Do you ever wonder how your 401(k) plan participants select investment funds? Do they ask an adviser? Throw darts at a dart board? Compare investment returns? Last Thursday, the U.S. Department of Labor (DOL) released long-awaited final rules on required disclosures to be made to participants and beneficiaries who can direct investment of their accounts in 401(k) plans and other defined contribution plans. The DOL used focus groups to clarify what information participants would find meaningful in making better informed decisions.
The end result of this process is significant changes in the information that must be provided as a matter of general fiduciary responsibility, although the final rules do not require that participants receive all of the information on fees that will be required to be made available to hiring fiduciaries under the disclosure regulations discussed in my September 22 blog post. The new rules will affect most plans for the first time in 2012.
Do the New Rules Affect My Plan?
Virtually all 401(k) plans are affected, unless the plan sponsor completely controls investments. Limited cost disclosure must even be made for self-directed brokerage accounts. The new requirements will apply regardless of plan asset level or the number of participants, and regardless of whether the fiduciaries have sought protection from liability for losses resulting from participant investment decisions under Section 404(c) of ERISA. (They actually are based on but expand requirements currently applicable to 404(c) plans, so 404(c) arrangements have a head start on compliance.) The rules also require information similar to that currently required to be prepared by mutual funds, such as expense ratios, to be provided by bank collective trusts and other arrangements not currently subject to these rules on the theory that uniform disclosure enables participants to more easily compare investments. There are some special and transition rules to cushion the impact of this change, as well as special rules for annuities.
What Will Change?
All eligible employees will now have access to the following specific information:
1. On first qualifying to participate in the plan and on an annual basis thereafter
- For each available investment option, total operating expenses as a percentage and as a dollar amount for an assumed investment of $1000.
- Plan related expenses, such as administrative expenses, charges for using third party investment options and legal and accounting fees.
- Historical performance data for investment options, including one year, 5 year and 10 year returns compared to appropriate benchmarks such as the S&P 500 or another broad-based market index appropriate for the type of investment.
A model chart to disclose this information in comparative form was released at the same time as the new Regulations. Although similar formats are acceptable; the model will probably become the format used by almost all plans.
2. Participants will have itemized on a quarterly basis:
- Fees actually deducted from their accounts for administration.
- Fees actually deducted from their accounts because of individual activity, such as because a loan or qualified domestic relations order was processed.
- Fees actually deducted from their accounts for investments e.g. loan and sales charges.
Each plan must have information available on a website giving participants access to supplemental information, such as portfolio turnover, and provide a glossary of investment terms or make a glossary available through a website link. In general, changes require at least 30 days' advance notice.
Will Participant Behavior Change?
While the rules do not require the details of revenue sharing arrangements to be disclosed to participants, if revenue sharing payments or 12b-1 fees reduce or are applied against administrative costs, the participants must be told that in addition to the costs set forth on the quarterly fee statement, some of the plan's administrative expenses for the preceding quarter were paid from the annual operating expenses of one or more available investment options. (While the DOL may have felt that some reference to revenue sharing was necessary in light of all the litigation challenging it, it is hard to see how this general statement provides any meaningful information to participants.) There is also a required warning that fees and expenses are only one factor to be taken into account in making investment decisions. However, it is possible that the emphasis on fees will lead participants to shun investments with superior performances if they don't have the lowest fees.
What Should Administrators and Vendors Do?
Whether the new rules are sufficiently comprehensive to satisfy Rep. George Miller and others in Congress who regularly introduce legislation to mandate specific participant fee disclosures remains to be seen. However, preparation for compliance cannot be delayed in order to find out whether new legislation will be enacted. Plan administrators and vendors of investment options need to begin charting a path to compliance. Administrators of plans not using the 404 (c) safe harbor and providers of investment vehicles other than mutual funds will need longer lead time to comply with the new requirements.
Carol Buckmann has practised in the employee benefits field for over 25 years, advising clients on all aspects of employee benefits and retirement plans, including questions relating to 401(k), defined benefit and employee stock ownership plans, welfare plans, fiduciary responsibility, prohibited transactions and plan asset issues arising in investment fund formation.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.