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On Self-Directed Brokerage Accounts

By Jessica Maldonado AIFA® PPC™

Vice President – Searcy Financial Services Inc: www.SearcyFinancial.com

Self-directed brokerage accounts (SDBAs) have long been a loophole to allow plan participants with larger account balances (generally physicians, practice owners, principals, and partners) in a retirement plan the ability to “do their own thing” in investing their accounts.

The theory was that if you open a “window” and a separate account, then the assets held within that account would no longer be managed as part of the plan’s investments because the SDBA was considered a single investment option.

However, due to eleventh-hour guidance provided by the U.S. Department of Labor (DOL) in regard to the new 408(b)(2) service provider fee disclosure rule, now in effect, these SDBAs may create headaches large enough for plan sponsors to stop allowing these windows to operate if a manageable solution is not presented to account for all fees incurred and services offered within SDBAs.

The DOL Issue

The issue is how these accounts are being viewed by the DOL.  While SDBAs have generally been accepted to lie outside the monitoring responsibility of plan sponsors (former laws didn’t actually allow this, but regulations were never strict enough to discourage the practice), they will now be viewed the same as all other investments in the plan.  Thus, when plan sponsors account for all fees and services associated with their company’s retirement plan, they will now also be required to account for any fees and services associated with the SDBAs for everyone in their plan that has this type of account.

The New Rule

The purpose for the new rule requiring a reporting of all fees associated with the plan is to allow participants a transparent view of how and what fees are paid, and to allow plan sponsors an easy way to aggregate all fees and compare to a benchmark to see if their fees are “reasonable”.  The terms “reasonable” and “reasonableness” occur in the regulation a whopping 49 times; clearly the primary focus of the regulation.  According to the fact sheet distributed by the DOL, the first quarterly statement must “be furnished no later than November 14, 2012 … This quarterly statement need only reflect the fees and expenses actually deducted from the participant or beneficiary’s account during the July through September quarter to which the statement relates.”  Plan sponsors and participants can anticipate seeing the new disclosed fee report at that time.

Lost Options

Participants utilizing the SDBAs as a way to purchase investments of their choice beyond the core offerings of their plan may become disgruntled if the option is no longer offered by their company-sponsored plan.  However, the fiduciaries on the plan are responsible for making sure plan expenses are reasonable and are therefore “on the hook” from a liability standpoint for monitoring those expenses and the corresponding services provided.  Therefore, plan sponsors must be proactive and prepared with a manageable solution.

Fee Disclosures

Fee disclosures will be required of all “covered service providers” that expect to receive $1,000 or more for providing services to a retirement plan.  The $1,000 is cumulative over the entire life of the service provider relationship.  These providers must supply actual expenses charged to each participant, including fees paid for fiduciary and non-fiduciary services, third-party administrator fees, record-keeping fees, and any other services provided.  These expenses must reflect both direct and indirect compensation, including revenue-sharing between service providers.

Options for Plan Sponsors

• Offer Core Investment Choices Only

By only offering a set number of core investment choices for plan participants, plan sponsors can account for the exact investments for which their participants have access.  This option will utilize one main service provider (generally the record-keeper) who will be responsible for disclosing all fees related to that retirement plan to the participants.  All service providers would therefore report their fees for services to both the plan sponsor and the record-keeper for consolidation onto participants’ statements.

However, taking away the optional window may result in disgruntled employees, especially those who viewed the SDBA as a perk to employment since they may have wanted to have a professionally managed portfolio by their advisor of choice.  One possible solution to this would be to offer managed portfolio options within the core fund line-up.  If you choose to go this route, make sure the money manager doesn’t cost extra.  A professional ERISA 3(38) money manager should provide the managed portfolios and be responsible for the plan’s fund line-up for the same cost.

• Require Employees’ Financial Advisors Supply Fee Disclosures for SDBAs

Plan sponsors have the option of continuing to offer SDBAs to employees and requiring their financial advisor deliver the fees disclosures for any fees associated with the account.  This could include fees from opening a brokerage window, any third-party service providers utilized on the account and all investment related fees, as well as trading costs.  Advisors would have to supply the information to plan sponsors within a reasonable period of time.  If they fail to do so, plan sponsors should notify the advisor of the request for fee disclosures, and if they do not comply promptly, according to ERISA guidelines, the advisor MUST be fired immediately as approved service provider and they must be reported to the DOL, or the plan will be in violation of prohibited transactions rules.  Prohibited transactions rules violations can disqualify a plan, so this is a very serious matter.  Clearly, if a plan has hundreds of these SDBAs, this could be quite cumbersome for a plan sponsor.

• Establish Delivery vs. Payment Accounts

A delivery vs. payment (DVP) account is a way for a plan to maintain all of the assets of the plan at one record-keeping and/or custodian platform, but allow outside advisors to trade on individual participants’ account.  A DVP account acts as a transaction account and only contains a balance when a trade is being placed.  The custodian essentially transfers the assets to the account where the DVP account is set up when the trade is placed, and then the assets are transferred back to the original custodian of the assets.  That way, the original custodian and record-keeper always know exactly what’s in the account and they are responsible for all of the fee disclosures.  So, this eliminates hundreds of SDBAs and instead keeps everything on one platform.  If advisors are to be paid from plan assets, the advisors would submit their bills to the plan’s record-keeper for payment so the record-keeper would always know exactly what the fees are being paid from the participants account.

• Engage an Expert Offering Both Plan-Level and Self-Directed Accounts

There are financial advisors who practice personal investment management and offer retirement plan solutions.  By engaging a financial advisor who can offer both components to plan sponsors and participants (oversee the plan management for the plan sponsor and oversee the SDBAs for employees), the plan sponsor can rely on one source for the fee disclosures.

Assessment

Now, as a physician or medical professional, do Self-Directed Accounts in Retirement Plans spell trouble for you?

Conclusion

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