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DoL Guidance Raises Concerns for 401(k) Plans Offering Self-Directed Brokerage Options

On August 30, 2012, all defined contribution plan sponsors must provide fee and expense information to their plan’s participants under the new participant-level fee disclosures required by ERISA 404(a)(5). To clarify plan sponsors’ obligations, the United States Department of Labor (DoL) recently issued Field Assistance Bulletin (FAB) 2012-02, which provides question-and-answer guidance.

Possibly the biggest red flag in the FAB is the disclosure requirement for plans that offer brokerage windows and self-directed brokerage account options to plan participants and beneficiaries. All plan sponsors who currently offer a brokerage account option, or who are considering offering one, should immediately consider the impact of the FAB on their fiduciary obligations and act accordingly.

Designated Investment Alternative

Historically, brokerage windows were not believed to be a “designated investment alternative” (DIA) covered under the participant-level fee disclosure rules, thus, plan administrators have not prepared to disclose information on these arrangements. In FAB question-and-answer No. 30, the DoL addresses whether an investment platform itself, consisting of a large number of mutual funds of multiple fund families into which participants and beneficiaries may direct the investment of assets, can be considered a DIA for purposes of the regulations. DIAs are subject to fiduciary review as to whether they are appropriate investments for the plan and must meet the fee disclosure requirements.

The FAB’s answer to this question affirms that “a brokerage window or similar arrangement is not a [DIA]” but indicates that individual investments available under the window could become DIAs if a sufficient number of participants and beneficiaries choose to invest in them.  The answer further asserts that “If, through a brokerage window or similar arrangement, non-designated investment alternatives available under a plan are selected by significant numbers of participants and beneficiaries, an affirmative obligation arises on the part of the plan fiduciary to examine these alternatives and determine whether one or more such alternatives should be treated as designated for purposes of the regulation.”

Meeting Safe Harbor

In practice, to meet this “safe harbor,” employers and/or service providers would be required to examine each selection within the account of each participant or beneficiary made through a brokerage window or other investment platform to determine whether the selections meet the DIA threshold, which would then trigger additional disclosure obligations and possibly a fiduciary review.  The prospect of plan sponsors having to examine hundreds or thousands of individual accounts on a regular basis to determine if an investment is selected by enough participants to become a DIA is unworkable.

In response, DoL representatives pointed to question-and-answer No. 37 in the FAB as providing an enforcement transition period. They indicated it was their intent to provide a one-year transition period if plan administrators have acted in good faith based on a reasonable interpretation of the new regulations, provided they have established a plan for complying with the FAB in future disclosures. However, it should be noted that the transition period is limited to DoL enforcement, subjecting plan fiduciaries to the risk of participant lawsuits. In addition, it appears plan administrators must establish a plan for complying by the effective date of the fee disclosure rules. Despite a one year “preparation” period, it is unlikely that even in that time frame, sponsors and service providers could come up with a viable solution that is worth the time and expense.

Brokerage Windows

For plans wishing to offer a select group of well-versed investors an option to maximize their ability to go beyond the standard funds available in a retirement plan, brokerage windows are a good solution. However, the fiduciary burden of meeting the requirements of the FAB may negate any benefit to plan sponsors in offering them. We recommend that any plan sponsors currently considering adding a brokerage window to their 401(k) plan wait until further guidance is released. Lockton is actively participating in discussions with the DoL on the impact of this FAB in hopes of receiving revised guidance in the near future.

Should you have any questions, please contact me at RRuotolo@Lockton.com.

Reprint by Fiduciary Risk Management: Compliance Services Sam Henson, JD  l  Jessica Skinner, JD. Securities offered through Lockton Financial Advisors, LLC a registered broker-dealer and member FINRA, SIPC. Investment advisory services offered through Lockton Investment Advisors, LLC, a SEC registered investment advisor. For California, Lockton Financial Advisors, LLC, d.b.a. Lockton Insurance Services, LLC, license number 0G13569.  Nothing in this message should be construed as legal advice. Lockton may not be considered your legal counsel and communications with Lockton’s compliance services group are not privileged under the attorney-client privilege.  Circular 230 Disclosure: To comply with regulations issued by the IRS concerning the provision of written advice regarding issues that concern or related to federal tax liability, we are required to provide to you the following disclosure: unless otherwise expressly reflected herein, any advice contained in this document (or any attachment to this document) that concerns federal tax issues is not written, offered or intended to be used, and cannot be used, by anyone for the purpose of avoiding federal tax penalties that may be imposed by the IRS or promoting, marketing or recommending to another party any matters addressed in this document or any attachment.

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