New ERISA regulation shining light on hidden 401(k) fees – 408(b)(2)

The Employee Benefits Security Administration (EBSA) imposed a new regulation that amends a prohibited transaction rule under ERISA and the Internal Revenue Code – 408(b)(2). Effective on July 16, 2011, the new rule will impact tens of millions of employees and will apply to all financial institutions that both provide investment options, such as 401(k)s to employers and offer financial advice to employees.

In recent years, the way services are provided to employee benefit plans and the way service providers are compensated (e.g., through revenue sharing and other arrangements) have become increasingly complex.

In effort to combat the rise of ERISA stock fraud violations and to bring “hidden” or excessive 401(k) fees to light, the EBSA released 408(b)(2), proposing the disclosure of indirect compensation by plan service providers including third-party administrators, pharmacy benefit managers, actuaries, and 401(k) recordkeepers.

The new regulation amends a prohibited transaction rule under ERISA and the Internal Revenue Code. That rule says that it is a prohibited transaction for a plan to enter into an arrangement with a service provider unless the “arrangement” is reasonable and the compensation being received by the service provider is reasonable. The new regulation adds disclosure requirements for determining whether a service provider arrangement is reasonable.

The rule applies to plan service providers that expect to receive $1,000 or more in compensation and that provide certain fiduciary or registered investment advisory services.

The EBSA estimates will be economically significant. The non‐discounted costs for the first
year are estimated to be approximately $153 million, which include reviewing and analyzing the regulation, conducting a compliance review to ensure that service providers comply with the regulation, and preparing any new disclosures required by the regulation.

This interim final rule establishes, for the first time, a specific disclosure obligation for plan service providers ‐ a disclosure obligation designed to ensure that ERISA plan fiduciaries are provided the information they need to make better decisions when selecting and monitoring service providers for their plans.

Many of these changes may have improved efficiency and reduced the costs of administrative services and benefits for plans and their participants. However, the complexity resulting from these changes also has made it more difficult for many plan sponsors and fiduciaries to understand how and how much service providers are compensated.

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About Nick Stonnington

Nick Stonnington has been a wealth advisor since 1983. He founded Stonnington Group in 2004 to better serve clients by offering them a platform for independent fiduciary advice. The Stonnington Group team manages client investments and advises on their businesses. Nick was ranked #1 in Los Angeles by Registered Rep Magazine in 2002 for "America's Best Wealth Advisors." Nick's expert commentary has been featured in such publications as the Wall Street Journal, Los Angeles Times, New York Times, Investment News, and Investment Advisor. His research has been published in the Family Wealth Report and he has written articles on investing for numerous industry journals.
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