WASHINGTON - A decade after the U.S. Department of Labor promulgated safe-harbor regulations, industry insiders debate whether the Section 404(c) rules still spur defined contribution plan sponsors to provide more comprehensive investment education to participants or whether the rules have become obsolete.
"It was such an incredible effort by the Department of Labor and a tremendous amount of activity involved in getting those regulations published, with all of the players very involved in coming out with the whole scheme, and 10 years later the regulations are virtually irrelevant," said David Wray, president of the Profit Sharing/401(k) Council of America, Chicago. That's because most plans already do what the regulations require and have moved on to other issues; at this point, plan sponsors don't even consult 404(c) regulations when designing their plans, just having their lawyers look at them as an afterthought, he said.
The regulations were advanced, after a fierce debate, to provide plan sponsors with fiduciary protection in exchange for a minimum level of plan design and participant education and communication. A few years ago, a debate over whether plan sponsors could provide education without offering investment advice resulted in the Department of Labor's clarifying its position in a widely circulated bulletin.
Service providers acknowledge the regulations jolted many in the industry into giving plan participants more comprehensive investment education.
In order to get 404(c) protection, which shields plan sponsors from fiduciary responsibility for defined contribution plan participants' investment, plans must have at least three investment options, not including company stock, Mr. Wray said. And it was the number of choices plan sponsors added that drove them to provide more education, Mr. Wray said.
Last year, less than 2% of plan sponsors responding to the PSCA's annual survey indicated their plans had fewer than three investment options, he said. In 1991, 20% of the plans surveyed by PSCA had only one or two funds.
"The trend was driven by participants. They wanted more choices," Mr. Wray said. "404(c) validated that."
These days, plan sponsors are more concerned with whether 404(c) applies to mutual fund windows and brokerage windows, Mr. Wray said.
"I have been at conferences where we spoke about 404(c) specifically, and the question is not whether it was useful but whether it was something practitioners were recommending that their clients should pursue," said Robert Doyle, director of regulations and interpretations for the Department of Labor.
The regulation was designed to focus on the issue of whether defined contribution participants are able to exercise control over their investments. If participants are given control, then they need to be given certain things, including a broad range of investment choices and the ability to make timely investment decisions that take into consideration the fluctuation of the market regarding the individual investments, Mr. Doyle said. And participants should be able to make their decisions in an uncoerced way, he added.
"It has struck me that virtually all the plans today certainly have the broad range of investment alternatives, with an average of about a dozen," Mr. Doyle said. "On the disclosure side, those requirements are satisfied with the provision of the prospectuses (for the investment options)."
"Should plan sponsors choose to comply with 404(c), most could do so without significant changes in their design," he said. "If your plan is not a 404(c) plan, the fiduciaries are responsible and liable for the investment decisions of participants. 404(c) is the exclusive means by which fiduciaries (of defined contribution plans) an relieve themselves of liability for individual investment decisions."
The education vs. investment advice interpretative bulletin resulted when the Department of Labor learned of plan sponsors' concerns that the education they were giving under 404(c) arrangements could be construed as investment advice, which is a fiduciary act, Mr. Doyle said.
"The goal was to provide incentives to provide education without being concerned with that education activity. My own sense is that the interpretive bulletin was very well received and that more employers really became comfortable with providing investment education."
Currently, there is some concern that 404(c) is an impediment to offering brokerage windows, he said.
"Those (404c) disclosure requirements apply to designated investment options in the plan," said Mr. Doyle, who cautioned these were his own views and not necessarily those of the DOL. The preamble of the regulations indicates that a plan sponsor that offers a brokerage window needs to explain how the option works and to provide enough information for employees to make informed decisions. However, sponsors do not have an affirmative duty to find information about each and every investment in the window; they just have to forward to participants any information provided to the plan about those investments, he said.
But it would depend on the facts of a particular situation and how the mutual fund window was set up, he said.
"I'm still struggling to understand why some practitioners are not recommending compliance with 404(c)," Mr. Doyle said. "When 404(c) was adopted it was a very different world, and it's moved very quickly. Now 404(c) requirements are very commonplace in plan design. If there is to be a transfer of responsibility and liability then participants have to get full control, and if that's happening, we have been successful."
Plan sponsors always have struggled with communication, said Ruth Hughes-Guden, principal with Morgan Stanley Dean Witter Investment Management, New York.
"404(c) helped plan sponsors to become more comfortable," she said. "It spurred on education, but it was only a conduit. Plan sponsors are always trying to communicate their plan better. The plan is only as good as it is communicated."
At first, some plan sponsors were upset with 404(c) because they thought it would cost too much money, she said. "But the guidelines told people what they should be doing," Ms. Hughes-Guden said. "They really helped."
404(c) does not need to be updated, she added, saying, "I don't think we need more regulation." The regulations made sense when they came along, which was right when the defined contribution world was changing, she added.
And 404(c) will not prevent a plan sponsor from being sued. Should participants sue their employers, then plan sponsors might want to release control over their defined contribution plans completely, she said. A possible scenario is one in which participants tell plan sponsors which retail-type 401(k) program to send their contributions to.
"There is a chance that might happen, particularly if we privatize Social Security," she said.
Others wonder whether 404(c) will hold up in court.
"There has not been a lot of case law that has tested it," said Joe Ready, senior vice president and director of First Union Corp.'s benefit services group, Charlotte, N.C. "Hopefully all the plan sponsors who have elected to hang their hats on it will be protected."
As we hit the "baby boom bubble," when the first wave of baby boomers retires and has less money than anticipated or discovers they can't retire when they wish, boomers may look to sue the deepest pockets they can find - those of their employers, Mr. Ready said.
"Baby boomers will be the first wave of 401(k) savers who will retire with the 401(k) as their primary retirement vehicle," he said. "The industry has thrown a lot of money toward education, but the fundamental message has not changed."
That message is: join the plan, defer as much as possible, take advantage of the match and diversify properly.
"There's still a good portion of people not taking action," Mr. Ready said. Most participants do not understand, for example, what deferring more money will mean to them at retirement, he added. Those are the people who are most likely to sue and test in court to what degree 404(c) protects plan sponsors.
Some service providers say that while it took years for 404(c) to catch on, it has caused sponsors to broaden the scope of their investment offerings.
"It's only come into vogue three years ago," said Bob O'Connor, president and chief operating officer of INVESCO Retirement Inc., Atlanta. "People were very conservative in terms of their view of it."