PracticeEdge Session ERISA

Transcription

1 Regulatory Compliance Association PracticeEdge Session ERISA April 23, 2014 Andrew L. Oringer Dechert LLP (Senior Fellow from Practice) Peter E. Haller Credit Suisse Securities (USA) LLC Steven W. Rabitz Stroock & Stroock & Lavan LLP William E. Ryan III Evercore Trust Company, N.A. John W. Schuch Bank of America Merrill Lynch

2 Context ERISA (Employee Retirement Income Security Act of 1974) Reactive, like employee benefits legislation generally Comprehensive and fully reticulated - provides a broad array of general fiduciary standards and a series of prohibited transactions Law vs. lore Investors Why are we talking about... ERISA? Plans as investors - biggest lump of money Investment vehicles by nature no operating expenditures, generally Tax-exempt substantially faster growth by comparison Evolution of the appetite for dealing with ERISA ERISA (e.g., corporate) and non-erisa plans (governmental, non-u.s., etc.) Comparison and contrast At least two reasons to care The tax is often on the financial institution The institution may be a money manager directly subject to the rules 1

3 Plan Assets In General ERISA applies to plans and plan assets what is a plan asset? The plan assets inquiry can be surprisingly layered and complex A key concern is that, if a plan makes an equity investment in an entity, the entity may service as a mechanism by which ERISA regulation of fiduciary conduct can be avoided As a clear example, a plan may set up a subsidiary through which to invest its assets. It would not generally be expected that such subsidiary should be free of ERISA regulation merely because it is separately organized from the plan s trust. Rather, it would be expected that such an entity should be looked through, back to the plan, for purposes of applying ERISA. As a converse example, it would appear equally likely that the mere purchase of stock by a plan in a large, publicly traded operating company should not cause the assets of the company to be deemed plan assets. What is the regulatory framework for the foregoing situations, and what is that analysis for the vast number of entities that are on neither of these extremes? Many investment funds could never be acceptably structured to satisfy ERISA 2

4 Plan Assets In General (cont d) Plan Assets Regulation (29 C.F.R ) An equity purchase in an entity results in a look-through unless an exception applies If registration, publicly-offered and operating company exceptions do not apply, the relevant exception is generally for venture capital operating companies or under the 25% test 3

5 Plan Assets In General (cont d) Plan Assets Regulation (29 C.F.R ) (cont d) Why care if a vehicle is a plan assets entity? May be trying to avoid ERISA coverage for one s own fund or one s other investmentrelated activities May be running a fund subject to ERISA or otherwise managing ERISA money, and be trying to avoid investment in a downstream vehicle subject to ERISA 4 4

6 Significant Participation (25%) Test Exception where [e]quity participation in the entity by benefit plan investors is not significant under the 25% test ; benefit plan investors include ERISA plans, Keoghs and IRAs Rule applies with respect to each class of equity Equity interests held by a person who has discretionary authority or control, or any affiliate, are generally disregarded 5

7 Significant Participation (25%) Test (cont d) Pension Protection Act of 2006 (the PPA ) (adding ERISA 3(42)) Benefit plan investors generally, non-erisa plans are no longer taken into account Proportional counting (downstream application) Practical ramifications Marketing to non-erisa plans unrestricted non-erisa investment (subject to local rules and custom); and possible increase in ability to market to ERISA plans Effect on acceptance of investment by commingled funds and other entities (including a fund of funds) The PPA may be seen as making it easier to avoid plan-assets characterization, while at the same time, making it easier (with the addition of the service provider exemption, correction provisions, etc.) to comply with ERISA in the event of a willingness to accept ERISA coverage 6 6

8 Plan Assets Funds Going forward as a plan assets fund? Fund of funds Hedge fund Private equity fund Other Note convergence of various types of funds 7

9 Going Forward as a Plan Assets Fund Historical backdrop Increasing investment from plans PPA change to definition of benefit plan investor to exclude non-erisa plans Collective investment In general Use of a fund of funds Possible application of ERISA at multiple levels 8

10 ERISA s Fiduciary Rules In General Prudence and diversification, and other general rules Eye single to the interests of participants and beneficiaries Procedural prudence; general deference to fiduciary decision-making Modern portfolio theory (investments not viewed in isolation) Plan documents Prohibited Transactions Per se Self-dealing Application or non-application to operating entities, investment vehicles, etc. 9

11 Prohibited Transactions In General Per se prohibited transactions Self-dealing Generally not cured by notice or waiver/consent (thus, potentially inflexible results) Compare with rules under the securities laws IRAs are generally covered Parties may seek assurances (e.g., representations and warranties) from their counterparties While the assurances may not eliminate applicable statutory liability, they may serve to allocate risk between the parties, to the extent the contractual provisions are valid and enforceable There is the possibility documentation could make regulators less likely to proceed with enforcement actions, and could help with presenting a sympathetic case in the context of litigation 10

12 Per Se Prohibited Transactions ERISA generally prohibits transactions between employee benefit plans and parties in interest (known as disqualified persons under the tax laws) Expanding the common law, ERISA includes as parties in interest not only employers, plan participants, fiduciaries and other insiders and affiliates, but also mere service providers to the plan, including, for example, unrelated brokers, custodians and other non-fiduciary plan advisers Especially with consolidation in the financial services industry, service-provider relationships can be extensive Some (and maybe most) large, diversified financial institutions have generally come to operate under the assumption that that they are parties in interest (and disqualified persons) with respect to all plans Arguably, can effectively convert a related-party rule into a general rule There are significant taxes, penalties and rescission risks on the party in interest, and make-whole and other risks on the fiduciary 11

13 Per Se Prohibited Transactions (cont d) ERISA Violations = Large (Strict Liability) Penalties on Counterparties to Plan Asset Funds. For purposes of the excise taxes described before, the DOL takes the position that certain continuing transactions are deemed to be entered into anew each year they remain outstanding. This means that, according to IRS interpretations potentially, excise taxes can have a cascading effect. Example: Assume a prohibited loan with a principal amount of $1, entered into January 1, 2014 due December 31, 2019 with 10% interest per annum. With an excise tax of 15% of the amount involved (the interest), the excise tax for 2011 (first year loan is outstanding) is $15.00 but look at what happens for just one loan transaction: 2014 $15 $ $15 $15 $ $15 $15 $15 $ $15 $15 $15 $15 $ $15 $15 $15 $15 $15 $ $15 $15 $15 $15 $15 $15 $90 $315 12

14 Self-Dealing Prohibited Transactions Three basic types Use of plan assets for own account Representing both sides (e.g., cross-trading) Kickbacks (receipt of consideration from third party for own account) Issues for some fees and fee structures What are some of the risks? Taxes and penalties; disgorgement Issues for the underlying transaction Exemptions (or relative lack thereof) 13

15 Prohibited Transaction Exemptions In General Statutory Administrative Class Individual (general and EXPRO ) 14

16 Prohibited Transaction Exemptions - Examples Investor-based QPAMs (PTCE 84-14), INHAMs (PTCE 96-23), bank collective investment funds (PTCE 91-38), insurance company pooled separate accounts (PTCE 90-1), insurance company general accounts (PTCE 95-60), etc. Transaction-based Brokerage (PTCE ), principal and agency transactions by U.S. broker-dealers in securities (PTCE 75-1, Parts I and II), foreign exchange transactions (PTCE and ERISA 408(b)(18)), securities lending (PTCE ), certain repurchase agreements (PTCE 81-8), etc. No specific exemption for derivatives, swaps, etc. Note that transaction-specific exemptions are much narrower, and it is easy to have a compliance-related foot-fault. For example, consider a plan asset fund s purchase of a financial institution s debt from the financial institution s U.S. registered broker-dealer - while the acquisition could be exempt under PTCE 75-1, the ongoing extension of credit (i.e., loan) embedded in the note might not Similarly, while PTCE 75-1 covers securities transactions, it does not cover commodities or futures 15

17 Prohibited Transaction Exemptions Examples (cont d) Certain rules that have changed the risk profile Exemption for transactions with mere service providers (ERISA 408(b)(17), added in 2006) Transaction for adequate consideration with a party in interest by virtue of being a service provider or affiliate thereof is not prohibited, if the transaction is not with a fiduciary with respect to the assets involved in the transaction or an affiliate thereof Issues with definitions (e.g., adequate consideration, fiduciary (particularly in the case of directed trustees), affiliate ), additional practical concerns (e.g., in the case of continuing transactions) and lack of regulatory guidance or other authority Comfort levels vary in the market Use as a sword (planning) Use as a shield (defensive) 16

18 Prohibited Transaction Exemptions Examples (cont d) Certain rules that have changed the risk profile (cont d) Corrections for certain transactions involving securities or commodities (ERISA 408(b)(20), added in 2006) 14-day correction period for certain prohibited transactions involving securities or commodities that are discovered after they have occurred Definition of securities may be significantly broader than one might expect, thus potentially increasing the utility of the exemption Potential practical effect in a broad range of circumstances Fundamentally not a planning tool, but rather a provision to address inadvertent mistakes But may provide general comfort as a practical matter And may be extremely important when actually needed Not available for transactions involving self-dealing 17

19 Exculpation, Indemnification and Insurance Exculpation General rule no relief for liability for a breach Indemnification and insurance 18 18

20 Trust Requirement Plan assets must generally be held in trust Relief for an entity holding plan assets where the indicia of ownership of the... interest in the entity are held in trust (29 C.F.R a-1(b)(3)) 19

21 Custody Indicia of ownership of the assets of a plan must be subject to the jurisdiction of the U.S. district courts, unless a regulatory exception applies (ERISA 404(b)) Identification of the relevant indicia is not necessarily straightforward Applicable custody regulations were issued years ago 20

22 Custody (cont d) Exceptions Generally only apply to certain non-u.s. securities and currency Exception for assets under the management and control of a qualified fiduciary (29 C.F.R b-1(a)(2)(i)) Similar, but not identical, to QPAM requirements Potential trap for the unwary U.S.-based organization and principal place of business Exceptions for acceptable global-custody networks (29 C.F.R b- 1(a)(2)(ii)(B), (C)) or certain other acceptable custody arrangements (29 C.F.R b-1(a)(2)(ii)(A)) 21 21

23 Bonding Each person handling the assets of a Plan Assets Fund would need to be bonded as required by Section 412 of ERISA Bond protects the plan against loss by reason of acts of fraud or dishonesty on the part of persons required to be bonded In the case of a Plan Assets Fund, who procures the bond? The manager, or other fund affiliate? The investing plans? 22

24 Bonding (cont d) Maximum bond is generally $500,000 per plan Issues may arise in connection with complying with the per-plan minimum in a multi-investor fund Application of rules, which originated before collective investment was as commonplace, can be unclear Bond amount can be $1,000,000 per plan if the plan is invested in employer securities Purpose of the increased limitation is not entirely clear Application of the increased limit where the employer securities are elsewhere in the plan s portfolio is not entirely clear, raising the possibility that one might argue that employer securities held somewhere in the plan s portfolio could affect the manner in which the bonding requirements to all managers of the plan 23

25 Bonding (cont d) By statute, a U.S.-registered broker or dealer subject to a fidelity-bond requirement of a self-regulatory organization does not need to be bonded Other exceptions for certain types of institutions are contained in regulations 24 24

26 Reporting Form 5500 is the plan s comprehensive annual information return Akin to a tax return, but the plan generally does not pay taxes Investors will need information regarding the investments of a Plan Assets Fund Can provide detailed information to investors Or, if eligible, can file directly with the DOL as a DFE (direct filing entity) 25

27 Reporting (cont d) Schedule C, and provision of compensation information Extensive requirements Rules apply to the plan administrator (not the Plan Assets Fund) But - reasons for cooperation Relationship issues Wall of shame and other DOL issues Contrast with prohibited transactions issues under Section 408(b)(2) of ERISA 26 26

28 Reporting (cont d) Hard-to-value assets Reporting issues, in general Possible effect on broader fiduciary duties General reporting requirements Gifts and entertainment Note seriousness of underlying substantive issues 27

29 Litigation Update Stock drop (including the pending Dudenhoeffer case) Indirect fees, "float Allegedly ineligible (by virtue of the terms of an offering or otherwise by contract) investments, and a recent settlement "Controlled group" liability the Sun Capital Case 28 28

30 Recent Developments Regarding the QPAM Exemption The anti-criminal rule under PTE (the QPAM Exemption) Recent developments under Part I(g) of QPAM DOL Advisory Opinion A (Nov ) Deferred prosecution agreement ( DPA ) is not a conviction Prohibited Transaction Exemptions under Part I(g) of QPAM Examples of exemptions in the financial services industry UBS 2013 (plea agreement between DOJ and UBS Securities Japan) Citigroup 2012 (Citibank Belgium SA sentenced in Belgian court) Riggs Bank 2005 (plea agreement between DOJ and Riggs Bank) HSBC 2002 (Republic New York Corporation entered guilty plea; Republic New York Corporation acquired by HSBC) Bankers Trust Company

31 Recent Developments Regarding the QPAM Exemption (cont d) QPAM I(g) Exemption Key Issues and observations Profound changes in the regulatory and enforcement environment for financial service firms Impact of loss of QPAM exemption to asset management divisions for global banks Timing issues (when to approach the DOL) Confidentiality concerns Use of other exemptions (service provider) if QPAM not available Not a complete solution Potential breach of Investment Management Agreements (where firms represent that asset manager is and will continue to be a QPAM) Conditions of the QPAM I(g) exemption as agreed by the filer Note transactional issues 30

32 DOL Fiduciary Investment Advice Developments General ERISA Definition (ERISA section 3(21)(A)): Person or entity that (a) has discretionary management or control of a plan s assets ; (b) has discretionary authority or control over a plan s administration; or (c) provides investment advice for a fee. Investment Advice -- Existing Regulation (DOL Regulation section (c)): Current regulations specify that investment advice is fiduciary under ERISA if it satisfies all of the following 5 requirements (referred to as the 5-part test ). Advice is fiduciary if: There is a mutual agreement between the parties giving/receiving the advice (need not be in writing); Advice is a primary basis for the investment decisions; Advice is on a regular basis (not one time); Advice is for a fee (need not be a distinct non-transactional fee); and Advice is tailored to the needs of the plan/relates to specific property or securities. Investment Advice DOL Proposed Regulations (Withdrawn September 2011) Reason for Proposal: Primary reason that the DOL proposed the change was not in response to Dodd-Frank or specific Congressional directives, but because of DOL enforcement issues (e.g., losing cases asserting fiduciary violations under the 5-part test). Application: All ERISA-covered accounts as well as IRAs (employer-sponsored and personal). 31

33 DOL Fiduciary Investment Advice Developments (cont d) Investment Advice DOL Proposed Regulations (Withdrawn September 2011) (cont'd) Structure: Fiduciary advice included: (i) makes recommendations related to the purchase, holding or sale of securities or other property; (ii) provides advice, or an appraisal or fairness opinion, concerning the value of securities or other property; or (iii) provides advice or recommendations as to the management of securities (e.g. recommending investment managers), for a fee. Presumed anyone acknowledging fiduciary status (orally or in writing), any investment adviser (whether or not acting in that capacity) or valuation agent was fiduciary. 5-Part Test reworked to 2 ½ prongs if the advice or recommendation was provided (a) pursuant to an agreement, arrangement or understanding, written or otherwise (no longer mutual agreement can be one-sided and after the fact), (b) will be individualized to the needs of the plan, a plan fiduciary, or a participant or beneficiary; and (c) can be one-time (not regular). Exceptions: Fiduciary Disclaimer: Under the Proposed Regulation, a party can avoid ERISA fiduciary status if the entity can demonstrate that the recipient of the advice knows, or under the circumstances reasonably should know, that (a) the person providing the advice is acting in its capacity as a purchaser or seller of a security or other property, or as an agent or appraiser for a purchaser or seller, (b) the person s interests are adverse to the interest of the plan, and (c) the person is not undertaking to provide impartial investment advice (the Counterparty Exception ). Burden of proof is, again, on the financial institution or entity to prove this (and appears that it can be orally modified, and where interests adverse only Valuations: Only where required for DOL filing/market based. All others fiduciary. 32

34 DOL Fiduciary Investment Advice Developments (cont d) Investment Advice DOL Proposed Regulations (Withdrawn September 2011) (cont'd) Problems with Proposed Regulation: (i) Inadequate Regulatory Harmonization (Had not coordinated either with CFTC or SEC efforts under Dodd-Frank); (ii) Inadequate Impact Analysis on Market Participants (Cost, Access to Products, etc.); (iii) Inadequate Cost-Benefit Analysis: The DOL consistently indicated that it had inadequate cost estimates on implementation (no estimate on IRA impact, for example.) Concerted public comments/congressional complaints caused withdrawal in September 2011 Current Status New Proposal Expected in 2014/2015: DOL continues to beat the drum on the need to amend the regulation to protect against conflicted advice. Congress continues to express concern about scope of proposal and coordination with other regulatory efforts (e.g. SEC uniform fiduciary standard for retail accounts under Dodd-Frank, FINRA issuance of Rollover Guidance). IRAs: IRAs, from being merely an afterthought in the original proposal, now seem to be one of the DOL s primary areas of concern. Rollover practices from 401(k) plans to IRAs focus of DOL. FINRA and GAO efforts probably deemed fiduciary/ DOL intends to issue/revise existing exemptions for transactions no real sense of progress on that front. 33

35 Dodd-Frank Issues The U.S. Dodd-Frank Wall Street Reform and Consumer Protection Act ( Dodd-Frank ) introduced a number of significant regulatory changes to the financial markets including creating an entirely new regulatory regime for swaps trading Pension plans (including ERISA governed plans) and plan asset funds are frequent end users of swaps and other financial instruments impacted by new Dodd Frank rules From an ERISA perspective, a key issue to consider is how requirements mandated by Dodd Frank may implicate ERISA s fiduciary and prohibited transaction requirements Business Conduct Standards Mandatory Swaps Clearing SEC Municipal Advisor Rule 34

36 Dodd-Frank Issues Business Conduct Standards Establish various requirements for swap dealers including disclosures (e.g., providing daily marks, scenario analysis, etc.), conflict of interest and suitability obligations along with additional rules for dealing with Special Entities in swaps (CFTC) and security based swap (SEC) trading Special Entity Rules: Special Entity includes ERISA governed plans (and governmental plans) Prescribe requirements for when swap dealer is acting as (1) an advisor and (2) mere counterparty to Special Entity Swap dealer acts as an advisor when it recommends a swap tailored to the particular needs of the Special Entity (subject compliance with various safe harbors ) CFTC business conduct rules finalized and were effective Resulted in need to enter into/amend swap trading documentation generally done through ISDA Dodd- Frank Protocol 1.0 or bilateral equivalent 35

37 Dodd-Frank Issues Business Conduct Standards (cont d) Key ERISA issue is whether the duties and obligations imposed on swap dealer will cause dealers to be deemed a fiduciary under ERISA DOL letter to CFTC concluding that final rules do not require swap dealers to engage in activity that would make them fiduciaries under DOL s current fiduciary definition (and is committed to ensuring changes to definition do not result in unintended consequences) SEC s Business Conduct Rules still in proposed form 36

38 Dodd-Frank Issues Mandatory Clearing Dodd-Frank mandates all swaps (determined by the CFTC) be submitted for clearing Phase in for mandatory swaps clearing began 2013 (for certain interest rate and credit default swaps) Clearing Process: Swap Execution Submission to Clearinghouse If accepted: original swap extinguished and replaced with two swaps between each counterparty and the clearinghouse (with its clearing member as agent and guarantor); clearing member guarantee to clearinghouse of customer obligation; and payment/margin obligation of each customer to its clearing member (who posts to clearinghouse) 37

39 Dodd-Frank Issues Mandatory Clearing (cont d) New Clearing Documentation: New swaps clearing related industry documentation (OTC Addendum to Futures Agreement) Close Out Rights: Clearing members typically have various rights/options upon customer default permitting the clearing member to liquidate the customer s position (by means of offsetting trades) DOL Advisory Opinion A: Margin held by clearing member or clearinghouse is not a plan asset for purposes of Title I of ERISA Clearing member would not be a plan fiduciary solely by reason of liquidating swaps pursuant to close out rights resulting from negotiations with independent plan fiduciary QPAM Exemption (and INHAM Exemption) can provide relief for clearing services, clearing member s guarantee/extension of credit and close out transactions Application to other exemptions? 38

40 Dodd-Frank Issues SEC Municipal Advisor Rule Dodd-Frank amended the Securities and Exchange Act of 1934 to require a municipal advisor to register with the SEC and imposes a fiduciary duty to any municipal entity for which it acts as municipal advisor Municipal Advisor : A person that provides advice to or on behalf of a municipal entity or obligated person with respect to municipal financial products or the issuance of municipal securities; or undertakes a solicitation of a municipal entity or obligated person Municipal Entity: Includes any plan, program, or pool of assets sponsored or established by any State, political subdivision of a State or municipal corporate instrumentality (e.g., public pension funds) Advice : Defined broadly and depends on all the relevant facts and circumstances (including whether a communication constitutes a tailored recommendation) 39

41 Dodd-Frank Issues SEC Municipal Advisor Rule (cont d) Municipal Financial Products : Include municipal derivatives, guaranteed investment contracts, and investment strategies Investment strategies includes plans or programs for the investment of proceeds of municipal securities that are not municipal derivatives or guaranteed investment contracts, and the recommendation of and brokerage of municipal escrow investments. The SEC notes that advice with respect to a single trade or investment falls within plan or program Municipal Derivatives mean any swap or securities-based swap to which either a municipal entity is a counterparty or an obligated person, acting in such capacity, is a counterparty Guaranteed Investment Contract includes any investment that has specified withdrawal or reinvestment provisions and a specifically negotiated or bid interest rate, and also includes any agreement to supply investments on two or more future dates, such as a forward supply contract 40

42 Dodd-Frank Issues SEC Municipal Advisor Rule (cont d) Exclusions and Exemptions: Serving as an underwriter Registered investment adviser Registered commodity trading advisor Attorneys, Engineers, Accountants Public officials and employees Banks (providing specified types of advice) Responses to RFPs Swap dealers Participation by an independent registered municipal advisor 41

43 Fee Disclosure - Overview Suite of disclosure requirements added by the Department of Labor First set of additional rules Form 5500, Schedule C Rules under Section 408(b)(2) prohibited transactions Rules under Section 404(c) and, eventually, under Section 404(a) participant-level disclosure under 404(c) and other participantdirected plans Market reaction, in general Adapting to the new and evolving rules Plans Costs Providers 42

44 Disclosure Requirements Relating to Form 5500 The Form 5500 disclosure requirements in general To whom do the Form 5500 rules apply? Types of funds that give rise to Form 5500 issues: Plan assets funds Funds that are not plan assets funds by virtue of satisfying the 25% test Note that VCOCs and REOCs generally not covered Contrast with the rules under Section 408(b)(2) and Section 404(a)(5), (c) What type of disclosure is required? Templates, market practice generally, etc. What are the legal issues involving compliance? What are the reputational, relationship, etc., issues involving compliance? 43

45 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements ERISA section 408(b)(2) Plan Level Fee Disclosure Effective Date: July 1, 2012 (for existing clients); prior to client inception/fee payments going forward. What Do We Have To Disclose and To Whom?: Must disclose to plan fiduciary engaging you both direct compensation (fees paid directly by the plan to the service provider) and indirect compensation (compensation earned from third parties in connection with plan transactions. Examples of direct compensation can include agency brokerage commissions or investment management fees paid by a plan client; indirect compensation can include payment for order flow, float, or soft dollar amounts received by an investment manager in connection with plan transactions. Not all revenue derived from plan transactions, however, needs to be disclosed since it is not a fee for service. (e.g., principal transactions) Specific Points Compensation Definition: The Final Regulation clarifies that compensation can be disclosed by dollar amounts, formula, percentages, or, provided that the compensation cannot reasonably be expressed in such terms, through other "reasonable methods." There is now the ability to make a "reasonable and good faith estimate" if the service provider cannot otherwise describe the cost, so long as the methods/assumptions for the estimate are disclosed. Ranges of Compensation Now Allowed, Within Limits: In connection with the ability to make a reasonable and good faith estimate, the DOL now specifically permits, in the preamble, the use of "ranges," stating that "disclosure of expected compensation in the form of known ranges can be a reasonable method for purposes of the final rule." The ability to use ranges, however, is not unlimited: First, ranges must be "reasonable" under the circumstances. Second, the DOL clearly indicated that "more specific, rather than less specific, compensation information is preferred whenever it can be furnished without undue burden." 44

46 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) Specific 408(b)(2) Points (cont'd) Descriptions of "Indirect Compensation" Payments: In disclosing "indirect compensation" (payments received from parties other than the plan), service provider must disclose (i) the source of the compensation (i.e., the payer), (ii) a description of the arrangement between the payer and service provider, and (iii) the services to which such compensation relates. "Designated Investment Alternatives" -- Additional Disclosure By Platform Providers: DOL tried to align disclosure to plan sponsors to the participant 401(k) fee disclosures for "designated investment alternatives" (fixed menu of investment options offered by record keepers), and required that additional disclosure be provided. Initial Disclosure Timing Still Prior to Services/Fees: The Final Regulation still requires the initial disclosure to be provided "reasonably in advance" of the services provided and compensation paid without defining how far in advance it is required. Updates on Disclosure Within 60 Days of Change Still Generally Required: The Final Regulation still provides that updates of non-investment fees must be disclosed within 60 days of such change. However, the DOL did allow for certain changes to fees (a) in an ERISA-regulated plan asset fund or (b) in connection with 401(k) recordkeeping platforms to be disclosed to clients annually, in lieu of the rolling 60-day requirement. Electronic Disclosure: The DOL confirmed that disclosure through electronic media (websites, ) is permissible provided the plan fiduciary has access to such media and is notified how to access the information. Definition of "Covered Plans" Clarified: The DOL confirmed that only ERISA-covered plans are subject to the disclosure requirements. This effectively excludes individual IRAs, municipal plans and governmental plans. 45

47 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) ERISA Section 404(a)(5) Participant Fee Disclosure Summary: The DOL is now requiring plan administrators to provide in a clear format information about plan and investment related fees and expenses, highlighting the fees that the participant may indirectly to the investment providers) in operating the account. Covered Plans: Participant-directed individual account plans Code section 401(k), profit-sharing, thrift or similar plans; NOT (a) defined benefit retirement plans; (b) defined contribution plans that do not allow for participant direction (c) employersponsored, IRA-based retirement plans (e.g., SEPs, SIMPLE); (d) Keogh plans (e.g., owner or owner and spouse only plans) and (e) IRA accounts generally. Who Is Responsible for Providing the Disclosure?: The Plan administrator (as defined in ERISA section 3(16)) has the responsibility under the regulations for providing the disclosure, not service providers. However: The Plan administrator is not precluded from hiring vendors/service providers to make the disclosures on its behalf or seeking/requiring that their service providers assist them in providing such disclosures. The Plan administrator is not liable for the completeness and accuracy of information disclosed when the Plan administrator reasonably and in good faith relies on information received from or provided by a plan service provider or the issuer of a designated investment alternative ("DIA") (e.g., a mutual fund). 46

48 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) ERISA Section 404(a)(5) Participant Fee Disclosure (cont'd) What Disclosure is Required? 4 general categories of plan related information that needs to be disclosed to participants and beneficiaries: (a) general operational and identification information; (b) administrative expenses; (c) individual expenses; and (d) investment-related information: "General operational and identification information": Examples include Identification of any DIAs offered under the plan with detailed fee disclosure (DOL Chart); Explanation of how participants and beneficiaries give investment instructions; Explanations of any limitations imposed by the plan to direct investments or transfer to/from DIAs (e.g., plan blackout periods) Descriptions of any self-directed brokerage accounts or similar features where participants can make investments in other than DIAs within their plan accounts. "Administrative" Expenses: Any non-investment fees/expenses for general plan administrative services (e.g., legal, accounting, recordkeeping) which may be charged against individual accounts, and the basis on which the charges are allocated (i.e., pro rata, per capita). Actual amounts must be disclosed quarterly. Individual Expenses: Includes the disclosure of any expenses specifically charged against a particular participant's or beneficiary's account (and can include some investment related expenses). Examples include (a) qualified domestic relations order ( QDRO ) fees; (b) loan processing fees; (c) front or back-end loads or sales charges; (d) redemption fees; and (e) investment management fees. Actual charges also must be disclosed quarterly. 47

49 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) Some Current Challenges: Fee Updates: Updating of fee disclosures for both plan sponsors and participants under 408(b)(2)/404a-5 DOL Enforcement : Activity in 408(b)(2) context focusing on what plan sponsors have actually done with the disclosure (also routinely request copies of the disclosure for any inquiry). DIAs and Self-Directed Brokerage Accounts: DOL has recently flipped on whether plans need to have DIAs/whether brokerage accounts would require DIA-level disclosure. needs to be disclosed here in Field Assistance Bulletin v R Q&A 30 (May 7, 2012): Created new requirement to offer DIA-level disclosure and fiduciary oversight in brokerage accounts if non-dia investment funds invested in such accounts were selected by significant numbers of plan participants Implied not offering DIAs could be seen as fiduciary breach by plan sponsor. For sponsors with plans without DIAs, and offering more than 25 alternatives, the plan sponsor had an obligation to identify at least 3 DIAs meeting ERISA section 404(c) s requirements, and would be required to provide the enhanced disclosure for those funds for any investment option with at least 5 participants or, if a plan had more than 500 participants, those in which 1% or more of the participants were invested. 48

50 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) Some Current Challenges: (cont d) R Revised Q&A 30/New Q&A 39 (Current): Were self-directed brokerage accounts DIAs? No Are plan sponsors required to provide a minimum number of DIAs? No Withdrew the original Q&A 30 imposing the requirements with respect to significant numbers of investors or DIAs being created where brokerage accounts permitted investments in 25 or more different products. 49

51 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) Proposal to require a summary under Section 408(b)(2) In March 2014, the DOL proposed an amendment to the existing Section 408(b)(2) final regulations Under the proposal, a covered service provider would be required to furnish a guide specifically identifying the document and page or other sufficiently specific locator, such as a section, that would enable the fiduciary to quickly and easily find the required information A guide would only be required if the service provider used different documents or separate sources to satisfy disclosure obligations or if the page length of the disclosure was excessive The DOL is seeking comments concerning the page length requirement Grandfathering or transition relief for existing disclosure is an open question 50

52 ERISA Section 408(b)(2) and 404a-5 Fee Disclosure Requirements (cont d) Proposal to require a summary under Section 408(b)(2) (cont d) If a guide is required, the service provider must direct the fiduciary to the place in the disclosure documents where the fiduciary can find the following information: Description of the services provided Statement concerning services to be provided as a fiduciary and/or as a registered investment advisor Description of all direct and indirect compensation, compensation paid to related parties, compensation for contract termination, compensation for recordkeeping services; and Required investment disclosures for fiduciary services and recordkeeping and brokerage services Guide to be provided in a stand-alone document Timing for disclosure of guide, from periodic - reasonably in advance of the date a contract is entered into, extended or renewed - to an annual requirement. Proposal requires the guide to include the identity and contact information of a person or office the fiduciary could contact concerning the disclosures Electronic disclosure 51