Service Provider Fee Disclosure Regulations: Prohibited Transaction Exemption – Part IX
This is the ninth in a series of Technical Updates relating to the DOL’s July 2010 service provider fee disclosure regulations. The last several parts in this series focused on the disclosure requirements themselves. This Technical Update explains the exemption from the prohibited transaction rules that may apply to a responsible plan fiduciary.
Q-1: What is the impact of a responsible plan fiduciary’s failure to satisfy the regulatory fee disclosure requirements?
Title I of ERISA prohibits a plan fiduciary from engaging in a prohibited transaction. As explained in Part I of this series, one of those transactions is the furnishing of goods, services, and facilities between the plan and a party in interest. Since a service provider is a party in interest, providing the services and the plan’s payment for those services would be prohibited, were it not for the statutory reasonable contract exemption. The reasonable contract exemption permits a plan and a service provider to enter into reasonable arrangement for necessary services for the plan’s establishment or operation, in exchange for reasonable compensation.
The purpose of the new regulations is to define, for a covered service provider (CSP) and a covered plan, what is a reasonable “contract or arrangement" (contract). The regulations require the disclosures discussed in this series of Technical Updates as a precondition to having a reasonable contract. A CSP who violates the rules is guilty of a prohibited transaction. A responsible plan fiduciary (RPF) also engages in a prohibited transaction if the disclosures received from the CSP do not comply with the regulations, even if non-compliance results from an error or omission of which the RPF is not aware.
Q-2: Is there a mechanism for an RFP to protect itself from liability for inadvertent violations of the reasonable contract rules?
Yes. The regulations include a class exemption for RPFs. The purpose of the exemption is to exempt from prohibited transaction liability an RPF who engages in a contract that is not “reasonable" under the regulations because of a CSP’s failure to disclose the information required by the regulations. To qualify for the exempt, the RFP must satisfy several conditions.
Q-3: What are the conditions of the exemption?
An RPF qualifies for the class exemption only if: (1) the RPF did not know that the CSP failed or would fail to make the required disclosures, and reasonably believed that the CSP disclosed the required information; (2) after discovering the failure, the RPF makes a written request to the CSP to provide the missing or erroneous information; (3) if the CSP fails to comply with the written request with 90 days of the request, the RPF notifies the DOL of the failure; and (4) the RPF determines whether to terminate or to continue the contract.
Q-4: What information must the RPF’s notice to the DOL include?
The notice must contain: (1) the plan name and number (used for Form 5500 purposes); (2) the plan sponsor’s name, address and EIN; (3) the RPF’s name, address and phone number; (4) the CSP’s name, address, phone number, and EIN, if known; (5) a description of the services provided and of the information the CSP failed to disclose; (6) the date of the RPF’s written request to the CSP for the information; and a statement whether the CSP continues to provide services to the plan. The DOL has published a model notice available on its Web site at: www.dol.gov/ebsa/DelinquentServiceProviderDisclosureNotice.doc.
Q-5: When and where must the RPF file the notice with the DOL?
The RPF must file the notice with the DOL not later than 120 days after the date of the written request to the CSP, or if earlier, 30 days after the CSP’s refusal to provide the requested information. The RPF may send the notice by email to: OE-DelinquentSPnotice@dol.gov, or by mail to: U.S. Department of Labor, Employee Benefits Security Administration, Office of Enforcement, 200 Constitution Ave., NW., Suite 600, Washington, DC 20210.
Q-6: How should the RPF decide whether to terminate or to continue the contract?
The RPF must evaluate the nature of the failure, the availability, qualifications, and cost of replacement service providers, and the CSP’s response to the notification of the failure. However, the RPF must continue to satisfy its fiduciary responsibility under ERISA (e.g., using plan assets solely to defray reasonable administrative expenses).
As a practical matter, if an RPF determines that a CSP is noncompliant, even after receipt of written notice from the RPF, the RPF probably is well advised to move to a different provider. The defaulting CSP is not only refusing to provide information the DOL believes the RPF should have in evaluating the reasonableness of the contract, but the CSP is also creating an administrative bother for the RPF and other plan officials.
Q-7: Does the class exemption provide relief to the CSP who has failed to comply with the disclosure requirements?
No. However, the regulations provide a method for a CSP to cure an incorrect or incomplete disclosure.
Q-8: If a CSP discovers that a disclosure was incomplete or incorrect, how can the CSP correct the deficiency?
If the CSP acted in good faith and with reasonable diligence, the regulations state that a contract does not fail to be reasonable (and so the CSP does not engage in a prohibited transaction) as a result of an error or omission of a CSP who acted in good faith and with reasonable diligence, provided the CSP discloses the correct information to the RPF as soon as practicable, but not later than 30 days from the date on which the CSP knows of the error or omission.
Q-9: What if a CSP fails to “cure" the disclosure failure as described in Q&A-8?
If the CSP does not timely cure a disclosure failure (or if any failure occurs and the CSP has acted in bad faith or without reasonable diligence), the CSP engages in a prohibited transaction. The CSP then is liable for an excise tax of 15% of the “amount involved" in the transaction (presumably the compensation received under the contract), and must correct the transaction (likely by refunding the full amount of the compensation to the plan). Curing a disclosure after the 30-day period (or termination of the contract) stops the prohibited transaction. However, the CSP is liable for the 15% excise tax during the period of the prohibited transaction.
Q-10: What if an RPF fails to follow the requirements for the exemption as described in this Technical Update?
If the RPF does not take advantage of the exemption, the RPF has engaged in a prohibited transaction, and has committed a breach of fiduciary duty. The DOL (or a participant) may bring an action against the RPF for “appropriate relief" and the RPF is personally liable for any loss to the plan as a result of the breach of fiduciary duty. The DOL may bring an action against the RPF to enjoin the violation. An RPF acting only as a fiduciary is not liable for the 15% excise tax under the Code. However, there is a statutory penalty of 20% of the “applicable recovery amount" – the amount recovered from the fiduciary under a settlement agreement with the DOL or in a court proceeding instituted by the DOL (subject to DOL discretion to waive the penalty).
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