Regulations.  Changes in regulations.  Exemptions.  What’s the fuss all about?  “Given the rise in participation in 401(k) type plans and IRAs, the retirement security of millions of America’s workers increasingly depends on their investment decisions,” as stated by EBSA Assistant Secretary Phyllis C. Borzi.  Through all the regulations, transactions and details, the sole purpose of a retirement plan is to allow individuals to prepare for and enjoy a successful retirement. 

While the industry shift from defined benefit to defined contribution plans has provided many benefits, it has also forced individuals to become professional money managers, and although education efforts help, they are not enough.  The passing of the Pension Protection Act of 2006 (PPA) opens the door for fiduciary advisers to fill the void and pick up where education leaves off.  The fear in the industry is that while these regulations and rules are aimed at helping individuals become retirement ready, they may inadvertently allow for advice that is not truly in the client’s best interest.  To help protect consumers and ensure the advice they receive is un-conflicted, EBSA has issued the final regulations discussed below.

Under the regulations, an eligible investment advice arrangement can only be provided on a ‘level-fee’ basis or by a certified computer model.  The regulation further clarifies that an adviser providing advice under the level-fee basis must base that advice on generally accepted investment theories, historical risk and return data of different asset classes over a defined period of time, take into account related investment and management fees and expenses, take into account participant information including age, risk tolerance and investment preferences and finally the fiduciary adviser’s fees may not vary based on the investment options recommended to the participant.  The regulations also include several disclosure requirements and an annual independent audit of the advice service. 

We believe a comprehensive participant services campaign, one that includes both education and advice, is the most effective way to prepare participants for a successful retirement.  Many individuals feel confident in their retirement readiness by using ‘do it yourself’ online tools, reading education materials and attending classes; however, there are many other individuals who feel overwhelmed with the responsibility of being a professional money manager themselves and would prefer to utilize the services of a true professional. 

Services like our RetireAdvisers® Plan Participant service provide a solution under the PPA approved ‘level-fee’ advice arrangement, allowing individuals the opportunity to receive help from an independent, professional retirement consultant.  Effectively investing retirement plan money is one of the major factors of reaching a successful retirement.  The Department of Labor’s final regulations will help plan sponsors ensure that the advice provided to their participants is truly in their best interest, and not simply in the best interest of the adviser.

Question: Can you give me some examples of what a settlor function is?

Chase:  A settlor function is one that is distinct from a fiduciary function. In other words, it’s a decision or a function that’s performed “above the plan,” and is not subject to fiduciary scrutiny because it’s a decision or an act that’s being made while the employer and the individuals who represent the employer are wearing their corporate hats. Some settler function examples include the decision to execute a merger, sell the company or acquire another company. Even though that decision is going to profoundly impact the retirement plan, the decision is still insulated from a business fiduciary standard.

So if a merger or acquisition has an incidental adverse impact to plan participants, plan participants would not be able to bring a cause of action against the employer or the plan sponsor for that merger or business transaction because the act was performed as a settlor, not as a fiduciary.

Other examples of settlor functions would be tweaking the design of the plan, removing certain benefits and features, adding a Roth feature and eliminating a match. As long as certain requirements are met because of their settlor functions, there’s not going to be fiduciary exposure for those actions.

Question:   How do I know if my trustee is directed or discretionary?

Chase:  This should be a relatively easy issue to determine. The first place to look is in the trustee provision of the plan. If it’s not exclusively stated there, it will be in the trustee agreement.

Question: Does paying for postage to mail out the plan summary constitute a reasonable plan expense?

Chase:  Yes. I believe that would constitute a reasonable plan expense in nearly every instance. Unfortunately, though, with other types of items, it’s not always a clear cut issue. There are no tests to determine whether something is a reasonable plan expense or not; however, the DOL provides expense guidance, mostly through advisory opinions. They provide hypothetical examples that constitute reasonable plan expenses. I believe your example would safely fall into the reasonable plan expense category.

Question:  Have there been any changes to the Pension Protection Act of 2006? If so, what are the tasks that a plan sponsor needs to do?

Chase:  The PPA was the most recent comprehensive amendment to ERISA. There have been amendments since, some of which have expounded upon changes that were first brought on by PPA. The HEART Amendment and the WRERA Amendment may sound familiar to many plan sponsors. Each one of those amendments have introduced a multitude of changes, some of which deal with topics that are both addressed and not addressed by PPA.

The applicability of those topics to certain retirement plans is going to depend on the nature of the plan itself. But a big part of what we do on a daily basis is to review a plan’s historical records and maintain administrative document manuals. That involves reviewing recent legislative amendments including HEART, WRERA and others.

Based on the changes since PPA was introduced in 2006, plan sponsors first need to make sure the plans have adopted the new amendments and second, they need to make sure that they’re administering their plans in accordance with these provisions. This is a big initiative for us and an important part of what we do on a daily basis.

Question: From the webinar, I learned that employees’ benefits plan provided by the state, such as a state-funded community college, are exempt from ERISA. But what about the 403(b) plans that are offered as an alternative to the employees, do they have to follow the ERISA standards?

Chase:  That’s a good question, and the short answer is, no. The 403(b) plans that are sponsored by governmental employers are exempt from ERISA’s requirements. Some types of 403(b) plans are subject to ERISA. The determining factor in whether or not ERISA is going to apply to one of these special types of plans, such as a 403(b) plan, hinges on the status of the employer. Two types of employers can sponsor a 403(b) plan, governmental plans and certain private organizations that qualify as 501(c)(3)s, charitable organizations. The charitable organizations that are private and sponsor a 403(b) plan have a choice whether or not they want the plan to be subject to ERISA.

There is an ERISA safe harbor under the 403(b) rules that allow charities to exempt their plans from ERISA if they meet a certain set of requirements. If they don’t meet those requirements, then the plan will be subject to ERISA.

Going back to the original question, if it’s clearly determined that the employer is a governmental employer, you don’t even need to look at the ERISA safe harbor for 403(b) plans. All of the plans will be exempt from ERISA by virtue of the employer’s governmental status.

Question: How do I know who to be designated a named fiduciary? What kind of guidance can you provide on that?

Chase: Who should be the named fiduciary is a different question than from who is the named fiduciary. I’ll first address how you know who the named fiduciary is under the plan. The first place to look is the plan document. Most likely in the definitional section or in the plan administration section you’ll see the employer named as the named fiduciary. Now, that’s a pretty broad, not very helpful or specific provision if it’s just the employer name. The next place to look would be at board resolution to see who the employer, as a named fiduciary, has actually delegated specific responsibilities of plan administration.

The question “who should be the fiduciary in a plan?” is going to vary depending on the size and complexity of the plan and depending on the size and complexity of the employer. In a small plan sponsored by a relatively small employer, it may be sufficient to have a single individual who’s the benefits director or who has responsibility for human resource duties to be named as the plan administrator.

I always tend to think it’s a better idea to have the named fiduciary be a committee. How important that is will hinge on the size and complexity of the plan and the employer.

For very large employers who have multiple participating entities and who have a complex set of plan features, I think it becomes more important, then, to have an entity such as a retirement plan committee or multiple committees named as the fiduciary. If not actually the named fiduciary, such committees should be vested with the primary fiduciary responsibilities from the named fiduciary.

Question:  Can you explain what “unfunded” means in relation to top hat plans?

Chase:  One of the top hat plan requirements is that the assets of the plan can be nothing more than an unfunded, unsecure promise to pay benefits or compensation in the future. This is quite the opposite of qualified plans that actually require a trust to be funded. This idea of what is an unfunded, unsecure promise to pay benefits in the future isn’t a black and white proposition. In fact, there has been a lot of litigation as to what constitutes unfunded, unsecure promise to pay benefits. To summarize 60 or 70 years worth of case law, where we are today and have been for several decades is this idea of a rabbi trust.

A rabbi trust is basically as close as you can get to securing benefits for participants and beneficiaries of the plan without actually funding the plan. A rabbi trust is a trust where you could put assets, and it will be secure from all things except for judgment claims from the employers’ creditors. So should the company go bankrupt and owe debts to its creditors, the participants and beneficiaries of that plan wouldn’t lose out to those creditors. In a nutshell, that’s what it means to be unfunded.

That’s very important for top hat plans because, should they fail that requirement and should the trust of the plan become fully funded, then it would fill the top hat requirements and then retroactively be subject to the requirements of ERISA.

Question:  Do brokers who make fund recommendations need to take some fiduciary responsibility?

Chase:  This is an interesting question. There are three categories of functional fiduciary conduct rules. One of those three actions is providing investment advice for a fee. So whether or not a broker’s mutual fund recommendation would constitute fiduciary status under that rule would be whether or not a fee is involved. In this scenario, the compensation or fee that the broker receives may not be direct. In most arrangements, this would constitute a fiduciary act; however, it’s important to note that this is an evolving area of the law. The current five factor test, which the current regulation uses to determine if advice is considered fiduciary investment advice, is largely dependent on the facts and circumstances. With pending regulations, the likelihood of this type of scenario evading fiduciary status is going to decrease when, and if, the current proposed rule on fiduciary investment advice is reformed.

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Below is a chart outlining the new COLA limits that become effective January 1, 2012, along with the two prior tax years.

If you have any questions or wish to discuss the application of these limits to your retirement plan, please contact your ERISA Consultant at (800) 234-9584.

*IR-2011-103, Oct. 20, 2011.

The third quarter of 2011 continued to bring a great deal of disappointing news to all economics agents: consumers, businessmen, and policymakers alike.  The slowing recovery and volatility continue to generate a great deal of uncertainty as the economy begins the fourth quarter of the year.  2011 has proved to be a year where much of the early financial market gains for equity investors have now been erased and signs of traction in the labor markets have not yet materialized.

Economic Overview

The growth of the economy continues to be sluggish. The second quarter real GDP estimate was revised back up to a 1.3% annualized rate. Projections for third quarter real GDP growth were revised down in August from 3.4% to 2.2%. Additionally, the unemployment rate is projected to be 9.0% for the rest of 2011; 8.6% in 2012; and 8.1% in 2013. The most recent monthly unemployment estimate from the U.S. Commerce Department equaled 9.1% for September 2011. Inflation, as measured by the Consumer Price Index, continues to nudge its way up compared to year-ago price levels. First and second quarter 2011 CPI price levels were 2.2% and 3.3% higher compared to the previous year. More recently, during the first two months in third quarter 2011, CPI price levels were 3.6% and 3.8% higher compared to the previous year.

The U.S. Real GDP estimate grew at an annual rate of 1.3% during the second quarter of 2011 compared to an annual rate of 0.40% for the first quarter. Third quarter estimates will not be available from the U.S. Department of Commerce until October 27, 2011. No general consensus has emerged regarding the third quarter estimate, but projections vary widely between 1.6% and 3.0%, generally. Compared to other countries, the U.S. economy grew slower in second quarter 2011 than China (9.5%), but better than Germany (0.4%), Great Britain (0.1%), France (0.0%), Canada (-0.4%) and Japan (-0.50%), while remaining on par with Mexico (1.1%).

Manufacturing production continues to rise slowly, but remains below the 2005 benchmark year level; currently just over 95% of that measure. Retail sales increased over the course of 3Q 2011. Inventories have also expanded during the third quarter but only to the extent that the total business inventories to sales ratio has been maintained in the 1.25 to 1.29 range.

Housing starts have failed to post consistent month-to-month gains through August 2011 though home prices have seen some movement upward. Higher commodity and energy input costs and lower demand for new units have thus far adversely affected households and manufacturers alike. The Consumer Price Index, which began 2011 1.7 % higher than the previous twelve months is now (through August 2011) at 3.8% higher level than one year previous. The ups and downs in the Consumer Price Index have largely mirrored the volatility seen with commodity, foodstuffs, and energy prices. The majority of inflation we are experiencing is from these supply-side sources.

For households the employment picture showed little, if any, improvement during the third quarter. The unemployment rate, which reached a post-recession low of 8.8% in March, continues to stand at 9.1% in September. The median average duration of unemployment remains at 22 weeks and the labor force participation rate which had risen in the first quarter is now showing decline. The reversal of the previous trend of falling unemployment rates continues to discourage job hunters and long-term unemployed. Personal Income continues to rise faster than personal spending, allowing for households to continue paying down existing debt burdens. This increased spending and debt reduction continues to be at the expense of personal saving.

The spending crossroads faced by the U.S. government has begun to be addressed with selected cuts in government spending to bring the budget in line over a long time horizon. Any new government initiatives will need to be mindful of the current budget position and the longer-term national debt. Overall, pressure on interest rates to rise, to date, has been minimal but is widely anticipated to rise. Currently, the overall yield curve continues to remain somewhat flat over the longer terms to maturity, generally indicating less optimism concerning future economic growth prospects.

To summarize, in third quarter 2011, the U.S. economy has continued to operate in a slow growth, low-interest rate environment. Inflation continues to be a largely supply-side phenomenon with most households continuing to spend relatively strongly and pay down debt despite the levels of unemployment persisting in the economy.

Investments

Overall, the financial markets experienced disappointing results with the exception of mid and long-term bonds. Economic uncertainty continued to drive the results in both the equity and fixed-income markets. Every region of the globe represented by an MSCI Index experienced significant negative returns during the quarter.

All U.S. equity asset classes depreciated in value, with large-cap equities tending to outperform smaller-cap equities and growth-oriented equities generally out-performed value-oriented equities. Large-cap domestic equities tended to outperform their foreign counterparts. All U.S. equity sectors, excepting utilities, experienced negative returns.

In U.S. fixed income markets, government debt issues tended to outperform corporate debt issues with similar maturities. Longer-term and government issues (despite S&P’s downgrade) were top performers. Some shorter-term issues experienced negative returns in the 0% to -1% range. High Yield debt experienced negative returns while government bonds represented by the Barclay’s Capital US Government TR Index performed best, returning 5.85% for 3Q2 2011. The volatility displayed in equity markets during third quarter 2011 (especially September) seemed to rival that of the dark days of 2008. The heightened volatility appeared to not be driven solely by fundamental economic conditions in the United States. Geo-political issues such as European sovereign debt, slower global growth, and new U.S. Federal Reserve actions (Operation Twist) tended to dominate headlines and added to the uncertainty and volatility experienced in our financial markets.

Conclusion

Optimism followed by uncertainty can be identified as appropriate watch-words for the first three quarters of economic and financial market performance for the U.S. economy in 2011. Slow output growth, low interest-rates, supply-side inflation hits and various geo-political events have impacted our economy in ways making it hard for confidence to build in the investment arena. Despite all these obstacles, the U.S. economy remains the largest on the globe and continues to expand, albeit slowly and arguably, with deliberateness.

Monumental changes may be coming to the private retirement system in the United States.  Think it can’t happen?  A quick review of retirement history shows that our current system is pretty unusual.

Retirement is a recent phenomenon in human history.  Private pensions (employer sponsored plans) were not even invented in any substance until 1875 when the American Express Company instituted one for its employees.  The Baltimore and Ohio (B&O) Railroad joined the movement in 1880.  Still though, by 1940, less than 20% of all employees in government and industry were covered by private pensions.  Source: investmentsandincome.com.

The Social Security Act was passed in 1935 to facilitate “old age insurance” (65 years of age and older).  It’s interesting to note however, that the average life expectancy in 1935 was 61.7 years.  Source: infoplease.com.

The Employee Retirement Income Security Act (ERISA) was passed in 1974 to address problems with the private retirement system.  Then, one of the primary concerns was for employees that had worked their whole career expecting a pension upon retirement, only to have those expectations dashed when the employer went bankrupt before or during their retirement years.

Now, some 130 years after the first private retirement plan was offered to a small handful of employees and 76 years after Social Security was promised to people who were not likely to live to see it, we Americans have become quite accustomed to the idea of enjoying our “golden years” in retirement.

Unfortunately, the current private retirement system, for all of its progress, is under attack on all sides.  Critics point to those who were expecting to retire that were caught unaware when the stock market dropped so dramatically in 2008.  Others point to the obvious data that the typical employee is simply not saving enough in their 401(k) plan to have a meaningful, secure retirement.

More urgent issues surrounding the private retirement system stems from its tax favored status.  Budget negotiations in Washington will undoubtedly involve cutbacks to the tax benefits currently enjoyed.  The question is only to what degree.  A total elimination of tax incentives for retirement savings could cause a tectonic shift in retirement planning and the role that the employer plays in it. 

The convergence of the governmental budget problems with criticism over the inadequacy of employee protections makes for a potential backdrop for dramatic changes.  We must be diligent and wise in our pursuit of retirement for the masses.  If we’re not careful, we stand to lose much of what we have now come to expect.

On October 14, 2010, the Department of Labor (the “Department”) issued a final regulation under section 404(a) requiring plan administrators to provide participants and beneficiaries in participant-directed individual account plans specific information regarding certain plan features, plan investments, and plan expenses.  The purpose of these final regulations is to improve fee transparency and to help participants make informed decisions in managing their individual accounts.  The regulation represents a third wave of recent fee-oriented disclosure rules. 

Throughout the year we, at Pension Consultants, Inc., have been actively working with Plan Sponsors and their record keepers to prepare sensible compliance strategies before the effective date of fee disclosure regulations.  The final rule applies to plan years beginning on or after November 1, 2011 – this means January 1, 2012 for calendar year plans – and under the regulation’s transitional rule, the initial disclosures must be made no later than 60 days after such applicability date.  However, in July, the Department modified the transitional rule and extended the time to provide the initial disclosures so that most employers will not be required to make the initial disclosures until May 31, 2012.  

The new disclosure rules will significantly increase the volume of plan information distributed to participants and beneficiaries.  Although the regulation says the Department will revisit its electronic disclosure policies in light of these new disclosures, it will be a long time before a final rulemaking occurs.  The Department is still reviewing comments and information it received in response to its request for information in April. Pension Consultants was one of approximately eighty parties to reply to the request, and we expressed the view that the current safe harbor is outdated and limits the ability of plans to realize the benefits of using electronic media to furnish disclosures required by ERISA.  When the Department reviews these comments, it will determine whether, and possibly how, it would modify its electronic disclosures rules.  Because a final position and a final rule are still a long way out, the Department issued Technical Release 2011-03 on September 13, 2011, to establish an interim policy on electronic disclosures under the fee disclosure rules. 

Interpreting the Guidance

Under the current safe harbor, electronic disclosures will only suffice for two types of individuals.  First, the safe harbor applies to participants who have the ability to access electronic documents at any location where the participant is reasonably expected to perform his or her duties as an employee and with respect to whom access such electronic information is an integral part of those duties.  This would include people who primarily sit at a desk and work on a computer but would exclude many employees such as those primarily involved with physical labor or who do not work in an office. Second, the safe harbor applies to other individuals who affirmatively consent to receiving electronic disclosures.  This may include retirees, former employees, and active participants who do not use computers as an integral part of their duties. 

The Release provides temporary relief by allowing certain types of information to be disclosed in accordance with established guidance in Field Assistance Bulletin 2006-03 (FAB 2006-03).  In short, this information can be disclosed in pension benefit statements electronically so long as:

• participants and beneficiaries have been furnished notification that explains the availability of the require benefit statement information and how it can be accessed;
• the notification apprises participants and beneficiaries of their right to request and obtain, free of charge, a paper version of the benefit statement information;
• such notification is written in a manner calculated to be understood by the average plan participant, furnished in any manner that the benefit statement is furnished, and furnished both in advance of the date on which a plan is required to furnish the first benefit statement and annually thereafter.

The Release describes three types of plan-related information required under the 404(a) Regulation that can be disclosed this way and refers to these as “section 2550.404a-4(e)(1) and (2) items.”  These paragraphs pull in by reference the plan related information described in paragraphs (c)(1)(i), (c)(2)(i)(A), and (c)(3)(i)(A).  Respectively, these are:

• the general plan information required under the regulation;
• administrative expenses; and
• individual expenses.

All other disclosures required under the 404(a) regulation may not be furnished electronically under the guidance provided in FAB 2006-03.  Plan administrators must use the general electronic safe harbor under ERISA section 104.  Alternatively, until further guidance is issued, plan administrators can use electronic media to make the disclosures if they satisfy six conditions introduced by the Release.  These conditions are:

• participants and beneficiaries must voluntarily provide their e-mail addresses (there is a special provision for email addresses already on file);
• an initial notice that must:
  • contain a statement providing the email address to receive required 404(a) information is entirely voluntary;
  • a brief description of the information that will be furnished electronically and how it can be accessed;
  • a statement that the participant and beneficiary has the right to request and obtain, for free, a paper copy of all such information and an explanation of how to exercise that right;
  • a statement that the participant or beneficiary has the right, at any time, to opt out of receiving the information electronically and an explanation of how to exercise that right; and
  • an explanation of the procedure for updating email addresses
• participants and beneficiaries must be furnished an annual notice that must include, among other items, the items included in the annual notice;
• the plan administrator must take appropriate steps reasonably calculated to ensure that the electronic delivery system results in actual receipt of transmitted information;
• the plan administrator must take appropriate measures to ensure that the electronic delivery system protects the confidentiality of personal information;
• the notices to participants and beneficiaries must be written in a manner calculated to be understood by the average plan participant. 

Pension Consultants, Inc. is a Registered Investment Advisor.  Securities offered through Securities Service Network, Inc.  Member FINRA/SIPC

This communication expresses our opinion and does not represent a legal interpretation, opinion, or other legal advice since we are not attorneys. Should you wish to rely upon this information for matters requiring a legal opinion, you should seek the expert advice of an attorney who is qualified to render legal opinions on such matters.

The one hour webinar is a great opportunity for you to explore the fundamentals of Target Date Funds and determine whether or not TDFs are right for your retirement plan, and if so, what you need to evaluate in order to make a prudent selection.

At the end of the presentation, you will have an opportunity to ask questions and receive feedback from David regarding TDFs.

For more information, or to register visit our website.

We hope you’ll join us!