A sweeping new set of participant disclosure requirements will take effect for most 401(k) and 403(b) plans later this year (Participant Disclosure Regulation). The regulation creates a new ERISA fiduciary duty for administrators of all retirement plans that provide for participant investment direction (excluding simplified employee pension (SEP) plans and simple retirement accounts (SIMPLE plans)). Plan administrators of covered plans will need to give participants an expanded array of information that meets specific content, formatting and frequency requirements. The requirements apply to plan years beginning on or after November 1, 2011.
Observation – Some of the information required by new the Participant Disclosure Regulation is already furnished by plans that comply with ERISA section 404(c). However, the new regulation substantially expands section 404(c) disclosure requirements and applies without regard to whether a plan is designed to comply with section 404(c). Because of the breadth and nature of the new required disclosures, plan administrators will likely need to coordinate closely with their third-party recordkeepers and investment alternative providers. Plan administrators will find it advantageous to begin preparing early this year for how they will comply with the new requirements.
New Focus on Fee Disclosure
Congress and regulators recently have become concerned with the fees paid directly or indirectly by retirement plan participants. Such fees also have been the subject of class action lawsuits alleging that plan fiduciaries breached their ERISA fiduciary duties by not adequately considering (and limiting) fees charged to participants’ accounts.
For its part, the U.S. Department of Labor (DOL) has focused on measures designed to make plan fees more transparent, thereby enabling plan fiduciaries to better understand, monitor and control those fees. For example, last year the DOL established new fee disclosure standards for retirement plan service providers that will take effect this July. The Participant Disclosure Regulation reflects an effort to provide similar information to participants in individual account plans so that they are better positioned to make informed decisions about managing their plan accounts.
The new regulation creates an entirely new set of disclosure obligations for plan administrators, which are distinct from the disclosure requirements of ERISA section 404(c). The new regulation was issued under ERISA section 404(a)(1), which requires plan fiduciaries to act prudently and solely in the interest of plan participants. Unlike compliance with ERISA section 404(c), which is voluntary, ERISA section 404(a)(1) is a mandatory, core fiduciary obligation. As a result, plan administrators that do not comply with the new disclosure requirements may be subject to claims of breach of their ERISA fiduciary duties of prudence and loyalty.
Observation – The plan administrator of an ERISA-covered plan is the person or persons so designated in the plan documents. If the plan documents do not name the plan administrator, then the administrator is the sponsor of the plan.
Observation – In recognition of the fact that plan administrators will typically rely on their recordkeepers and investment product providers for the information that must be disclosed to participants, the new regulation provides a safe harbor from liability for incomplete or inaccurate information if a plan administrator relied reasonably and in good faith on its third-party service providers for such information.
Content & Frequency Requirements
The new Participant Disclosure Regulation requires that plan administrators provide participants two broad categories of information: plan-related information and investment-related information.
Plan-related information consists of three subcategories: general information, administrative expenses, and individual expenses. Generally, all three types must be initially provided on or before the date on which a participant can first direct investment of his or her account. After initial disclosure, plan-related information must be provided at least annually. If disclosed information later changes, each participant must be furnished a description of the change at least 30 days, but not more than 90 days, in advance of the effective date of the change.
Observation – The updating requirement is not subject to a materiality threshold. Instead, any change to required information must be reported to participants in accordance with the advance notice rule. As a result, plan administrators should arrange with their third-party service providers for prompt advance notice of changes in such information.
General information consists of:
- An explanation of when participants may give investment instructions.
- An explanation of any specified limitations on investment instructions under the terms of the plan, including any restrictions on transfer to or from investment alternatives.
- A description of plan provisions relating to the exercise of voting, tender and similar rights pertaining to an investment alternative, as well as any restrictions on such rights.
- An identification of investment alternatives offered under the plan.
- An identification of any investment managers with respect to those investment alternatives.
- A description of any brokerage windows or similar arrangements.
The disclosure of administrative expenses must include an explanation of any fees and expenses for general plan administrative services that may be charged against participants’ individual accounts on a plan-wide basis, and which are not reflected in the total annual operating expenses of the plan’s investment alternatives. An example of such an administrative expense is a plan-wide recordkeeping fee. The disclosure must explain the basis on which such fees are allocated to each account (e.g., pro rata, per capita).
In addition to annual reporting, administrative expenses must be reported to each participant in a quarterly statement that reports:
- The dollar amount of the administrative fees that were actually charged to the participant’s account during the preceding quarter.
- A description of the services to which the charges relate (e.g., plan administration).
- If applicable, an explanation that, in addition to fees charged to participants’ accounts, some of the plan’s administrative expenses for the preceding quarter were paid by the plan’s investment alternatives (such as through revenue sharing arrangements, Rule 12b-1 fees, sub-transfer agent fees).
The disclosure of individual expenses must include an explanation of any fees that may be charged to participants’ account on an individual, rather than a plan-wide, basis, and which are not otherwise reflected in the total annual operating expenses of any of a plan’s investment alternatives. Examples of these expenses include fees to process plan loans and qualified domestic relations orders, fees for investment advice and brokerage windows, as well as commissions, front or back-end loads or sales charges, redemption fees, transfer fees, and optional rider charges in annuity contracts.
Similar to the requirement for administrative expenses, individual expenses must be reported annually, and participants must receive a quarterly statement that reports:
- The dollar amount of the individual fees that were actually charged to the participant’s account during the preceding quarter.
- A description of the services to which the charges relate.
The Participant Disclosure Regulation requires that specific investment information be affirmatively disclosed, and that certain additional investment information be disclosed at the participant’s request. As with plan-related information, investment-related information must be initially provided on or before the date on which a participant can first direct the investment of his or her account. After that initial disclosure, this information must be provided at least annually, subject to a similar updating requirement when that information changes (i.e., updated information at least 30 days, but not more than 90 days, in advance of the effective date of the change).
The extensive investment-related information includes:
- Identifying information for the plan’s investment alternatives, including the name and type of each alternative.
- Performance data, including each investment alternative’s return over 1-, 5-, and 10-year periods.
- Benchmark data for each investment alternative over 1-, 5-, and 10-year periods.
- Fee and expense information for each investment alternative, including the amount and type of each shareholder-type fee, descriptions of restrictions, the operating expense ratio, and the total operating expense in dollars.
- Required statements about the impact of fees.
- A website address for each investment alternative that provides certain SEC disclosures and other information.
- A glossary of investment terms (or a web address for one).
- Information about any plan annuity options.
Observation – Plan administrators will need to be careful to coordinate these new requirements with any other applicable disclosure requirements. For example, a plan which includes employer securities as an investment option will generally be registered with the SEC. Under SEC prospectus requirements, return information must be provided for each investment alternative offered under the plan for each of the prior three fiscal years. As a result, SEC registered plans will now be required to provide return information for five separate periods (1, 2, 3, 5 and 10 years). Such plans also will need to consider how the disclosures required under these rules should be coordinated with other plan-related SEC disclosure requirements.
A plan must also provide to participants any materials that it receives relating to the exercise of voting, tender and or similar rights for an investment alternative if such rights are passed through to the participant under the plan.
Beside the information required to be automatically provided, a plan must provide certain investment-related information to a participant upon request. For each investment alternative, the available information includes:
- Prospectuses for any SEC-registered investment options.
- Financial statements and reports.
- Share value and valuation date.
- A list of the assets that constitute the investment alternative.
Observation – These categories of “available upon request” information are similar to the types of information that must be provided upon request under ERISA section 404(c).
Formatting & Presentation Requirements
The investment-related information described above must be provided in chart format. The chart must be dated, include contact information for the plan administrator, and provide statements concerning the availability of more information via the web and paper copies. The DOL has created a model chart which can be used to satisfy these formatting requirements. Plan administrators are permitted to include additional information to what is required under the model chart, so long as that information is accurate and not misleading.
The other information that must be provided annually can be included in the plan’s summary plan description or in a participant’s benefit statement. The quarterly disclosures described above may also be provided in participant benefit statements.
The DOL has reserved for further guidance the issue of how these disclosures should be furnished to participants. Until further guidance is issued, plan administrators are permitted to provide these disclosures electronically, so long as they comply with the DOL’s current electronic delivery rules.
Observation – The DOL’s current electronic disclosure rules can be difficult to meet in some circumstances, such as when communicating with former employees or with employees who do not have regular access to a computer as part of their job duties. The DOL has for some time been considering possible revisions to these standards. It has announced that it anticipates releasing additional guidance in this area sometime later this year and before the new Participant Disclosure Regulation becomes effective.
Implications & Next Steps
The Participant Disclosure Regulation will require considerable amounts of information to be collected and organized. Tracking plan-related fee information and providing it to participants in a timely fashion, may pose logistical difficulties for some plans. Many plan sponsors and administrators will need to coordinate closely with their external recordkeepers or other administrative services providers to meet the new disclosure requirements. While much of the investment-related information already exists for the typical mutual fund or similar publicly traded investment alternative, collecting this information and keeping it updated may present logistical challenges. In addition, plans that offer customized investment alternatives instead of SEC-registered mutual funds will need special procedures for collecting necessary investment performance information.
The new disclosure requirements may pose some additional practical issues for administrators of ERISA-covered 403(b) plans, particularly those that have not in the past sought to comply with ERISA section 404(c). Administrators of such plans may need to allocate additional time to understanding the specific information required to be disclosed for investment options that are part of an annuity contract, and to coordinate with their annuity providers for how that information will be delivered. In addition, the new disclosure requirements emphasize the need for sponsors of 403(b) plans to clearly understand whether their plans are covered by ERISA, and therefore subject to those requirements.
Plan administrators may also want to consider a participant communication strategy related to the new disclosures. Participants may be confused and overwhelmed by the wave of new information they will begin receiving later this year, if that information is not provided with sufficient context. Employers should also consider whether the new information on investment performance and benchmarks could encourage “performance chasing” by participants and other unintended behavior. Providing the new disclosures as part of a broader communication and investment education strategy may be helpful.