Current outlook – 2017 year in review

January 15, 2018

In this article we briefly review some of the retirement savings policy issues we covered in 2017 and provide links to previously published articles providing more detail. We begin with tax reform legislation and developments with respect to DOL’s fiduciary rule.

Tax reform

We recently posted an article on final tax reform legislation passed by Congress and signed by the President in December. In summary:

The legislation makes no major change to retirement savings tax policy, either directly or through changes, e.g., to investment tax rates. This is generally good news: most critically, Congress rejected a proposal to automatically “Rothify” all or a part of 401(k) salary deferrals.

Reduced corporate rates are, in the view of many, likely to translate into increased equity valuations and returns and that this is reflected in stock market performance this year. This increase in value/returns increases the retirement savings tax benefit, because, in a qualified plan, these gains go untaxed. Participants may not understand the theory here, but they do appreciate the performance of, e.g., their 401(k) savings.

Because of the (general) reduction in tax rates, the “deduction” (technically, exclusion) for, e.g., 401(k) salary deferrals will go down for most taxpayers. This may reduce the appeal of retirement savings at the margin for some. But the limitation on the deductibility of state and local taxes may increase their appeal in some areas. Technically, however, this change has little affect on the actual retirement savings tax benefit. (In the latter regard, see our article Retirement savings tax incentives – the current system.)

The reduced tax rate for “pass through” individual business income might cause some owner-dominated businesses to reconsider the non-tax benefits of offering plans. There are, however, a lot of limits on this treatment, e.g., it’s generally unavailable to professional services companies. And going the “pass through only” route (with no retirement plan) is generally only appealing where the owner is the only or one of the few high-tax payers. Firms of any size will still want to maintain plans to benefit their high-paid (non-owner) and other employees.

2018 Congressional agenda

In May 2017 we posted an article reviewing several bipartisan retirement policy initiatives being considered by Congress. Only one – extending the period for rolling over unpaid loans on termination of employment – was included in the tax reform bill. But these proposals, some of which were included in the House version of tax reform, remain on Congress’s agenda.

DOL’s fiduciary rule

In 2017, most of the activity with respect to the Department of Labor’s fiduciary rule centered on the review ordered by President Trump, the delay (in certain respects) of its effective date and guidance on its enforcement (particularly during the delay period).

On January 13, 2017, DOL released two sets of FAQs in a second round of guidance on the fiduciary rule. And, on August 4, 2017, DOL published new FAQs, stating (among other things) that it would not be “fiduciary investment advice” to encourage additional contributions to a plan or IRA to “maximize the value of employer matching contributions or … to meet objective financial retirement milestones, goals, or parameters based upon the participant’s age, time to retirement or other similar measures” provided no specific investment recommendations are made.

On February 3, 2017, President Trump issued an executive memorandum instructing the DOL to “examine the Fiduciary Duty Rule to determine whether it may adversely affect the ability of Americans to gain access to retirement information and financial advice.” DOL was instructed to consider whether the rule: (i) “has harmed or is likely to harm investors due to a reduction of Americans’ access to certain retirement savings offerings;” (ii) “has resulted in dislocations or disruptions within the retirement services industry;” and (iii) “is likely to cause an increase in litigation, and an increase in the prices that investors and retirees must pay.”

On April 7, 2017, DOL delayed the rule’s applicability date until June 9, 2017. DOL also delayed compliance with certain requirements of the Best Interest Contract (BIC) Exemption (and other exemptions) that were part of its “regulation package” until January 1, 2018 (the “limited applicability period”). Until that date, “fiduciaries relying on these exemptions for covered transactions [are required to] adhere only to the Impartial Conduct Standards (including the “best interest” standard), as conditions of the exemptions.” Thus, generally, the exemptions’ written contract, disclosure and pay policy requirements do not apply during the limited applicability period. On November 27, 2017, DOL finalized a regulation extending the limited applicability period another 18 months, to July 1, 2019.

On May 22, 2017, DOL published Field Assistance Bulletin 2017-02, “Temporary Enforcement Policy on Fiduciary Duty Rule,” and a set of FAQs on how the rule will apply during the limited applicability period.

On June 30, 2017, DOL released a “Request for Information Regarding the Fiduciary Rule and Prohibited Transaction Exemptions,” asking for comments/information on a number of issues that DOL has indicated it is interested in.

In sum: the rule’s Impartial Conduct Standards are currently applicable, but, e.g., the exemptions’ written contract, disclosure and pay policy requirements are delayed until July 1, 2019. In the interim, DOL is, in effect, considering how much of the 2016 regulation package to apply going forward. For more details on the issues DOL is considering, please see our article on the finalization of the rule extending the limited applicability period to July 1, 2019.

Court challenge to the fiduciary rule

The other major development with respect to the fiduciary rule was in the courts. On February 8, 2017, the United States District Court for the Northern District of Texas (Dallas Division) ruled in favor of DOL in Chamber Of Commerce of the United States of America, et al. v. Edward Hugler, Acting Secretary of Labor, the lawsuit brought by the Chamber of Commerce and other industry groups challenging the legality of the fiduciary rule. On July 31, 2017, the Fifth Circuit heard arguments on the appeal of this ruling. It seems reasonable to expect a ruling in that appeal in 2018.

State plans

A number of states are implementing programs that would require employers that do not offer a retirement plan to adopt an auto-IRA – a payroll deduction IRA into which all employees would be defaulted, subject to an opt-out right. These programs present issues (for the states) of possible ERISA coverage and/or preemption. In 2016, the Obama DOL adopted regulations providing a “path forward,” in effect “exempting” these programs from ERISA coverage.

In April and May 2017, Congress passed Congressional Review Act legislation effectively voiding the DOL “path forward” for mandatory city and state auto-IRA programs.

After making some modifications to its program, the state of Oregon has proceeded with its implementation. California and Illinois are also proceeding, although they are not as far along in the process as Oregon, which began rolling its program out in July 2017.

On October 12, 2017, the ERISA Industry Committee filed a suit in the United States District Court for the District of Oregon, asking the court to declare that Oregon’s program is preempted under ERISA to the extent that it requires “ERISA plan sponsors operating in Oregon to file certificates of exemption to avoid having to register to administer the Oregon Retirement Savings Plan.”

IRS adoption of new mortality tables

On October 5, 2017, the IRS published (1) final regulations/mortality tables for determining the present value of benefits under defined benefit plans for funding, PBGC premiums and lump sum valuations, (2) a revenue procedure for sponsor requests for the use of plan-specific substitute mortality tables and (3) a notice providing updated static mortality tables for 2018. The regulations generally track IRS’s December 2016 proposal, but they do include some important transition rules not in the proposal, including an option for most plans to delay the effect of the new tables until 2019.

On October 20, 2017, the Society of Actuaries released its MP-2017 mortality improvement scale showing a year-over-year increase in the age-adjusted U.S. mortality rates. On December 15, 2017, IRS issued Notice 2018-02, Updated Mortality Improvement Rates and Static Mortality Tables for Defined Benefit Pension Plans for 2019. We will be providing a brief note on this update shortly.

PBGC and ERISA Title IV

In October 2017 we provided an article outlining a strategy for reducing PBGC variable-rate premiums, by splitting a single plan into two plans, one covering participants subject to the variable-rate premium headcount cap and the other covering those who are not. Such a strategy may reduce PBGC variable-rate premiums in two ways. First, it can be used to maximize the effect of the headcount cap. And, second, it may allow the sponsor to make contributions that reduce variable-rate premiums where the headcount cap would otherwise prevent that result.

In June 2017 we provided an article outlining the multiemployer plan financial crisis and proposed solutions to it, noting that any ultimate solution (if there is one) is likely to involve some sort of federal bailout. That bailout could possibly involve single employer plans in some way. One proposal introduced in Congress in 2017 would fund multiemployer plan benefits by transferring assets from the PBGC single employer program and capping contributions to defined contribution plans, to generate tax revenues to pay for direct federal Treasury funding. Related to that issue, in November 2017 we posted an article reviewing PBGC’s Fiscal Year 2017 Annual Report, discussing the financial condition of and prospects for the single employer program and (more briefly) some issues presented by the precipitous decline of the multiemployer program.

At the end of 2016, the (Obama Administration) Pension Benefit Guaranty Corporation amended the web page describing its Early Warning Program to include elements of a sponsor’s financial condition as “triggers” initiating PBGC action. The change was controversial and was criticized by both industry representatives and PBGC’s Participant and Plan Sponsor Advocate. In May 2017, the (Trump Administration) PBGC “updated” the web page to remove the sponsor financial condition Early Warning triggers. In our article we reviewed the 2016 and 2017 changes to PBGC’s Early Warning Program and Obama and Trump Administration PBGC policy more generally.

We provided two articles on missing participants, the first reviewing current rules and practice and the second reviewing the PBGC’s proposal to expand its missing participant program. PBGC’s rules were finalized in December 2017, and we will shortly be providing a review of those new rules.

Fiduciary litigation

401(k) fee litigation continued in 2017, with no signs of any let-up. Other retirement plan-related litigation included continued stock drop litigation and cases brought challenging the legality of the use of money market and (allegedly) overly conservative stable value funds.

401(k) fee litigation:

Tussey v. ABB: The Eighth Circuit reviewed, for the second time, the decision (on remand from an earlier Eighth Circuit decision) by the United States District Court for the Western District Of Missouri in Tussey v. ABB and, for the second time, sent the case back for further consideration – this time on the issue of damages. Critically, the court held that the lower court’s finding that plan fiduciaries had been disloyal (1) stripped away the fiduciaries’ right to deference with respect to their judgments (disloyalty is not a “judgment”), (2) cannot be defended on the grounds of “objective” prudence (the issue is disloyalty not imprudence) and (3) (arguably) exposed the fiduciaries to the possibility of liability based on a speculative damages theory.

Bell v. Anthem: The 2016 401(k) plan fee complaint filed in Bell v. Anthem pushed the limits of the ERISA prudence standard for the selection of funds for inclusion in a 401(k) plan fund menu. In Anthem, plaintiffs alleged (among other things) that plan fiduciaries breached their duty of prudence when they selected an index fund with an expense ratio of 4 basis points when an “identical” fund was available (from the same fund company) that only charged 2 basis points. Further, plaintiffs alleged that plan fiduciaries violated ERISA’s prudence standard by not using “less expensive” separate accounts and collective trusts, citing the DOL for the proposition that “separate accounts … can ‘commonly’ reduce ‘[t]otal investment management expenses’ by ‘one-fourth of the expenses incurred through retail mutual funds.’” On March 23, 2017, the United States District Court Southern District of Indiana denied defendant-fiduciaries’ motion to dismiss on these issues.

White v. Chevron: On May 31, 2017, the United States District Court for the Northern District of California dismissed, for the second time, plaintiffs’ complaint in White v. Chevron. Chevron has many facts in common with other 401(k) plan fee cases – plaintiffs generally challenge as imprudent the use of certain funds in the plan’s fund menu and the revenue sharing-based fees paid to the plan’s recordkeeper. The decision is interesting for its discussion of plaintiffs’ duty of loyalty claim and its dismissal of plaintiffs’ claims based on the availability of “identical lower-cost share classes.” It can be seen as taking a different view of these issues from the courts in Tussey, Anthem and Tibble v. Edison.

Financial Engines-related cases: In some 401(k) fee litigation, plaintiffs have alleged that fee sharing arrangements between platform providers and Financial Engines violates ERISA fiduciary rules. On September 22, 2017, the United States District Court for the District of Massachusetts found for defendant in Fleming v. Fidelity, holding, among other things, that the decision to retain FE, and the amount of fees FE would be paid, was made by plan fiduciaries, not by the defendant provider (Fidelity). The court reached a similar conclusion with respect to the use of Fidelity’s directed brokerage product.

In-house plans: There have been a number of recent lawsuits brought against financial services companies alleging prohibited ERISA “self-dealing” with respect to the use of proprietary funds and services for plans they maintain for their own employees. We provided an article reviewing the issues presented by these self-dealing cases for plan fiduciaries.

Money market and stable value funds: In addition to (and, sometimes, as part of) plaintiffs’ 401(k) plan fee lawsuits, some plaintiffs have sued sponsors challenging the prudence (under ERISA) of the use of money market funds as capital preservation vehicles. In a related sort of case, plaintiffs have also filed suits against providers and (in at least one case, a plan sponsor) challenging stable value fund investment strategy. Defendants have generally won these cases. We posted articles reviewing litigation on these issues in Bell v. Anthem (money market) and Barchock v. CVS (stable value) and in Ellis v. Fidelity (stable value).

Stock drop litigation

In Fifth Third Bancorp et al. v. Dudenhoeffer, the Supreme Court rejected the “presumption of prudence” rule for plan investments in company stock, replacing it with, in effect, a presumption that acquisition of a company’s publicly traded stock at a market price is prudent.

Stock drop cases since Fifth Third have focused primarily on the issue: in what circumstances can non-public “inside information” provide the basis for an ERISA prudence claim? In this regard, and as instructed by the Supreme Court in Fifth Third, courts have focused on the issue of whether a prudent fiduciary might conclude that the (inevitable) disclosure of the (alleged) inside information would do “more harm than good,” e.g., by triggering a drop in stock value that would negatively affect stock already held by the plan.

In In Re: Wells Fargo ERISA 401(K) Litigation, the United States District Court for the District of Minnesota dismissed plaintiffs’ insider information-based stock drop complaint, concluding that the factors involved in the “more harm than good” analysis make the fiduciary’s job nearly impossibly complex. As the court observed, “[a] dozen fiduciaries in the same position could weigh the same factors and reach a dozen different (but equally prudent) conclusions about whether, when, how, and by whom negative inside information should be disclosed.” Thus, “[i]n light of the inherently uncertain nature of this task, plaintiffs will only rarely be able to plausibly allege that a prudent fiduciary ‘could not’ have concluded that a later disclosure of negative inside information would have less of an impact on the stock’s price than an earlier disclosure.”

The other open question under Fifth Third is what “special circumstances” may provide a basis for an ERISA stock drop claim based solely on public information. We posted an article on the United States District Court for the Eastern District of Missouri’s decision for defendants in Lynn v. Peabody Energy, discussing whether “impending bankruptcy” constituted such a special circumstance. Our article also reviews other decisions on this issue.

Billing expenses to the plan

Some plan sponsors bill their plans for the services the sponsor provides to them. That practice, while permitted under certain circumstances, does present certain issues under ERISA. In May 2017 we provided an article briefly reviewing the rules under which a sponsor/fiduciary may be reimbursed for expenses, some of the pitfalls those rules present, and some recent litigation on the issue.

Distributed ledger technology and its effect on retirement plan administration and regulation

In August 2017 we provided two articles on distributed ledger technology (sometimes referred to as blockchain). Our first article provides background on what distributed ledger technology is, including its basic components and its relationship to Bitcoin. The second article discusses some of the practical effects on retirement plan administration that may result from the adoption of distributed ledger technology by the financial services industry as a whole and by retirement plan sponsors and service providers. We then consider the policy implications of some of these changes. We conclude with a brief discussion of some legal/ERISA issues that distributed ledger technology may raise.

* * *

We will continue to follow these issues in 2018.

October Three Consulting, LLC is a full service actuarial, consulting and technology firm that is a leading force behind the reemergence of defined benefit plans across the country. A primary focus of the consultants at October Three is the design and administration of comprehensive retirement benefits to employees that minimize the financial risks and volatility concerns employers face.

Through effective plan design strategies October Three believes successful financial outcomes are achievable for employers and employees alike. A critical element of those strategies is the ReDB® plan design. The ReDefined Benefit Plan® represents an entirely new, design-based approach to retirement and to the management of both the employer’s and the employee’s financial risk, focusing on maximizing financial efficiency and employee value.

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