DOL RECOMMENDS ACTION FOR SPONSORS OF 401(K) PLANS AND OTHER RETIREMENT PLANS WHICH OFFER
August 13, 2014
Target Date Retirement Funds (or "TDFs") have exploded in popularity as an investment option in 401(k) and other retirement plans. Fund names are linked to an employee's anticipated retirement date ("Retirement Fund 2040" or "Target 2020" for example) and the underlying asset allocation between stocks, bonds, and treasuries automatically adjusts (becoming more conservative) as the participant approaches the target retirement date. Not surprisingly with the explosion of popularity of these funds, the U.S. Department of Labor has significantly increased its regulatory activity in this area. In the near future this likely means that TDFs will be an area of heightened scrutiny on DOL retirement plan audits, as well as a new trigger for breach of fiduciary duty claims brought by retirement plan participants under ERISA.
The DOL has issued guidance with recommendations for all employers sponsoring retirement plans that include TDFs. It is highly recommended that employers offering TDFs under their retirement plans incorporate the DOLs recommendations into their practices and procedures. The DOL recommendations for such employers are as follows:
Establish a Process for Comparing and Selecting TDFs: Obtain information (investment returns, fees, etc.) about each TDF that will enable the employer to evaluate the TDF as a sound investment option under the retirement plan.
Conduct a Periodic Review of Selected TDFs: Periodically review all TDFs offered under the retirement plan to ensure that each TDF remains a suitable investment alternative. Employers should consider the fees and other expenses charged by the TDF as a part of this review.
Understand Each TDF's Underlying Investments: Among other things, employers should understand the underlying asset classes (equities, bonds, treasuries, etc.) that may be held by each TDF, as well as how the asset classes change as the participant approaches the target retirement date. For example, not every Target 2030 Fund is managed in the same manner. Some 2030 funds gradually reduce their equity exposure to their most conservative point at the target date (a "to retirement" approach) while others continue to shift and don't meet their most conservative point until several years after the target date is met (a "through retirement" approach).
Evaluate Whether a Custom Target Date Fund Would be Better: Most investment companies offer TDFs which consist of several of that company's mutual funds bundled into one TDF. For example, Fidelity may offer a TDF consisting solely of Fidelity's mutual funds. However, it is becoming increasingly more common for investment companies to offer actively managed TDFs which regularly invest in mutual funds, or other investment products, from a variety of sources. Sometimes the fees associated with these actively managed TDFs are higher than traditional TDFs. Nonetheless, employers should consider whether their TDF investment provider offers such a product and whether an actively managed TDF should be offered under the employer's retirement plan.
Develop Effective Employee Communications: Employers should provide employees with sufficient information to understand the features of TDFs offered under the employer's retirement plan. In a related initiative, the DOL is working to issue regulations that will require employers to provide employees with specific information concerning TDFs offered under the employer's retirement plan. In the meantime, plan sponsors should review the level of information provided to employees concerning TDF investment options.
Document the Process: In order to limit potential liability in the event of a DOL audit or an employee action under ERISA, it is imperative that the plan sponsor (a) documents, in writing, the steps taken to select and review TDFs offered under the retirement plan, and (b) communicates sufficient information to each employee. In the event of a DOL audit or a challenge from a plan participant, undertaking these actions will be of little use to the employer unless these actions are contemporaneously recorded in writing and maintained in the employer's files.
TDFs are at the center of the Department of Labor's radar. However, with a few relatively simple steps employers can stay out in front of these new enforcement efforts and can greatly limit their potential liability in connection with offering these increasingly popular investment funds.