DOL Smacks 401k Adviser for 12b-1 Fiduciary Breach. Plan Sponsors Next?
A little more than seven months ago, the Employee Benefits Security Administration (EBSA), a unit of the U.S. Department of Labor (DOL), issued a press release it had reached a settlement with a Connecticut investment adviser for claims involved a breach of fiduciary duty. The August 23, 2012 release is entitled “USI Advisors of Glastonbury, Conn., agrees to pay $1.27 million to 13 defined benefit pension plans following US Labor Department investigation.” At the time, except for a few industry rags and a local Connecticut newspaper, very little attention was paid to that EBSA release.
Last week changed all that.
In his personal blog, well-known ERISA attorney Fred Reish reintroduced the story under the title, “Fiduciary Advice and 12b-1 fees.” Reish, a partner in Drinker Biddle, explains the EBSA release asserted two claims (that a fiduciary receiving 12b-1 and “some forms” of revenue sharing fees “is a violation of the prohibited transaction rules in section406(b) of ERISA” and the receipt of undisclosed compensation means the fiduciary “set its own compensation.”
Indeed in the original release, Phyllis C. Borzi, assistant secretary of labor for employee benefits security, said, “If you, as an investment adviser, are a fiduciary under ERISA with respect to plan investments in mutual funds, you cannot use your fiduciary authority to receive an additional fee or to receive compensation from third parties for your own personal account in transactions involving plan assets.” She also expected the ruling will require fiduciaries “to be more transparent about the fees they receive when dealing with their plan clients.”
Recall that the summer of 2012, when this settlement was reached, was also the summer the DOL’s 408(b)(2) Fee Disclosure Rule became effective. To Reish, this is a significant coincidence. He explains in his blog he has reviewed several 408(b)(2) disclosure documents where broker dealers claiming to be fiduciaries also receive revenue sharing. He says such “disclosures raise issues about prohibited transactions.”
A more interesting question, though, going back to the USI settlement, is “Why didn’t the DOL fine the plan sponsors of the 13 defined benefit plans?” After all, they had an ongoing fiduciary duty to conduct due diligence with regard to their service providers. Reish told FiduciaryNews.com “I suspect this [the USI investigation] started as a service provider investigation and, in the process, the DOL investigator discovered this issue cutting across several plans. Since the DOL position was likely that it was a prohibited transaction on the face of it, the Department likely pursued the advisor without considering the plan sponsor. But, even if the DOL had considered the plan sponsor/primary fiduciary, it might have been difficult to prove that it should have been aware of the violations. Indirect compensation is difficult to identify….and that, in fact, is the primary basis for the 408(b)(2) regulation. Also, I assume that all of these facts occurred before the effective date of the 408(b)(2) regulation.” Reish is correct on the latter point as the original EBSA states, “The alleged violations in this case occurred between 2004 and 2010,” in other words, well before the effective date of 408(b)(2).
Marcia Wagner, Managing Director of the Wagner Law Group in Boston and an ERISA expert believes the plan sponsors were, in fact, implicated, even though they weren’t specifically cited and fined. “A prohibited transaction implicates fiduciaries who misuse or permit the misuse of plan assets, including, by way of example, by paying fees that are too high. This is what, in essence, most of the Schlicter cases are about.” Wagner presented a paper (“Avoiding Conflicts of Interest As You Grow Your Business,” April 6, 2010) to the ASPPA Benefits Council of New England in which, of the Schlicter cases, she said, “The core allegation is that these defendants breached their fiduciary duties under Section 404(a) of ERISA by causing or allowing plan providers to be paid excessive fees for their services.”
Wagner envisions some future 12b-1 event where the DOL does punish the plan sponsor “as the law evolves and DOL enforcement activities become more and more sophisticated.” On this, Reish agrees, particularly in the aftermath of 408(b)(2) – with one caveat. “In the future,” he says, “plan sponsors will be responsible for reviewing the 408(b)(2) disclosures and identifying any such violations. If they do not, then the plan sponsor fiduciaries could also be liable. But, the plan sponsor is not, for this purpose, required to identify all ‘hidden’ compensation. Instead, plan sponsors must compare the disclosures to the requirements of the regulation and form a ‘reasonable and good faith’ belief that they received complete disclosures.”
So plan sponsors beware. Your next DOL audit may be a lot more than you’ve come to expect.
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