Hooray for 401a

1
Hooray for 401(a)
October 22, 2004

• Linda Delivorias, Esq.
• Vice President, Aon Consulting
• 301.280.7534
• Linda_Delivorias_at_aoncons.com

2
Why All the Excitement?

• Employers have three goals for their 401(a) Plans
• Increase the Percentage of Employees
  Participating in Retirement Plans
• Raise Retirement Savings
• Improve Asset Allocation
• Employees have three goals for their 401(a) Plans
• Employer-funded plans
• Investment Advice
• Portability

3
Why All The Despair?

• Volatile Equity Markets
• Mutual Fund Scandals
• Participant Lawsuits
• Hidden Fees Expenses
• Fiduciary Liability
• Outsourcing Plan Administration

4
Overview of 401(a) Defined Contribution Plans

• 401(a) Plans are funded by employer contributions
• Employer contributions can be based on the amount
  a participant contributes to another retirement
  plan (401(k), 403(b), 457 plan) AND/OR criteria
  unrelated to participant contributions such as
  years of service or compensation

5
Regulatory Advantages

• Statutory exemption from the following ERISA and
  Internal Revenue Code requirements
• Titles I and IV (fiduciary duties, reporting and
  disclosure, termination insurance)
• Participation test for private sector employees
• Coverage
• Vesting plan termination discontinuance of
  employer contributions
• Joint Survivor Annuities

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Regulatory Advantages

• Assignment/Alienation of Benefits QDROs
• Commencement of Benefits
• Permitted Disparity
• ADP/ACP Tests
• Top Heavy Provisions
• Schedule SSA
• Form 5500

7
Life Savers for Plans

• IRS issues PLRs and Determination Letters
• PLR issued in response to a taxpayer request
  and is binding on IRS if the taxpayer fully and
  accurately describes the proposed transaction and
  carries out the transaction as described
• Determination Letter plan sponsor receives
  letter from the IRS that the form (NOT THE
  OPERATION) of the plan complies with IRS
  requirements for tax qualification

8
Internal Revenue Code Requirements

• Written Program Requirement
• Exclusive Benefit Rule plan must be maintained
  for the exclusive benefit of employees and
  beneficiaries. Under the plans trust agreement,
  it must be impossible to divert any assets for
  any other purpose.
• Distribution Rules age 70 1/2/retirement
• Contribution Limits
• Compensation Limits
• Rollover Rules

9
Priorities Challenges

• Investments
• Investment Guidance
• Investment Advice
• Managed Accounts
• Fees Expenses
• Outsourcing
• Plan Design
• Fiduciary Services

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Best Practices Investments

• Fiduciaries Must Monitor
• Investment policy statement
• Fund selection quantity, type (active, passive,
  lifestyle, lifecycle, self-directed brokerage,
  proprietary)
• Ongoing fund performance expenses
• Significant management cash flow changes
• Style drift
• Participant investment behavior
• Participation levels
• Diversification of investments

11
Whats It All About, Spitzer?

• Mutual fund advisers have recently come under
  close scrutiny for
• Late trading allowing favored investors to
  place trades after markets close and still
  receive same day pricing
• Market timing allowing investors to make rapid
  in and out purchases and redemptions to realize
  short term gains
• Insider abuse senior officers, portfolio
  managers taking advantage of their positions to
  gain profits
• Pay to play investment consultants/brokers
  recommending funds based on revenue

12
Whos Involved?
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Responses to Fund Mismanagement

• The primary fiduciary issue
• Is it prudent to continue to make the fund
  available under the plan?
• Acting prudently is a nice concept, of course,
  but what does it mean in practice?

14
Assess the Risks

• Some plan fiduciaries have decided to remove plan
  assets from mutual funds that have been tarnished
  in the scandals, but that is not cost-free.
  Direct and indirect risks include
• The costs (in time and money) of prudently
  selecting a replacement fund
• The possibility that the replaced fund will
  perform better than the replacement fund
• The risk that the replacement fund will face
  similar allegations

15
Best Practices Guidance, Advice Managed
Accounts

• Guidance enrollment assistance, meetings,
  seminars, one-on-one assistance (not investment
  advice)
• Advice investment advice provided by
  independent third party (fees based on usage)
• Managed Accounts investment advice
  automatically implemented and monitored (fees
  based on account size)
• Fiduciary Duties with Respect to Selection
  Monitoring of Providers

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Best Practices Fees and Expenses

• Plan assets can be used to pay reasonable cost of
  expenses to maintain the plan
• Fiduciaries they need to make sure fees are
  reasonable
• Problem fees are often hidden and not always
  fully disclosed

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Best Practices Fees and Expenses

• What are the fees?
• Record keeping
• Per participant/plan sponsor
• Special charges for loans, distributions, etc.
• Compliance
• Trustee/Custodial
• Investment management
• 12(b)-1 fees
• Expense ratios
• Commissions finders fees
• Wrap fees

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Best Practices Fees and Expenses

• How to find out
• Group Annuity Contract
• Prospectus
• Service Agreement
• Challenging situations
• Insurance products
• Guaranteed investment contracts
• Market-value adjustments Contingent-Deferred
  Sales Charges

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Best Practices Outsourcing

• Bundled vs. Unbundled
• Best Price
• Best System
• Negotiate Contracts
• Service Guarantees
• Fee Guarantees
• Standards of Care (Gross vs. Ordinary Negligence)
• Indemnification

20
Best Practices Plan Design

• If no pension plan percentage of compensation
• If pension plan based on deferrals
• Vesting Schedule Majority have immediate
  vesting
• Significant Impact on Participation in Deferral
  Plans
• Estimated Annual Costs case by case

21
Best Practices Fiduciary Services

• Investment Consultant
• Provides information to fiduciaries, but does not
  make final recommendations
• Disavows any role as a fiduciary or co-fiduciary
• Investment Advisor and Co-Fiduciary
• Provides guidance and specific advice
• Serves as co-fiduciary with committee
• Cautions
• Advisor says it is a co-fiduciary, but not in
  writing
• Advisor says it is a co-fiduciary, but liability
  nullified by contract provisions