Strategies for the Successful Design and Management of a Tribal 401(k) National Indian Gaming Convention April 2011
What we re going to talk about today Government or ERISA Plan? Why do we care? How do we know which one? Defined contribution or defined benefit? Other plan considerations Working with a retirement plan advisor Service providers and their arrangements 401(k) costs Fiduciary best practices Getting them to participate!
Government Plan or ERISA Plan
Why Do We Care? Regulation!!! ERISA Plan Non-discrimination rules Minimum participation rules Exclusive benefit rule Distribution rules Minimum funding rules Contribution/compensation limits Vesting rules Trust requirement Top heavy rule Governmental Plan Exempt Exempt Not exempt Not exempt - PSW exception Exempt Not exempt Exempt with exceptions Not exempt Exempt
How Do We Know? Pension Protection Act of 2006 - defined governmental plan for purposes of Indian Tribes Plan maintained by an Indian Tribal Government (ITG), subdivision of an ITG, or agency/instrumentality of ITG All participants must be employees of entity, and Substantially all services must be essential governmental functions and not commercial activities
What is an Essential Government Function? Good faith interpretation found in IRC 7871(e) Revenue Procedure 2006-89 - Includes plan covering teachers in tribal schools - Does not include plan covering employees of hotel, casino, service station, convenience store or marina operated by an ITG - Mixed commercial and government functions must freeze benefits for commercial and create separate plans
Bottom Line Meet governmental plan definition - ITG may maintain governmental plan and avoid most ERISA compliance Failure to meet governmental plan definition - ITG must adopt an ERISA plan ITG may maintain one ERISA plan for all employees, commercial and governmental ITG may maintain separate plans for commercial and governmental employees
Defined Contribution or Defined Benefit Plan
Defined Contribution Plans Individual accounts for participants Participant benefit is account balance at distribution event Participant bears risk of investment losses and enjoys benefits of investment gains May be employer funded May be funded by participants or employer and participants
Defined Benefit Plans No individual accounts Employer promises to pay benefits to participants in the future and contributes actuarially determined amounts to pay those benefits Employer bears risk of investment losses and enjoys benefits of investment gains Employer funded - no participant contributions
Other Considerations
Specific Considerations for Tribal Plans No Prototype plans Plan documents must include language specific to Tribes - Protection of Sovereign Immunity - Avoidance of state law regulation If the plan is a governmental plan, must include specific language re governmental status
General Design Considerations Matching contributions Vesting or safe harbor Loans Hardship distributions Auto enrollment
Nonqualified Deferred Compensations Plans For elected officials For executives as incentive compensation - Provides benefits competitive with marketplace - Replaces opportunity for entity ownership
Working with a Retirement Plan Advisor
Why Hire a Retirement Plan Advisor? As a plan sponsor you have a duty to ensure your plan: Offers optimal investment choices Pays only reasonable fees, and Keeps participants properly informed For ERISA plans, the standards are even higher An experienced retirement plan advisor will ensure that your plan: Operates smoothly Is cost effective Is designed to minimize liability Promotes positive participant outcomes.
Attributes of a Good Advisor Retirement Plan Focus Independence Co-Fiduciary Status Investment Expertise Knowledge of Provider Marketplace Enrollment Education Support ERISA Expertise & Guidance Full and Open Disclosure
Broker vs. Advisor there s a big difference There are two standards under which investment sales reps operate. The Suitability Standard Brokers and life insurance agents are paid by commissions. They operate under the suitability standard which requires them to: Know the client s financial situation Recommend suitable products The Fiduciary Standard Investment Advisor Representatives are fee only advisors. They abide by the fiduciary standard which requires them to: Put the client's best interest first. Act with the skill, diligence and good judgment of a professional. Fully disclose all conflicts of interest Some representatives are dually registered, when representing your plan make sure your representative is operating under The Fiduciary Standard.
Service Providers and Their Arrangements
401(k) Service Providers Custodian Safeguards assets of the plan, decides which investment options will be available to the plan Record Keeper Keeps track of daily transactions and account values, provides website access for participants to view their accounts Advisor / Broker Advisor helps plan sponsor: choose service providers, select investment options, monitor their performance and understand fiduciary responsibilities. Brokers are responsible for selling products to plan sponsor. (Big difference between advisors & brokers) Funds Investments options in plan, usually mutual funds Third party Administrator Prepares and files required IRS forms (5500), performs compliance work, crafts plan design and typically drafts the plan document
The Bundled Arrangement Plan Sponsor Advisor Custodian Record Keeper Fund Lineup TPA Under the bundled approach the roles of Custodian, Record Keeper (RK), Funds and TPA are provided by the same entity Low to medium cost Ease of administration for plan sponsor one point of contact Obtaining fee transparency and defined service offerings is difficult Fund options are typically limited Limited document flexibility, typically not appropriate for tribal entities
The Unbundled Approach Plan Sponsor Advisor Custodian Record Keeper Fund Lineup TPA In the unbundled approach, the role of the TPA is separate from the roles of Custodian, RK and Funds. Custodian and RK are not separated Slightly better fee transparency and definition of service offerings Similar to bundled but provides ability to work with local TPA
Open Architecture Record Keeper Plan Sponsor Advisor TPA Custodian Fund Line-up Open Architecture permits freedom of choice between all providers. RK and custodian are separate entities, RK may work with 4 or 5 different custodians Great for fee transparency and clearly defined service offerings TPA and RK may be separate, but many open architecture RK s offer TPA services Not the same as Open Fund Architecture RK indifferent as to fund lineup
401(k) Cost Components
Three Basic Components Investment Management Fees Administrative Fees Consulting & Advisory Fees TOTAL PLAN COST Investment Management Fees are always deducted from plan assets Administrative, Consulting and Advisory Fees may be paid by the plan sponsor (as a billed expense) or participants (deducted from plan assets) The vast majority of total plan costs are paid for by participants through investment fee revenue sharing.
What is Revenue Sharing? Revenue sharing occurs when mutual funds make payments to brokers, record keepers or TPA s. These asset based payments are imbedded in a mutual fund s expense ratio and are very hard to find The payments are over and above what is necessary to actually manage the fund In most instances the exact same fund is available without the added revenue sharing expense Always paid by participants because the payments are deducted directly from participant accounts
The Hidden Fees in Revenue Sharing 12(b)-1 Fees Shareholder Servicing Fees Broker/Advisor Compensation Fees Sub-TA (Transfer Agency) Fees Asset-based (wrap) Administrative Fees
The Problem with Revenue Sharing Lack of full disclosure and fee transparency makes revenue sharing arrangements hard to quantify. Permits the use of asset based fees to pay for costs that should be billed as flat fees or charged on a per participant basis. Service providers are addicted to asset based fees as it almost guarantees them a growing income stream Revenue sharing does not evenly divide the plan costs among plan participants
Record Keeper Example Plan A and Plan B each have 100 participants. Plan A has $3.0 million in assets and Plan B has $6.0 million in assets Fees Plan A Plan B Base fee $3,000 $3,000 Per participant fee ($20) $2,000 $2,000 Asset based fees (0.15%) $4,500 $9,000 Total fees $9,5000 $14,000 Total per participant $95 $140 Plan B is paying $140 per head, 47% more than Plan A, yet each plan has the same number of employees. As plan assets continue to grow, the RK s fee will continue to grow for no other reason than the increase in plan assets
Excessive Fee Impact Can be Substantial A employee that contributes $5,000 annually to the 401(k) and earns an average rate of return of 6% over 30 years will have $817,000 at retirement. If the rate of return were reduced by 1% due to excessive fees, the nest egg at retirement decreases to $632,000, a difference of $185,000, or 23%!
Excessive Fees Lawsuits Are On The Rise Caterpillar - paid $16.5 million settlement, November 2009 Beverly Enterprises - paid settlement of $6.25 million, March 2010 Bechtel Corporation - agreed to pay $18.5 million, October 2010 General Dynamics - paid $15.15 million settlement, November 2010
Share Classes - A Quick Test For Your Plan Same funds, only cost structure (revenue share arrangement) is different Retail share classes Sales loads Higher 12b-1 fees Should never be part of a 401(k) lineup Retirement plan classes No sales loads Lower expense options
Finally - Fee Related Disclosures Are Here 1. Form 5500 requirements Schedule A reports commissions or related fees to insurance companies Schedule C used to report fees to service providers 2. Service Provider Fee Disclosures (Effective January 1, 2012) A written disclosure (not contract) must be provide: A listing of all services provided. Bundled services must be broken out. All direct and indirect compensation from all sources Anyone that reasonably expects to serve in a fiduciary capacity must clearly say so. 3. Participant Fee Disclosures (Effective January 1, 2012) Requires plan sponsors to provide certain disclosures to participants Plan related information general, administrative expenses and participant specific Investment related information investment options, performance data, benchmark comparison, expenses, etc.
Preparing For Service Provider Disclosures Consider amending existing SP contracts to delineate disclosure obligations. Develop procedures to review and confirm disclosure delivery Fee disclosure compliance does not negate ongoing fiduciary requirements. Work with your advisor to benchmark your fees against other providers. If your costs are out-of-line, negotiate with your existing provider to lower your costs. Be sure to document your review of the disclosures and any actions taken.
Fiduciary Best Practices
What is a Fiduciary? A fiduciary is: Any individual or entity that has, or exercises discretionary control over the management of the plan or the plan s assets A plan may have more than one fiduciary and individuals serving in more than one fiduciary capacity The fiduciary test is a functional one - You are a fiduciary if you exercise discretionary authority or control with respect to the plan, regardless of an official, documented appointment - Tribal Council members who appoint committee members are fiduciaries with respect to those appointments
Fiduciary Responsibility: What the DoL says According to the DoL s guide entitled Meeting Your Fiduciary Responsibilities, retirement plan fiduciaries must: 1. Act solely in the best interest of plan participants 2. Carry out their duties prudently this requires expertise in variety of areas. If you re not a 401(k) expert, hire one. 3. Follow plan documents. 4. Diversify plan investments 5. Pay only reasonable plan expenses. This is accomplished by: - Understanding all services provided to the plan - Determining if they are necessary - Ensuring that the contracts are reasonable - Making sure the fees are reasonable Fiduciaries who do not follow the basic standards of conduct may be personally liable to restore any plan losses
BP No. 1 Establish Investment Committee Should have at least 3 members Fiduciary roles and responsibilities should be assigned, documented and acknowledged Meetings should occur at least two to four times per year All meeting minutes should be documented All meetings for the year should be scheduled at the beginning of the year or they tend not to happen
BP No. 2 Draft an Investment Policy Written investment policies are not required by ERISA They are recommended to demonstrate compliance and ensure procedural decision making Content should include Clear standards for choosing investments How investments are monitored Watch list and replacement triggers Commercial plan fiduciaries should have a process in place to comply with ERISA standards Fiduciaries are judged based on the processes they follow, NOT the results achieved
BP No. 3 - Investment Monitoring Investment policies should provide a process for ongoing monitoring of plan investments. Investments should be reviewed with regular frequency Monitoring should include qualitative and quantitative metrics Fiduciaries must understand what the analysis means for the plan and its participants Investments not meeting criteria established in Investment Policy should be replaced with a similar investment Adding additional similar investments is not prudent Failure to replace funds may evidence fiduciary s failure to act prudently Could result in personal liability
BP No. 4 Service Provider Benchmarking Services to periodically be benchmarked include: - Consultants - registered rep or investment advisor - Vendors - Record keeper, TPA or mutual funds - Auditors - Independent CPA Benchmarking should include an analysis or all services provided and the corresponding fees Fiduciary s goal is to ensure providers: - Have necessary experience and expertise - Are independent and objective - Can provide necessary services - Act solely in the best interests of plan participants
BP No. 5 - Maintain a Fiduciary File Document Categories General Documents - Plan and committee focused documents Provider contracts and agreements Administration Documents - Evidence of employer contributions Audit results All safe harbor documentation and participant notices Participant Communications - Enrollment materials Event communications Participant requests Investments Documents - Investment Policy Statement Investment committee meeting minutes Documentation of investment activity
Getting Them to Participate!
Tips to Increase Participation Overcoming inertia: Auto-enrollment Retroactive Auto-enrollment Employer match For those not comfortable with investing: Qualified Default Investment Alternatives Participant meetings / professional advice Professional Advice Strategies to increase savings rate: Add take home pay calculator Structure match to promote higher savings Add auto-escalation feature Provide gap analysis feature
Thank You! Blake Overbay, AIF Sachem Advisors, LLC Alpharetta, GA boverbay@sachemadvisors.com www.sachemadvisors.com Nancy Williams Bonnett Pietzsch, Bonnett & Womack Phoenix, AZ bonnett@usbenefitslaw.com www.usbenefitslaw.com