Best Practices The TDS Group and the California School Boards Association provide Selecting and Paying for a Plan Administrator as a public service. Our series of Best Practices guides provide answers to frequently asked questions about 403(b) and 457(b) employer-sponsored retirement plans. Best Practices assists those: Responsible for ensuring district sponsored plans are IRS compliant, Seeking a better understanding of the role of the third-party administrator in the administration of employer-sponsored plans, Seeking a better understanding of the district s role in employee participation. Tax Deferred Solutions (TDS) TDS is a California-based full-service plan administrator providing services to schools and municipalities since 1978. An innovator in the industry, TDS is the largest California-based plan administrator (PA) providing common remitting services, full 403(b)/457(b) compliance and management, proprietary 457(b) plan management and implementation. We proudly provide services for employers of all sizes, serving moderately sized and large districts and county offices throughout the state. TDS is a proponent of choice for 403(b) and 457(b) investment offerings for plan participants. California School Boards Association (CSBA) The California School Boards Association is a collaborative group of virtually all of the state s more than 1,000 school districts and county offices of education. It brings together school governing boards and their districts and county offices on behalf of California s children. CSBA is a member-driven association that supports the governance team school board members, superintendents and senior administrative staff in its complex leadership role. Tax Deferred Solutions has been a California School Boards Association Business Service partner since 1995. CSBA proudly works with TDS to provide time-saving, cost effective, tax deferred compensation management solutions. These solutions are easy, efficient and compliant. 2011 Tax Deferred Solutions, All Rights Reserved. Page 1
Do you need a plan administrator? In the fall of 2007, the IRS announced a major overhaul of regulations relating to 403(b) plans. Prior to the issuance of the final 403(b) regulations, most plan sponsors performed some tasks required to establish and support their 403(b) programs. Product providers acted under their respective annuity contracts and custodial accounts to establish individual accounts, keep records, make distributions, withhold and report taxes for their account holders. However, the new regulations clearly indicated that plan sponsors, not plan providers, carry the obligations and responsibilities that had not previously been associated with sponsoring a 403(b) plan. One consequence is that employers have to recognize their additional responsibility and potential liability for administrative functions of their 403(b) plans. Recognizing this fact is key to compliance administration because the information necessary to properly administer the plans often does not reside solely with the employer, but may be spread among several parties. Therefore, compliance can only be accomplished if the parties know how the plan is being administered and which parties have the information necessary to properly evaluate a transaction. Further complicating this issue, providers of administration services do not offer all the same services for the 403(b) plans that they administer. In general, a plan administrator is an organization that acts as a conduit for information between the plan sponsor (employer) and any vendors that offer investment products under the plan. The PA then uses this information to perform the day-to-day administrative functions required under the plan document, such as monitoring contributions and investment allocations. Services may be provided based on optional plan features, such as certifying hardships or coordinating loans from different product providers. Unfortunately, not all organizations identifying themselves as a plan administrator actually provide every administrative service required under the plan. As a result, product vendors often do not know, from plan to plan, which services are being provided by the administrator, which by the employer, and which they are expected to perform. This creates an environment in which there is little consistency in the marketplace and product vendors often duplicate services being provided by administrators, sometimes with conflicting results. This lack of communication can cause delays, errors and inconsistent results for participants and plan sponsors. The purpose of this guide is to give employers information to identify the different types of 403(b) plan administrators, determine what type is best suited to provide the services needed for their plan, and understand the different models of paying for services. 2011 Tax Deferred Solutions, All Rights Reserved. Page 2
Selecting a plan administrator In selecting a plan administrator to assist in plan compliance efforts, the first step is to understand the different types of organizations that offer all or some of the services needed to keep the plan in compliance. The employer can then select a PA that provides the services necessary to support their 403(b) plan. If they select anything other than a full-service PA as outlined below, the employer must understand that they will be responsible for any services not provided by the PA. Not all administrators provide the same level of services to 403(b) plans. Unfortunately, an employer may not be able to tell the difference in service levels when evaluating bids or proposals if it is not clear what the significance of the differences are. Many districts believe they have contracted with a full service plan administrator, only to find out that they do not perform all the services needed. As a result, the plan may be operationally non-compliant. Types of Administration Service Providers It is important to understand the key differences between the types of companies that provide services a record keeper, a common remitter, a quasi-pa and a full-service PA. Record keeper or aggregator This type of TPA: Keeps records of plan and participant account information, Maintains accounting of values attributable to each 403(b) plan participant, Some aggregators track the sources of money i.e. Roth, employee deferrals and employer contributions, Typically do not handle compliance features. Common remitter Captures data from the employer s payroll, Compares the amounts remitted with expected contributions, Compiles and reconciles exceptions with the payroll department, Identifies employees eligible for catch-up contributions and applies contributions in the proper order, Distributes contributions to investment providers. 2011 Tax Deferred Solutions, All Rights Reserved. Page 3
Quasi-TPA This type of PA: Provides some, but not all PA services, based on the terms of the agreement between the TPA and the employer; Usually offers one or more of the following services: o Common remitter services, o Consulting, o Educational materials, o Documents (specimen documents). Full-service TPA A full-service TPA provides comprehensive plan administration services for 403(b) plans including: Common remitter services; Recordkeeping services; Overall compliance at the plan level with respect to loans, hardship withdrawals, tracking suspensions and reinstatement, exchanges and transfers, distributions, and monitors required minimum distributions, but does not take on fiduciary duty; Coordinating various vendor activities; Maintaining employer plan website (optional); Acting as the central point of contact for plan-level information; Drafting and maintaining plan document; Maintaining administrative forms; Providing employer manual or instructions to employer; Assisting and advising employers regarding eligibility and participation requirements, such as the universal availability rule. Of the PAs currently operating in the K-12 market, over 56% were not in business 5 years ago and only 15% were in business over 15 years ago. 2011 Tax Deferred Solutions, All Rights Reserved. Page 4
Third-Party administrator requirements (California Specific) In August 2006, the California legislature enacted laws to govern the rights and obligations of employers where third-party administration is considered. The following are specific requirements of the law applicable to all governing boards of a school district as identified in California Education Code 44041.5: Provide proof of liability insurance and fidelity bond, Ensure a safe chain-of-custody of assets process, Disclose affiliation with an investment provider, Disclose fees, commissions and cost offsets from any related entity. Paying for plan administration Once the plan sponsor understands the different level of services provided by various organizations, the next step is to determine how the service will be paid for. Only recently has the dust settled on the types of models available. In the big rush of 2008-2009 to establish a compliant 403(b) plan, many employers contracted with PAs based on such factors as an existing relationship with people in the organization, reputation, and referrals from colleagues. The fee or cost in some cases was less of an issue as many plan sponsors assumed all PA organizations were paid the same way. While this selection process didn t necessarily mean the plan sponsor chose unwisely, it might have resulted in exposing the employer to unneeded expense. Fee models There are essentially four different payment models: 2011 Tax Deferred Solutions, All Rights Reserved. Page 5
Employer pay In this model, the employer contracts with a plan administrator and agrees to pay the cost for administration. Which fee structure the PA uses makes a significant difference in cost to the employer each year. The fee structure and cost will vary by provider but is typically structured in one of two ways, as explained below. Monthly fee per participant Here the employer pays a fee, usually recognized as a monthly amount, for each participant that contributes to an employer sponsored plan or has an account that may or may not be active. The fee ranges from $2 to $5 per month per participant. This fee structure is most typical among employer-paid models. The employer should note, however, that their fee is essentially variable as the number of employees participating increases, so too will the fee paid. Unfortunately, this can be a disincentive for the employer to promote participation (to keep costs down). This could land the employer in trouble with the IRS. Monthly fee per eligible employee Some PAs charge a fee for each eligible employee (essentially all employees) regardless of whether they participate in the plan or not. The reasoning behind this model is that the PA is still covering costs for educating and compliance. The expectation is that those employees will eventually participate. The monthly fees tend to be lower, $1 to $3 per month. The employer selecting an employer pay model should make sure they know how the fee will be charged. This model is less popular today in part because of the current budget shortfalls in many public schools across the country. As with all four models, there are advantages and disadvantages. Clearly a main disadvantage is the extra expense the employer is burdened with, regardless of whether it is participant- or eligibility-driven. Certainly an advantage in this model is increased vendor participation; because the employer is covering all the costs associated with the administration of the plan, nearly all vendors will want to participate. This provides more options and choice for the employees. 2011 Tax Deferred Solutions, All Rights Reserved. Page 6
Employee pay This model is similar to employer pay, but the monthly fee is paid by the employee/participant. Any employee electing to contribute to the plan must pay a fee to cover the cost of compliance and administration. The fee is either drafted from their paycheck each month (a function handled in payroll) or the vendor on behalf of the district will deduct it from their account to pay the PA. As with the employer pay plan, this model can act as a disincentive for employees to participate, as they don't want to pay the fee. It can be particularly expensive for employees contributing small monthly amounts as the fee could potentially erode any gain they had on those contributions, or worse, be subtracted from the principal. Vendor pay In this model, the employer through its plan administrator charges the vendor for administration costs. Because the vendor is the benefactor of the plan as they receive the funds for their own investment gain, assisting in the cost of administration makes sense. In addition, if many of the services once performed by the vendor for the district are being handled by the PA, such as loan verification, transfer and exchanges, etc., the vendor now has reduced administration expenses and other internal costs. This plan is considered the most neutral, both from a vendor and participant point of view. Like other models, it too has its disadvantages. Some vendors in the plan may choose not to pay the fee. In this case, the employer can choose to cover the costs for those vendors, or pass the fee on to the participant (the usual choice). The fee for a nonparticipating vendor is typically deducted from the participant s account, but can also be handled through payroll if the employer prefers. The district could choose to remove vendors that will not cover the fee, although it is recommended that employers keep them in the plan and give participants the choice of paying the fee or changing vendors. 2011 Tax Deferred Solutions, All Rights Reserved. Page 7
Free Vendor sponsored In this model, a vendor-backed PA is hired to handle compliance and administration for the employer s plan. The vendor is providing the administration as a loss leader the goal of the vendor is to sell enough of their financial product to offset the cost of administration. Most vendors in this model demand time with the employees as part of their services, again with the hope of selling their product. Can you really get something for free? Many PAs offering the free model have already converted to another model, or are likely to soon. There is an inherent conflict of interest in this model that makes many employers and their employees uncomfortable. It should be noted that some formerly free plans are being converted to hybrid models of the other plans. For example, some vendor PAs are beginning to charge the vendor a fee or charging the employer an annual administration fee. The speculation is that this model will not be sustainable; the cost of administration is simply too high. Transaction costs Adding a fee for processing transactions is a recent phenomenon in the industry. Some plan administrators charge a fee for each transactional request on top of one of the fee models above. The additional fee, ranging from $10-$25, is levied on each transactional request including loans, transfers, and hardship requests. This fee is either paid by the employer or the vendor or is passed on to the employee. Often, the plan administrator assessing these extra fees will not execute the request until after the fee is paid. As the plan administrator is responsible for all activity in the plan (loans, exchanges, transfers and distributions), these transaction requests can be as much as 45% of all the work performed in the plan. The simple fact is plan compliance and administration must be paid for. There is a cost to effectively managing an employer-sponsored plan. The question is, which model is right for you? 2011 Tax Deferred Solutions, All Rights Reserved. Page 8
Conclusion Before the new IRS regulations, public school employers had a much different relationship with the participants of a 403(b) plan. The employer was often viewed as a conduit or middle man between the employee and vendor, simply executing the Salary Reduction Agreement to send funds to the selected vendor. The employer had no responsibility for proactively communicating the benefits of 403(b) plans to its eligible employees. Moreover, permitted exclusions and eligibility rules may not have been closely monitored. With the implementation of the new IRS rules in 2009, the environment for 403(b) plans has dramatically changed. The employer is a vital part of the process now, not just a facilitator; the employer must have a written plan, maintain compliance with regulations and educate employees about the available employer sponsored plans. This is quite a job. As a result, the need for a qualified plan administrator is clear. The employer s responsibility now is to find a qualified PA with a fee model that best suits the employer s needs. IMPORTANT NOTE In this guide we have done our best to provide the reader useful and accurate information. However, laws and procedures are always changing and subject to different interpretations. This guide should never be used as a substitute for seeking expert advice. It is provided with the understanding that neither the publishers nor authors are engaged in rendering legal, accounting, tax or other professional service. This document contains proprietary, copyrighted material belonging to The TDS Group, Inc. Unauthorized translation, duplication and distribution of these materials without express written permission of TDS is a violation of applicable state and federal laws. Tax Deferred Solutions 6939 Sunrise Boulevard, Suite 250 Citrus Heights, CA 95610 (866) 446-1072 planadministrator@tdsgroup.org 2011 Tax Deferred Solutions, All Rights Reserved. Page 9