Retirement plan fiduciaries should be aware of the upcoming deadline for compliance with the Department of Labor ("DOL") interim final regulations under ERISA Section 408(b)(2) ("Interim Regulations"), requiring the disclosure, to fiduciaries of defined contribution and defined benefit plans, of direct and indirect compensation received by certain service providers. The Interim Regulations require covered service providers of ERISA-covered plans (plans sponsored by governmental employers and all welfare plans are exempt) to provide extensive information regarding service provider fees.  Covered service providers not in compliance as of April 1, 2012 may be subject to the prohibited transaction tax penalties under Section 4975 of the Internal Revenue Code.

Background

Plan fiduciaries must be aware of the fees paid to service providers for their retirement plans, and must be sure that all fees are reasonable.  These new disclosure requirements are designed to ensure that plan fiduciaries are provided with the information they need to assess both the reasonableness of the compensation paid for plan services and any potential conflicts of interest that may affect the performance of those services. 

These Interim Regulations establish, for the first time, a specific disclosure obligation for service providers, such as third party administrators and trustees.  Covered service providers need to take steps now in order to be able to provide the required information, and plan fiduciaries must be prepared to receive and evaluate the information contained in these new disclosures.   

Overview

The Interim Regulations focus on the disclosure of the direct and indirect compensation received by "Covered Service Providers" of ERISA-covered plans.  "Covered Service Providers" are service providers that reasonably expect to receive $1,000 or more in compensation, direct or indirect, for providing "covered services."  Note that this applies even if the services or compensation will be received by an affiliate or subcontractor of the Covered Service Provider.  For indirect compensation, the service provider must disclose the services to which the compensation applies and the payer of the indirect compensation.  Covered services include the following:

  • Fiduciary services, including:
    • Services provided directly to a plan as a fiduciary. This would include services as a trustee.
    • Services provided as an investment adviser registered under the Investment Advisers Act of 1940 or comparable state law.
    • Services provided as a fiduciary to an investment contract, product or entity that holds plan assets and in which the plan has a direct equity investment (note that this would not include managers of mutual funds).
  • Recordkeeping or brokerage services provided to a participant-directed individual account plan;
  • Other services for indirect compensation. Indirect compensation includes compensation received by the service provider, as well as affiliates and subcontractors. The list of services is very broad and includes banking, consulting, custodial, insurance, investment advisory, recordkeeping, securities or other investment brokerage, third party administration and various professional services (accounting, actuarial, appraisal and legal). Payment for direct legal services, such as those provided by a law firm to a plan sponsor, generally will not count as services providing indirect compensation. This means that:
    • Except for the recordkeeping or brokerage services described above, providers of recordkeeping or brokerage services to plans like defined benefit plans or trustee directed account plans are not covered if they only receive direct compensation.
    • Virtually all service providers are included if they, an affiliate or subcontractor receive indirect compensation.  

The service provider will not be penalized if it makes an error or omission in disclosure, so long as it (1) acted in good faith and with reasonable diligence, and (2) corrects the error within 30 days after discovering the error.  The regulation also includes a class exemption from the prohibited transaction provisions of ERISA for a plan fiduciary who enters into a contract without knowing that the service provider has failed to comply with its disclosure obligations.  

Disclosure Requirements: Services and Compensation

Information required to be disclosed by service providers must be furnished in writing to the plan fiduciary. The rule does not require a formal written contract delineating the disclosure obligations.  However, the disclosures still must be made in writing (presumably through a written notice).  Information that must be disclosed includes:

  • A description of the services to be provided (including whether the service provider is providing any services as a fiduciary of the plan); and
  • All direct and indirect compensation to be received by the service provider, its affiliates and subcontractors.

Direct compensation is compensation received directly from the plan (e.g., checks issued from the plan, amounts deducted from plan assets, amounts paid from forfeitures, etc). Indirect compensation generally is compensation received from any source other than the plan sponsor, the covered service provider, an affiliate of a covered service provider, or a subcontractor of a covered service provider.

Information also must be disclosed about plan investments and investment options. These disclosure obligations are placed on the fiduciaries to investment vehicles that hold plan assets and on recordkeepers and brokers who, through a platform or other mechanism, facilitate the investment in various options by participants in individual account plans, such as 401(k) plans.  

Penalties

If these disclosure requirements are not met by the covered service provider, the arrangement with the fiduciary will not be "reasonable" and will constitute a prohibited transaction. The fees involved will be subject to prohibited transaction penalties of 15 percent of the fees involved, and the penalties will compound annually until the disclosure is corrected or the contract is terminated. The covered service provider is responsible for paying this penalty.

Timing of Disclosure of Change in Information

A service provider generally must disclose a change to the initial information required to be disclosed as soon as practicable, but no later than 60 days from the date on which the covered service provider is informed of such change.

Service providers also must, upon request, disclose compensation or other information related to their service arrangements that is requested by the responsible plan fiduciary or plan administrator in order to comply with ERISA's reporting and disclosure requirements.

Duties of Fiduciary Upon Failure of Covered Service Provider to Comply

If a covered service provider fails or refuses to comply with its disclosure obligations, a fiduciary is required to make a written request to the service provider.  We drafted the following language for potential use by a fiduciary as part of this request to a covered service provider (note that this is not model language provided by DOL):

"Department of Labor regulations require that, upon discovering a covered service provider's failure to disclose required information, a responsible plan fiduciary must request in writing that the covered service provider furnish such information. See 29 CFR Part 2550.408b-2(c)(1)(ix)(B).   

As the responsible plan fiduciary, we therefore request that you provide all required information within 90 days.

If you fail to comply with this request within 90 days, as the responsible plan fiduciary we are required to notify the Department of Labor of your refusal to comply.  See 29 CFR Part 2550.408b-2(c)(1)(ix)(C)."

If after such a written request, the service provider still fails to provide the required information, then the regulation requires that 30 days following the earlier of:

  1. the date of the covered service provider's refusal to furnish the requested information, or
  2. the date which is 90 days after the date of the fiduciary's written request to the service provider,

the responsible plan fiduciary must file a "Delinquent Service Provider Disclosure" with EBSA's Office of Enforcement reporting the service provider's failure or refusal to provide the requested information.  DOL has provided a sample notice for this disclosure, which can be found at

http://www.dol.gov/ebsa/DelinquentServiceProviderDisclosureNotice.doc.

  In addition, the responsible plan fiduciary must determine whether to terminate or continue the contract or arrangement with the service provider who failed or refused to provide the information.  In making this determination, the responsible plan fiduciary will need to evaluate the nature of the failure, the availability, qualifications, and cost of replacement service providers, and the covered service provider's response to notification of the failure.  

Suggested Preparation Activities for Plan Fiduciaries

  1. Determine which plans will receive these disclosures
  2. Determine which covered service providers will be required to provide these disclosures
  3. Create a process for evaluating disclosures from covered service providers (e.g., Are the fees reasonable?  Is there enough information to provide required disclosures to participants?)
  4. Create a system for storing and documenting all of the above