The Fiduciary Hierarchy

Picture2The recent Department of Labor’s re-proposed Fiduciary Rule has generated many opinions on how it will affect fiduciary service models. One constant, however, cuts through all of the debate: the Plan Sponsor still has the fiduciary responsibility to select and monitor those service providers.

But as you can see, there is a hierarchy of service models available in the 401(k) marketplace. Each of which offers Plan Sponsors a different level of support with regard to investment selection and monitoring. Here is a brief description of each in the order of lowest to highest fiduciary protection:

1. Due Diligence Support.

Providers offering this service have an evaluation process for the investment options they offer under their retirement programs usually known as due diligence support. The provider offers a wide array of funds, and plan sponsors use the tool to help construct an appropriate line-up for their plan. However, the plan sponsor is still responsible for selecting and monitoring the plan’s investment options.

2. Fiduciary Certificate or Warranty.

Providers offering this service provide a Certificate or Warranty generally available to plan sponsors if they select at least one fund in designated asset classes. There is due diligence support for evaluating their funds combined with last-resort fiduciary liability protection if numerous conditions are met.

3. Directed Trustee

Under this arrangement, an institutional Trustee will usually provide a custodial arrangement, and to take instruction from the Plan Sponsor that are consistent with the plan document and ERISA. Directed Trustees will usually disavow fiduciary status.

Section 3(21) Fiduciary 

Some 401(k) programs use the services of an independent Registered Investment Adviser (RIA) who agrees to become an investment advice fiduciary under section 3(21)(A)(ii) of ERISA. Under this service, the RIA recommends and monitors funds for the plan’s fund menu. However, employers are still responsible for selecting and monitoring the specific funds used on the menu.

5. Section 3(38) Fiduciary

Under this arrangement, the Plan Sponsor hires a Fiduciary to manage the investment process of its retirement plan. It must be an RIA, bank, or insurance company who is solely responsible for the selection, monitoring, and replacement of plan investment options.

6. Discretionary Trustee

There a few providers who will act as a Discretionary Trustee under Section 403(a) of ERISA. A  Discretionary Trustee goes beyond the investment services offered by a Section 3(38) Trustee by providing services such as a) custody of the assets, b) responsibility for Section 404(c) compliance, c) and c) 408(b)(2) fee disclosures.


Which fiduciary service is best? There is no “best” one. Each Plan Sponsor must decide based on its own situation. individual facts and circumstances. But here are some basics.

First, there must be an agreement between the Plan Sponsor and the service provider.

Second, the service provider must acknowledge its fiduciary status in writing.

Third, the Plan sponsor still has the duty to prudently select and monitor service providers.

As always, make sure to read the fine print, and consider having an ERISA attorney review the service agreement.

Who is responsible for service provider mistakes?

blameIt took nine years in the case of Butler v. United Healthcare of Tennessee to determine who was responsible for a denied group health benefit claim.

The patient, covered by her husband’s ERISA health benefit plan, sought treatment for inpatient rehabilitation for substance abuse. Treatment for which was denied by United. The patient ultimately received the benefits to which she was entitled.

The important takeaway from this case is who is responsible for the improper administration of a welfare benefit plans: the plan sponsor or claims administrator?

Here’s the short version.


After seven years’ worth of internal claims reviews, trips to the Federal district court, remands to the plan for reconsideration, the Federal District Court required United to pay benefits plus interest and $99,000 in statutory penalties for its “arbitrary and capricious” decisions. The statutory penalty was awarded on the basis of United’s failure to play fair under the Department of Labor regulations governing the internal claims appeal process.

On appeal, the U.S. Court of Appeals for the Sixth Circuit, agreed that United had improperly denied the group health claim, but reversed the lower court’s award of statutory penalties. However, the statutory penalty of up to $110 per day applies to Plan Administrators that fail or refuse to respond to participant’s requests for documents and information enumerated in Section 104(b)(4) of ERISA within 30 days.

United’s failure to comply with the claims review requirements under a different statutory provision was determined not to be subject to the statutory penalty for violating ERISA Section 104(b)(4).

The Court’s opinion also concluded that the ERISA statutory penalty could not be assessed against United because it applies only to the “Plan Administrator,” not just any service provider. The Court held that the plan sponsor was the “Plan Administrator” in the absence of any contrary designation in the plan document. Accordingly, United, as the claims administrator, could not be tagged with the statutory penalty.


This case reflects the real world in that the plan sponsor is almost always the “Plan Administrator” with ultimate responsibility for plan operations. It follows that plan sponsors, as fiduciaries, could be saddled with liability for the conduct of non-fiduciary plan service providers.

But note that the holding in Butler that statutory penalties do not apply to violations of the DOL’s claims review regulations is not universal, and some courts have ruled otherwise. So, it is entirely possible that a case like Butler in another jurisdiction could result in the assessment of statutory penalties against the employer in addition to the judgment against the service provider for payment of the contested benefits plus interest.


A typical service agreement for a “claims administrator” vests ultimate authority over claims decisions with the employer as Plan Administrator. At the same time, most employers hire a TPA or claims administrator so they are not involved in deciding claims.

In an insured welfare plan, claims decisions govern the expenditure of insurance company funds, so the employer’s supposed ultimate authority over claims is probably a fiction. However, employers should not have to spend lots of money in attorneys’ fees to prove that proposition in court. Here are two practical suggestions

  1. The service agreement with the TPA or claims administrator should indemnify the employer for any mistakes of the service provider.
  2. Adequate fiduciary insurance coverage should be considered for the employer and employees with administrative or investment responsibilities for the plan. Remember, the ERISA fidelity bond protects the plan, not its fiduciaries, so fiduciaries should never rely on a plan’s fidelity bond.

You can read the entire court decision here.

Image: Canstock Photo

The above material is intended for general information purposes and should not be relied on or construed as professional advice. Under the applicable Illinois Rules of Professional Conduct, the contents of this article may be considered to be attorney advertising. The transmission of this information is not intended to create, and receipt of it does not create a lawyer-client relationship.

What We Can Learn From Australia’s Superannuation


Superannuation is what Australia calls its retirement system, and they are doing something right.

According to the 2014 Melbourne Mercer Global Pension Index (8o-page report if downloaded), an annual study that ranks national retirement systems based on the relative importance of adequacy, sustainability, and integrity, Australia only trails Denmark graded A, and tied with the Netherlands graded B. The United States? Grouped with France, Poland, South Africa, Austria, and Brazil with a grade of C.

The subtitle of the Study, by the way, is “Including Trust and Transparency in Pensions”. Apparently an issue not unique to the U.S.

So what makes the Australian system so different, and according to the Mercer Study, better than ours? We’ll get the details when our friend, Paul Secunda, returns from Australia.

Paul, a professor of law at Marquette and director of the Law School’s labor and employment law program, recently earned a Senior Fulbright Scholar Award. He’ll spend the Fall 2015 semester in Australia as a Senior Fellow at Melbourne University Law School teaching and doing research focused on the country’s national pension program.

No doubt that he’ll bring back valuable ideas on how to improve our retirement system. But in the meantime, here’s my take on the difference between a grade of B and a C. It’s foresight.

In 1992, the Australian government introduced a major reform package addressing Australia’s retirement income policies. The concern was that increased in pension payments due to demographic shifts would place an unaffordable strain on the Australian economy.

Through a tripartite agreement between the government, employers and the trade unions, the country adopted a “three pillars” approach to retirement income consisting of:

  • A safety net consisting of a means-tested Government age pension system
  • Private savings generated through compulsory contributions to Superannuation
  • Voluntary savings through superannuation and other investments

Now can you imagine our government, employers, and the unions all agreeing on a national retirement income policy? That’s not a political question, it’s a hopeful one.

Hey! What’s My Number? How To Improve The Odds You Will Retire In Comfort (Book Review)

Cover-NEW-2014.11.18.6-600x900pxLet’s say, for example, you’re concerned about not having enough money saved for retirement. You’re certainly not alone based on the myriad number of polls, surveys, and studies that have been in the news. So where do you start?

You might start at Amazon and search under “Retirement Savings”. At this frozen moment in time when I’m writing this blog post, there were 12,618; or if you were a Prime member, you could whittle that number down to 10,576.

(If you’re an Amazon customer, consider signing up for Amazon Smile, though which Amazon will donate a portion of the purchase price to your choice of one of nearly one million charitable organizations).

Allow me to save you time and point you in the right direction. It’s Chris Carosa’s new book, What’s My Number: How to Improve the Odds You Will Retirement in Comfort.

If you’re someone who is in the retirement industry, it’s likely you know who Chris Carosa is. You may be a subscriber to his Fiduciary News or have read one of his many books, one of which I covered on this blog, 401(k) Fiduciary Solutions.

But that one was for us pension people as evidenced by the subtitle:

Expert Guidance for 401(k) Plan Sponsors on How to Effectively and Safely Manage Plan Compliance and Investments by Sharing the Fiduciary Burden with Experienced Professionals

But as you can see from the subtitle of his new book, How To Improve The Odds You Will Retire In Comfort, this one is written for those of you that are concerned about not having enough money to retire and would like expert guidance on the journey to get there. In plain language, Chris provides a 4-step process for that journey with a Retirement Readiness Calculator to check in along the way.

You can make up your own mind by checking out Chris’s book here.

In the meantime, I’m going to take the next step as a grownup beyond Robert Fughum’s best seller, All I Really Need to Know I Learned in Kindergarten. 

That’s Chris’, A Pizza The Action: Everything I Ever Learned About Business I Learned by Working in a Pizza Stand at the Erie County Fair.

The Dirty Dozen Tax Scams for 2015: Infographic

Every year around this time, the Internal Revenue Service publishes a list of the year’s “Dirty Dozen Tax Scams”. Here they are as an infographic courtesy of  The Accounting School Guide.

Tax Scams

You can find more detailed information from the testimony of the IRS’ Timothy P. Camus before the Committee on Finance U.S. Senate on Tax Schemes and Scams During the 2015 Filing Season.

Illinois Secure Choice Savings Program?

IL-120Illinois legislation, the first in the country, recently authorized a new state sponsored retirement savings vehicle called the Secure Choice Savings Program (Secure Choice). The program is aimed at upwards of 2 million Illinois workers who are not currently covered by an employer provided retirement plan. There are at least 16 other states considering legislative proposals providing similar retirement programs.

The Secure Choice program offers a pooled investment fund for employees who are not covered by employer provided qualified retirement plans. With a promise of low fees and competitive investment results, the program is mandatory for businesses and not-for-profit employers with 25 or more employees age 18 and over that have been in existence for at least two years. Smaller employers can participate but that participation is optional.

The highlights of the Secure Choice program include:

  •  Covered employees will be auto-enrolled to make contributions by payroll deduction at a default contribution rate of three percent of compensation (employees can adjust this rate or opt out of participation at any time).
  •  Employer contributions are not permitted (this helps keep the program from imposing the federal compliance burdens on employers).
  •  Limited investment options will be provided including a default “life cycle” fund for employees who do not make their own investment choices.
  •  Employee contributions will, like Roth IRA contributions, not be deductible for income tax purposes but investment gains are to be sheltered from tax until distribution.
  •  Participating employees will have access to their funds at any time but tax advantaged distributions can be made only after the employee attains age 59½.
  •  Program assets are in a single investment pool managed by the state treasurer and others on a seven person board that includes a majority of elected officials, state employees and government appointees.
  •  Non-compliant employers can be punished with a fine of $250 per employee per year.

The program is to be rolled out in Illinois by 2017 when the complicated program infrastructure needs to be up and running to enroll all eligible employees. The cost to Illinois of the rollout process has not been estimated but it could be substantial. The program is also subject to regulatory review by the federal government for consistency with federal laws.

From an employer’s perspective, the promise of administrative simplicity could prove to be illusory. There will have to be ongoing employee communications, an enrollment process, a deposit arrangement, and account management functions that will have to accommodate employees who do not have access to internet portals that are customarily provided to manage personal retirement funds.

From an employee’s perspective, how reliable is the pledge of low cost, competitive investments? The program is to be managed, at no cost to the state, by a private administrator for a projected fee of .75 percent of account assets. Is this on top of management fees of the mutual funds that will likely be included as investment choices? Will there be additional charges for the custody of plan assets? Will the plan charge participants for specific services such as plan distributions or the processing of domestic relations orders?

And from the tax payers standpoint, is it really free? Won’t there have to be detailed regulations? And even though the management board is not compensated, what about the costs of the infrastructure set up and rollout? The challenges could be comparable to that of the Affordable Care Act rollout which involved substantial expenses just for outside contractors ($135 million was spent for advertising and PR alone).

It is entirely possible that Governor Rauner’s administration will pull the plug on this program or that it will not make it through the federal regulatory hurdles. Other alternatives might make more sense. The federal “myRA” program is now up and running to provide participant contributions by direct deposit to a cost-free Roth-IRA type savings vehicle. Also pending in Congress is the Secure Annuities for Employees (SAFE) Act that proposes a simplified 401(k) plan for smaller employers. In any event, subject employers have until the 2017 deadline to consider alternatives. Many will find that adopting an IRA-based retirement plan makes more sense.

And keep in mind, this is Illinois, an insolvent state with a history of insider deals and corruption involving the management (and mismanagement) of state pension funds – a state with its own funding liability for state sponsored retirement benefits measured in tens of billions of dollars. So, what could possibly go wrong?

The above material is intended for general information purposes and should not be relied on or construed as professional advice. Under the applicable Illinois Rules of Professional Conduct, the contents of this article may be considered to be attorney advertising. The transmission of this information is not intended to create, and receipt of it does not create a lawyer-client relationship.

401(k) Loans: A “Temporary Band-Aid”?

That’s not my metaphor which is why it’s in quotes. It belongs to Eve Tahmincioglu, the Career Diva, about whom I wrote in 2008. Eve wrote a blog post about the increasing number of 401(k) loans, It’s for retirement stupid…, which very directly expressed her sentiments. Just to reinforce it, her parting words were

People, this is a temporary Band-aid, and it’s going to hurt when you have to rip it off.

That’s pretty much been the opinion since then until recently. J.R. Robinson, writing in the Christian Science Monitor yesterday says Now could be a great time to borrow from your 401(k). He provides a number of advantages why this could be an appropriate personal financial strategy.

Mr. Robinson also cites a November, 2014 article in the Journal of Financial Planning to support his premise. That article, Benefits and Drawbacks of 401(k) Loans in a Low Interest Rate Environment, written by Jarrod Johnston, Ph.D., CFP®; and Ivan Roten Ph.D., CFP® provides a number of scenarios in which 401(k) loans are advisable.

The authors do point out that a major disadvantage is a deemed distribution if the loan is not paid back. The defaulted loan is taxable at ordinary income tax rates. In addition, a 10% early withdrawal penalty applies f the borrower is younger than age 59½.

But just how prevalent is this major disadvantage of loan default, and what is it’s impact on retirement savings? A February, 2014 Pension Research Council Working Paper written by Timothy (Jun) Lu, Olivia S. Mitchell, Stephen P. Utkus, and Jean A. Young provides us the  answers. Their study, Borrowing from the Future: 401(k) Plan Loans and Loan Defaults (registration required to download), focused on answering the questions:

  1. Who borrows from their 401(k) plans?
  2. Who defaults on an outstanding loan?
  3. What are the implications of 401(k) borrowing for retirement security?

Here is what their research shows:

  • At any one time, 20% of defined contribution participants have an outstanding loan.
  • Approximately 40% of all participants borrow against their 401(k) accounts over a 5-year period.
  • While 90% of all loans are repaid, 86% of employees who terminate with loans default.

The authors estimate that loan defaults are approximately $6 billion per year which is larger than previous estimates. The data implies, the authors say, that this high rate of defaults could be for reasons of low financial literacy, impatience, or inattention. Many employees, they found, were surprised  by an unanticipated job change or its effect on an outstanding loan.

Public policy and plan design considerations aside, the takeaway for me is more immediate: more and better financial education in the workplace.

Frozen pension plans becoming a high maintenance item

When defined benefit pension plans come up in conversation (that’s what we ERISA folks do when we get together), it’s usually about the decline of traditional pension plans and the increase in of cash balance plans. Frozen pension plans are rarely included.

They should be since they are a significant part of the retirement plan universe. At last count, there were approximately 7,800 plans covering 5.5 million employees with $317 billion in assets.

What exactly is a “frozen pension plan”? Generally speaking, it’s a defined benefit plan that has:

  • Ceased benefit accruals for all employees, or
  • Accrues benefits for existing participants, but is closed to new entrants

As an aside, the later may have compliance issues with respect to Minimum Coverage, Minimum Participation, and Top-Heavy requirements under the Internal Revenue Code.

But both types of frozen pension plans have one thing in common. Although benefit accruals have ceased or there are no new participants, the cost of maintaining the plan continues. Service providers are still required, e.g., actuaries, third party administrators, accountants, attorneys, investment managers, and recordkeepers.

Expenses inherent to the plan itself also continue. It’s substantial increases in two of those expense items that are making frozen pension plans high maintenance – and all pension plans for that matter.

First, PBGC Premium Increases

Defined benefit plan sponsors experienced back to back PBGC premiums in 2012 as part of the Moving Ahead for Progress in the 21st Century Act (MAP-21) and in 2013 as part of the Bipartisan Budget Act of 2013 that was signed into law on December 26, 2013. This legislation significantly increases both the flat-rate and variable-rate single employer PBGC premiums.

These premiums to which employers have to pay each year to the PBGC are comprised of two portions:

  1. Flat-Rate
  2. Variable-Rate

The flat-rate portion is determined by multiplying the flat premium rate by the number of participants in the plan. One estimate I’ve seen show the future PBGC flat–rate premiums could be a significant percentage of the present value of that participant’s benefit payments.

For example, the present value of future PBGC flat -rate premiums would be about $1,800 for a 40 year old participant, assuming 5% interest and 3% inflation indexing.

That’s the “then”. But in the “now”, it’s the variable-rate premium that will make it make it much more expensive for employers than in the past. The variable rate premium is that portion of the PBGC premium that is based on the amount of a plan’s unfunded vested benefits (“UVB”), or the difference between plan assets and liabilities.

Take the example of a frozen pension plan covering 50 participants that is $500,000 underfunded. This employer will see their PBGC premiums increase from $6,600 in 2013, to $9,450 in 2014, to $14,850 this year, and to $14,850 next year – 168% increase in 4 years.

Second, New Mortality Tables

The Society of Actuaries has issued a new set of mortality tables that recognizes longer lifespans. Longer lifespans means retirement benefits are paid longer. Because mortality is a key assumption in measuring pension obligations, the new set of mortality tables could significantly increase pension liabilities.

The IRS has the authority under the Pension Protection Act of 2006 (“PPA”) to prescribe mortality rates used in the calculation of funding liabilities. The PPA requires a review of the mandated mortality tables for at least every 10 years. Since actuaries are currently using a 2000 mortality table adjusted for expected mortality improvements, the IRS could require the use of the new tables next year for both funding requirements and lump distributions.

What will be the impact? Projections I’ve seen indicate that

  • Plan liabilities could increase 6% to 8%, and
  • Depending on participant age and retirement date, lump sum distributions could increase from 7% to 15%.

So what should employers with frozen pension plans be thinking about now? Certainly consider terminating the plan, or if not financially feasible now consider alternative strategies to get a better handle on their retirement plan expenses. What those strategies are and how they play out in a frozen pension plan are beyond the scope of this blog post, but will be discussed soon.

What Advisors Need to Know About Retirement Plans: Presentation to Illinois CPA Society

I had the opportunity recently to make a presentation on qualified retirement plans to the Illinois CPA Society (ICPAS). Actually, it was using PowerPoint to begin a dialogue with the members of the ICPAS Investment Advisory Services/Personal Financial Planning Forum

The ICPAS describes their Forums as being “composed of members with shared interests who interact either in person and/or online to discuss topics of mutual interest, share best practices, ideas, problem-solving strategies and other information”. That was certainly my experience. Here’s the presentation that started the discussion.

Employee Classification as Part-Time or Full-Time: Not the Same Under the Affordable Care Act and ERISA

Some of the most difficult and contentious provisions of the Affordable Care Act (“ACA”) are the employer mandate and upcoming reporting requirements effective in 2015.

“Difficult” because the employer mandate requires applicable large employers, generally those with 50 or more “full-time” employees, to offer coverage to full-time employees and dependents (other than spouses). If the employer mandate is not met, employers would be subject to penalties if a full-time employee receives government premium assistance through the marketplace. In addition, beginning this year, the ACA imposes new reporting requirements that will assist the Treasury Department in enforcing the employer and individual mandates.

“Contentious” because, well, the ACA is all about politics. Not surprisingly, the new Congress got off to a quick start. On January 8, the House passed the Save American Workers Act of 2015 which amended the Internal Revenue Code to change the definition of “full-time employee”, an employee who is  employed on average at least 30 hours a week.  The Act increases the threshold to 40 hours a week. The Act has been sent to the Senate where if passed will probably get vetoed by the President.

From a retirement plan standpoint, however, it’s different. While many employers do not want to include part-time employees in 401(k) plans for both cost and discrimination testing purposes, the IRS takes a decidedly dim view of any eligibility class that could exclude any employee who completes 1,000 hours of service. Indeed, the IRS issued guidance in 2007 regarding the extent to which part-time, temporary, seasonal, and project employees can be excluded under qualified retirement plans.

Retirement plans that improperly exclude these employees can be disqualified resulting in significant adverse tax consequences. Here are two takeaways for any concerns about this issue:

  1. Review the plan document to determine whether it has been properly drafted to exclude part-time and other non–full-time employees.
  2.  Determine whether any of those employees were correctly excluded from plan participation.

Any issues? Then take advantage of one of the available IRS correction procedures.