The DOL has long treated the revenues sharing programs (such as 12b-1 and sub-transfer agent fees) related to investment funds in the same manner as the SEC: as an integral part of the funds’ operating expenses. This choice, however, has the side effect of the actual amount of the revenue sharing not ever having to be disclosed under ERISA’s various disclosure schemes. So, for example, the actual amount of revenue sharing generated by the vast majority of plan investments is exempt from disclosure under Schedule C as long as the prospectus describing the revenue sharing formula is delivered to the trustee; 404a-5 exempts disclosure of these amounts from the other disclosures required on participant statements as long as the revenue sharing is part of the fund operating expenses under the model disclosure chart; and the 408b-2 regulations and PTE 84-24 only require disclosure of the formula used upon which the compensation will be based.
One court’s decision, however, may throw a monkey wrench into this disclosure scheme.
The case in point is the Tussey vs ABB. Tussey, in case you are not familiar with it, is a U.S. District Court matter in which the employer used the revenue sharing generated by the employer’s 401(k) plan investments to help subsidize the administration of other employee benefit programs. The plan’s Investment Policy Statement actually required that the fiduciary track the revenue sharing generated by the plan’s investments, something the fiduciaries never did. The court held the fiduciaries liable for a fiduciary breach with regard to, in part, their failure to monitor revenue sharing and assessed approximately $35 million in penalties.
The first commentary coming from practitioners was relatively narrow, that the holding really stood for the proposition that the plan had better follow what is in the plan’s governing documents like the IPS. But a growing number of respected practitioners and advisors have been taking the position that the Tussey case stands for something much broader than that: that it stands for the notion that-beyond just following the plan documents-fiduciaries should affirmatively seek information regarding how much revenue sharing will actually be be generated by their plan. After all, this approach is consistent with the manner in which the DOL treats other sorts of sales related compensation. Schedule A to the Form 5500 has always required insurance companies to disclose the actual amount of sales related payments generated by assets paid for the past year, related to an annuity contract, and Schedule C also requires the disclosure of such payments, if made from something other an insurance contract, as long as those payments are not generated as part of the funds operating expenses.
In practice, many investment vendors are moving in this direction, and an estimate of the revenue generated by the investments is becoming more and more part of the sales process. It is an especially critical number where ERISA Accounts (upon which I commented a few times) are involved.
Yet, should this position evolve and develop into a basic fiduciary obligation, it will not be without a bit of difficulty in application. Small employers, in particular those with little or no bargaining power, would be put in a pretty unfair spot: having an obligation to review a number that no one is required to report to them.