More On Legal & Compliancefrom The Advisor's Professional Library
- Whistleblowers A whistleblower is any individual providing the SEC with original information related to a possible violation of federal securities law. The Dodd-Frank Act established a whistleblower program that enables the SEC to reward individuals who voluntarily provide such information.
- Preventing and Dealing with Client Complaints Although the SEC has not provided specific guidance on how client complaints should be handled, a firms policies and procedures should provide clear direction how to do so, as neglecting complaints can exacerbate a bad situation.
The Securities and Exchange Commission's probe of payments that mutual fund companies make to 401(k) plan administrators and consultants should make it easier for advisors to help plan sponsors understand their plan's fees and expenses.
Now, it's "nearly impossible" for advisors to help plan sponsors get a handle on plan expenses because fund companies aren't required to disclose where the money is going, says Don Trone, president of the Foundation for Fiduciary Studies in Pittsburgh. As fiduciaries, plan sponsors must "control and account for investment expenses," Trone says, and "know who is being compensated for plan assets, and whether that compensation is fair and reasonable for the level of services provided."
Lori Richards, director of the SEC's office of compliance inspections and examinations, says the regulator wants to "better understand the nature and purpose" of the payments by funds and their advisors to 401(k) plans, plan consultants, and plan platforms. The SEC wants to know whether such payments are "reimbursements for plan expenses or payments for shelf space," she says. These questions were among those included in a detailed questionnaire that the SEC sent to a bunch of mutual fund companies in July. Vin Laporchio, a Fidelity spokesman, says the fund company "intends to answer the [SEC] request," but he declined to say what type of deadline fund firms are under.
Trone says it would be great if the SEC can find out who's receiving compensation from fund companies, and why. Plan sponsors could then see "where the revenues are flowing for asset placement, or preferred treatment, versus the actual rendering of a service," he says. An ongoing problem is that some parties continue to receive compensation even though they're not providing any services to the client, Trone says. For instance, introductory brokers receive trails for introducing clients, "but at what point does that trail end?" he asks. More disclosure is needed, Trone argues, because then "the plan sponsor can look at the list of vendors who are getting compensated." If the broker or vendor is still getting compensated after five years without rendering a service, Trone suggests it may be time "to turn off the spigot."
Compensation comes in three forms: 12b-1 fees, soft dollars, and transfer agency fees. Advisors can "press" fund companies for full disclosure of 12b-1 fees, Trone says, but it's virtually impossible to follow soft dollars. Transfer agency fees, too, are hard to track, he says, because it's "discretionary revenue that the mutual fund is collecting via the expense ratio to cover the fund family's expenses," which includes shareholder services. In the case of a 401(k), "portions of [the trails] are being shared with the providers because the provider has taken on shareholder responsibilities," Trone says. While not an unreasonable arrangement, Trone says advisors "would have no way of knowing what's been negotiated between the fund family and the provider."
Trone says mutual fund directors should be the ones keeping tabs on where transfer agency fees are going and directed brokerage arrangements. In the public dialogue between the SEC and fund companies, he says, the SEC has yet to specifically state that a fund director should "be acting as fiduciary on behalf of the shareholders."
Some industry officials speculate that the SEC's investigation signals the beginning of the end of 12b-1 fees. But Trone hopes this isn't true since 12b-1 and transfer agency fees offset the initial costs of setting up a defined contribution plan, and doing away with the fees could discourage the formation of more retirement plans.
Ward Harris of McHenry Consulting in Emeryville, California, told clients in a recent alert about the SEC probe that even if 12b-1 fees aren't abolished, the trend toward fee-based advisory services will accelerate, "which could substantially displace commission-based sales of [DC] plans." In addition, he says, "direct-sold institutional offerings and advice-based, advisor-sold plan services will likely dominate."
If the SEC does eliminate or reduce sales and service compensation, "it is possible that many intermediary sales professionals (registered representatives) will depart the retirement marketplace," Harris warns.
The Department of Labor is also looking into defined contribution plan fees and expenses. Louis Campagna, head of the division of fiduciary interpretations at DOL, said recently that Labor is being bombarded with questions about how to determine plan fees and expenses. DOL provides plan sponsors a worksheet at www.dol.gov to tally the costs they're incurring, but "even an industry expert would have difficulty completing the worksheet," Trone says. Moreover, he notes that the worksheet doesn't include "all the various parties that are being compensated."
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