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403(b)s Embracing 401(k) Standards: IA Retirement Plan Advisor for May 2010

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Contrary to expectation, many 403(b) plans–particularly those in the private non-profit space–have actually made it a point to embrace a boatload of complex regulations from the U.S. Treasury Department and the Internal Revenue Service (IRS) that came at them in 2007 and as a result, are starting to increasingly resemble their 401(k) counterparts.

Aaron Friedman, national practice leader, non-profit, at Des Moines, Iowa-based Principal Financial Group, believes this momentum is set to continue. The regulations, which took effect in 2009 and were issued by the Treasury Department and implemented by the IRS, represented the biggest regulatory action on 403(b)s in over 40 years, and addressed such areas as plan documentation, investment transfers, non-discrimination rules, and application of limitations. They are rigorous and require an effort to understand and implement, Friedman says, yet a greater number of plans have been making it a point to adhere to the fiduciary requirements that the regulation calls for.

“On the non-profit [403(b)] side, we are seeing a greater adherence to ERISA,” he says. “We are seeing plans looking to centralize control and offer features like automatic enrollment and matching contribution. A greater number of plans are being modernized and enhanced as a result of this regulation with the general idea being that ‘if we turn this plan into a valid employee benefit, then we can both attract and retain employees.’”

Principal Financial Group sponsored Chicago-based Profit Sharing/401(k) Council of America’s (PSCA) recently released survey of the 403(b) world. The “2010 403(b) Plan Survey” showed that 57% of plan sponsors made changes to their 403(b) plans because of new regulations. That is a higher percentage than the 41% that said they planned to make changes when the same survey was conducted in 2008.

“It’s clear from the survey that there’s been a lot of changes to the system than people originally anticipated making, and the good news is that significant progress has been made in the 403(b) space,” says David Wray, PSCA’s president. “However, the 403(b) system is large and it will take years for the entire system to come into compliance with the new regulations. It takes time for people to understand what the rules are and what to do about them, but the good news is that we have come a long way.”

One of the main changes that has been implemented as a result of the regulation is the consolidation of providers to 403(b) plans–an issue that had raised several red flags in the past.

“Our data indicated that for folks in this survey, 78% have one provider, 11% have two, 7% have between three and five and four have six or more,” Wray says. “This was a big one because some of these folks used to have many, many providers with different contracts and they had no consistency of reporting results. People clearly indicated that there were more choices than they thought they would make, but one of the choices they did make was reducing the number of providers.”

The survey also showed an increase in the number of plans permitting Roth after-tax contributions (13.9% in 2009, up from 10.9% in 2007) and its results indicated that only 1.3% of participants took hardship withdrawals in 2009 even though 76% of plans allow them to.

The survey also highlighted the fact that just over 48% of smaller companies (firms with between one and 49 employees) made changes as a result of the new rules, but 70% of companies with 200 employees or more implemented changes. Smaller companies are still unclear about many things, not least whether their plan falls under ERISA, Wray says. But providers are working hard to reach out to these plans and explain things to them, he says.

Currently, there are fewer advisors working in the small plan space, says Friedman, but these plans have significant balances in them, so they are an attractive area for advisors to work in. Advisors are showing a greater interest in working with 403(b) plans in general (currently, only 41% of 403(b) plans employ an independent advisor, compared to 69% in the 401(k) space), and firms like Principal Financial offer a suite of tools and products that aim to give advisors the knowledge they need to work in the space, Friedman says.

He believes that going forward, 403(b) plans will continue to take a hard look at whether they are in regulatory compliance or not, and they will be adding modernization features. More and more plans will add auto-enrollment, built-in education statement procedures and matching contributions, he says.

“The objective of the PSCA 403(b) Plan Survey is to provide much-needed benchmarking data for 403(b) plan sponsors as they develop and maintain their plans. This year’s significant increase in respondents shows that the survey is becoming a trusted, credible benchmarking source for the 403(b) market,” Friedman says.

Results of the survey, a summary and the full report are available at