New Rules Aid Plan Fiduciaries

April 2012

The Department of Labor (“DOL”) has long believed that compensation arrangements for retirement plans are complex and create potential conflicts of interest between service providers and plans. Further, these compensation arrangements can be hidden by use of, for example, revenue sharing payments from investment funds to service providers, which can prevent plan fiduciaries from knowing the full cost and assessing the reasonableness of the costs for plan services.

For these reasons, the DOL issued final regulations requiring specific disclosures from a “covered service provider” to the plan fiduciary of a retirement plan. These disclosures are required for the contract between the plan and the covered service provider to be “reasonable” and qualify for an exemption from the prohibited transaction rules under ERISA. If a covered service provider fails to provide the disclosures, both the plan fiduciary and the service provider have engaged in a prohibited transaction and are liable for excise taxes under Section 4975 of the Internal Revenue Code. Once the plan fiduciary receives the required disclosure, it must then determine if the fees charged are reasonable given the services provided.

The final regulations are effective on July 1, 2012 and apply to all contracts with a covered service provider entered into on or after that date and any contract in existence on July 1, 2012.

Which Plans Are Subject to the Disclosure Rules?

Any defined benefit or defined contribution plan subject to ERISA, other than:

• A simplified employee pension;
• A SIMPLE retirement account;
• An IRA or an individual retirement annuity; and
• Any 403(b) annuity contract or custodial account that was “frozen” on or before January 1, 2009.

Any 401(k), profit sharing or other retirement plan that is required to file an annual report on IRS Form 5500 would be subject to the disclosure rule.

Who is a Covered Service Provider?

A covered service provider is a service provider that enters into a contract with the plan and reasonably expects to receive $1,000 or more in compensation, either direct or indirect, and provides services in one of the following three categories:

1. Fiduciary or Investment Advisory Services. Services as a fiduciary or investment advisor, including:

• Services provided directly to the plan as a fiduciary;
• Services provided as a fiduciary to an entity that holds plan assets and in which the plan has a direct equity investment; and
• Services provided directly to the plan as an investment adviser registered under either the Investment Advisers Act of 1940 or any state law.

A trustee of the plan would be a covered service provider under this rule.

2. Recordkeeping and Brokerage Services. Recordkeeping services and brokerage services provided to a participant-directed individual account plan, if one or more designated investment alternatives are made available to participants in connection with such recordkeeping or brokerage services.

A “designated investment alternative” is any investment alternative designated by the plan in which participants can invest their accounts, but does not include investments selected by participants through a brokerage window or self-directed brokerage account.

The recordkeeper for a typical 401(k) plan where participants are given the right to direct the investment of their accounts among a number of mutual funds, and any participant-directed investment changes are made through the recordkeeper’s system, would be a covered service provider.

3. Other Services. Other services for which the covered service provider reasonably expects to receive indirect compensation or compensation that is paid among related parties, including:

• Accounting
• Auditing
• Actuarial
• Appraisal
• Banking
• Consulting
• Custodial
• Insurance
• Investment advisory
• Legal
• Recordkeeping
• Securities or other investment brokerage
• Third party administration
• Valuation

An auditor who receives a direct payment from a plan for preparation of the plan’s annual financial statement would not be a covered service provider with respect to those services because the payment was not indirect compensation.

What Types of Information Must Be Disclosed By the Covered Service Provider to the Plan Fiduciary?

The covered service provider must describe:

1. The services to be provided to the plan under the contract;
2. Whether the service provider is, or reasonably expects to be, acting as a fiduciary or an investment adviser to the plan;
3. All direct and indirect compensation that it expects to receive under the contract in connection with the services provided;
4. Compensation payable upon termination of the contract; and
5. The manner in which compensation will be received, such as whether the plan will be billed or the compensation will be deducted from the plan’s investments.

What is Direct Compensation?

Direct compensation is compensation received directly from the plan. It also includes compensation initially paid by the plan sponsor and then reimbursed by the plan.

What is Indirect Compensation?

Indirect compensation is compensation received from any source other than the plan, the plan sponsor, the covered service provider, or an affiliate of the covered service provider. Indirect compensation includes, for example, revenue sharing payments from investment alternatives. If a covered service provider receives indirect compensation, it must also identify the services for which the indirect compensation will be received, identify the payer of the indirect compensation and describe the arrangement between the payer and the covered service provider pursuant to which the indirect compensation will be paid. The requirement to describe the arrangement between the covered service provider and the payer is intended to highlight for the plan fiduciary any potential conflicts of interest.

What Special Disclosure Requirements Apply to Recordkeepers?

Disclosures with respect to recordkeeping services must include:

• A description of all direct and indirect compensation that the covered service provider, an affiliate or a subcontractor reasonably expects to receive in connection with the recordkeeping services;

• If recordkeeping services are to be provided without explicit compensation, or when compensation is offset or rebated based on other compensation received by the covered service provider, a reasonable and good faith estimate of the cost to the plan of the recordkeeping services. This should include an explanation of the methodology and assumptions used to prepare the estimate and a detailed explanation of the recordkeeping services that will be provided to the plan; and

• If the plan provides designated investment alternatives to participants through the recordkeeper’s “platform,” the recordkeeper must also disclose, for each designated investment
alternative, the following investment-related information:

1. A description of any compensation that will be charged directly against the investment, such as commissions or sales loads, and not included in the fund’s annual operating expenses;
2. A description of the total annual operating expenses of the fund, expressed as a percentage; and
3. Any other information about the fund within the control of or reasonably available to the covered service provider and that is necessary for the plan administrator to comply with the participant-level fee disclosures. This will include such items as fund identifying information; performance data; benchmark comparisons; expense ratio information; and a website directing participants to additional information about the designated investment alternative.

The covered service provider can comply with its obligation to furnish investment-related information by giving the plan fiduciary copies of current disclosure materials of the issuer of the designated investment alternative (such as a prospectus), or information replicated from these materials, that includes the above information, if:

1. The issuer is not an affiliate of the covered service provider;
2. The issuer is a registered investment company, an insurance company, an issuer of a publicly traded security, or a financial institution supervised by a state or federal agency; and
3. The covered service provider acts in good faith and does not know that the materials are incomplete or inaccurate.

Will Disclosure Be Made in a Prescribed Format?

The DOL has not mandated that disclosures be made in a particular form or format, although it confirms that electronic delivery is permissible. The DOL intends to publish a Notice of Proposed Rulemaking in the near future to solicit input on whether it should require a covered service provider to furnish a guide or similar tool along with the disclosures. The DOL included a “sample guide” as an appendix to the final regulations and encourages service providers to use the sample guide as a best practice. A covered service provider may use the sample guide as part of its disclosures, but is not required to do so.

The sample guide can be reviewed at:

When Must the Initial Disclosures Be Made?

A covered service provider must generally make the initial disclosures to the plan fiduciary reasonably in advance of the date the contract is entered into, extended or renewed. The disclosures must be made by July 1, 2012 for any existing contract.

Any changes to the initial disclosures must generally be made within 60 days after the covered service provider is informed of the change. However, changes to investment-related information need only be disclosed annually.

If the covered service provider discovers any errors or omissions in the information disclosed, it must issue corrected information to the plan fiduciary as soon as practicable, and within 30 days of discovering the error or omission.

What Should the Plan Fiduciary Do if it Does Not Receive the Disclosures?

As noted above, a plan fiduciary who does not receive the required disclosures is deemed to have engaged in a prohibited transaction. The DOL will provide relief to the plan fiduciary if it follows the following steps after a failure to receive the required information from a covered service provider. To take advantage of this relief, the plan fiduciary must not know that the covered service provider failed to make some of the required disclosures and reasonably believed that the covered service provider disclosed the information.

First, the plan fiduciary must request, in writing, the disclosures from the covered service provider;

Second, if the covered service provider fails to provide the disclosures within 90 days, the plan fiduciary must notify the DOL of the failure. A sample notice can be found at: DelinquentServiceProviderDisclosureNotice.doc;

Third, if the covered service provider does not provide the disclosures within 90 days after request, the plan fiduciary must decide whether to terminate the contract. If the disclosures relate to future services, then the plan fiduciary must terminate the contract as expeditiously as possible, consistent with its duty of prudence.

If the plan fiduciary follows these steps, then it will not be considered to have engaged in a prohibited transaction - only the covered service provider will be liable for prohibited transaction excise taxes.

What Should a Plan Fiduciary Do When It Receives the Disclosures?

Fiduciary duties under ERISA include the duty to select and monitor plan service providers. The disclosures are intended to assist the plan fiduciary in determining whether “reasonable” compensation is being paid for services provided to the plan and to determine whether any conflicts of interest may affect a service provider’s performance of services.

Upon receiving the disclosures, the plan fiduciary should:

• Determine whether compensation is “reasonable” in exchange for the services provided by “benchmarking” to fees paid by similarsized plans for comparable services;

• If fees do not seem “reasonable”, discuss with the service provider whether services can be enhanced or fees decreased, for example, by using a designated investment alternative with a lower share class fee; if the service provider is unwilling to adjust its fees, the plan fiduciary may determine that, to fulfill its duty of prudence, it must issue an RFP to locate a new service provider;

• Consider changing the recordkeeping fee structure to a perparticipant charge rather than one tied to fees generated by the investment alternatives; and

• Identify any potential conflicts of interest and review with the service provider to determine if adjustments can be made, if appropriate.

As a plan fiduciary, it is very important to document in writing the process followed in assessing whether the fees are “reasonable”. Such process might include asking the covered service provider whether it will automatically advise the fiduciary when a designated investment alternative with a lower share class fee becomes available and how fees will be adjusted as the assets of the plan increase in value.

At the end of the day, the fee disclosure rules should increase fee transparency, help plan fiduciaries understand the true cost of operating a retirement plan, and perhaps lead to adjustments in fees that could benefit participants and beneficiaries.


Cynthia A. Moore, is a member and practice department
mananger in Dickinson Wright’s Troy office. She can be
reached at 248.433.7295 or

Deborah L. Grace, is a member in Dickinson Wright’s
Troy office. She can be reached at 248.433.7217 or