May 24, 2013 GEARING UP FOR YEAR 1 ½ ERISA 408(b)(2) FEE DISCLOSURES
WELCOME TO TODAY S WEBINAR On behalf of Benefit Funding Services Group and WithumSmith+Brown, welcome and thanks for spending your lunch time with us. Have a question or comment? Please use the chat box. If we don t get to your question, we will reach out to you at the conclusion of the webinar. Today is interactive. Your participation in the polling questions is required to be eligible for CPE credit. You can download the handouts for today s webinar in the materials section of the GoToTraining toolbar. We will begin shortly! Today s Disclaimer The information presented in this webinar represent our perspectives, is not necessarily all inclusive, does not constitute legal or any other advice, and should not be relied upon without first consulting with appropriate qualified professionals for your plan s individual facts and circumstances.
Meet Your Presenters CHRISTOPHER S. ROWEY Retirement Plan Consultant Benefit Funding Services Group crowey@bfsg.net DAVID DACEY, CPA Partner, Practice Leader, Employee Benefit & Pension Plans Group WithumSmith+Brown, PC ddacey@withum.com IRS / DOL Defined Contribution Fee Disclosure Initiative Timeline 5500 Schedule C 408(b)(2) Participant Fee Disclosure 2010 2012 2012 July 1, 2012 August 30, 2012
What Is 408(b)(2)? ERISA 406 A plan s payment of compensation for services is a prohibited transaction unless the exemption is met ERISA 408(b)(2) Provides an exemption for service arrangements if the following requirements are met: Service arrangement is reasonable Services are necessary Compensation is reasonable What Is a Reasonable Arrangement? No contract or arrangement for services between a covered plan and a Covered Service Provider (CSP) is reasonable unless certain disclosures are provided to the Responsible Plan Fiduciary (RPF) in advance of the RPF s selection of the CSP The Department of Labor issued regulations in 2010 describing the required CSP disclosures: to assist plan fiduciaries in complying with 408(b)(2) Effective July 1, 2012 (revised) for both new and existing arrangements Disclosure required at point of sale Must be in writing (no specific format) Providers must disclose later changes in compensation within 60 days of the change
What Do 408(b)(2) Regulations Pertain To? COVERED SERVICE PROVIDERS Reasonably expects to receive $1,000 or more in compensation for covered services over the course of the arrangement (unless 100% sponsor paid), or Provide one of three types of services Fiduciary Recordkeeping Certain Other Providing Services To COVERED PLANS All defined contribution and defined benefit plans subject to ERISA 401(k) plans 401(a) plans 403(b) plans Exceptions SEP IRA SIMPLE IRA Traditional IRA Welfare Benefit Plans What Are the Required Disclosures? A CSP must disclose in writing to the Responsible Plan Fiduciary (RPF): Fiduciary Status (if CSP is a fiduciary) Description of the Services Provided Fees / Compensation (anything of value) & Manner of Receipt Direct Indirect 12b-1, Sub-TA, Finders Fees Entertainment Float Special recordkeeping fee disclosures Investment Fee Disclosures (DC recordkeepers & investment providers) When? New CSPs: Reasonably in advance of the RPF s engagement of CSP Current providers: July 1, 2012 Not an annual disclosure (only if changes) 8
What Are the Effects to Responsible Plan Fiduciaries? Receive written arrangement from CSP If no arrangement is received, obligation is now on the RPF to ask for the arrangement from the CSP in writing RPF must notify the Department of Labor within 30 days of the earlier: CSP does not respond to request within 90 days CSP responds and will not provide the arrangement Re-evaluate providers Arrangement is reasonable Services are necessary Compensation is reasonable Monitor / Benchmark on an ongoing basis Negligence by plan sponsors results in a prohibitive transaction Understanding Plan Fees Plan fees can be separated into three categories: 1) Service Costs 2) Management Fees 3) Additional Costs 1% Operating Expense Ratio (100 basis points) Investment Management Fees 60 basis points (0.6%) Recordkeeping Fees 40 basis points (0.4%) Paid by Participants Management Fees Paid to Investment Manager or Sub-Advisor Service Costs 12b-1 Fees Sub-Transfer Agent Fees Shareholder Servicing Fees Additional Costs Paid by Participants and/or Plan Sponsor Defined Contribution Plans Hard Dollar Asset Based Wrapped Fee Investment Advisory Services Defined Benefit Plans Actuarial Fees Pension Accounting/Consulting Fees Administrative Fees (benefit payments, etc)
Understanding Mutual Fund Share Class Pricing Growth Fund of America Growth Fund of America Growth Fund of America Growth Fund of America Growth Fund of America Growth Fund of America Growth Fund of America Growth Fund of America Expense Ratio 1.44 1.41 0.98 0.69 Expense Ratio 1.44 1.41 0.98 0.69 Large Cap Growth Category 1.34 Service Provider Revenue 1.10 1.00 0.65 0.35 Plan Fees / Disbursement Plan Assets (as of 6/30/12) Participants (as of 6/30/12) Plan Weighted Expense Ratio Investment Expense (paid by participants) Sample Client 401(k) Plan $68,281,130 950 0.72% $492,333 Revenue to Investment Management ($) Revenue to Recordkeeping / Administration (Vendor) Revenue to Trust Reimbursement Account NET Cost for Recordkeeping / Administration & Investment Mgmt $257,239 $235,094 $0 $492,333 0.38% 0.34% 0.00% 0.72% Industry Average 1.03% $703,296 Expense Disbursement 48% 52% Investment Management pays mutual fund managers (i.e. American Funds, PIMCO, etc.) Recordkeeping/Administration retained by Sample Vendor for DC plan services such as participant services (statements, website, toll free access), plan document support, discrimination testing, annual 5500 filing, etc. Trust Reimbursement Account used to pay qualified plan-related expenses, such as Sample Consultant consulting fees. Monies in Trust Reimbursement Account not used for plan-related fees must be reallocated to participants.
Projected Recordkeeping Costs Date 2Q12 2013 2014 2015 2016 2017 Plan Balance $68,281,130 $75,109,243 $82,620,167 $90,882,184 $99,970,402 $109,967,443 # of Participants 950 950 950 950 950 950 Avg Account Balance $71,875 $79,062 $86,969 $95,665 $105,232 $115,755 Fund Revenue for Recordkeeping ($) $235,094 $258,603 $284,464 $312,910 $344,201 $378,621 Fund Revenue for Recordkeeping (%) 0.34% 0.34% 0.34% 0.34% 0.34% 0.34% Trust Reimbursement Account Allocation ($) $0 $0 $0 $0 $0 $0 Trust Reimbursement Account Allocation (%) 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Net Revenue to Recordkeeper ($) $235,094 $258,603 $284,464 $312,910 $344,201 $378,621 Net Revenue to Recordkeeper (%) 0.34% 0.34% 0.34% 0.34% 0.34% 0.34% Revenue per Head $247 $272 $299 $329 $362 $399 *Projections based on 10% growth (4% average annual net cash flow + 6% market gains). $1,000,000 $800,000 $600,000 $450 $400 $350 $300 $250 $247 $272 $299 $329 $362 $399 $400,000 $200,000 $0 $235,094 $258,603 $284,464 $312,910 $344,201 $378,621 2Q12 2013 2014 2015 2016 2017 $200 $150 $100 $50 $0 2Q12 2013 2014 2015 2016 2017 Net Revenue to Recordkeeper ($) Revenue per Head 408(b)(2) Review Process Summary Organize Inventory Covered Service Providers Review disclosures and document findings Analyze Results Quantify Plan related revenues and vendor costs Review vendors services Understand potential conflict of interest Benchmark Covered Service Provider Fees and Revenues Services Take necessary corrective actions and document process
Advantages to Plans Increased transparency already resulting in fee reductions Changes in Investment line-up Renegotiation of Fee arrangements Excess revenues generated through assetbased fees made available to Plan: ERISA Budget Account Plan Expense Reimbursement Agreement (PERA) ERISA Fee Recapture Account Advantages to Plans Initially saw these trends primarily in the larger plans Increasingly, smaller sized plans are benefiting from the transparency of fee disclosure and competitive marketplace 16
Change in Investment Lineup Plans previously invested in retail share classes switch to institutional share class options Can mean significantly lower expense ratios Leverage often depends on total assets invested in the Plan May decrease revenue sharing to the point expenses need to be directly paid 17 Renegotiation of Fee Arrangements Per capita fees for recordkeeping replacing asset based arrangements Participants with large account balances typically benefit; those with smaller account balances may pay more than in the past Reductions in expense ratios Negotiations of arrangements to return excess amounts to the Plan 18
Excess Funds Available to Plans Vendors receive asset-based revenues E.g. portion of mutual fund expense ratios Predetermined fee level is negotiated between Plan and vendor Any asset-based revenues received by the vendor in excess of the predetermined fee go to account Available to pay eligible costs of administering the Plan 19 Excess Funds Available to Plans Common structures: Amounts deposited into account within plan trust; used to pay eligible plan expenses; remaining amounts at end of plan year are allocated to participants in accordance with Plan document Amounts retained by vendor and applied as credit; available to pay eligible administrative expenses; may be carried forward from year to year; can be use or lose switch vendors, lose unused balance Plan assets or not plan assets? Form 5500 and Financial Statement reporting 20
408(B)(2) FEE DISCLOSURES AND THE 401(K) AUDIT How Does 408(b)(2) Shake Out? Fees meeting the exemption requirements reasonable Fees not meeting the exemption requirements - nonexempt or prohibited transactions
PTs and Traditional GAAS Acronyms: PT Prohibited Transaction GAAS Generally Accepted Auditing Standards CSP Covered Service Provider Fee is not reasonable = PT, if no written disclosure : Initially by July 1, 2012 For new contracts in advance of service For changes within 60 days of the change Prohibited transactions under ERISA = Illegal acts under GAAS GAAS impacts both auditors and fiduciaries For institutional use only. Not for public use. Why Does GAAS Consider PTs to Be Illegal Acts? GAAS defines illegal acts as: Violations of law Violations of government regulations PTs violate ERISA Code Section 406 Therefore PTs are considered illegal acts under GAAS For institutional use only. Not for public use.
How Do Clarity Standards Explicitly Change Auditing? Defined two categories of laws and regulations: Direct effect on determination of material amounts and disclosure in financial statements (and relevant to the entity s financial statements) No direct effect but compliance fundamental to operations of the Plan Direct effect requires obtaining sufficient appropriate evidence No direct effect requires specified audit procedures that may identify noncompliance What Are the Specified Procedures? DIRECT EFFECT Understanding legal and regulatory framework Understanding how entity is complying with framework: Management inquiries regarding compliance with laws and regulations Inspecting correspondence (if any), with relevant regulatory authorities Same requirements as responsibilities to detect fraud NO DIRECT EFFECT Understanding legal and regulatory framework Understanding how entity is complying with framework: Management inquiries regarding compliance with laws and regulations Inspecting correspondence (if any), with relevant regulatory authorities For noncompliance brought to auditor s attention additional procedures required
Auditing, Financial Statements and the Clarity Auditing Standards Understand legal & regulatory framework PTs are reported on a supplemental schedule, regardless of materiality Related party disclosure if PT affects a related party Contingences arising from PTs may need to be disclosed Auditor report modification for omissions Understanding Internal Controls Regarding Processes in Place For identifying all CSPs subject to requirements For identifying and obtaining receipt of required disclosures For evaluating adequacy of CSP fee disclosure compliance For evaluating fees incurred vs. benefits received For handling noncompliance
Identifying all CSPs Subject 408(b)(2) As a Plan fiduciary under ERISA or Investment Advisers Act of 1940 Services as a Plan fiduciary for investment vehicles that hold Plan assets Services as a RIA Recordkeeping or brokerage services to participant-directed plans that offer one or more designated investment alternatives under Section 404(c) Indirect compensation for accounting, actuarial, legal and other professional services Sources for Identifying CSPs Last year s list Parties-in-interest Form 5500, Schedule C Internal inquires Service provider interviews for affiliations and ERISA spending account activity Organizational document review Review historical Plan transactions
Handling Non-Compliance Upon discovery of a failure, request to CSP: Request in writing Must receive information within 90 days from CSP Timely notifying the of Department of Labor if information is not received within 90 days of request Determine whether to terminate arrangement with CSP Schedule C reporting of non-compliance Evaluating Reasonableness of Fees CSP qualifications to perform service Amount charged by CSP vs. quality of service provided Potential conflicts of interest with CSP Process in place to perform an invoice review for compliance with agreed upon fees
Internal Controls and Policies 408(b)(2) Compliance Policy Plan Expense Policy Plan Expense Reimburse ment Account (PERA) Policy Formalize a program for monitoring plan fee and expenses 33 THANK YOU FOR YOUR TIME! CHRISTOPHER S. ROWEY Retirement Plan Consultant Benefit Funding Services Group crowey@bfsg.net DAVID DACEY, CPA Partner, Practice Leader, Employee Benefit & Pension Plans Group WithumSmith+Brown, PC ddacey@withum.com