Time’s Up on DOL’s 408(b)(2) Deadline

Witz with PlanTools says that 408(b)(2) creates the biggest challenge for BDs that receive non-monetary compensation. "Many [BDs] are struggling with the ability to capture all the data to allocate the non-monetary [compensation] accurately to retirement plan assets," he says. "Few BDs have the technology in place to address this and will most likely fail to be ready by July 1. At best, they can disclose what they have and make a correction to it within 90 days to avoid being reported to the DOL."

Fred Reish, partner and chair of the financial services ERISA team at Drinker Biddle & Reath in Los Angeles, issued several alerts with his colleagues regarding potential impacts of the fee disclosure rules. In an alert focusing on registered investment advisors, Reish and his partners note that the final 408(b)(2) rule raises two issues which may come as a surprise to RIAs.

First is that asset allocation models may be treated as designated investment alternatives (DIAs), resulting in a number of disclosure requirements (both under 408(b)(2) and the participant disclosure regulation), he says.

Second, Reish says, is that DOL has interpreted "indirect compensation" very broadly in a way that could require additional disclosures from RIAs. "That would apply, for example, where investment providers (like mutual funds) or service providers (like independent recordkeepers or bundled providers) provide financial assistance to RIAs," he says. "One specific example would be a conference put on by an RIA for its plan sponsor clients. Another example would be where an investment provider or a service provider offers 'free' services to RIAs for their plan sponsor clients."

Reish and his colleagues note in other alerts on 408(b)(2) their concern about the lack of awareness of discretionary investment managers concerning 408(b)(2) disclosures, and 408(b)(2) disclosures by advisors who refer investment managers and receive solicitor's fees.

As Reish explains, it's common that when an advisor refers an investment manager to an ERISA plan, the advisor will receive a referral fee, which is called a solicitor's fee. In most cases, he says, "the advisor will receive a fee for the referral that often continues so long as the plan uses the investment manager. Under the securities laws, the advisor provides a solicitor's fee disclosure statement to the investors."

From an ERISA perspective, Reish continues, "the advisor has provided a service to the plan and, interpreting the 408(b)(2) regulation, the advisor has become a 'covered service provider' for two reasons."

First, "in making the referral, the advisor, both the firm and the individual, are acting as a registered investment advisor and as a representative of the RIA, respectively," he says. "An RIA that provides services directly to a plan is a covered service provider."

In addition, he says, "it appears that the advisor has provided consulting services (that is, consulting on the selection of service providers) and has received indirect compensation from the investment manager (that is, the solicitor's fee). If that is the case, the advisor is considered to be a covered service provider."

No doubt service providers and plan administrators can expect other compliance-related issues concerning 408(b)(2) and 404(a) to surface long past the rules' compliance dates. Reish with Drinker Biddle says he worries about some types of services providers' non-compliance more than others.

While 408(b)2 primarily impacts 401(k) recordkeepers, broker-dealers and registered investment advisors, Reish says, the business model of RIAs is more straightforward than the other two because generally there is no indirect compensation. As a result, he says, "advisors who are focused on retirement plans and, therefore, are aware of the 408(b)(2) requirements, have by and large completed their preparation of the documents and disclosures and will be distributing them" before July 1. However, Reish says he worries that "the 'occasional' RIA who provides services to a limited number of plans may not be aware of these new requirements and may, therefore, inadvertently have their relationships with ERISA plans converted to prohibited transactions on July 1."

The disclosures for recordkeepers, Reish explains, are complex, because of the indirect compensation and because of the services that they provide to ERISA plans. However, he says, "recordkeepers are, by definition, focused on ERISA retirement plans. As a result, they—more than any other type of service provider—have been working on these disclosures for years. I expect that recordkeepers will universally be in compliance by July 1."

For broker-dealers, Reish says, the issues are more complex. "For example, they receive the greatest variety of forms of indirect compensation […] and some of those are difficult to identify and quantify." Also, "some broker-dealers have difficulty even identifying all of their ERISA plan customers. As a result, I am concerned that some broker-dealers—and particularly the smaller ones—will inadvertently fail to make the disclosures to some of their ERISA plan customers."

Another concern, he says, is that "some of the less obvious forms of compensation will not be disclosed. That could include, for example, transactional compensation paid to subcontractors and indirect compensation, such as revenue sharing from other service providers [or] investments."