I have always liked New Year's resolutions. They are a great excuse for ending bad behaviors or starting good ones. Here's one for all small business 401(k) sponsors: "I will evaluate my plan fees for reasonableness."
Let me explain why …
ERISA requires 401(k) sponsors, and any other fiduciary, to ensure that the services provided to their plan are necessary and that contracts or arrangements for services, and the cost of those services, are reasonable. Failure to do so can result in personal liability for the responsible fiduciary.
Too many 401(k) sponsors are not aware of their ERISA obligation to evaluate plan fees and expenses. And even fewer know how to prove fees for plan services are reasonable.
Here are three simple steps that will help you evaluate 401(k) fees in 2015:
1. Confirm receipt of a 408(b)(2) disclosure for each "covered" service provider. The DOL's Section 408(b)(2) rules require service providers to provide 401(k) sponsors with the information they need to assess the reasonableness of provider compensation and identify potential conflicts of interest.
For purposes of the 408(b)(2) regulation, a Covered Service Provider (CSP) is a person or entity who enters into a contract or arrangement with a plan and reasonably expects to receive $1,000 or more in compensation for providing services to a plan. There are four categories of CSP. These categories are described on the DOL website.
If a CSP fails to provide the required 408(b)(2) information, the contract or arrangement between the plan and the CSP is prohibited by ERISA, and the responsible plan fiduciary will have engaged in a prohibited transaction. In other words, while CSPs are required to provide a 408(b) disclosure, it's the plan sponsor's responsibility to ensure it's received.
2. Examine each 408(b)(2) disclosure for adequacy. CSPs must include the following information in their 408(b)(2) disclosure to the 401(k) sponsor:
- A description of the services to be provided to the plan pursuant to the contract or arrangement.
- Whether or not the CSP serves the plan in a fiduciary capacity.
- All "direct" and "indirect" compensation the CSP, affiliate, or a subcontractor reasonably expects to receive in connection with the covered services. Direct compensation means fees paid directly from the plan. Indirect compensation means fees paid from any source other than the plan or the plan sponsor (e.g., "revenue sharing").
- A description of any compensation paid between the CSP and related parties.
More information regarding 408(b)(2) disclosure requirements can be found on the DOL website.
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3. Prove fees for plan services are reasonable. For 401(k) sponsors to prove fees are reasonable, they need to be benchmarked. Benchmarking is done by comparing service provider fees to competitors or averages. To compare competitor fees, a 401(k) sponsor should take the following steps:
- Request a proposal from at least three different service providers.
- Identify all compensation paid to each provider, including any "hidden" indirect compensation paid by plan investments. Fees charged by each provider should be totaled to determine their "all in" fee for services.
- Identify all services offered by each provider to determine any differences.
- Evaluate experience of each provider and any conflicts of interest.
- Compare fees and services in an "apples-to-apples" standardized format.
The DOL offers a 401(k) fee disclosure worksheet on its website.
Fortunately, the DOL also offers tips for selecting and monitoring 401(k) service providers on its website. This list can also be helpful in comparing the fees and service of competing service providers.
For 401(k) sponsors that want professional help in evaluating their plan fees there are a growing number of companies that offer 401(k) benchmarking services. It is important to understand that the decision to engage a 401(k) benchmarking provider is a fiduciary function itself. The scope, cost and, potentially, the quality of these services can vary considerably. Fiduciary guidelines for hiring 401(k) service providers can be found in the DOL's Meeting Your Fiduciary Responsibilities brochure.
Bottom line, it doesn't need to be difficult to evaluate 401(k) plan fees. Once the process is over, it should be crystal-clear whether fees are reasonable or if service provider changes are in order.
Regardless of either outcome, participant interests are protected and fiduciaries have reduced their liability.
Happy 2015, everyone!
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