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Sponsor News - February 2015

It’s Time to Restate Your Preapproved Defined Contribution Plan…Again!

May 2, 2014
By Stacey Stewart

The IRS recently announced that the two-year period for employers to adopt restatements of their preapproved defined contribution plans (e.g., 401(k) and profit sharing plans) begins May 1, 2014. If you use a prototype or volume submitter plan document, then you should expect to receive from your document provider a new restatement of your plan document.

Using prototype or volume submitter plan documents can greatly simplify the documentation requirements for qualified retirement plans and significantly reduce your costs, but there can be traps for the unwary. Below are some of the most common mistakes we see in the restatement process.

Common Mistakes with Plan Restatements
Wrong Plan Provisions. Restated prototype and volume submitter plan documents are usually prepared by the document provider based on its record. We often find that the restatement contains incorrect provisions, such as incorrect vesting schedules, employer contributions and participating employers. These errors can be costly for the employer. Thus, you should carefully review the restatement against your current plan documents before you sign it.

Not Following Plan Procedures for Restatements. Many employers execute their plan restatements without following the approval procedures provided in their plans. Plan documents typically require board approval of all plan amendments and restatements. If you fail to have the restatement properly approved by the board, it may not be valid and could jeopardize the plan’s tax-qualified status.
Distribution of Incorrect Summary Plan Descriptions. Plan document providers usually send updated summary plan descriptions (“SPDs”) along with restatements. Many times, these SPDs contain inaccurate descriptions of the features of the corresponding plans and lack provisions that protect the employer and plan fiduciaries from possible liabilities (such as disclosures required by ERISA Section 404(c)). Thus, you should confirm the SPD is accurate and contains all of the intended protections.

Accidently Covering Related Company Employees.
Many employers will use a standardized version of prototype plan document (as opposed to a non-standardized version) if possible because the standardized version is simpler and often cheaper. However, using a standardized version will automatically make employees of related companies eligible to participate and receive contributions under the plan. While this may be your intention, if it is not it can be a costly error to fix. As a result, if you have related companies but you do not intend to cover their employees in your plan, you should confirm which form of document you are using to make sure it is correct.

Caution urged for auto features on 401(k) plans

By Richard F. Stolz
May 6, 2014
Auto-enrollment and auto-escalation 401(k) features have gained wide acceptance as a means of boosting employee participation and deferral levels. But an inadvertent clerical error in the operation of those systems can prove costly to plan sponsors. Advisers can add value to their service to business clients by alerting them to these pitfalls — pointing them to possible payroll systems slip-ups, or perhaps even doing a spot check themselves every now and then.

One of the most common problem areas is failing to start the prescribed auto-deferrals or auto-step-up in deferrals when they are supposed to kick in, according to Kari Jakobe, a Minneapolis-based principal and operations manager for Milliman’s employee benefits consulting practice

In a recent memo to Milliman clients, Jakobe illustrated a scenario in which an employer could find itself needing to contribute nearly $9,000 on account of clerical errors with respect to four 401(k) participants. For a small employer, the pain — both in dollars and loss of credibility with affected employees — could be significant.

Employers are subject to these obligations if the period during which deferrals and matching contributions were not made exceeds three months. When that happens, the employer must pay half of the missed deferrals (which otherwise would have been paid by the employee) and 100% of the missed match, plus assumed earnings “at a reasonable interest rate,” Jakobe explains.

Here’s how it could work, using a somewhat extreme case to make the point. Suppose an employee with an $80,000 annual salary (i.e. $6,666.67 monthly) is supposed to default into the 401(k) plan at a 4% automatic deferral rate, with a 100% employer match up to the first 6% of compensation. That is, a total of 8% should be going into that employee’s account.

Suppose further that the deferral never happened, and this oversight wasn’t detected until a year later. That employee should have had $3,200 (4% of $80,000) deferred, plus had another $3,200 deposited into her account from the 100% matching employer contribution.
In that scenario the employer would have to kick in $5,184: $1,600 (half of the intended $3,200 deferral amount), plus $3,200 (100% of the forfeited match) and another $384 in interest based on an 8% assumed return over the course of the year on $533 monthly contributions of combined deferrals and matching contributions.

In Jakobe’s illustration, the earnings levels and duration of the payroll error of the remaining three were less severe, adding another $3,753 in obligations leading to a total employer required outlay of $8,927. “Even with stellar recordkeeping in place, things can go wrong with systems, data and the people involved,” Jakobe warns.

A four-step plan to cull 401(k) rolls of the accounts of terminated employees

RIAs can step in and add immediate value to a plan by purging these accounts that drain time, add costs and compromise efficiency
Guest Columnist Robert J. Leahy

In recent years, I’ve noticed a troubling trend in the 401(k) arena: Keeping terminated employees on the rolls of their retirement plans — in some cases for years on end.

New retirement plan clients are bringing on a significant number of terminated participants maintaining an account balance. This makes the conversion process more complicated for those extraneous participants.

It seems like all parties involved — plan sponsors, recordkeepers, and advisors — are aware of the problem, yet no one sees it as a high-priority issue. As a result, the number of terminated employees continues to grow each year.

Growing phenomenon
Exactly how bad is the problem? I haven’t seen any industry data on this question to compare to, so I asked the head of our daily recordkeeping team to conduct a small — and therefore unscientific — survey of plan clients. She found that for plans with fewer than 100 participants, the ratio of terminated participants to active participants was approximately 12%. In plans over 100 participants, the ratio is about 13%, so we are seeing roughly the same percentages regardless of plan size.

It is important to note that these numbers were arrived at after we had already processed the under-$5,000 balances and made at least one attempt to communicate the rollover option to those not eligible for force-outs. For the plans that are coming to us as new clients to our recordkeeping services, I would guess the ratio of terminated participants to active participants is closer to 20%.

This has given me pause as to why this occurs, if it significantly impacts the plan as a whole and, if so, how advisors can help plan sponsors manage this issue.

Back-end inertia
The chief reason for this trend is participant inertia combined with plan sponsor apathy. Anytime these two factors collide things are likely to get bogged down.

Such inertia has traditionally been most evident upfront in the slow enrollment process. As service providers we spend enormous resources to educate both parties that participation in the plan helps everyone. But that same reluctance of some employees to enroll initially just might have an equal but opposite force for employees that move on and leave their vested balance intact.

Much like the eligible employee not contributing to a plan, terminated participants are aware the money is there, but cannot seem to find a compelling reason to take action and roll their balance into a new employer’s 401(k) or IRA. Aside from the occasional awkward contact from a terminated participant, plan sponsors, who are more focused on managing employee benefits for current employees, see it as no big deal to allow these inactive account balances to continue to drift along.

Risks and costs
I believe changes in the regulatory and disclosure rules, along with new ways recordkeepers are pricing their services, should cause plan sponsors to rethink their position and adopt a more aggressive posture in dealing with this issue.

The most obvious reason to minimize the number of terminated participants with a balance is cost. The new 404(a)(5) disclosure delivery requirement, added to an already long list of other mandatory disclosure documents, is a direct expense for all participants that must be paid for by the plan sponsor or plan trust.

There is also the time and opportunity cost of tracking former employees, keeping in mind these folks are typically not as proactive as current employees with updating address changes. Then, there is the cost of preparing the IRS form 8955-SSA each year, which requires an updated list of the terminated participants to be filed with the U.S. Social Security Administration.

Finally, these terminated participants are included in the total count for the purpose of determining whether a plan meets the plan- audit exemption. This detail is especially significant to a plan that has never been above the threshold of 120 participants and is unaware of the added cost of the independent audit, should they go over the employee count.

That blank look

There is also a risk associated with maintaining a number of terminated balances. Failure to provide any of the mandatory disclosure documents is a breach of your client’s fiduciary duty. An expanding list of terminated participants is undoubtedly increasing the chance that something or someone gets overlooked. You might try asking any one of your plan clients if they sent a copy of the last notice about a fund change to all terminated participants, and pay attention for that look of “I have no idea” expression projected from their face.

Some have argued that encouraging terminated participants to roll out of the plan reduces the total level of plan assets, thus potentially increasing the plan costs. This might have been true in the days of asset-based pricing with breakpoints, but in today’s environment most recordkeepers have established a more flat cost structure based on the number of participant balances, or possibly on average account balance per participant. Neither of these pricing methods will be helped by stagnant participant accounts with low balances.

What can advisors do?

Advisors are in a perfect position to take the lead in developing a process to address this issue.

Advisors who educate plan sponsors on the inherent costs and risks associated with maintaining terminated participant accounts will clearly demonstrate their expertise in understanding the real nuances of this business. Furthermore, once you have a plan sponsor “buy in” to try to reduce this number, you will create a brand new metric that can be measured each year and reinforce your value as a service provider.

I would like to suggest a four-step outline to building such a process:

Step 1: Review with your third-party administrator or bundled provider the rules in the plan document that pertain to participant force-outs
Plan sponsors are allowed to process distributions directly to terminated participants with a vested balance of under $1,000 and process IRA rollovers directly to a custodian when participants have a vested balance between $1,000 and $5,000.

Do not assume the plan currently allows for both of these options, as some providers do not have a direct IRA rollover solution in place and consequently have left that language out of the document. There is no good reason to exclude both force-out provisions in the plan, so coordinate dialogue between the plan sponsor and plan provider if changes in the document need to take place.

Step 2: Request from your recordkeeper a list of all terminated participants with a balance, preferable in a spreadsheet format [Tom's note: Retirement Solutions does this for our clients and advisors]

Make sure you make note of how this list was obtained, since you will be going back to them on a regular basis for an updated list. The list should include name, mailing address, and vested balance at a minimum. Upon receiving the list, sort the names in to three groups based on account balance (i.e. less than $1,000 between $1,000 and $5,000, and more than $5,000).

* Step 3: Work with the plan sponsor to draft a notice to participants that are eligible for force-outs*
Inform them their plan balance will be either be paid in cash (less tax withholding) or rolled to an IRA. Your recordkeeper may be able to assist you with the language to use and the timeline to follow (30-day notice is necessary). If a participant falls into this category and has no current address on file, your recordkeeper can guide you through the “lost participant” process.

Step 4: Compose a letter along with communication materials to send that outlines the advantages of control and investment flexibility with an IRA rollover

This is the most challenging step, because you are dealing with participants that enjoy the same benefits, rights and features as any active participant. They cannot be forced to move their balance out of the plan, and if you try to coerce them by passing along more than reasonable costs to maintain their balance, you may end up a much bigger problem involving discriminatory practices.
You can also explain the ease of a direct rollover to a new custodian, as well as the freedom to roll to another IRA custodian of their choosing. If you are not comfortable with facilitating this step because of a conflict of interest with your fiduciary role, consider outsourcing this task to a non-fiduciary advisor. 

Final thoughts
Much like eligible employees not deferring, you need to be mindful that it may take multiple correspondence over a number of years to overcome the inertia for terminated participant balances to start rolling out of the plan.

Remember, the key is not necessarily in how many ultimately decide to move their plan asset. The key is creating a repeatable process of managing the terminated participant roster, and thereby inserting another layer to your value proposition.

ERISA and Department of Labor Guidance Relating to Plan Expenses

 The rules discussed in this white paper apply to tax qualified defined benefit and defined contribution plans subject to the Employee Retirement Income Security Act of 1974 (“ERISA”) and Department of Labor (DOL) Regulations. The rules also apply to other retirement plans that are not subject to ERISA and DOL Regulations but are subject to comparable provisions of the Internal Revenue Code (the Code). Plans that are not subject to ERISA are listed in a chart at the end of this document with references to the comparable provisions of the Code or Treasury Regulation that applies. In addition, the chart cites circumstances where state insurance department laws may apply. Please note that the Code contains provisions comparable to the ERISA provisions described below. Therefore, the DOL requirements described in the following paragraphs also apply to those non-ERISA plans listed in the chart. The Treasury Department defers to the DOL on interpretations of these statutory requirements regarding the use of plan assets to pay settlor expenses and, therefore, non-ERISA plans should review and apply any DOL guidance on this subject.

Section 404(a)(1)(D) of ERISA requires that plan fiduciaries discharge their duties in accordance with the plan document(s). A plan document will typically include language that authorizes payment of reasonable plan administrative expenses from plan assets. The DOL has also clarified that even if the plan is silent regarding the payment of administrative expenses, plan assets may be used to pay reasonable administrative expenses.

The plan fiduciary is required by ERISA to determine whether payments for plan expenses would be consistent with ERISA requirements, including general fiduciary responsibility provisions of sections 403 and 404 of ERISA. These sections provide that plan assets may only be used for the exclusive benefit of the participants and beneficiaries, and provide that plan fiduciaries must ensure that plan assets only be used to defray reasonable plan administrative expenses.

ERISA section 406 prohibits the plan fiduciary from dealing with plan assets for his or her own benefit, or engaging in a transaction that constitutes a direct or indirect furnishing of goods, services and facilities between the plan and a party in interest where the party in interest benefits from plan assets. However, ERISA section 408 provides an exemption from the prohibition of section 406 for those plan services that are necessary and are provided pursuant to a reasonable contract or arrangement for reasonable compensation.

Definitions of Plan and Settlor Expenses

Expenses that “may” be paid by the plan are administrative “plan expenses” (the plan sponsor always has the option to pay these expenses rather than paying them from plan assets). Administrative plan expenses are those reasonable expenses referenced in sections 403 and 404 of ERISA which include direct expenses properly and actually incurred in the performance of a fiduciary’s duties to administer the plan.
Expenses that “must” be paid by the plan sponsor are known as settlor expenses. The DOL has, for a long time, taken the position that there is a class of discretionary activities which relate to the formation, rather than the management of plans. These activities are referred to as “settlor functions” and they generally include decisions relating to the establishment, design and termination of the plan. The DOL has ruled that expenses incurred in connection with the performance of settlor functions would not be considered reasonable plan expenses because they would be incurred for the benefit of the employer’s business and would involve expenses for which the plan sponsor could reasonably be expected to bear the cost in the normal course of its business operations.

While the DOL prohibits the use of plan assets to pay settlor expenses, it has clarified that plan assets may be used to pay reasonable expenses to administer the plan, even if there is an incidental benefit to the plan sponsor. The United States Supreme Court has recognized that plan sponsors receive incidental benefits by offering an employee benefit plan, such as attracting and retaining employees, and the DOL has ruled that the mere receipt of such incidental benefits by plan sponsors does not convert a plan expense to a settlor expense.

Comparative Examples of Plan and Settlor Expenses
When a plan sponsor establishes a retirement plan, it is a voluntary activity, and the plan sponsor must make the decision regarding what type of qualified plan to offer and what the plan provisions will be. In addition, this requires the drafting of a plan document and a request for an initial determination letter from the Internal Revenue Service (IRS). Expenses associated with all these “formation” activities are considered settlor expenses that must be paid by the plan sponsor. However, implementation of the settlor’s decision to establish a plan, which includes the set up, recordkeeping and other administrative functions, would generally be considered plan expenses that can be paid from plan assets.

An amendment to the plan may be either a settlor expense or a plan expense, depending on the particular circumstance. If it is a discretionary amendment where the plan sponsor initiates a change to plan provisions, such as the eligibility requirements, it is generally a settlor expense. However, if the amendment is required to comply with regulatory requirements in order to maintain the plan’s tax qualified status, such as an amendment to comply with the Pension Protection Act of 2006, it is generally considered a plan administrative expense that can be paid from plan assets. If an analysis is required by the plan sponsor in order to make a choice of options available to comply with regulatory requirements, the expense incurred in analyzing the options may be considered a settlor expense. As you can see, facts and circumstances play an important role in this “settlor” versus “plan” expense determination.

Activities relating to ongoing plan operation, such as the cost of determination letters for regulatory amendments, routine nondiscrimination testing, Form 5500, actuarial valuations, and participant statements, are generally considered plan administrative expenses that can be paid from plan assets.

However, for defined benefit plans, statements required by the Federal Accounting Standards Board, typically referred to as FASB statements, would be settlor expenses because this activity is driven by the plan sponsor’s financial reporting needs.

Non-routine nondiscrimination testing done in advance of an anticipated or proposed plan change would generally be considered a settlor expense. In addition, government imposed fines or penalties on the plan, or fees for submission under the IRS corrections programs, would generally be settlor expenses.

When a plan is terminated, costs incurred in the analysis of the plan termination, or any required plan amendments, are generally considered settlor expenses. However, costs for IRS determination letters or Pension Benefit Guaranty Corporation premium payments (for qualified defined benefit plans), and costs for administrative work associated with the plan termination, such as final participant statements, are plan expenses that can be paid from plan assets.

Plan Qualification and Other Issues

In order to maintain the plan’s favorable tax qualified status, a plan sponsor must ensure that the plan document agrees with the operation of the plan for paying plan administrative expenses, as well as ensuring that plan assets are not used to pay settlor expenses. An improper payment of expenses from plan assets can result in significant consequences, such as a breach of fiduciary duty, a prohibited transaction, or a violation of the exclusive benefit rule. This document is intended to provide an overview of plan expenses versus settlor expenses. At the end of the day, it is the plan sponsor’s ongoing fiduciary responsibility to determine whether a particular expense is properly characterized as a plan expense or a settlor expense. As you can see from some of the examples included in this article, there are expenses that arise where it is not clear whether they are plan expenses or a settlor expenses. The plan sponsor should consult with their legal counsel to determine whether the expense can be paid from plan assets, or if the fee is a settlor expense that should not be paid from the plan’s assets.

Multiemployer Plans - In Field Assistance Bulletin 2002-2, the Department of Labor ruled that, where relevant documents, such as collective bargaining agreements or plan documents, specify that the trustees of a multiemployer plan will act as fiduciaries in carrying out activities which would otherwise be considered settlor functions, such activities would be considered plan expenses and could be paid from plan assets. If the documents are silent, then the trustees’ activities that are settlor in nature will generally be considered settlor expenses. Given the complexity of multiemployer plans, it is important for the plan sponsor to be aware of the provisions of the documents regarding trustee activities and for the plan sponsor’s ERISA counsel to provide advice regarding which expenses can be paid from plan assets.


DOL investigating outsourcing of employee benefit plan services

By Melissa A. Winn
July 8, 2014
The Department of Labor says it is investigating the outsourcing of employee benefit plan services, including its legal framework under the Employee Retirement Income Security Act, and benefit industry insiders are urging the department to remain flexible on the subject.
The DOL’s ERISA Advisory Council said last week it plans to identify current industry practices and trends regarding the types of services being outsourced and the market for delivery of those services as part of its 2014 issue agenda.

Based upon testimony from benefit industry experts, the Council will submit recommendations to DOL Secretary Thomas Perez about current best practices in selecting and monitoring outsourced service providers, including possible performance standards, the benchmarking of costs, and mitigating conflicts of interest. In their written testimony benefit experts are urging the council to consider the complexity of outsourcing benefit administration and consider flexibility within its recommendations.

“Outsourcing will mean different things to different people and companies and in the context of different benefit plans,” says Allison Klausner, assistant general counsel of benefits for Honeywell International Inc., in testimony submitted on behalf of the American Benefits Council, of which she is a member and officer of the executive board.

“For this reason, in particular, flexibility must be a key component of any government or company initiative to shape the selection and monitoring of a supplier to whom a portion of the plan function has been outsourced,” she adds.

Margaret Raymond, an attorney at T. Rowe Price Associates, in written testimony dated June 11, says outsourcing employee benefit plan services is an especially important topic for defined contribution plan sponsors.

“Outsourcing of DC plan services allows employers to focus on their core business, but increased regulatory and judicial scrutiny of outsourcing practices has created apprehension among DC plan sponsors,” she writes, adding that “balancing these competing concerns is particularly relevant to the success of a voluntary system that now accounts for much of working Americans’ retirement savings.”

Regarding trends in the outsourcing of employee benefit plan administration, Raymond says DC market complexity has caused employers to turn to advisers and consultants for help selecting a recordkeeper.

“The presence of consultants and advisers in today’s market is significant and their unique qualifications assist sponsors who might otherwise lack the necessary experience or resources to identify, evaluate and select among a large field of providers.”

The skills and specialized knowledge of advisers and consultants can “further the information gathering and analysis in the recordkeeper selection and monitoring process, all keys to prudent fiduciary decision-making by the sponsor,” she adds.

For both plan sponsors and outsourcing service providers, a key question the ERISA Advisory Council says it is investigating is the allocation of legal responsibilities and risk for activities of the service provider on behalf of the plan, including both responsibilities imposed by ERISA itself as well as responsibilities allocated and risks assumed by contract.

As part of its 2014 issue agenda, the ERISA Advisory Council is also investigating issues and considerations around facilitating lifetime plan participation and pharmacy benefit manager compensation and fee disclosure.