Compliance September 18, 2019

What Safe Harbors Are Available to Retirement Plan Sponsors?

Safe harbor provisions protect employers from liability. That’s one good reason to understand them.
Reported by
Art by Martin Gee

Safe harbors are widely known as a statute under law providing protection for liable circumstances. There are multiple safe harbors regarding retirement plans that plan sponsors need to know.

Plan sponsors can offer safe harbor plan designs to satisfy annual nondiscrimination-testing required for 401(k) plans. Under these rules, employers may make a traditional match, a qualified non-elective contribution (QNEC), or a mix of the two, known as qualified automatic contribution arrangements (QACA). A more recent type of safe harbor, employers who offer QACAs must make certain matching and non-elective contributions to all participants and must offer 100% vesting after a two-year period.

Never miss a story — sign up for PLANSPONSOR newsletters to keep up on the latest retirement plan benefits news.

For plan sponsors and fiduciaries, there are safe harbor provisions that shield employers from being penalized for investment mishaps occurred in retirement plans. These guidelines provide better protection for employers against any fiduciary liability, and include section 404(c) safe harbor provisions, qualified default investment alternatives (QDIAs), and mandatory cash-outs.

“Voluntary safe harbor procedures were created in the response to emerging compliance issues that were created due to gray areas under which plan sponsors have to operate,” says Nasrin Mazooji, vice president of Compliance and Regulatory Affairs at Ubiquity Retirement & Savings. “They address and provide further guidance on behalf of the government.”

Section 404(c)

Section 404(c) safe harbors were created to relieve plan sponsors and fiduciaries who offer retirement plans, including 401(k)s and 403(b)s, from liability related to investment menus, plan designs and participant disclosure, says Mazooji. It allows employers to shift responsibility of investment management to the employees.

“Participants were directing their investments into 401(k)s and losing money, so they could have theoretically gone back to these plan fiduciaries and place the blame on them,” she adds. “Section 404(c) relieves those plan sponsors and fiduciaries from that kind of liability.”

While the list to qualify for 404(c) compliance is intricate, general qualifications to meet are offering a broad range of investment options and easing the process of viewing and controlling investments for participants.

QDIAs

Second to this type of safe harbor is the QDIA; also related to retirement plan investments. A QDIA safe harbor protects employers from liability when participant assets are invested in a default fund, says Robin Solomon, partner at Ivins, Phillips & Barker.

“A QDIA safe harbor offers protection for fiduciaries with respect to the selection of a default investment in the plan,” she explains.

Similar to how Section 404(c) protects plan sponsors from investment losses in an employee’s account—given the participant elects their investments—QDIA’s delegate responsibility to employees as well. Even if a participant fails to make an election and is thus defaulted to an investment alternative, the employee is still accountable for their investment losses, says the Department of Labor (DOL).

QDIAs are typically invested based on a participant’s age or risk tolerance, and are typically balanced funds, target-date funds (TDFs) or lifecycle funds. According to Solomon, to qualify for compliance on QDIAs, plan sponsors cannot impose financial penalties or otherwise restrict participants’ ability to transfer money from a QDIA to another investment alternative.

Mandatory Cash-outs

Also known as involuntary distributions, mandatory cash-outs allow those plan sponsors with small account balances in their plans to make distributions or automatically rollover the money into an individual retirement account (IRA).

“Sponsors who have small account balances in their plans for terminated employees are paying ongoing administration fees and are the fiduciary for those accounts for employees who no longer exist in the plan,” Mazooji explains.

Employers looking to apply cash-outs will need to ensure certain requirements if they want to avoid liability, too. Plan sponsors must give written notice to terminated employees warning them of the distributions and allow time for these participants to rollover account balances themselves. Should a participant fail to take action, employers can apply mandatory cash-outs on balances less than $1,000, and automatic rollovers to amounts between $1,000 and $5,000, says Mazooji.

According to the IRS, if an account balance exceeds $5,000, plan administrators must obtain a participant’s consent before making a distribution. Consent of a participant’s spouse may also be required, dependent upon the type of distribution.

Timely Elective Deferrals

Another, lesser known safe harbor provision regards submitting elective deferrals in a well-timed matter. While plan sponsors must submit employee contributions every pay period immediately, the Department of Labor offers a seven-day safe harbor for depositing these contributions, however this is only limited to small plans with fewer than 100 participants, says Solomon.

Larger plans are allowed submit contributions within 15 business days, however it’s important to know that this is only a ruling, not a safe harbor, she adds. If a plan sponsor can deposit these contributions at any point before the 15 business days, it is required to do so.

“If the employer generally can segregate employee contributions within three days, the Labor Department will expect these employee contributions to be deposited within three days every payroll,” Solomon clarifies.

Following safe harbor rules protects employers from liability, adding a blanket of relief to those who may not always have clear understanding of fiduciary guidelines. If a plan sponsor has questions about its plan, or finds an error, it should seek consult with a third-party administrator or an attorney to ensure it is protected, says Mazooji. Taking action and meeting with a professional is a greater solution than risking litigation, anyway.
Compliance September 10, 2019

Schwab Arbitration Ruling Leaves Unanswered Questions

The effect of the 9th Circuit decision on ERISA lawsuits is uncertain, and arbitration is not the perfect option plan sponsors may think.
Reported by
Art by Nick Little

The 9th U.S. Circuit Court of Appeals in August issued a ruling in the Michael F. Dorman et al vs. The Charles Schwab Corp. et al case that Schwab could enforce its retirement plan’s arbitration clause requiring participants to file individual claims and to waive class-action claims. Legal experts say the case raises questions that should give plan sponsors pause before including an arbitration clause in their plan.

The court ruled that the plan expressly said all Employee Retirement Income Security Act (ERISA) claims should be individually arbitrated and that the plan also included a waiver of class action suits. Dorman’s original suit accused Schwab of breaching its fiduciary duties by including poorly performing Schwab-affiliated funds in the plan. He brought the suit on his own, seeking class-action remedy for the plan in its entirety.

The 9th Circuit’s decision is “significant because it is the first case in the nation to explicitly permit the implementation of an arbitration provision in a plan document,” says Nancy Ross, a partner at Mayer Brown in Chicago. “However, the ramifications of this are still very much uncertain.”

First and foremost, the decision was made by a three-judge panel, and it is very unusual for a circuit panel to overturn an earlier full circuit decision, Ross says. In this case, the panel overturned the 9th Circuit’s 1984 position in Amaro v. Continental Can Co. that lawsuits filed under ERISA cannot be arbitrated. The panel reasoned that in the 35 years since that time, the Supreme Court has ruled that arbitration panels do have the expertise to hear ERISA breach claims.

Secondly, Ross says, Dorman has asked for the full court to conduct an en banc review of the case, due December 10. Thirdly, she adds, should the full court uphold the panel’s decision, it would still only apply to the 9th Circuit, which includes Alaska, Arizona, California, Hawaii, Idaho, Montana, Nevada, Oregon and Washington.

Joan Neri, counsel in Drinker, Biddle & Reath’s ERISA practice in Florham Park, New Jersey, says the case “does not address how a fiduciary breach claim seeking plan-wide relief aligns with the individual recovery sought in arbitration. This is something that advisers and sponsors should continue to watch in the litigation sphere before making any amendments to a plan.”

Neri further explains, “The 9th Circuit in Dorman focused on whether the plan or the individual had agreed to the arbitration. Because the arbitration provision was in the plan, the court concluded that the plan had expressly agreed that the ERISA claim could be arbitrated. This was a factor that distinguished this decision from the 9th Circuit’s earlier decision in Munro v. University of Southern California in which the arbitration agreement was signed by the individual as part of her employment agreement.”

What Dorman did not address was “how the relief provided in an individual arbitration, i.e. the participant’s individual damages, reconciles with the plan-wide relief for the breach of fiduciary claim,” Neri says. “That is the glaring unresolved issue. Can individual arbitration of fiduciary breach claims be brought on behalf of a plan? Until this issue is resolved, I am not rushing out to encourage my plan sponsor clients to adopt mandatory arbitration provisions for fiduciary breach claims.”

Arbitration not a perfect option

While, “generally, plan sponsors prefer arbitration to going to court,” there are some downsides to arbitration, notes Tad Devlin, a partner with Kaufman Dolowich & Voluck in San Francisco. “For non-experienced practitioners, the ERISA statute can be a labyrinth, so this would weigh some plan sponsors in favor of going before a federal judge who has heard these types of claims,” he says.

“Another disadvantage to arbitration is that it is confined to a limited review, and the arbitration award likely would be final and binding and can be very difficult to challenge or overturn,” Devlin continues. “It can be almost impossible to challenge at the judicial level on a petition to vacate the award. To do so, the sponsor would essentially have to show the award decision was fraudulent or corrupt. On the other hand, in a judicial setting, you have at your disposal the district court, the court of appeals and the highest court in the land.”

Ross adds that should a plan sponsor go the arbitration route to try to avoid class-action lawsuits, those could lead to “thousands of individual arbitrations, and some of these decisions could be inconsistent with one another. So, while on the surface the Dorman decision seems like a tremendous panacea for class-actions, that is not necessarily the case.”

Nonetheless, should a plan sponsor decide it wants to include an arbitration clause in its plan document, Neri recommends “it follow the Dorman approach, namely, it should require that the claims  be arbitrated on an individual basis rather than a class-action basis, and it should include a class-action waiver.”

Devlin says sponsors should go a step further by having “all participants specifically sign off and acknowledge the arbitration provision, rather than have a claimant contend the arbitration provision language was somehow not reviewed because it was included in a 25-page document. Make sure all participants are fully versed on the clause’s provisions, have them acknowledge that and send back to the sponsor a receipt that they agree to the language.”

«