including plan matters or fees, investments, etc.; g) Minutes from retirement plan committee meetings; and h) Any other information regarding the retirement plan and ongoing due diligence efforts, including benchmark studies.

Penalties for Non-Compliance

Remember, non-compliance with the new rules constitutes a prohibited transaction. Prohibited transactions get reported to the IRS and DOL and are disclosed on Annual Form 5500, audited plan financial statements and elsewhere. Excess compensation must be returned to the plan. Prohibited transactions could trigger an IRS or DOL audit and subject the plan sponsor to penalties.

Summary

The most important reason to follow the new law and put in place best practices is not for fear of penalties or an IRS audit, but rather to protect your participants' hard-earned retirement savings. “Unhiding” fees and expenses and holding service providers accountable for reasonableness of their fees puts more money back into retirement savings. With greater information comes greater responsibility and, it is hoped, greater retirement savings for you and your plan participants.

What is your law firm doing to make sure it is following best practices in its participants' retirement plan to comply with ERISA ' 408(b)(2)? How do you plan to reduce the likelihood of a plan audit resulting in possible reportable “prohibited transactions” which could trigger an Internal Revenue Service (“IRS”) or Department of Labor (“DOL”) audit, fines and penalties?

To achieve the goals of the new ERISA laws, participants and sponsors will have access to more information which will increase the responsibility of plan sponsors to act upon the information received.

Main Goal of New Law

ERISA ' 408(b)(2) became effective on July 1, 2012. The main goal of the new law is to improve the transparency of retirement plan fees and expenses charged to workers in 401(k) type arrangements and other “covered plans” by requiring greater participant access to information so participants can better manage their retirement savings. Wouldn't it be great if law firms never had to send bills, but could get paid by clients without the clients actually knowing how much the law firm was getting paid? This is what happens when retirement plan fees are “hidden” from participants and deducted directly from investment assets to arrive at adjusted earnings or losses reported on the investments. By ensuring access to the previously undisclosed information, plan fiduciaries can assess reasonableness of compensation to plan providers, identify potential conflicts of interest, and satisfy reporting and disclosure requirements under ERISA.

Greater Access to Information Means Greater Responsibility to Take
Action

With greater access to fee and expense information charged to participants, plan sponsors have greater responsibility. This includes the following:

• Making sure fees, expenses and compensation charged by the plan are reasonable;
• Taking action swiftly if the amounts charged to a covered plan by a covered service provider are not deemed reasonable.

Some Key Regulation Requirements

Fiduciaries must comply with the following requirements:

• Document all service agreements over $1,000 ( i.e., all agreements must be in writing).
• Break down the total costs per service: record-keeping costs, administration costs, investment management costs, indirect compensation costs, shareholder-type costs, etc.
• Provide participants with core information about investments available under their plan including the costs of these investments.
• Provide participants quarterly statements that clearly list plan fees and expenses deducted from their accounts in terms of total dollars being assessed.
• Use standard methodologies when disclosing and calculating expenses and return information in order to achieve uniformity across the full spectrum of investments that exist in plans.
• Present the information in a format that makes it easier for participants to comparison shop among the plan's investment options.

How Do You Assess Reasonableness of Fees?

Now that fee and expense information must be reported, how do you as fiduciary interpret that information and make sure the fees and expenses are reasonable? Generally, when assessing any type of expense for reasonableness, a best practice is to obtain independent or third-party verification that the fees are comparable for like services from other plan providers.

What does this mean? It means that you cannot just compare fees based on a percent of plan investments or a fixed dollar amount; you must also consider other factors including services provided by the covered service provider and other features available through the plan or plan sponsor. Other service providers could be providing similar or dissimilar services than those your participants currently receive. Other plan features to consider include size of plan assets, number of plan participants, industry and complexity of plan sponsor, and complexity of plan design.