New Fee Disclosure Rule Under ERISA
Sponsored Content by RidgeWorth Investments
March 29, 2011
This material is an educational discussion of the new Department of Labor (DOL) rule governing fee disclosure, which provides ideas and suggestions on this topic and should not be construed as legal advice. Advisers, plan sponsors and others should consult their own legal counsel and designated adviser, if applicable, for specific guidance on their particular circumstances.
The U.S. Department of Labor (DOL) has now published the long-awaited rule on Employee Retirement Income Security Act of 1974, as amended (ERISA), Section 408(b)(2)—the statutory exemption allowing plan service providers to be compensated for their services without engaging in a prohibited transaction.
If the DOL does not make any additional changes to this rule, it will become final and effective on January 1, 2012.
What are Prohibited Transactions? ERISA prohibits a number of transactions between “parties in interest” and ERISA-covered retirement plans. A party in interest includes persons providing services to such a plan. For example, a registered investment adviser (RIA) or stockbroker providing services to a retirement plan is a party in interest. The ERISA prohibitions preclude the furnishing of services between a plan and a party in interest and the transfer of plan assets to a party in interest. Thus, absent an exemption, the plan could not employ the RIA or stockbroker or use plan assets to pay their fees.
What Are TheyWhat Happens If One Occurs? If a plan engages in a prohibited transaction, the Internal Revenue Code of 1986, as amended, imposes an excise tax of 15% on the amount involved in the prohibited transaction. The excise tax increases to 100% of the amount involved if the prohibited transaction is not corrected. There can also be other consequences, such as lawsuits against the parties who participate in a prohibited transaction.
Exemption. There are, however, exemptions from the prohibited transaction provisions. Under ERISA §408(b)(2), a prohibited transaction will not occur if the contract or arrangement between the plan and the service provider is reasonable, the services are necessary to the plan, and the plan pays only reasonable compensation for the services offered by a service provider. The current DOL regulation explains what constitutes a “reasonable arrangement,” “necessary services,” and “reasonable compensation.” In the past, these requirements have not been particularly difficult to meet, and service providers have been able to avail themselves of the exemption.
The New Rule
The new disclosure will require covered service providers to:
- Describe the services they provide;
- Determine whether the services provided are fiduciary services or services under the Investment Advisers Act of 1940 or any similar State law;
- Determine what compensation they are receiving and how it is being received; and
- Provide additional disclosures for investment services
The new rule is discussed in greater detail in our White Paper, “Fiduciary Focus: What Advisors Should Know About the New Fee Disclosure Rule Under ERISA.”
How to Prepare for the New Rule
The following are a few suggestions you may consider to prepare for the DOL rule and some of the issues you may confront.
Evaluate Your Exposure. Define the extent to which you will be subject to the new rule. For example, the new rule may cover a significant number of unsuspecting RIAs that advise or manage pooled funds such as collective investment funds.
Evaluate the Extent of Your Disclosure Obligation. The new rule will require many RIAs and broker-dealers to disclose forms of compensation that they have never been required to disclose before. You should consider whether you are a covered service provider under more than one of the categories and identity the different disclosure requirements that apply to each category.
RIAs Should Consider Modifying Their Service Contracts. RIAs should consider developing a model service contract that includes all the disclosures that the DOL’s rule requires. This will avoid the necessity for generating a separate disclosure document. Furthermore, the signed model service contract will provide proof that the disclosures were made to the responsible plan fiduciary.
Broker-Dealers Should Consider Using Service Contracts. Many broker-dealers do not use service contracts. They should consider using them for the same reasons discussed above.
Consider Providing the Required Disclosure to All Retirement Plan Clients. Some types of retirement plans are not considered “covered plans” and are therefore not subject to the new disclosure requirements under the DOL rule. However, covered service providers that serve multiple markets may find it more efficient to establish one disclosure regimen rather than attempting to determine when the disclosures are and are not required.
Identify and Educate the Appropriate Personnel Regarding These New Disclosure Requirements. Depending on the size of your organization, there could be a substantial number of employees involved in gathering and delivering the required disclosure. Identify them and start educating them now.
Seek Legal Advice Now. The new rule is complex, and you should contact your legal counsel now to begin sorting through the impact of the new rule on your particular situation.
Conclusion - A Great Opportunity
The new fee disclosure rule will level the playing field by allowing plan sponsors to understand the true costs of their plans and fees paid to providers. With this new focus on transparency comes great opportunity for the adviser who has a service model in place that can provide the plan with what the rule requires.
Because fees will now be explicit, it will make it easier for advisers to provide information to clients about products and what they cost. Advisers will be able to make better “apples-to-apples” comparisons of 401(k) products for their clients, utilizing a myriad of fee benchmarking tools such as the one available at www.planadvisortools.com.
All content ©2011 David H. Williams, Esq., Schiff Hardin LLP. All rights reserved.
This article was written by David H. Williams, Esq., Schiff Hardin LLP. Mr. Williams is an attorney with particular expertise in employee stock ownership plans (ESOPs), other tax qualified retirement plans, health and welfare plans, and executive compensation. His practice focuses on representation of parties in the design, implementation, and administration of employee benefit plans, and representation of retirement plan fiduciaries.
This material is provided by RidgeWorth Investments for informational and discussion purposes only. Plan sponsors and others should consult their own counsel and designated advisor, if applicable, for specific guidance on their particular circumstances. The analysis and opinions provided may not be relied upon as investment advice and may change without notice. Statements of fact are from sources considered reliable but no representation or warranty is made as to their completeness or accuracy. Unless otherwise noted, the opinions provided by the authors and other sources are not necessarily those of RidgeWorth.
Information provided is general and educational in nature, provided as general guidance on the subject covered, and is not intended to be authoritative. It is not intended to be, and should not be construed as, investment, legal, estate planning, or tax advice. RidgeWorth does not provide legal, estate planning, or tax advice. Laws of a specific State or laws relevant to a particular situation or retirement plans in general may affect the applicability, accuracy, or completeness of this information. Federal and State laws and regulations are complex and are subject to change. Consult with an attorney or a tax or financial advisor regarding your specific legal, tax, estate planning, or financial situation.
An investor should consider the fund’s investment objectives, risks, and charges and expenses carefully before investing or sending money. This and other important information about the RidgeWorth Funds can be found in the fund’s prospectus. To obtain a prospectus, please call 1-888-784-3863 or visit www.ridgeworth.com. Please read the prospectus carefully before investing.
©2011 RidgeWorth Investments. RidgeWorth Investments is the trade name for RidgeWorth Capital Management, Inc., an investment advisor registered with the SEC and the adviser to the RidgeWorth Funds. RidgeWorth Funds are distributed by RidgeWorth Distributors LLC, which is not affiliated with the adviser.
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