How to Help Clients Know Retirement Plan Fiduciary Rules
A great value-added service to clients who offer retirement plans is to be the eyes and ears for critical updates, particularly the Department of Labor’s (DOL’s) Fiduciary Rule.
The intent of the Fiduciary Rule was to offer greater protection to plan sponsors, participants and beneficiaries by imposing fiduciary status on anyone providing investment advice for a fee. When finalized in 2016, certain sections were to be initially effective April 10, 2017, with the so-called Best Interest Contract Exemption (BICE) to follow on January 1, 2018.
However, following several delays and non-enforcement pronouncements, the DOL issued a request for information (RFI) and further delayed implementation until July 1, 2019. To make matters more complex, in March 2018, the 10th and 5th U.S. Circuit Courts of Appeal issued conflicting decisions: one upheld the DOL’s authority to impose certain restrictions under the Fiduciary Rule, and the other would vacate and prevent the enforcement of the rule in its entirety.
Generally, contradictory rulings between two or more circuit courts creates a conflict that would be resolved by the U.S. Supreme Court; however, none of the parties had made such a request. DOL’s reaction was limited to issuance of a temporary non-enforcement policy in Field Assistance Bulletin 2018-02. However, on June 21, 2018, the Fifth Circuit issued an order completely vacating the Rule, holding that it was invalidly promulgated. As a result, many financial institutions and advisors are working to determine their next steps.
Also, the Securities and Exchange Commission (SEC) issued on April 18, 2018, its own 1,000-page proposal for a “best interest” rule for brokers. All this activity has added to the uncertainty about how to comply with the guidance that had been in place before the Fiduciary Rule, which currently remains in effect, and what may or may not be included in any final SEC rules.
Advising on Changes
So, how do CPAs advise clients and others on the rule change? First, it is important to emphasize that the Fiduciary Rule was primarily directed at those who provide investment advice to plan sponsors, participants, and beneficiaries for a fee rather than to plan sponsors themselves.
Under the rule, virtually all sales activities to plans and individual retirement accounts (IRAs) would have been considered to be fiduciary advice. Under the Employee Retirement Income Security Act of 1974 (ERISA), fiduciaries are held to the highest level of responsibility and are to act solely in the best interest of plan participants and beneficiaries.
To add value as a trusted business advisor, CPAs can assist their clients in recognizing who the fiduciaries are with regard to their plans and in understanding the responsibilities imposed on plan fiduciaries. While CPAs can help clients understand these duties and responsibilities, we need to ensure that they recognize that we are not attorneys providing legal advice, nor are we stepping into the role of plan management. This is especially critical if engaged to provide attest services to a plan.
Identify All Plan Fiduciaries
Before embarking on a meaningful conversation regarding fiduciary duties and responsibilities, our clients must first understand who the fiduciaries to their plan are. This is especially true when those we are having the discussion with are, in fact, a plan fiduciary, and yet not fully aware of this fact. Many believe that by hiring outside third-party service providers, they have absolved themselves of their responsibilities.
ERISA requires every retirement plan to have a written plan document. In that document is the named plan fiduciary. The identified individual or group of individuals are referred to as “named fiduciaries.” The plan document can name the fiduciary in several ways. They may be identified by their actual names, or they may be identified by job title or by a committee name (such as the Retirement Plan Committee).
Some plans actually identify the company as the named fiduciary. While this approach may be viewed as a way to avoid citing an actual person, title or committee, it actually broadens the number of those who are considered the named fiduciary to all in key positions, such as the president, chief executive officer, chief financial officer and so on.
The second type of plan fiduciary, and the one that frequently surprises those involved with the management of the plan, is the “functional fiduciary.” This includes all those involved in managing the plan and exercising discretion over plan operations or control over the plan’s assets, such as someone involved in selecting and monitoring plan investments, or making determinations about plan operations or provisions.
Based on their involvement, these individuals are generally deemed to be functional fiduciaries. However, for those whose only involvement is administrative (such as updating participant data or forwarding contributions and distributions), they would generally not be deemed to be fiduciaries since they have no discretionary power over the plan.
The third category of plan fiduciary is outside third-party service providers. It should be noted, however, that the extent of their fiduciary responsibilities may be limited to certain activities. For example, an investment advisor may have a fiduciary responsibility relating to plan investments, but may not have responsibility over other plan operations.
Fiduciary Duties and Responsibilities
Once the plan fiduciaries have been identified (and notified, if necessary), you can then begin to help them understand what being a plan fiduciary means. ERISA and related regulations set forth numerous requirements relative to respective responsibilities. However, the overarching requirement for all fiduciaries is the duty to act solely in the best interest of plan participants and beneficiaries. This means that, regardless of any other title, job, or responsibilities they have, when dealing with plan matters one’s duty is solely to the plan participants and beneficiaries.
In addition, the required level of duty is that of a prudent fiduciary. That means that they must act with the care, skill, and prudence of someone who is knowledgeable about being a plan fiduciary. This is a rigorous standard.
Another responsibility is for the fiduciary to protect the plan and ensure that it does not, intentionally or unintentionally, engage in a prohibited transaction. Prohibited transactions are those not specifically permitted under ERISA – even if they have a positive impact on the plan. ERISA provides for specific prohibited transaction exemptions (PTEs), and the DOL may also grant certain PTEs relating to specific facts and circumstances. Imbedded in the prohibited transaction rules is the avoidance of conflicts of interest. This requirement applies not only to the fiduciaries, but to any other person or organization dealing with the plan.
A frequently encountered prohibited transaction is the failure of a plan to segregate plan participant contributions (salary deferrals) from the plan sponsor’s general assets. This generally happens when the employer – usually the plan sponsor – transmits the deferrals to the plan asset custodian.
Under current DOL regulatory guidance and enforcement protocols, the amounts must be segregated as soon as reasonable, but generally within two to four business days. For plans with less than 100 total participants and beneficiaries, the time frame is within seven business days. Failure to comply is considered a breach of fiduciary responsibilities.
Another trouble spot intersects the avoidance of prohibited transactions with fees and expenses paid from plan assets. ERISA requires that any amounts paid from plan assets must be permitted, in accordance with the plan document, and must be reasonable.
There has been a great deal of scrutiny in this area, especially since the DOL issued updated regulations in 2012 that require plan service providers to provide detailed and specific information regarding any fees or expenses, whether direct or indirect, charged to the retirement plan. This information is necessary for plan fiduciaries to determine whether the amounts are reasonable for the product or service received.
In addition to these responsibilities, fiduciaries must read, understand, interpret and follow the written plan documents. As discussed more fully below, the fiduciary will want to maintain good documentation that, if necessary, will reflect how the fiduciary has complied with the plan requirements.
As part of protecting the plan’s assets, the fiduciary has a duty to diversify the plan’s holdings. There are certain exceptions, for example, where the plan is designed to invest primarily in employer securities.
Shifting Fiduciary Responsibility to Others
Inevitably, fiduciary conversations lead to questions about transferring these duties and responsibilities to others. The ultimate answer is that a plan sponsor fiduciary can never completely shift these responsibilities away.
Since the plan sponsor fiduciary has the power to hire and fire outside third parties, they have continuing oversight responsibility which is a prime identifier of fiduciary responsibility. This position has been consistently affirmed through court cases, including by the U.S. Supreme Court.
ERISA does provide for the ability to shift certain aspects of fiduciary responsibility. ERISA Section 404(c) and the underlying regulations provide that in plans where participants direct their own investments, plan fiduciaries will generally not be held accountable for the participants’ investment decisions. But to take advantage of this, several requirements relating to the number and type of investment options, the permitted frequency of investment changes, and the provision of related information must be complied with.
However, challenges can be made regarding the investment options selected by the plan fiduciaries that are made available to the participants. So, while Section 404(c) allows the shifting of some responsibility to the participants, the plan fiduciaries continue to have ongoing responsibilities.
ERISA sections 3(21) and 3(38) allow plan sponsor fiduciaries to hire outside expertise to assist them with the selection of investments for the plan. Under Section 3(21), the plan fiduciary can hire an individual or organization to provide recommendations for investment choices and strategies. While the individual or organization must ensure that the investments recommended are suitable for plan purposes, they generally have no discretionary authority.
In this case, the fiduciary has the responsibility to determine the strategy and select the investments. The fiduciary also continues to have the responsibility to oversee and monitor the selected individual or organization. Once again, the ability to remove an individual or organization gives the plan sponsor ongoing fiduciary responsibilities.
Under ERISA Section 3(38), the plan sponsor fiduciary may hire, in a fiduciary capacity, an outside individual or organization, which must be a bank, insurance company, or registered investment advisor with investment expertise. Unlike the Section 3(21) advisor, the Section 3(38) fiduciary advisor generally does have discretion over the plan’s investments.
Regardless, the outside fiduciary generally exercises its discretion after consultation with the plan sponsor fiduciary. In some cases, the outside fiduciary will be granted full discretion to act within a prescribed strategy. Once again, the plan sponsor retains ultimate fiduciary responsibility.
Consequences of a Breach
Plan fiduciaries are held to a very high standard of conduct. If it is determined that a breach of fiduciary responsibility has occurred, the plan must be put in the position it would have been in had the breach not occurred. This may include reversing a transaction, making additional contributions to the plan, and so on.
Since responsibility ultimately rests with the plan fiduciary, a fiduciary can be held personally liable. This can include civil and, in certain egregious circumstances, criminal liability.
Although beyond the scope of this article, CPAs should inform clients that there has been, and continues to be, extensive litigation brought against plans and plan fiduciaries that allege some sort of breach of fiduciary responsibilities. To date, the primary allegations relate to the selection of investments – whether the investments selected are appropriate, whether the proper class of investment is being held, whether the selection process was appropriate and whether associated fees and expenses are reasonable. These cases frequently allege that the plan fiduciaries did not properly monitor and oversee the outside third-party service providers, including the investment advisors, to ensure that the plan was receiving the appropriate services and that the related fees and expenses paid by the plan for those services were appropriate and reasonable.
In addition to being aware of and complying with all the duties and requirements imposed on plan fiduciaries, one of the most straightforward recommendations CPAs can give clients concerns documentation. This may include minutes of meetings and documentation relating to the operation of the plan.
Plan fiduciaries are always at risk of having their decisions challenged – by government regulators, by plaintiffs’ attorneys, by the media, by participants, or others. One fairly simple step plan fiduciaries can take that may help them defend and explain their decisions is to contemporaneously document the process they followed in reaching their conclusions.
It is not enough to merely document the final conclusion – the process is equally important. This includes what was done, how it was done, who did what and what was considered.
It is also important to document that the process was in accordance with the plan documents and other documentation, such as an investment policy statement, that would be relevant to the actions taken. While this documentation does not ensure that a decision will not be challenged or that there might not have been a fiduciary breach, hopefully it will provide support for the plan fiduciaries’ actions.
In light of recent scrutiny and proposed changes, CPAs should ensure a proper understanding of fiduciary responsibilities and assist clients with recognizing and performing their fiduciary responsibilities for their qualified retirement plans.
The original article appeared in the Pennsylvania CPA Journal.
Bob Lavenberg has more than thirty years of experience with the Employee Retirement Income Security Act of 1974 (ERISA) and related business advisory services. His expertise spans reporting, government compliance and assessment of tax implications for plans, including qualified retirement, health, welfare, and fringe benefit plans. As a...