Covered service providers that expect to receive $1,000 or more in compensation and provide certain fiduciary or registered investment advisory services, make available plan investment options in connection with brokerage or recordkeeping services, or otherwise receive indirect compensation for providing certain services to a covered retirement plan (defined below) have until July 1, 2012 to comply with newly issued final regulations published by the Department of Labor (“DOL”) February 2, 2012 (the “Regulations”). Under the Regulations, these “covered service providers” are required to disclose all fee information, including hidden fees, relating to the services they provide. The purpose of the Regulations is to better equip plan fiduciaries in determining the reasonableness of fees charged by service providers.
ACTION ITEMS
In order for a service provider to determine whether it must comply with the Regulations, we recommend that the following action items begin to be addressed so as to provide ample time for compliance.
- Determine whether you are a “covered service provider” as defined by the Regulations.
- If yes, determine whether you provide services to a “covered plan.”
- For each account subject to the Regulations, review your service agreements to identify whether they contain all the necessary disclosures, and add information accordingly.
- As necessary, set up software and procedures to capture the required disclosure information, and prepare processes for disclosing indirect compensation and recordkeeping costs paid through revenue sharing.
- Distribute required disclosures prior to the July 1, 2012 effective date, as new service agreements are entered into, and as changes to previous disclosed information are made.
- Develop systems to identify changes required to be reported
WHO IS A COVERED SERVICE PROVIDER?
The following service providers are “covered service providers” under the Regulations if they reasonably expect to receive at least $1,000 in direct or indirect compensation from a “covered plan”:
- ERISA fiduciaries providing services directly to a covered plan (defined below);
- ERISA fiduciaries providing services to a look-through investment vehicle, such as hedge funds in which plans have direct equity investment and that hold plan assets;
- Registered investment advisers, including those registered under state law, who provide services directly to a covered plan;
- Providers of recordkeeping or brokerage services to a participantdirected individual account plan if one or more designated investment alternatives is available in connection with the arrangement, such as through mutual fund platforms; and
- Providers of specified services to a covered plan when the service provider, or an affiliate or a subcontractor, reasonably expects to receive indirect compensation. Specified services include banking, securities or other investment brokerage, custodial, recordkeeping, investment advisory, and third-party administration
WHAT IS A COVERED PLAN?
The Regulations apply to defined benefit and defined contribution plans subject to Title I of ERISA. The Regulations do not apply to plans that are exempt from Title I of ERISA, such as governmental plans, non-electing church plans, foreign plans, and non-qualified plans and unfunded excess benefit plans. In addition, the Regulations do not apply to certain annuity contracts and custodial accounts described in Internal Revenue Code section 403(b). The Regulations also specifically exempt IRAs, SEPs, Simple IRAs, and welfare plans.
WHAT INFORMATION MUST BE DISCLOSED?
Covered service providers must provide plans with a description of the services provided to the plan, a description of direct compensation and indirect compensation that the service provider reasonably expects to receive, a description of compensation paid among related parties (including bundled service arrangements), a reasonable estimate of unbundled stand-alone recordkeeping services, and compensation to be paid in connection with termination of a contract. Compensation includes money and anything of value, including meals and entertainment. Covered service providers who disclose indirect compensation must also provide a description of the arrangement among the payer and the covered service provider pursuant to which the indirect compensation is paid, as well as identify the sources for indirect compensation, plus services to which such compensation relates.
Covered service providers that are ERISA fiduciaries because they provide services to a plan asset vehicle in which a covered plan has made a direct equity investment have an additional obligation to disclose compensation information about the investment for which they serve as a fiduciary. This disclosure must include a description of fees charged directly (such as loads or redemption fees) and operating and other ongoing expenses charged for amounts invested by the covered plan in the plan asset vehicle.
Covered service providers must disclose whether they are providing recordkeeping services and the compensation attributable to such services, even when no explicit charge for recordkeeping is identified as part of the service contract. Additionally, record keepers or brokers that make mutual funds available to a participant-directed plan as designated investment alternatives must provide information about the (i) fees in the plan’s different investment options, (ii) compensation charged for the purchase, sale, or withdrawal of shares, and (iii) annual operating expenses and any additional ongoing expenses. If recordkeeping is not paid using a separate charge (for example, if it is paid through revenue sharing) record keepers must provide a reasonable good-faith estimate of the cost of the recordkeeping services to the plan.
WHEN AND HOW DISCLOSURE MUST BE PROVIDED?
The Regulations are applicable to covered plans and covered service provider arrangements on July 1, 2012 and to arrangements entered into after that date. Generally, changes in the required information must be disclosed as soon as practical, but in no case later than 60 days after the covered service provider learns of the change. Disclosure of changes to certain investment-related information may be at least annually. While the DOL has not provided a model form of disclosure, the Regulations require that disclosure be in writing.
SUMMARY OR GUIDE TO INITIAL DISCLOSURES
While covered service providers are not currently required to provide a guide, summary, or similar tool to assist plan fiduciaries in identifying all of the disclosures required under the Regulations, the DOL strongly encourages such a practice. We recommend voluntary compliance, as the DOL has indicated this will be on its agenda in the near future. In fact, the DOL has included a “Sample Guide” as an appendix to the Regulations.
WHAT ARE THE CONSEQUENCES OF FAILURE TO FOLLOW DISCLOSURE REQUIREMENTS?
A service provider contract or arrangement will not be considered reasonable unless the service provider fee disclosure requirements are satisfied. A fiduciary that causes a plan to enter into an unreasonable contract for services to an ERISA-covered plan commits a prohibited transaction under ERISA. Such a violation may subject the responsible plan fiduciary to a 20% civil penalty. A service provider that enters into an unreasonable contract with an ERISA plan will also have committed an ERISA-prohibited transaction and will be subject to a 15% excise tax.