If you are concerned only about non-ERISA plans and arrangements, you can stop reading here if you want. Otherwise, you have to learn another acronym, QDIA, for Qualified Default Investment Alternatives.
Once again, the Department of Labor has chosen to make a directed investments rule too complex. This time, it is the QDIA.
Section 624 of the Pension Protection Act amended ERISA 404(c) to create the QDIA concept and required that the Department of Labor issue regulations defining a QDIA by 2/1/2007. The DOL has now issued proposed regulations.
The function of a QDIA is to solve a problem created in the overly complex existing ERISA 404(c) regulations. The protection from fiduciary duties under ERISA 404(c) applies only "if a participant or beneficiary exercises control over the assets in his account (as determined under regulations of the Secretary)". It seems clear that the parenthetical clause would have allowed a decision not to exercise after notice to be treated as an exercise, but the DOL did not do so. This meant that all the participants who got notice and did nothing were not subject to ERISA 404(c) and left the question of what to do with their accounts.
The answer seemed pretty clear, invest it how you would invest the plan that did not have a directed investments provision-de facto meaning invest it in a balanced portfolio. However, many plan sponsors decided that putting the money in a stable value or money market investment would reduce their actual risk because the participants' accounts would never show losses. And, given how people normally behave, it may have been the safest answer.
Theoretically, there were three ways to resolve this issue. The first alternative, and the cleanest, easiest one, would have been for the DOL to issue Regulations modifying the 404(c) regulations to treat inactivity after notice as an exercise of control. The second alternative was for the DOL to say that the funds had to be invested in an investment that would be appropriate for the plan as a whole, which would have in effect mandated a balanced fund in each plan. The third, and worst, option was the creation of the QDIA, because its enactment and definition have been an occasion to increase the administrative burdens on plans.
The QDIA rules have two parts. One defines the sort of investments that can be a QDIA. This part is not too complex for a 403(b) plan or arrangement. Essentially, the investment has to (1) be a mutual fund or managed by an investment manager under ERISA 3(38), and (2) be (a) a target retirement date or lifestyle fund, (b) a balanced fund, or (c) a fund managed by an investment manager taking into account, individually, the participant's age, target retirement date and life expectancy. The choice between the first and second types of mutual funds is easy, based on what funds are available and how many funds the plan wants to offer (a general balanced fund being one fund and an array of lifestyle funds being more than one). The managed fund option is a viable option only if you can find an investment manager willing to look at all the small (since those with large accounts will likely make their own decisions) accounts in the plan and take responsibility for them. My opinion has always been that every plan should have a sound, well-managed balanced fund, so my general recommendation would likely be to use that as the default investment before or after the QDIA rules become effective.
The second part of the QDIA rules is procedural, and more complex and burdensome than it needs to be. First, and pretty obvious, is that there should not be too many barriers to moving out of the QDIA; specifically, transfers out must be allowed at least quarterly and must not cost the participant more money. Second, the participant must be given an opportunity to direct investments-this will never be an issue because the QDIA rules only apply where a participant with the right to direct investments doesn't. Third, the participant has to be given a notice at least 30 days before amounts are invested in the QDIA and 30 days before each plan year; this is duplicative of the normal notices given in plans with directed investments and plans using a 401(k) safe harbor and the requirements can be met by extending the coverage of existing notices.
Fourth, the plan document must require that the plan, and the plan must in fact, send to the participant all material received by the plan relating to the QDIA or a participant's investment in the QDIA, presumably within a reasonable time. This one is potentially a problem, because of the vagueness of the word "material." All we know is that it includes account statements, any prospectus and voting proxy materials; we do not know if it includes e-mails from brokers, periodic reports by TPAs, Morningstar or other similar items, or even the contents of phone calls (unless we assume that the received "material" has to be material). You can safely bet that lawyers will be asking, sooner or later, for everything anybody involved with the plan receives from anybody any time. This requirement is not contained in the PPA, and so the ambiguity is a gratuitous part of a gratuitous requirement. In addition, since the IRS takes the position that failure to administer a plan in compliance with its terms is a qualification issue, it has the effect of adding the IRS as an enforcer of fiduciary duties in this context.
The last requirement is that the plan offer investments, including the QDIA, which meet the requirements of ERISA 404(c). Since QDIA status only matters as a fix to a hole in the 404(c) regulations, this is wholly unnecessary.
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I've got to respectfully disagree with Mr. Geer's opinion on a number of issues.
ReplyDeleteFirst, I don't see the current 404(c) regulations as being overly complex, given the issues they deal with.
Second, it's not at all clear that a decision not direct investments after having received notice of the default investment should be treated as an election of the default investment. It's easy to argue that one either way, but I would come down on the DOL side.
A balanced fund is not something that is necessarily appropriate in all cases. The appropriate default investment should be determined on the basis of the stated purpose and design of the plan. The DOL and Mr. Geer seem to assume that DC plans are necessarily retirement plans, but it you look at the design and operation of most of them, that's not so. The DOL may say that in choosing the life-cycle or balanced fund you do have to take into account the purpose and design of the plan, but without expressly stating that proposition, and explaining why then in certain cases "safe funds" aren't given a free ride, I don't think people are going to pick up on that.
Beyond that, a difficulty in using a balanced fund as as a QDIA is that the DOL tells you in the preamble you've got to look at plan demographics as a whole (without telling us which demographic factors should be considered). At this point I doubt there are accepted models for this kind of plan-as-a-whole demographic analysis.
With regard to the "forwarding material" requirement, the problem is not so much that you won't know what material to forward, but rather that administrative systems aren't in place and will never be put in place to satisfy this rule, since they've never been put in place to satisfy the current 404(c) rules.
Finally, the requirement that QDIA plans offer investment options meeting 404(c) rules is meaningful. There are plenty of plans that offer such options, but do not otherwise meet 404(c) requirements. These plans now have an opportunity to cover themselves on defaulters with a QDIA even though they haven't followed through on 404(c) by satisfying all of the 404(c) rules.