Why pension, 401(k) plans should have written policies

ERISA fiduciaries seem to have more and more to worry about. Plan fiduciaries worry not only about being a target of class action lawsuits, but also about the possibility of being selected for an IRS or Department of Labor audit. More and more fiduciaries are coming to realize that memorializing a set of carefully-thought out plan policies and following them can be their best defense in these situations. Written policies allow them to sleep better at night.

Though plan fiduciaries sometimes think that they have total flexibility to deal with issues if they don’t commit their processes to writing, when fiduciaries act without policies that set out good fiduciary processes, they may be missing important issues, such as benchmarking fees regularly, or monitoring the limits on plan loans. Just putting a policy together forces fiduciaries to focus on how you will do what needs to be done. If you act without written policy guides, plan sponsors also are risking acting in ways that are not consistent, which makes decisions harder to defend. Needed flexibility can be built into written procedures if they are properly drafted.

Here are some of the policies that are becoming more common and the reasons to consider them:

Investment policy statements. Most plans have these nowadays, though they vary a lot in quality. The worst are provided by advisers who try to draft models to protect themselves by listing every step they take when they review investments and expressing the standards as mathematical formulas that provide no flexibility. Formula policies are especially problematic if there are material changes that may alter future performance, such as a change in fund managers. The best investment policies set forth the criteria for selecting an appropriate investment menu and for monitoring and replacing underperforming funds, but don’t lock the company fiduciaries into taking or not taking specific actions.

Fee policy statements. Fee review can be part of the Investment Policy Statement, but more and more we are seeing separate fee policies that deal with issues such as revenue sharing and fund classes, regular benchmarking and even regular RFPs to compare fees. Given the focus of litigation on allegedly excessive fees, thinking carefully about a fee policy seems like good protection.

Internal controls policy. These policies aren’t just about preventing plan losses.They list processes to prevent operational violations of the qualification rules, such as making sure there are contribution suspensions after hardship distributions or that those distributions are made only for the proper reasons. They can be very helpful in the event of an IRS audit, which may not dig deeper if the appropriate controls are shown to be in place. They also can decrease the employer’s costs of correcting violations by permitting prompt identification and self-correction of violations without having to go through the Voluntary Corrections Program or Audit Cap.

Education policy. This helps insure that participants understand how the plan works, why they should contribute and basic investment information. It helps participants accumulate more, but it also helps employers by making it less likely that participants will complain that they haven’t received necessary information to make decisions or prepare for retirement.

Uncashed check/missing participants policies. Fiduciaries need to be doing more to deal with this problem. Both the IRS and the Department of Labor are looking at whether benefits are being distributed at age 70.5 as required, but the issue is much bigger. Fiduciaries should be making reasonable efforts to find people who are owed vested benefits through actions such as searching public documents and contacting beneficiaries listed for other plans. Often providers are lax about these issues and just want to escheat benefits that haven’t been claimed. An appropriate policy should be developed by consulting all parties involved.

Establishing the policies is just the first step. As helpful as having policies may be, not following them is worse than having no written policies at all. The plan’s fiduciaries should all be familiar with what the policies require. And you can’t set it and forget it. The law and the investment climate are always changing, and all plan policies should be reviewed and updated on a regular basis.

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