[Federal Register: July 23, 2008 (Volume 73, Number 142)] [Proposed Rules] [Page 43013-43044] From the Federal Register Online via GPO Access [wais.access.gpo.gov] [DOCID:fr23jy08-24] [[Page 43013]] ----------------------------------------------------------------------- Part IV Department of Labor ----------------------------------------------------------------------- Employee Benefits Security Administration ----------------------------------------------------------------------- 29 CFR Part 2550 Fiduciary Requirements for Disclosure in Participant[dash]Directed Individual Account Plans; Proposed Rule [[Page 43014]] ----------------------------------------------------------------------- DEPARTMENT OF LABOR Employee Benefits Security Administration 29 CFR Part 2550 RIN 1210-AB07 Fiduciary Requirements for Disclosure in Participant-Directed Individual Account Plans AGENCY: Employee Benefits Security Administration. ACTION: Proposed regulation. ----------------------------------------------------------------------- SUMMARY: This document contains a proposed regulation under the Employee Retirement Income Security Act of 1974 (ERISA) that, upon adoption, would require the disclosure of certain plan and investment- related information, including fee and expense information, to participants and beneficiaries in participant-directed individual account plans (e.g., 401(k) plans). This proposal is intended to ensure that all participants and beneficiaries in participant-directed individual account plans have the information they need to make informed decisions about the management of their individual accounts and the investment of their retirement savings. This document also contains proposed conforming changes to the regulations applicable to ERISA section 404(c) plans (29 CFR 2550.404c-1). Upon adoption, these proposals will affect plan sponsors, fiduciaries, participants and beneficiaries of participant-directed individual account plans, as well as providers of services to such plans. DATES: Written comments on the proposed regulation should be received by the Department of Labor on or before September 8, 2008. ADDRESSES: To facilitate the receipt and processing of comment letters, the Employee Benefits Security Administration (EBSA) encourages interested persons to submit their comments electronically by e-mail to e-ORI@dol.gov (enter into subject line: Participant Fee Disclosure Project) or by using the Federal eRulemaking portal at http:// www.regulations.gov. Persons submitting comments electronically are encouraged not to submit paper copies. Persons interested in submitting paper copies should send or deliver their comments to the Office of Regulations and Interpretations, Employee Benefits Security Administration, Attn: Participant Fee Disclosure Project, Room N-5655, U.S. Department of Labor, 200 Constitution Avenue, NW., Washington, DC 20210. All comments will be available to the public, without charge, online at http://www.regulations.gov and http://www.dol.gov/ebsa and at the Public Disclosure Room, N-1513, Employee Benefits Security Administration, U.S. Department of Labor, 200 Constitution Avenue, NW., Washington, DC 20210. FOR FURTHER INFORMATION CONTACT: Susan M. Halliday or Kristen L. Zarenko, Office of Regulations and Interpretations, Employee Benefits Security Administration, (202) 693-8510. This is not a toll-free number. SUPPLEMENTARY INFORMATION: A. Background According to the Department's most recent data, there are an estimated 437,000 participant-directed individual account plans, covering an estimated 65 million participants, and holding almost $2.3 trillion in assets.\1\ With the proliferation of these plans, which afford participants and beneficiaries the opportunity to direct the investment of all or a portion of the assets held in their individual plan accounts, participants and beneficiaries are increasingly responsible for making their own retirement savings decisions. This increased responsibility has led to a growing concern that participants and beneficiaries may not have access to, or if accessible, may not be considering information critical to making informed decisions about the management of their accounts, particularly information on investment choices, including attendant fees and expenses. --------------------------------------------------------------------------- \1\ 2005 Form 5500 Data, U.S. Department of Labor. The estimated 437,000 plans include plans that permit participants to direct the investment of all or a portion of their individual accounts. --------------------------------------------------------------------------- Under ERISA, the investment of plan assets is a fiduciary act governed by the fiduciary standards in ERISA section 404(a)(1)(A) and (B), which require fiduciaries to act prudently and solely in the interest of the plan's participants and beneficiaries. Where a plan assigns investment responsibilities to the plan's participants and beneficiaries, it is the view of the Department that plan fiduciaries must take steps to ensure that participants and beneficiaries are made aware of their rights and responsibilities with respect to managing their individual plan accounts and are provided sufficient information regarding the plan, including its fees and expenses, and designated investment alternatives, including fees and expenses attendant thereto, to make informed decisions about the management of their individual accounts. To some extent, such disclosures are already required by plans that elect to comply with the requirements of section 404(c) (see Sec. 2550.404c-1(b)(2)(i)(B)). However, compliance with section 404(c)'s disclosure requirements is voluntary and does not extend to participants and beneficiaries in all participant-directed individual account plans. The Department believes that all participants and beneficiaries with the right to direct the investment of assets held in their individual plan accounts should have access to basic plan and investment information. For this reason, the Department is issuing this proposed regulation under section 404(a), with conforming amendments to the regulations under section 404(c). These proposals would establish uniform, basic disclosures for such participants and beneficiaries, without regard to whether the plan in which they participate is a section 404(c) plan. In addition, the proposal would require participants and beneficiaries to be provided investment-related information in a form that encourages and facilitates a comparative review among investment options. To facilitate the development of a proposed regulation, the Department published, on April 25, 2007, a Request for Information (RFI) in the Federal Register \2\ requesting suggestions, comments and views from interested persons on a variety of issues relating to the disclosure of plan and investment-related fee and expense and other information to participants and beneficiaries in participant-directed individual account plans. The Department received and reviewed 106 comment letters on these important issues. Copies of these letters are posted on the Department's Web site at http://www.dol.gov/ebsa/regs/ cmt-feedisclosures.html. --------------------------------------------------------------------------- \2\ 72 FR 20457 (April 25, 2007). --------------------------------------------------------------------------- The RFI encouraged persons preparing comments to consider a 2004 report and recommendations of a working group of the ERISA Advisory Council. The Employee Welfare and Pension Benefit Plans' Working Group on Fee and Related Disclosures to Participants reviewed the disclosure requirements applicable to participant-directed individual account plans. The Working Group assessed the adequacy and usefulness of such requirements and recommended changes to the requirements to help participants more effectively manage their retirement savings.\3\ --------------------------------------------------------------------------- \3\ This report may be accessed at http://www.dol.gov/ebsa/ publications/AC_111704_report.html. --------------------------------------------------------------------------- [[Page 43015]] Additionally, the RFI encouraged commenters to consider the Government Accountability Office's (GAO) 2006 report and recommendations contained in ``Private Pensions: Changes Needed to Provide 401(k) Plan Participants and the Department of Labor Better Information on Fees.'' \4\ Also relevant to the Department's consideration was the work of the Securities and Exchange Commission (Commission). The Commission has proposed, among other matters, the use of a summary prospectus with additional information provided on an Internet Web site. The proposal is intended to improve mutual fund disclosure by providing investors with key information in plain English in a clear and concise format, while enhancing the means of delivering more detailed information to investors.\5\ Following consultation with the Commission, the Department's proposal is coordinated with the Commission's summary prospectus approach where feasible. As ERISA plan investment options include many products not subject to the Commission's disclosure requirements, the Department seeks comments addressing the application of this proposed regulation to funds and investment products not subject to the securities laws. --------------------------------------------------------------------------- \4\ The GAO report, GAO-07-21, referenced above may be accessed at http://www.gao.gov/htext/d0721.html. \5\ 72 FR 67790 (November 30, 2007). --------------------------------------------------------------------------- B. Overview of Proposal Sec. 2550.404a-5 1. General Paragraph (a) of proposed Sec. 2550.404a-5 sets forth the general principle that, where documents and instruments governing an individual account plan provide for the allocation of investment responsibilities to participants and beneficiaries, plan fiduciaries, consistent with ERISA section 404(a)(1)(A) and (B), must take steps to ensure that such participants and beneficiaries, on a regular and periodic basis, are made aware of their rights and responsibilities with respect to the investment of assets held in, or contributed to, their accounts and are provided sufficient information regarding the plan, including plan fees and expenses, and regarding designated investment alternatives available under the plan, including fees and expenses attendant thereto, to make informed decisions with regard to the management of their individual accounts. As discussed below, the proposal addresses the information that must be provided participants and beneficiaries, as well as timeframes for providing that information. Paragraph (b) of the proposal addresses the disclosure requirements that must be met by plan fiduciaries for plan years beginning on or after January 1, 2009. Under this paragraph, plan fiduciaries must comply with the requirements of paragraph (c), dealing with plan- related information, and paragraph (d), dealing with investment-related information. Paragraph (e) describes the form in which the required information may be disclosed, such as via the plan's summary plan description, a quarterly benefit statement, or the use of the provided model, depending on the specific information. Paragraph (e) merely recognizes various acceptable means of disclosure; it does not preclude other means for satisfying disclosure duties under the proposed regulation. Fiduciaries that meet the requirements of paragraphs (c) and (d) will have satisfied the duty to make the regular and periodic disclosures described in paragraph (a) of this section. The Department believes, as an interpretive matter, that ERISA section 404(a)(1)(A) and (B) impose on fiduciaries of all participant- directed individual account plans a duty to furnish participants and beneficiaries information necessary to carry out their account management and investment responsibilities in an informed manner. In the case of plans that elected to comply with section 404(c) before finalization of this proposal, the requirements of section 404(a)(1)(A) and (B) typically would have been satisfied by compliance with the disclosure requirements set forth at 29 CFR Sec. 2550.404c- 1(b)(2)(i)(B). However, the Department expresses no view with respect to plans that did not comply with section 404(c) and the regulations thereunder as to the specific information that should have been furnished to participants and beneficiaries in any time period before this regulation is finalized. 2. Plan-Related Information In general, paragraph (c) of the proposal sets forth what is characterized as ``plan-related'' information. This information falls into three categories--general plan information, administrative expense information and individual expense information. Paragraph (c) also describes when this information must be provided to participants and beneficiaries and requires that it be based on the latest information available to the plan. First, paragraph (c)(1) of the proposal provides for the disclosure of general plan information regarding: How participants and beneficiaries may give investment instructions; any specified limitations on such instructions, including any restrictions on transfer to or from a designated investment alternative; the exercise of voting, tender and similar rights appurtenant to an investment in a designated investment alternative as well as any restrictions on such rights; the specific designated investment alternatives offered under the plan; and any designated investment managers to whom participants and beneficiaries may give investment directions. Under the proposal, this information is required to be furnished to an individual on or before the date he or she becomes eligible to be a participant or beneficiary under the plan and at least annually thereafter. In addition, the proposal requires that participants and beneficiaries be furnished a description of any material changes to the required information not later than 30 days after the date of adoption of such changes. The Department believes that, by referencing the ``date of adoption,'' the regulation will increase the likelihood that participants and beneficiaries will be provided notification of material changes in advance of the changes becoming effective, thereby putting them in a better position to consider such changes (e.g., changes in designated investment alternatives) in managing their accounts. Paragraph (e)(1) of the proposal provides that the disclosures required by this paragraph (c)(1) may be made as part of the plan's summary plan description, provided that the applicable timing requirements are satisfied. Second, paragraph (c)(2)(i) sets out the required disclosures for administrative expenses. Specifically, it provides that, on or before the date of an individual's eligibility to become a participant or beneficiary under the plan, and at least annually thereafter, participants and beneficiaries must be furnished an explanation of any fees and expenses for plan administrative services (e.g., legal, accounting, recordkeeping) that, to the extent not included in investment-related fees and expenses, may be charged against the individual accounts of participants or beneficiaries and the basis on which such charges will be allocated to, or affect the balance of, each individual account (e.g., pro rata, per capita). This requirement is intended to ensure that the plan fiduciary informs all participants and beneficiaries about the plan's day-to-day operational expenses that will be charged against their accounts. Because of its general nature, [[Page 43016]] the information described in paragraph (c)(2)(i) may, pursuant to paragraph (e)(1) of the proposal, be disclosed as part of the plan's summary plan description, provided that the applicable timing requirements are met. In addition to the general disclosures concerning plan administrative expenses, paragraph (c)(2)(ii) of the proposal requires that, at least quarterly, participants and beneficiaries be furnished statements of the dollar amounts actually charged during the preceding quarter to the participants' or beneficiaries' accounts for administrative services, and general descriptions of the services to which the charges relate. The statements should be sufficiently specific to inform the participants or beneficiaries of the actual charge(s) to their accounts and enable them to distinguish the administrative services from other charges and services that may be assessed against their accounts. An identification of the total administrative fees and expenses assessed during the quarter, with, for example, an indication that the charges for plan administrative expenses include legal, accounting, and recordkeeping costs to the plan, would be sufficient. The Department does not believe that it is necessary, or particularly useful, for participants to have administrative charges broken out and listed on a service-by-service basis. Commenters on the Department's RFI argued that an overly detailed breakdown of administrative fees may overwhelm participants and that meaningful information would not be conveyed by such a breakdown. Many commenters explicitly supported the disclosure of ``aggregate'' or summary fees. The requirement to furnish the information described in paragraph (c)(2)(ii) of the proposal may be satisfied by including the information as part of a quarterly benefit statement furnished pursuant to ERISA section 105(a)(1)(A)(i). See paragraph (e)(2) of the proposal. Third, paragraph (c)(3) describes the required disclosures for individual expenses. This is identical to paragraph (c)(2) except that it focuses on the disclosure of information relating to individual expenses, i.e., expenses that are assessed on an individual-by- individual, rather than plan-wide, basis. Such expenses might be attendant to a qualified domestic relations order, a participant loan, or investment advice services. Paragraph (c)(3)(i) requires the disclosure of information concerning what expenses might be assessed and paragraph (c)(3)(ii) requires the disclosure of amounts actually assessed and identification of the service to which an expense relates. Also, like paragraph (c)(2), information described in paragraph (c)(3)(i) may be disclosed in the plan's summary plan description and the information described in paragraph (c)(3)(ii) may be included in a quarterly benefit statement. The Department invites comments on the type of information required to be disclosed, the timing of the information required to be disclosed and the form in which the information may be disclosed. 3. Investment-Related Information Paragraph (d) of the proposal sets forth the investment-related information required to be furnished or made accessible to participants and beneficiaries in participant-directed individual account plans. Paragraph (d)(1) sets forth the investment-related information required to be automatically furnished to each participant and beneficiary. Paragraph (d)(2) addresses the format of the required information. Paragraph (d)(3) addresses the furnishing of post-investment information. And paragraph (d)(4) sets forth information required to be furnished only upon the request of a participant or beneficiary. Paragraph (d)(1) provides that, on or before the date of eligibility and at least annually thereafter, participants and beneficiaries must be furnished certain basic information with respect to each designated investment alternative offered under the plan. For purposes of the proposal, paragraph (h)(1) defines the term ``designated investment alternative'' to mean any investment alternative designated by the plan into which participants and beneficiaries may direct the investment of assets held in, or contributed to, their individual accounts. The term ``designated investment alternative'' does not include ``brokerage windows,'' ``self-directed brokerage accounts,'' or similar plan arrangements that enable participants and beneficiaries to select investments beyond those designated by the plan. For purposes of identifying the information essential for participants and beneficiaries to consider in evaluating their investment choices under the plan, the Department carefully reviewed the many comments received in response to the RFI, as well as the Commission's proposal for a summary prospectus. The majority of RFI commenters believe that, in addition to basic fee and expense information, participants and beneficiaries need additional disclosure to put fee-related information into context and to educate them about a plan's investment alternatives. On the basis of its review, the Department concluded that fee and expense information, although important, is only one of the factors to be considered in making informed investment decisions along with investment performance and other information relating to a designated investment alternative. Also, the Department is persuaded by RFI commenters that most participants and beneficiaries will probably not review large amounts of detailed investment information. Information that is too detailed may overwhelm participants, and commenters are concerned that the costs associated with providing overly detailed information, which ultimately will be borne by participants, significantly outweigh any possible benefits. However, the Department also is persuaded that the form in which information is required to be presented should serve to encourage and facilitate its review by participants and beneficiaries. Many commenters on the RFI, for example, supported the disclosure of fee information in a format that would facilitate comparison across a plan's investment alternatives. For this reason, paragraph (d)(2) of the proposal, as discussed later, requires the investment-related information set forth in paragraph (d)(1) to be presented in a comparative format. Specifically, paragraph (d)(1) requires the following disclosures with respect to each designated investment alternative under the plan: Paragraph (d)(1)(i) requires, among other items, the name and category (e.g., money market mutual fund, balanced fund, index fund, and whether the investment alternative is actively or passively managed) of the designated investment alternative and an Internet Web site address that is sufficiently specific to lead participants and beneficiaries to supplemental information regarding the investment alternative, including its principal strategies, risks, performance and costs. For example, such information may be contained in a Commission- required prospectus (or other document) made available at a Web site address. The Department believes that ready access to such information via the Internet alleviates the need to automatically furnish otherwise important, detailed investment-related information directly to every participant and beneficiary. This accommodates different levels of participant interest in such information. The Department recognizes that, while many investment fund providers do maintain Web sites to inform interested investors concerning specific investment funds, other providers of [[Page 43017]] investment funds and products may not. The Department specifically invites comments on what, if any, challenges this proposed requirement may present for service providers and employers, such as in the case of in-house managed funds that might be offered as a designated investment alternative under a plan. The Department also is interested in comments on whether this proposed requirement raises any issues under the Department's rules on the use of electronic media (29 CFR 2520.104b- 1(c)), given that plan fiduciaries may, in some cases, have to provide paper copies of the supplemental information listed in this requirement (i.e., information that would otherwise be accessible through the Internet Web site address) to participants who fail to affirmatively consent to receiving such information electronically. Paragraph (d)(1)(ii) of the proposal requires the disclosure of specified performance data for each of the plan's designated investment alternatives. For designated investment alternatives with respect to which the return is not fixed, e.g., an equity index fund, the fiduciary (or designee) must provide the average annual total return (expressed as a percentage) of the investment for the following periods, if available: 1-year, 5-year, and 10-year, measured as of the end of the applicable calendar year; as well as a statement indicating that an investment's past performance is not necessarily an indication of how the investment will perform in the future. For this purpose, the term ``if available'' is intended merely to reflect that some plan investments may not have been in existence for 1, 5, or 10 years. In such cases, plans are expected to explain that the data is not available for this reason (e.g., ``not applicable'' or ``not available''). In the case of designated investment alternatives for which the return is fixed for the term of the investment, e.g., a guaranteed investment contract, the fiduciary (or designee) must provide both the fixed rate of return and the term of the investment. For purposes of paragraph (d)(1)(ii), the term ``average annual total return'' is defined in section (h)(2) of the proposal by reference to standards applicable to open-end management investment companies registered under the Investment Company Act of 1940 (the 1940 Act). The Department specifically invites comments on what, if any, problems the proposed definition presents for investment funds and products that are not subject to the 1940 Act and, if problematic, suggestions for alternative definitions or approaches. As a corollary to the disclosure of performance data, paragraph (d)(1)(iii) requires disclosure of performance data for an appropriate broad-based benchmark over time periods that are comparable to the performance data periods required under paragraph (d)(1)(ii). As structured, the proposal provides flexibility in identifying an appropriate benchmark. In general, the Department expects that most plans will simply identify the performance benchmark already being used for the investment option pursuant to the Commission's prospectus requirements, if applicable. The Department seeks comments on whether and how the proposed requirement may need to be modified to include a more narrowly based index that reflects the financial market sector for ERISA plan investment options that are not subject to the securities laws. Paragraph (d)(1)(iv) specifically addresses the disclosure of fees and expenses attendant to the purchase, holding and sale of each of the plan's designated investment alternatives. For designated investment alternatives with respect to which the return is not fixed, the fiduciary (or designee) must provide: (A) The amount and a description of each shareholder-type fee (i.e., fees charged directly against a participant's or beneficiary's investment), such as sales loads, sales charges, deferred sales charges, redemption fees, surrender charges, exchange fees, account fees, purchase fees, and mortality and expense fees; (B) the total annual operating expenses of the investment expressed as a percentage (e.g., expense ratio); and (C) a statement indicating that fees and expenses are only one of several factors that participants and beneficiaries should consider when making investment decisions. In the case of designated investment alternatives with respect to which the return is fixed for the term of the investment, the fiduciary (or designee) must provide the amount and a description of any shareholder-type fees that may be applicable to a purchase, transfer or withdrawal of the investment in whole or in part. The description of each shareholder-type fee must include the amount on which the charge is applied, e.g., 4% of amount invested. For purposes of paragraph (d)(1)(iv), the term ``total annual operating expenses'' is defined in paragraph (h)(3) of the proposal by reference to standards applicable to open-end management investment companies registered under the 1940 Act. The Department specifically invites comments on what, if any, problems the proposed definition presents for investment funds and products that are not subject to the 1940 Act and, any suggestions for alternative definitions or approaches. The Department has differentiated the fee and expense disclosures required for designated investment alternatives with returns that vary over time from alternatives with fixed returns based on the financial nature of each of these investment types. While the disclosure requirements for investments with respect to which the return is not fixed are more comprehensive, the Department decided that the most essential information for participants who choose to invest in fixed investment alternatives is the contractual interest rate paid to their accounts and the term of the investment during which their monies are shielded from market price fluctuations and reinvestment risks. Any fees assessed, of course, are factored into determining the contractual interest rate and RFI commentary suggested that there would be little benefit to participants to disclosing such fees for investments with fixed returns. Paragraph (d)(1)(v) provides that, for purposes of the requirement that participants be provided information on or before the date they are eligible to be covered under the plan, plan fiduciaries may provide such participants the most recent annual disclosure furnished to participants and beneficiaries pursuant to paragraph (d)(1), in addition to any material changes to the information described in paragraph (c)(1)(i). This provision ensures that new participants receive at least the same information that has been furnished to other plan participants and beneficiaries with respect to the designated investment alternatives under the plan. It also avoids the possible burdens and costs of a requirement that fiduciaries update the required disclosures for each new plan participant, which could result in a daily updating requirement for many plans. Paragraph (d)(2) of the proposal requires the fiduciary to furnish the information required by paragraph (d)(1) in a chart or similar format that will permit straightforward comparison of the plan's designated investment alternatives by participants and beneficiaries. Many commenters on the RFI supported this requirement and agreed that any required disclosure should enable participants and beneficiaries to easily compare data across a plan's menu of designated investment alternatives. Further, GAO indicated in its 2006 report that plan sponsors should be required to disclose fee information on each 401(k) investment option in a way that [[Page 43018]] facilitates comparison among the options.\6\ The fiduciary's name and contact information must also be provided so that participants and beneficiaries may request the additional information listed in paragraph (d)(4). The chart or similar document also must include a statement informing participants and beneficiaries that more current information about a designated investment alternative, including performance and cost updates, may be available on the Web site for the investment alternative. --------------------------------------------------------------------------- \6\ See supra note 4. --------------------------------------------------------------------------- In response to commenters on the RFI, the Department has developed a model disclosure form that can be used for purposes of satisfying the disclosure requirements of paragraph (d)(2) of the proposal. The model appears in the Appendix to this regulation. Paragraph (e)(3) of the proposal specifically provides that a fiduciary that uses and accurately completes the model format set forth in the Appendix will be deemed to have satisfied the requirements of paragraph (d)(2) relating to the disclosure of the information in paragraph (d)(1) in a comparative form.\7\ The Department notes that the proposal would not mandate use of the model as the exclusive means for satisfying the requirement to provide a chart or similar format that facilitates comparison. This proposal provides fiduciaries with the flexibility to create a chart or comparative format of their own design, provided the required information is displayed in a manner facilitating comparisons. --------------------------------------------------------------------------- \7\ The Department notes that the model set forth in the Appendix includes information and statements that are merely illustrative of the type of information that might appear in the required disclosure. It is the responsibility of each plan fiduciary to assure itself that the information contained in its disclosure statement is complete and accurate. However, such fiduciaries shall not be liable for their reasonable and good faith reliance on information furnished by their service providers with respect to those disclosures required by paragraph (d)(1). --------------------------------------------------------------------------- Paragraph (d)(3) of the proposal requires that when a plan provides for the pass-through of voting, tender and similar rights, the fiduciary must furnish participants and beneficiaries who have invested in a designated investment alternative with these features any materials about such rights that have been provided to the plan. This requirement is similar to the requirement currently applicable to section 404(c) plans. See Sec. 2550.404c-1(b)(2)(i)(B)(1)(ix). Paragraph (d)(4) of the proposal requires a fiduciary to furnish certain identified information either automatically or upon request by participants and beneficiaries, based on the latest information available to the plan. This provision is modeled on the requirements currently applicable to section 404(c) plans with respect to information to be furnished upon request of a participant or beneficiary. See Sec. 2550.404c-1(b)(2)(i)(B)(2). 4. Timing of Disclosures As discussed above, each of the various disclosures must be made within specific timeframes. The plan-related information concerning certain administrative procedures and expenses required by subparagraphs (c)(1)(i), (c)(2)(i), (c)(3)(i), and the investment- related information required by subparagraph (d)(1) must be provided to each participant or beneficiary ``on or before the date of plan eligibility'' and ``at least annually thereafter.'' The proposal defines ``at least annually thereafter'' in paragraph (h)(4) to mean at least once in any 12-month period, without regard to whether the plan operates on a calendar or fiscal year basis. The proposal also requires that certain information be provided to participants and beneficiaries on a more frequent basis. Specifically, the actual dollar amounts charged to an individual's account during the preceding quarter for administrative and individual services must be disclosed in a statement to participants and beneficiaries ``at least quarterly'' pursuant to subparagraphs (c)(2)(ii) and (c)(3)(ii) of the proposal. The proposal defines ``at least quarterly'' in paragraph (h)(5) to mean at least once in any 3-month period. 5. Other Fiduciary Duties Paragraph (f) makes clear that nothing in the regulation would relieve a fiduciary of its responsibilities to prudently select and monitor service providers to the plan and the investments made available under the plan (i.e., designated investment alternatives).\8\ --------------------------------------------------------------------------- \8\ Also, with regard to ERISA's general fiduciary standards, it should be noted that there may be extraordinary situations when fiduciaries will have a disclosure obligation beyond those addressed by this regulation. For example, if a plan fiduciary knew that, due to a fraud, information contained in a public financial report would mislead investors concerning the value of a designated investment alternative, the fiduciary would have an obligation to take appropriate steps to protect the plan's participants, such as disclosing the information or preventing additional investments in that alternative by plan participants until the relevant information is made public. See also Varity Corp. v. Howe, 516 U.S. 489 (1996) (plan fiduciary has a duty not to misrepresent to participants and beneficiaries material information relating to a plan). --------------------------------------------------------------------------- C. Proposed Amendments to Sec. 2550.404c-1 Also included in this notice are proposed amendments to the regulation under section 404(c) of ERISA, 29 CFR Sec. 2550.404c-1. The proposed amendments to section 2550.404c-1(b), (c) and (f) would integrate the disclosure requirements in the section 404(c) regulation with the new proposed section 2550.404a-5 disclosure requirements and thereby avoid having different disclosure rules for plans intending to comply with the section 404(c) requirements. In brief, the proposed amendments to the section 404(c) regulation eliminate references to disclosures encompassed in the new Sec. 2550.404a-5 proposal and incorporate cross-references to the new proposal, thereby establishing a uniform disclosure framework for all participant-directed individual account plans. The Department also is taking this opportunity to reiterate its long held position that the relief afforded by section 404(c) and the regulation thereunder does not extend to a fiduciary's duty to prudently select and monitor designated investment managers and designated investment alternatives under the plan. Accordingly, it is the Department's view that a fiduciary breach or an investment loss in connection with the plan's selection of a designated investment alternative is not afforded relief under section 404(c) because it is not the result of a participant's or beneficiary's exercise of control.\9\ The Department is proposing to amend paragraph (d)(2) (entitled ``Limitation on liability of plan fiduciaries'') of Sec. 2550.404c-1 to add a new subparagraph (iv) providing that, ``[P]aragraph (d)(2)(i) does not relieve a fiduciary from the duty to prudently select and monitor any designated investment manager or designated investment alternative offered under the plan.'' --------------------------------------------------------------------------- \9\ See 57 FR 46906, 46924, n.27 (preamble to Sec. 2550.404c-1) (October 13, 1992). --------------------------------------------------------------------------- D. Effective Date The Department proposes that the regulations and amendments contained in this notice be effective for plan years beginning on or after January 1, 2009. The Department specifically invites comments on the earliest date on which the proposed regulation and amendments can or should be effective, addressing any administrative or programming costs or other issues that should be considered in establishing an effective date. [[Page 43019]] E. Regulatory Impact Analysis As discussed in the preceding sections, the proposed regulation would establish a uniform basic disclosure regime for participant- directed plans. Many of the disclosures contained in the proposed regulation are similar to those required for participant-directed individual account plans that currently comply with section 404(c) and the Department's regulations issued thereunder. For other participant- directed plans which choose not to be section 404(c) compliant there is some uncertainty as to what information is provided to participants; accordingly, the Department is assuming for purposes of this analysis that for some of the plans that choose not to be 404(c) compliant the proposal's disclosure requirements are new. Given the foregoing assumptions, the average incremental costs and benefits for participants in plans that provide section 404(c) compliant or similar disclosures will be smaller than for those in plans that do not provide this information. Participants in section 404(c) compliant plans or in plans that provide similar information will not receive as large an added benefit from the proposal's new disclosure requirements because they are already receiving some of the information that would be required under the proposed regulation. Executive Order 12866 Statement Under Executive Order 12866, the Department must determine whether a regulatory action is ``significant'' and therefore subject to the requirements of the Executive Order and subject to review by the Office of Management and Budget (OMB). Under section 3(f) of the Executive Order, a ``significant regulatory action'' is an action that is likely to result in a rule (1) having an effect on the economy of $100 million or more in any one year, or adversely and materially affecting a sector of the economy, productivity, competition, jobs, the environment, public health or safety, or State, local or tribal governments or communities (also referred to as ``economically significant''); (2) creating serious inconsistency or otherwise interfering with an action taken or planned by another agency; (3) materially altering the budgetary impacts of entitlement grants, user fees, or loan programs or the rights and obligations of recipients thereof; or (4) raising novel legal or policy issues arising out of legal mandates, the President's priorities, or the principles set forth in the Executive Order. The Department has determined that this action is ``significant'' under section 3(f)(1) because it is likely to have an effect on the economy of more than $100 million in any one year. Accordingly, the Department has undertaken, as described below, an analysis of the costs and benefits of the proposed regulation in satisfaction of the requirements of the Executive Order and OMB Circular A-4. The Department believes that the proposed regulation's benefits justify its costs. The present value of the benefits over the ten year period is expected to be about $6.9 billion. The present value of the costs over the same time period is expected to be $759 million. Overall, the Department estimates that the proposed regulation will generate a net present value (or net present benefit) of almost $6.1 billion over the time period 2009-2018, as is shown in Table 1. Table 1.--Summary of Discounted Benefits and Costs ------------------------------------------------------------------------ Benefits ($millions/ Costs ($millions/ Year year) year) ------------------------------------------------------------------------ 1 2009....................... 914.9 127.3 2 2010....................... 855.0 90.7 3 2011....................... 799.1 84.7 4 2012....................... 746.8 79.2 5 2013....................... 698.0 74.0 6 2014....................... 652.3 69.2 7 2015....................... 609.6 64.7 8 2016....................... 569.8 60.4 9 2017....................... 532.5 56.5 10 2018...................... 497.6 52.8 ----------------------------------------- Total with 7% Discounting. 6875.6 759.4 Net Present Value 7% ................... 6,116 Discounting.............. Net Present Value 3% ................... 7,158 Discounting.............. ------------------------------------------------------------------------ Need for Regulatory Action A growing number of workers are preparing for retirement by participating in ERISA governed retirement plans that allow for participant direction of investments. How well plan participants are prepared for retirement is partly determined by how well they have invested their retirement savings. Among the key determinants of the return on an investment are fees and expenses. A one percentage point difference in fees can result in an 18 percent difference in savings.\10\ --------------------------------------------------------------------------- \10\ The Commission reported that a $10,000 investment with an expense ratio of 1.5% invested for 20 years and having an annual return of 10% before fees will return roughly $49,725, while a similar investment with lower fees of 0.5% will return $60,858--an 18% difference. Invest Wisely: An Introduction to Mutual Funds, http://www.sec.gov/investor/pubs/inwsmf.htm. --------------------------------------------------------------------------- In developing this proposed regulation, the Department considered why the market alone does not provide transparent fee disclosure to participants comparable to that prescribed by this regulation. In general, the market delivers products that are deemed valuable by consumers. The lack of transparent fee disclosure in this market suggests to the Department that individuals may underestimate the impact that fees and expenses can have on their account balances, and thus undervalue transparent fee disclosure. The Department believes that this causes individuals to make uninformed investment decisions that result in inferior outcomes to those that would result from making investment decisions based on full information. Retirement plan characteristics, including disclosure practices, are shaped in significant measure by labor market forces. Employers want to attract and retain productive employees and minimize cost. If employees undervalue disclosure, plans sponsors might under-provide it. Sub- optimal levels of disclosure translate into inefficiencies in participant's choices of investment products and services. Evidence for this [[Page 43020]] undervaluation includes a wide dispersion of fees paid in 401(k) plans. As supported by a report of the Investment Company Institute,\11\ the fees that plans pay vary over a wide range. According to their study, 23% of 401(k) stock mutual fund assets are in funds with an expense ratio of less than 50 basis points, while an equal amount of assets are in funds with an expense ratio of over 100 basis points. Some of this variation could be explained by the varying amount of assets in plans and their accompanying economies of scale. In addition, some plans might offer more, or more expensive, plan features. The Department believes, however, that a significant portion of the variation in plan fees is due to market inefficiencies. --------------------------------------------------------------------------- \11\ Investment Company Institute, ``The Economics of Providing 401(k) Plans: Services, Fees, and Expenses, 2006,'' http:// www.ici.org/pdf/fm-v16n4.pdf. --------------------------------------------------------------------------- Understanding and comparing investment options available in a 401(k) plan can be complicated and confusing for many participants. The magnitude of complexity and confusion may be defined by reference to the number of available investment options and the materials utilized for communicating investment-related information. For example, in plans that offer a large number of investment options, for which the primary communication is a full prospectus-like disclosure, understanding and comparing investment options may be challenging for the less financially savvy or less interested plan participants.\12\ Moreover, the process of gathering and comparing information may itself be time consuming. --------------------------------------------------------------------------- \12\ For example, the ERISA Advisory Council Working group reported that ``The Working Group questions the utility of the prospectus as a source of investment information. While its delivery is required under SEC rules for investment, it lacks any marginal utility to a plan participant in terms of making an investment decision,'' Report of the Working Group on Prudent Investment Process, 2006, http://www.dol.gov/ebsa/publications/AC_1106A_ report.html. The Department also received similar comments in response to its Request of Information regarding Fee Disclosures to 401(k) Plan Participants from service providers and trade organizations. These comments can be accessed at http://www.dol.gov/ ebsa/regs/cmt-feedisclosures.html. --------------------------------------------------------------------------- The proposed regulation will help a large number of plan participants by placing investment-related information in a format that facilitates comparison of investment alternatives. This simplified format will make it easier and less time consuming for participants to find and compare the needed information. As a result, plan participants may make better investment decisions and may be better financially prepared for retirement. Benefits The proposed regulation's disclosure requirements will provide important benefits to society. The provision of investment-related information in a comparative format is a new requirement for all participant directed individual account plans, including section 404(c) compliant plans, and is anticipated to be especially beneficial to plan participants. The Department believes that such information will enable participants to make better decisions on how to structure their investments on a prospective basis. These benefits with respect to the provision of investment-related information are quantified in more detail below. (a) Reduction in Fees A review of the relevant literature suggests that plan participants on average pay fees that are higher than necessary by 11.3 basis points per year.\13\ The proposal's required disclosure of fees and expenses is expected to result in the payment of lower fees for many participants, assuming that participants will more consistently pick the lower cost comparable investment alternatives under their plans.\14\ Selection of the lower cost comparable investment alternatives will, in turn, result in increased plan participant account investment returns. In addition, the required disclosure could lead to reduced fees \15\ in the investment alternatives market as more fee transparency fosters more price competition in the market. Furthermore, the fee disclosure requirements may lead plan fiduciaries to give additional scrutiny to fees, and consequently to select less expensive comparable investment alternatives. --------------------------------------------------------------------------- \13\ ``Higher than necessary'' here means that the participant could have obtained equal value without incurring the expense. This calculation, based on fees paid in 401(k) plans, assumes that participants on average pay 11 or more basis points in unnecessary fees and expenses, in the form of expense ratios or loads. This assumption is conservative in light of evidence on the distribution of investor expense levels presented in: Brad M. Barber, Terrance Odean and Lu Zheng, ``Out of Sight, Out of Mind, The Effects of Expenses on Mutual Fund Flows,'' Journal of Business Vol. 79, No. 6 p. 2095-2119 (2005); James J. Choi, David I. Laibson, and Brigitte C. Madrian, ``Why Does the Law of One Price Fail? An Experiment on Index Mutual Funds,'' NBER Working Paper No. W12261 (May 2006); Report, Deloitte Financial Advisory Services LLP. ``Fees and Revenue Sharing in Defined Contribution Retirement Plans,'' (December 6, 2007) (on file with the Department); Edwin J. Elton, Martin J. Gruber, and Jeffrey A. Busse, ``Are Investors Rational? Choices Among Index Funds,'' NYU Working Paper, Social Science Research Network Abstract 340482 (June 2002); Sarah Holden and Michael Hadley, Investment Company Institute, ``The Economics of Providing 401(k) Plans: Services, Fees and Expenses 2006,'' 16 Research Fundamentals, No. 4. (September 2007). This estimate of excess expense does not take into account less visible expenses such as mutual funds' internal transaction costs (including explicit brokerage commissions and implicit trading costs), which are sometimes larger than funds' expense ratios. Deloitte, supra; Jason Karceski, Miles Livingston, and Edward O'Neal, ``Portfolio Transactions Costs at U.S. Equity Mutual Funds,'' University of Florida Working Paper (2004) at http://thefloat.typepad.com/the_ float/files/2004_zag_study_on_mutual_fund_trading_costs.pdf. \14\ While increased disclosure to plan participants is expected to reduce fees, it is not clear by how much. Some participants may not make optimal use of the disclosed information to reduce fees when making investment decisions. Also, the proposal's disclosures are limited to plan's designated investment alternatives chosen by plan fiduciaries rather than by plan participants. \15\ In their mutual fund experiment, Choi et al. found that presenting the participants with a comparison fee chart, and not just a prospectus, reduced the fees paid by 12% to 49% depending on the group studied. James J. Choi, David I. Laibson, and Brigitte C. Madrian. May 2006. ``Why Does the Law of One Price Fail? An Experiment on Index Mutual Funds.'' NBER Working Paper No. W12261. --------------------------------------------------------------------------- Although participants in section 404(c) compliant plans already receive much of the information that would be required under the proposed regulation, they are expected to receive a substantial incremental benefit. Participants in section 404(c) compliant plans, as well as many participants in plans that are not choosing to be section 404(c) compliant, who invest in mutual funds that are designated investment alternatives under the plan already receive the fee information in the related funds' prospectuses. The proposal's required disclosure of a summary of fee and performance information in a comparable format may nevertheless be beneficial in assisting plan participants to make better investment decisions. Thus, the Department assumes that participants in plans that are not providing disclosures similar to that required under section 404(c) receive a larger added benefit from the proposal's disclosures than plan participants that receive section 404(c) compliant or similar disclosures.\16\ --------------------------------------------------------------------------- \16\ The Department assumes that plan participants that already receive the section 404(c) required information will receive a benefit from the proposal that is two-thirds of that received by participants that do not already receive this information. In addition, the Department assumes that at least 80% of participants in plans that choose not to be 404(c) compliant, nevertheless, receive similar disclosures to participants in section 404(c) compliant plans. The Department specifically requests comments on the percentage of participants that already receive this information and the additional benefits that plan participants will receive due to the proposed regulation. --------------------------------------------------------------------------- The Department estimates that there will be assets of about $2.6 trillion in participant-directed individual account [[Page 43021]] plans in 2009 \17\ and that about $3.0 billion in higher than necessary fees are being paid by plan participants. Assuming the proposal's fee disclosures will reduce the amount of higher than necessary fees paid on average (a) by 10% (11.3 basis points*10%=1.13 basis points) \18\ for participants in section 404(c) compliant plans or plans that provide similar information, and (b) by 15% (11.3 basis points*15%=1.70 basis points) for participants in plans that do not receive section 404(c) compliant or similar information, the Department believes that the proposal's fee disclosures will result in $307 million in fee savings for plan participants in 2009 as shown in Table 2. --------------------------------------------------------------------------- \17\ The Department estimates, using 2005 Form 5500 data, that in 2005 $2.3 trillion in assets were held in participant directed accounts. To arrive at a 2009 dollar estimate, this number is then adjusted for inflation. This estimate does not include growth due to new participants or contributions and it also ignores increases or decreases due to the returns on the assets. Overall, the Department believes it under estimates the total amount of assets in 2009. \18\ Choi et al. (2006) found that providing comparative fee information to the treatment groups reduced fees by 12% to 49%. While this estimate originated from an experiment using young educated subjects, the Department believes that the assumptions made here are reasonable as they were selected from the lower range of values. Table 2.--Benefits Due to Reduction in Fees (2009) ---------------------------------------------------------------------------------------------------------------- Total amount of assets in Basis points Percent Benefits from Type of plan plans (in of higher than correction due reduction in millions of necessary fees to disclosure fees (percent) 2009 dollars) (A) (B) (C) (A * B * C) ---------------------------------------------------------------------------------------------------------------- 404(c) Plans and Plans with Similar Information. 2,500,000 0.11 10 $282,754,000 Non-404(c) Plans without Similar Information.... 144,000 0.11 15 24,487,000 --------------------------------------------------------------- Total Undiscounted Benefits................. .............. .............. .............. 307,241,000 ---------------------------------------------------------------------------------------------------------------- Note: The displayed numbers are rounded to the nearest thousand and therefore may not add up to the totals. There is some question as to whether some reductions in fees might represent transfers (such as consumer surpluses being recaptured by participants from investment managers) rather than efficiency gains. The Department believes that fee reductions attributable to this proposed regulation will mostly reflect efficiency gains, especially in the longer run. Downward pressure on fees will favor more efficient means of producing investment and other plan services. It will also reflect a diminution of the market for services whose costs exceeds their benefits (such as movement from more active to more passive investment management in cases where the latter is more efficient). However, it is possible that some fraction of reduced fees could reflect a transfer.\19\ The Department invites comments on this possibility. Since a purpose of the proposed regulation is to help plan participants increase their retirement savings, and because the expected fee reduction furthers this goal, the Department's motivation is the same irrespective of whether fee savings reflect transfers or efficiency gains. In the absence of information of what portion of fee savings might reflect transfers, for purposes of this assessment all such savings is counted as benefits. --------------------------------------------------------------------------- \19\ Fees vary due to the number and type of investment alternatives selected by the plan fiduciary. Nevertheless, plan participants can still influence the amount of fees they pay. Participants can choose among, on average almost 19 alternatives (Vanguard. ``How America Saves 2006.'') in the plan and select lower cost investment options or change their allocation percentages. Participants can also ask the plan fiduciaries to offer lower cost alternatives. --------------------------------------------------------------------------- (b) Reduction in Participant Search Time The proposed regulation will benefit plan participants by reducing the time they spend searching for and compiling fee and expense information. Although it is possible that all of these 65 million participants in participant directed individual account plans could benefit from increased disclosure, only a subset will choose to act on the disclosed information. The Department estimates that about at least 29 percent of plan participants will spend time researching their plans' designated investment alternatives fee and expense information and are, therefore, likely to benefit from reduced search time and corresponding reduced costs. This estimate is based on an EBRI survey \20\ which found that 29 percent of the respondents that received educational materials from their plans read the materials and made a change in their retirement plan investments. This assumption results in nearly 19 million plan participants that could benefit from reduced search costs. The Department seeks comments on the extent to which this proposal may increase the percentage of plan participants who will spend time researching their plans. --------------------------------------------------------------------------- \20\ Employee Benefit Research Institute Issue Brief 292, April, 2006. --------------------------------------------------------------------------- The same EBRI study found that respondents spent 19 hours per year on average planning for retirement. Of these 19 hours, the Department assumes that one-and-a-half hours could be saved on average for participants that are not receiving information like that required in section 404(c) and one hour for participants that are receiving section 404(c) compliant or similar disclosures based on the proposal's increased fee disclosure information. This assumption results in approximately 19 million hours being saved by affected plan participants as a result of the proposed regulation. The Department seeks comments on this assumption. In order to convert the time-savings into a dollar estimate, the Department estimated how much the average participants would value the time saved. Since the search time is assumed to be spent during leisure time and in order to adjust for the difference that plan participants attribute to leisure time versus work time, an average total wage rate for private sector workers participating in a pension plan with individual accounts was reduced by 10 percent to derive at an average value rate of leisure time.\21\ Using a wage rate of a little less than $35 \22\ for private [[Page 43022]] sector workers participating in a pension plan with individual accounts results in an average value of an hour of leisure time of $31 for 2009. Thus, the benefits from reduced search time for plan participants are estimated at $608 million for 2009 as shown in Table 3 below. --------------------------------------------------------------------------- \21\ Feather and Shaw (1999), using an econometric model, found that the opportunity cost of leisure time is 10 percent less than observed wages for employed workers. See Feather, P. and Shaw, W.D., ``Estimating the Cost of Leisure Time for Recreation Demand Models,'' Journal of Environmental Economics and Management, Volume 38, Issue 1, July 1999, Pages 49-65. \22\ This wage rate estimate is based on hourly wages from Panel 7 of the 2001 wave from the Survey of Income Program Participation (SIPP) and on wage growth data for private-sector workers that participate in a pension plan with individual accounts from the Bureau of Labor Statistics (BLS). Table 3.--Benefits from Reduced Participant Search Time (2009) -------------------------------------------------------------------------------------------------------------------------------------------------------- Percentage of Number of participants Average hourly (affected) predicted to Number of value of Total benefits Type of plan participants in make a change search hours participants' from reduced participant- in allocation saved by leisure time participant directed to lower fee participant (in 2009 search time Accounts investments Dollars) (A) (B) (C) (D) (A * B * C * D) -------------------------------------------------------------------------------------------------------------------------------------------------------- 404(c) Plans and Plans with Similar Information.................... 62,058,000 29 1.0 $31.33 $563,884,000 -------------------------------------------------------------------------------------------------------------------------------------------------------- Non-404(c) Plans without Similar Information....................... 3,211,000 29 1.5 $31.33 43,770,000 ---------------- Total Undiscounted Benefits.................................... ............... ............... ............... ............... 607,654,000 ---------------------