Compliance January 8, 2020

Lawsuit Against Trade Association’s 401(k) Plan Moves Forward

National Rural Electric Cooperative Association, previously subject of a DOL investigation, is facing a lawsuit regarding excessive fees and prohibited transactions.

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U.S. District Judge Liam O’Grady of the U.S. District Court for the Eastern District of Virginia has found that a lawsuit alleging prohibited transactions against fiduciaries of a trade association’s 401(k) plan “contains sufficient well-pleaded facts to survive a motion to dismiss.”

National Rural Electric Cooperative Association (NRECA) is a national service organization that represents more than 1,000 rural electric cooperatives around the United States. One of NRECA’s primary functions is to administer three Employee Retirement Income Security Act (ERISA) plans covering member cooperatives’ employees—a health and welfare plan, a traditional pension plan, and a 401(k) plan. Participants in the 401(k) plan are accusing the association and the Insurance and Financial Services Committee of engaging in prohibited transactions with respect to the plan in violation of ERISA, to the detriment of the plan and its participants.

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The complaint says the defendants failed to prudently monitor and control plan administrative costs in the interests of plan participants; appropriated the extra fees from the plan for their own benefit; and diverted monies from the plan to subsidize other expenses of NRECA and its member employers.

The complaint alleges the plan’s administrative costs are grossly excessive. It notes that the plan is one of the 75 largest defined contribution plans in the United States out of more than 650,000. As a result, it says, the defendants have access to the most competitive pricing and services in the marketplace. “While fiduciaries of similarly-sized plans typically incur administrative expenses well under $100 per participant, the plan’s administrative costs are wildly out of scale at more than $400 per participant,” the complaint states.

And the plaintiffs say the problem is also getting worse. According to the complaint, the plan’s administrative costs have increased each year since 2013, and the 2017 rate of $404 per participant is a 50% surge from the 2013 rate. They argue that based on trends in the overall marketplace, the plan’s administrative costs should have decreased on a per-participant basis during this time. Further, they say, the growth within the plan provided significant opportunities for the defendants to reduce the plan’s administrative expenses. Yet, the defendants failed to take measures to do so.

According to the complaint, the primary beneficiary of the plan’s exorbitant administrative costs is NRECA. It says the defendants have extracted an increasing amount of revenue for NRECA from the plan each year since 2013. NRECA took in $14.2 million from the plan in 2013, $15.8 million in 2014, $17.0 million in 2015, $19.0 million in 2016, and $20.9 million in 2017. “Defendants’ incentive to increase revenue for NRECA is at odds with their duty to administer the Plan in a loyal and cost-conscious manner,” the complaint states.

The plaintiffs also accuse the defendants of improperly using the plan to subsidize costs of NRECA’s overall benefits program. They say that since 2013, the revenue NRECA extracted from the plan increased by at least 32%, whereas NRECA’s in-house charges to other plans decreased or remained around the same. As a result, around half of the fees that NRECA withdrew from its benefits program in 2017 came from the 401(k) plan, up from only 36% in 2013. Likewise, the plaintiffs say, the defendants have increasingly allocated outside vendor charges to the plan. The plan paid $4.3 million to outside vendors that also served other NRECA benefit plans in 2017, up from $1.8 million in 2013.

In his opinion denying the defendants’ motion to dismiss the suit for failure to state a claim, O’Grady found the plaintiffs’ allegation that the plan’s increasing administrative costs in a marketplace which is exhibiting a down trend shows imprudent administration is plausible. He said the comparison showing a similarly situated plan incurs 25% of the administrative expenses, per participant, than their 401(k) “nudges the claim over the line from merely possible to plausible.”

In addition, O’Grady found the pleaded facts in the case support the inference that unreasonable and improper transactions with NRECA, a party in interest, were self-interested, or made on behalf of a party with interests adverse to the plan and/or participants. “The pleaded facts show that over recent years, while NRECA was able to charge other plans a constant or decreasing amount, NRECA allegedly unreasonably and improperly charge [the 401(k) plan] more,” he wrote in the opinion.

Interestingly, in 2012, NRECA agreed to restore $27,272,727 to the three plans after an investigation by the Department of Labor’s Employee Benefits Security Administration (EBSA) found the association selected itself as a service provider to the plans, determined its own compensation and made payments to itself that exceeded NRECA’s direct expenses in providing services to the plans, in violation of ERISA.
Compliance January 8, 2020

Actions to Comply With SECURE Act Should Already Be Underway

Though more guidance is expected for certain provisions of the SECURE Act, there are some that are urgent for plan sponsors to address.

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The SECURE Act was passed into law on December 20, 2019.

David Whaley, partner at Thompson Hine LLP in Cincinnati, Ohio, explains that the law is a collection of singular ideas that have been floating around for a long time that have been consolidated into one act. While there have been some who have likened it to the passage of the Pension Protection Act (PPA) of 2006, Whaley says the SECURE Act is not a full modification of retirement programs. For example, the acceptance of open multiple employer plans (MEPs) is unrelated to the change in required minimum distributions (RMDs), which is unrelated to the ability to adopt a retirement plan by the time of filing the employer’s tax return.

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Whaley notes that the majority of the law’s provisions are effective for plan years beginning after 12/31/2019. So, preparations should already be underway.

There are three provisions plan sponsors should get a handle on immediately, according to Barb van Zomeren, senior vice president of ERISA [Employee Retirement Income Security Act] at Ascensus in Brainerd, Minnesota. “The increase in the age for RMDs, the elimination of the ability of certain beneficiaries to stretch IRA payments over their lifetime, and the exception to the 10% early distribution penalty for distributions for birth or adoption of a child are the most urgent for plan sponsors to address,” she says.

Van Zomeren explains that if an individual is born on or after July 1, 1949, he will turn 70 ½ in 2020, so he won’t have to take an RMD until he turns age 72. However, those who turned 70 ½ in 2019 will fall under old rules; they will get their initial RMD April 1, 2020, and will continue to get distributions each year.

She says plan sponsors should be aware of how the provision applies to those in RMD status and those who will have to wait, and they need to explain it to participants. Plan sponsors likely rely on their service providers for help in processing distributions, and many service providers are asking the IRS for relief on RMDs because they have to program their systems for rolling over RMDs and taking taxes, according to van Zomeren.

As for the elimination of the stretch IRA, van Zomeren says it is important for participants and beneficiaries to understand the change to a 10-year payout period. She notes there are exceptions in the law for chronically ill and disabled participants. Plan service providers will need to be able to handle payouts in the near-term as beneficiary payouts actually occur.

The SECURE Act permits participants in qualified defined contribution (DC) plans and IRAs to elect a penalty-free in-service withdrawal of up to $5,000 within one year following the birth or adoption of a child and allows later repayment of such withdrawals (effective for distributions made after December 31, 2019). “At this point, I understand the elimination of the distribution penalty for birth or adoption to be optional, but we need clarification on this,” van Zomeren says. “Also, clarification is needed on the open-ended repayment period.” She also says plan sponsors and service providers need to understand whether the 20% withholding on distributions applies. “This is one of the provisions for which more guidance is needed before plan sponsors want to let participants take advantage of the feature.”

Other provisions effective in 2020

According to attorneys at Sidley Austin LLP, other provisions of the SECURE Act that are effective in 2020 include:

  • permanent nondiscrimination testing relief with respect to benefit accruals and benefits, rights and features provided to a closed class of participants in defined benefit (DB) plans that have been closed to new participants and the ability of closed DB plans to aggregate testing with DC plans;
  • a fiduciary safe harbor with respect to the selection of an insurer to provide a guaranteed retirement income contract under which a fiduciary is deemed to have satisfied its prudence requirement regarding selection of an insurer if a plan fiduciary satisfies certain specified conditions in selecting an insurer. The SECURE Act expressly notes that, to satisfy this safe harbor, a fiduciary is not required to select the lowest cost contract. This provision does not have a stated effective date.;
  • participants are permitted to transfer annuities that are no longer authorized to be held as investment options under a qualified DC plan to another eligible employer plan or IRA;
  • the annual notice requirement for nonelective 401(k) safe harbor plans—those plans that provide a nonelective employer contribution of at least 3% of each eligible employee’s compensation—is eliminated;
  • plans are allowed to be amended to become nonelective 401(k) safe harbor plans at any time before the 30th day before the close of the plan year; also they are allowed to be amended to become nonelective 401(k) safe harbor plans after that date if the plan is amended to provide a nonelective employer contribution of at least 4% of each eligible employee’s compensation and the amendment is made by the last day for distributing excess contributions for the plan year (generally, the last day of the next plan year);
  • qualified automatic contribution arrangement (QACA) safe harbor plans are allowed to increase the cap on automatically raising payroll contributions from 10% to 15% of an employee’s paycheck, with the option to opt out;
  • the deadline for employers to adopt new retirement plans for the preceding taxable year is extended until the due date of the employer’s tax return;
  • the distribution of qualified plan loans through credit cards or similar arrangements is prohibited;
  • the maximum age permitted for making contributions to a traditional IRA is repealed, thus permitting individuals to make IRA contributions after age 70-1/2;
  • temporary tax relief for certain qualified disaster distributions from retirement plans; and
  • an increase in the penalties for failure to file Form 5500, withholding notices and annual registration of certain plans.

Van Zomeren says there are other provisions of the SECURE Act that encourage retirement plan access and additional participation. For one, there is a new start up credit for the adoption of an automatic enrollment feature in DC plans for first three years it’s maintained. There is also a credit for adopting a retirement plan, from $500 to $5000 depending on the number of employees and number of non-highly compensated employees (NHCEs).

She adds that, the provision of being able to adopt a new plan as late as the employer’s tax filing deadline, including extension, would allow an employer, for example, to adopt a profit sharing plan and make it a 401(k) at a later time once it sees how profits are doing.

Plan amendments

According to van Zomeren, one section included in the SECURE offers a remedial amendment period. It allows plan sponsors to make changes immediately, but they have until the end of the 2022 plan year to adopt an amendment. This will mostly apply to those provisions that are optional and not required.

Whaley explains that amendments for any required modifications are not required to be incorporated into the plan document until the modification shows on the cumulative list from the IRS, at which time the agency will provide the date by which amendments have to be adopted.

Van Zomeren says as recordkeepers address any changes to their systems to comply with the law, plan sponsors can expect education from them about the provisions of the SECURE Act and how they will impact sponsors’ plans. Plan sponsors will be informed of additional features they may consider for plan design, as well as what kind of documentation and amendments need to be made.

“Right now, plan sponsors should educate themselves [about SECURE Act provisions], prioritize which are impactful immediately and consider others for plan design,” van Zomeren says. “Considering the law was enacted late in last year with a January 1, 2020, effective date, there will be additional guidance and relief [the retirement plan industry] should watch for.”

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