Nearly every 401(k) plan offers its participants some investment options that include revenue sharing. For many years, employers were not even aware that their participants' investments were generating these payments. Today, in the wake of new Department of Labor (DOL) disclosure and reporting rules and well-publicized cases attacking employers for inattention to revenue sharing, ignorance is no longer an excuse.
Recently the Employee Benefits Security Administration of the DOL (EBSA) addressed an important question: when do revenue sharing amounts become plan assets
? The answer to this question is important for determining when the ERISA trust requirement applies, who is a fiduciary, whether prohibited transactions have occurred and what reporting and disclosure rules apply. EBSA generally concluded that whether or not revenue sharing amounts are plan assets depends on the facts and circumstances - they are not always plan assets. The Advisory Opinion
, however, went further and detailed the responsibility of employers with respect to ERISA accounts and revenue sharing generally.
Following the Advisory Opinion, employers are on notice that they must be able to at least answer the following questions regarding their 401(k) and other defined contribution plans, such as 403(b) plans.
Do any of your investment funds generate revenue sharing?
Odds are, the answer is "yes." In this context, revenue sharing payments are amounts paid to a record keeper for hosting an investment fund on the record keeper's 401(k) platform. These payments include 12b-1 fees, shareholder service fees, and sub-transfer agency fees. These fees are generally built into the fund's expense ratio, which is the cost charged to investors for management of the fund.
Because the expense ratio is taken out of the fund's earnings, many employers believed for years that both the investment and the record keeping were "free." Neither the employers nor the participants understood that the investment management and record keeping was anything but free. It was coming right off the top of the earnings being credited to the participants' accounts. Generally speaking, the higher the revenue sharing being paid to the record keeper, the higher the expense ratio (cost) of the fund and the fewer dollars actually allocated to the participants' accounts. The DOL has observed that even a 1% difference in fees over 35 years at 7% return results in a 28% reduction in the participant's account balance at retirement.
Because of the damage to participants' retirement income, EBSA last year began to require that these payments be reported to employers for inclusion on the 5500 Schedule C and on the so-called "provider" or "408(b)(2)" disclosures. Every employer now receives these disclosures and must have a record of having reviewed and understood them
. If you placed your disclosure in the circular file, it is time to retrieve it. If you did not receive these disclosures, it is your obligation to ask for it.
What agreement do you have with your record keeper on revenue sharing?
If you have no agreement with your record keeper on revenue sharing, it is likely that your record keeper is keeping the revenue sharing. You are responsible for understanding how much that revenue sharing is and the total compensation the record keeper is receiving from all sources for its services. If you have not determined that the total compensation received by the record keeper, including revenue sharing, is reasonable for the services provided, you are likely engaged in a prohibited transaction. You need to review your costs with your record keeper.
If you have an agreement on revenue sharing, you must be able to answer the following questions.
Once you can answer all of these questions appropriately, you can be comfortable that you have satisfied your fiduciary responsibilities with respect to revenue sharing generated by your 401(k) plan.