Fee Disclosure � �Uncovered� by 3E5Y1t


									                   Fee Disclosure – “Uncovered”
Fee Disclosure Advisory Services, LLC              11/12/2011                [Edition 1, Volume 2]

                                                                  Don’t Stop the Commissions
                                                                           we can help!
The Day Commissions Stopped                                                        
                                                                  We have more than 60 years of
Let’s cut right to the chase: financial advisors who do not       experience providing
have a disclosure document in place by April 1, 2012 with         administration, consulting,
the plan sponsor of a retirement plan that meets the              recordkeeping, plan and systems
requirements of 408(b)(2) of the regulations under ERISA          design. The industry is about to
should not accept any commissions on any investment               enter an entirely new experience
product that is or was sold in that plan sponsor’s qualified      due to the Department of Labor
retirement plan. Similarly, Broker Dealers should not accept      Regulation 29CFR 408b-2(c). The
any commissions from financial products sold in a                 intention of article is to assist those
retirement plan after March 31, 2012 if no disclosure             CSPs that may not realize that
documents are in place with the plan sponsor of the               they have to comply with the new
retirement plan.                                                  requirements, and identify the
                                                                  consequences of non-compliance.
Why? The reason is the new regulations under Section              Also point out to the “responsible
408(b)(2) of ERISA. In general, the rules state that payment of   plan fiduciary” that this new
fees out of retirement plan assets is a prohibited transaction.   administrative burden has been
Traditionally, the rules provided that as long as the fees        placed on their shoulders. Does
were reasonable, the fees could be paid and no prohibited         the “responsible plan fiduciary”
transaction would occur. The new regulations from the US          understand that if the CSP does
Department of Labor require that additional standards must        not have a Fee Disclosure
be met to avoid a prohibited transaction.                         document in place by April 1,
                                                                  2012, they could have breached
First, the regulations identify brokers as a Covered Service
                                                                  their fiduciary liability? They
Provider (CSP). Effective April 1, 2012, the regulations state
                                                                  must evaluate and determine the
that before any payment of fees to a CSP are made, the CSP
                                                                  fees for the plan are “reasonable”.
must have a written disclosure document in place. If a
document is not in place, payment of fees from the plan to a
CSP would be considered a prohibited transaction. The
disclosure document must indicate who is providing the
service, what services are being provided, the fee and the
                   Fee Disclosure – “Uncovered”
Fee Disclosure Advisory Services, LLC                11/12/2011                     [Edition 1, Volume 2]

basis of the fee that will be charged, and if the CSP is operating in a fiduciary capacity.

Second, but possibly more significant, the Broker Dealer has the legal relationship with the client, i.e., the
client legally belongs to the Broker Dealer. The financial advisor of the Broker Dealer may be providing
the services to the plan sponsor, but the Broker Dealer is legally responsible for the enforcing compliance,
thus, the Broker Dealer must have the disclosure document in place. If the Broker Dealer accepts the
commissions from the financial vehicles used in the qualified retirement plan, but decides not to pay the
financial advisor because no disclosure document is in place, then the Broker Dealer has the issue of the
prohibited transaction since the Broker Dealer accepted the money from the plan without proper
documentation. If the Broker Dealer pays the financial advisor, then perhaps two prohibited transactions
have occurred.

Third, the reasonableness of the fees must be determined by the responsible plan fiduciary. Broker Dealers
and therefore their financial advisors, should help the plan fiduciary in determining the reasonableness of
fees for the financial advisor’s service. So, for example, how will the financial advisor determine what
additional services are provided that warrant the amount of commissions paid on a particular investment
if the financial advisor is suggesting an investment product that pays a high commission than an
alternative product?

For example, let’s assume Lee, the financial advisor, has two clients that are desirous of changing their
401(k) vendor. One client has a $1 million in the plan and the other has $5 million in their plan. Lee
normally receives a 1% finder’s fee on the initial transfer plus 40 basis points trail income. Lee would
receive $10,000 commission for the transfer of the $1 million in assets and $50,000 on the transfer of the $5
million in assets. What extra services did Lee do to receive the extra $40,000 in income? What extra
services did Lee’s broker dealer perform for the $5 million plan assuming that they provide an 80%
payout to Lee?

The services that Lee performs may be easily justified for the $5 million dollar plan. They could have
multiple state locations, several shifts working, more education requirements or other servicing issues, but
Lee needs to make sure that the fees would be considered reasonable by the plan sponsor who is
ultimately responsible to the plan participants.

What if no agreement is put in place or the fees are deemed unreasonable, or if Lee does not perform the
services that are indicated in the disclosure document? All of these actions or inactions result in a
prohibited transaction.
                   Fee Disclosure – “Uncovered”
Fee Disclosure Advisory Services, LLC               11/12/2011                      [Edition 1, Volume 2]

The correction of a prohibited transaction can be onerous, especially in a participant directed plan. The
commissions must be repaid to the plan and allocated back to the participants to make them whole,
including accrued earnings. As time goes on, participants change investments, terminate employment, etc.,
so determining who is due reallocation may be very cumbersome. In addition, the amount of the
prohibited transaction is subject to a 15% excise tax and must be paid and reported to the IRS by the plan

In many small plans, the owners of the business are often the trustees, so failure to take action could be
considered a breach of fiduciary duties, and could be subject to a personal liability and excise tax of 20%
or more.

Broker Dealers and financial institutions need to carefully consider the payment and receipt of
commissions after March 31, 2012. The problem does not completely go away even if commissions are not
paid or received. For example, if a financial institution has fees embedded in their retirement plan
products, they need to determine what level of services are being provided to the client for those fees and
are those fees reasonable for the services that are provided. If no services are being performed, the
financial institution offering the products may be charging too much for their product since it previously
assumed some level of service. They may need to “pay” the commissions to the Plan instead of the
Financial Advisor or Broker Dealer.

This is a significant issue that each financial institution and financial advisor needs to address in the very
near future. The due date is right around the corner.

Authors: Fee Disclosure Advisory Services, LLC – Develop administrative documentation, procedures,
guidelines and standards for Financial Institutions to enable their Financial Advisors the ability to comply
with Department of Labor Regulation 29 CFR 40b-2(c). The goal is to ensure that the Financial Institution
and Financial Advisor are provided the procedures and support to comply with this Regulation without
financial hardship or loss of business. The Principals of FDAS are Michael E. Callahan, mec@fdas-
408b2.com and Michael R. Ingenito mri@fdas-408b2.com, (855)408-(b)(2)01. Please review our website for
more information www.fdas-408b2.com. FDAS is a strategic partner with Axis Retirement Plan Platform.

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