Industry Thought-Leaders: 401k MEPs as Safe as Any Other 401k Plan
Plan sponsors and their 401k fiduciary brethren may one day look back at the current times as the “Era of 401k Fees.” After several years of debate, the summer of 2012 brought the implementation of the 401k Fee Disclosure Rule. Nine months later saw the airing of the controversial PBS Frontline show “The Retirement Gamble,” which (some say, incorrectly) emphasized “high” fees. The fact is, “high” fees have been the only choice for most small companies looking to offer a 401k plan to their employees. We say “most” because there has been a little used alternative where companies can enjoy the benefits of America’s most popular retirement plan option at a fraction of the cost.
It’s been around for a while but its availability is limited. It’s called the “Multiple Employer Plan” or “MEP.” Despite their apparent advantages from the standpoint of lower fees, however, Assistant Secretary of Labor of the Employee Benefits Security Administration (EBSA) Phyllis C. Borzi recently expressed concern to FiduciaryNews.com readers regarding the use of MEPs. “There are very real concerns about fraud and abuse,” she said. “In fact,” continues the Assistant Secretary, “one prominent open MEP promoter, Matthew Hutcheson, was recently sentenced to 17.5 years in prison for embezzling from an open MEP arrangement.”
Readers might also be interested in: Exclusive Interview with Phyllis C. Borzi: Why Plan Sponsors Shouldn’t Treat Their 401k Plans Like Cheap T-Shirts
Borzi’s statement prompted Terrance P. Power, President of The Platinum 401k, Inc. in Clearwater, Florida to write his own comment on the original article. He wrote, “I’m not quite sure what to make of Secretary Borzi’s comments about MEP ‘fraud and abuse.’ Matt Hutcheson was obviously a crook and has been dealt with accordingly, but he just as easily could have looted a single employer plan as a multiple employer plan.”
So, who’s right? Borzi or Powers? Ary Rosenbaum, Managing Attorney at The Rosenbaum Law Firm P.C. in Garden City, New York, says, “The Matt Hutcheson debacle was a stain on MEPs, but that debacle could have befallen any single employer plan. The MEP structure didn’t let Matt Hutcheson steal plan assets, any type of plan is prone to such a criminal mind.”
FiduciaryNews.com later contacted Power to get more of his thoughts. “In the 32 years that I’ve been involved in retirement plans,” he told us, “I’ve only seen a few cases of fraud or abuse. The first dealt with an internal payroll support employee who forged a signature on a plan distribution request and had the provider send her another participant’s investment account…..$60,000. Another instance was when an adviser had some sort of back-door non-disclosed “referral fee” arrangement with an independent record keeper. The adviser, while not admitting or denying the allegations, was fined and suspended by FINRA and was terminated by their broker dealer.”
Indeed, a quick review of the year-to-date listing on the DOL’s Current News Releases and Archives site shows dozens of fraud and abuse cases. It appears every single case involves single employer plans.
Marcia S. Wagner, the managing director of The Wagner Law Group, a national practice with its headquarters in Boston, Massachusetts, says, “We typically see three kinds of fraud and abuse in the 401k marketplace. A third party steals the identity of a participant and drains the participant’s plan account. An employee working for a third party provider, such as a TPA or investment manager, diverts funds from plan clients. But the most common act of fraud, hands down, is where a desperate employer uses employee contributions to meet the company’s immediate cash needs, instead of contributing them to the plan.”
In general, there are ways for all types of plans to prevent fraud and abuse. For one thing, newer regulations make it more difficult. Power says, “408(b)(2) disclosures have hopefully made back-door compensation arrangements a thing of the past. And provider distribution changes (no wires on non-rollover distributions) have made the possibility of someone wiring money into a fraudulent account less of a possibility.” Rosenbaum says it’s important to make sure “there is a custodian independent from any of the providers. While the idea of using one bundled provider is nice for a one stop shop, using independent providers offers a system of checks and balances.”
To help stop identity thefts, Wagner says, “many plans require all withdrawal requests to be notarized or witnessed by a plan representative. Fortunately, the theft of plan assets by third party providers is not a common occurrence. Plan sponsors should be sure to work with reputable plan providers with strong compliance controls and supervisory procedures for their employees. Although the mere fact that a provider has a large client base or a long track record in plan services does not guarantee that misconduct will not occur in the future, such information should be considered when plan sponsors make their hiring decisions. The Form 5500 reporting requirements under ERISA require an independent financial audit to be performed by a CPA firm annually for large plans with 100 participants or more, which also discourages fraud and abuse. Finally, participants should check their plan account balances from time to time to ensure their contributions are being posted to their accounts on a timely basis.”
But there are also structural ways to reduce fraud and abuse. Power says, “The majority of fraud and abuse likely occurs in the small plan market, since these plans are typically not subject to an independent annual plan audit. The United States is unique in allowing an employer the ability to run their own plan for their employees….most countries require an outside independent professional fiduciary that will oversee the program for the benefit of the participants. I think that our industry is seeing this as a general trend with the interest in 3(16) Plan Administrator and Multiple Employer Plan solutions.” Echoing Rosenbaum, Wagner says, “if a plan works with multiple independent providers, rather than a single bundled provider, the plan sponsor should periodically ask each provider if it has any reason to believe that any party is engaging in any kind of misconduct.”
If MEPs appear to be just as safe as any other retirement plan in terms of fraud and abuse, what is the source of Borzi’s concern? Wagner says, “The DOL appears to believe that MEPs are more susceptible to fraud and abuse, in comparison to traditional 401k arrangements where the employer has primary fiduciary oversight responsibilities for the plan. With MEPs, a third party provider assumes this responsibility, so there is a policy concern that plan assets may be more likely to be mishandled by a provider, in light of the lack of employer oversight. According to a recent GAO Report (GAO-12-665), labor officials said that potential abuses in MEP arrangements might include the layering of fees, the misuse of plan assets or the falsification of benefit statements.”
Powers is more circumspect. He says, “It really depends on the structure of the MEP. It would be helpful to have guidelines from the Department of Labor on this. Individuals have committed fraud or theft against all types of retirement plans since before ERISA. The type of plan has very little impact as to whether or not it is a target. If there is someone with criminal intent overseeing the plan, there’s going to be problems.”
On the other hand, Rosenbaum questions why there’s any greater than average concern regarding MEPs. “Any plan whether a MEP or not is susceptible for fraud and abuse,” he says. “I think MEPs are less susceptible thanks to their size and their often use of multiple providers. Being a plan that requires an independent audit, it’s more likely the assets are where they say they are rather than a plan with no audit.”
Assuming there is a concern, MEPs can take specific actions that might help prevent fraud and abuse. Power says, “It’s a matter of checks and balances. I don’t think that the 3(16) Plan Administrator should also be providing 3(38) services. I also don’t think that the plan sponsor should be able to receive any asset-based compensation from the plan (excluding funds in a PARA account or ERISA bucket that are used to cover certain plan operational expenses). I’ve heard stories of some MEPs where the QDIA option is a suite of risk-based investment funds where fees are paid back to the MEP sponsor. I don’t know how this cannot be a prohibited transaction.”
Rosenbaum recommends “having a plan sponsor that is fully independent from the other providers, especially the investment advisors on the plan.” He also likes “having a plan that is participant directed with assets held by a well-known custodian.”
“There are many ways that MEPs can be set up to help minimize the risk of any potential fraud or abuse,” says Wagner. “Rather than having a single entity and its affiliates run all plan-related services, the MEP could be established so that it is operated by separate, independent providers. For example, you could have a TPA firm serve as the 3(16) fiduciary with primary administrative responsibility for the MEP, working alongside an independent recordkeeper, as well as an independent investment manager that oversees the plan’s investments. By having unrelated and highly qualified providers working together, the MEP has automatic ‘checks and balances’ in place to help ensure no single provider engages in any misconduct. If the MEP’s financial statements are audited annually by a qualified CPA firm, the independent audit would further limit any provider’s ability to mishandle plan assets. The MEP could also engage in an independent party, such as a law firm or consulting firm, to perform a fiduciary audit of the MEP on an ongoing basis.”
If there are ways to mitigate fraud and abuse in MEP plans, then the question becomes what advantages can they offer? Power says, “MEPs – or the more ‘a la carte’ 3(16) plan administrator arrangement – can offer a huge fiduciary liability offload for an employer….as well as a reduction in the employer’s workload. The decision as to which is better depends on the employer. Some are happy with a pre-packaged program where everything is already selected (think ‘Value Meal’) or the more customized 3(16) option (think ‘a la carte’….ordering off the menu). Additionally, MEPs can eliminate many billable fees to an employer, such as the upcoming Document Restatement fees that will impact most 401k plans beginning in mid-2014. Existing plans facing restatement charges can, in most cases, simply merge their existing plan onto a 413(c) multiple employer plan to satisfy this requirement.”
“An MEP is only as good as its providers,” says Wagner. “It is critical for employers to consider MEPs that are operated by high quality, reputable providers. An MEP does not eliminate all of an employer’s fiduciary responsibilities, and the employer must investigate the prudence of participating in any particular MEP. But MEPs provide a great alternative for employers that would prefer to have their plans managed by qualified providers for the benefit of their employees.” When these issues are addressed, Wagner says “MEPs really are a great solution for employers, especially small employers.”
Rosenbaum says there is “obviously less liability. The ability to group your assets with other companies to get more affordable plan services on scaled pricing. Being a plan sponsor incurs more liability, especially with benchmarking fees and choosing plan providers. MEPs are almost like a valet service for plan sponsors if done correctly.”
Power is encouraged by legislative proposals in the U.S. Senate by Senators Hatch and Harkins that appear to support the concept of multiple employer plans. He sees “the MEP as being a great solution for the lower end of the retirement plan marketplace.”
Interested in learning more about this and other important topics confronting 401k fiduciaries? Explore Mr. Carosa’s book 401(k) Fiduciary Solutions and discover how to solve those hidden traps that often pop up in 401k plans.