North Pier Fiduciary PIERspective (January 19th, 2012)

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North Pier Fiduciary PIERspective – Brant Griffin (January 19th, 2012)

Governor Brown Proposes Sweeping Reforms to California’s Pension System

To combat its rapidly growing pension costs, California Governor Jerry Brown has proposed a sweeping overhaul of its Public Employees’ Retirement System.

California’s strained budget is aggravated by ballooning pension obligations to current and future retirees; many have called the current system unsustainable. According to the State Department of Finance, today’s pension expense for California’s more than one million employees is approximately $3 billion annually, and is rapidly increasing. The Brown Administration acknowledges that significant short-term savings are not attainable, but claim savings of $4 – $11 billion over the next 30 years are achievable with these reforms.

Brown’s proposal would require future state employees to retire at 67, instead of at the current age of 55. This plan would also provide less-generous retirement benefits for newly hired state workers and require all public employees (including those in many municipalities, counties, and school districts) to contribute at least half the cost of their retirement. Additionally, up to a third of a worker’s retirement income would come from a defined contribution type arrangement, rather than the current funding vehicle, a defined benefit plan, where the State assumes the investment risk.

The plan calls for a reform of collective bargaining rules and would restrict what public employees could demand in the contract negotiation process with state and local municipalities. The governor’s proposal also eliminates the option to purchase retirement service credits that boost state worker’s pensions by adding time to their employment record.

The Golden State seems to be following the lead of other states that have tried to modify their retirement arrangements and minimize the pension liabilities for future employees. California’s national standing could elevate the presence of this issue with the adoption of these reforms. While some state employee labor leaders have indicated a willingness to collaborate on proposals, it is likely that most may resist many of these initiatives or risk alienating their constituents.

DOL Project Probes Improper Compensation from ERISA Plans

The DOL is increasing its investigations into broker-dealers’ and Registered Investment Advisers’ services to ERISA retirement plans. The DOL’s Consultant / Adviser Project (CAP) is a national enforcement initiative designed to focus on the receipt of improper or undisclosed compensation by broker dealers, consultants and investment advisers serving qualified retirement plans. The CAP investigations will determine whether the receipt of such compensation, even if disclosed, violates ERISA. The examination will also identify potential criminal activity, such as kickbacks or fraud.

Formal guidelines outlining what might trigger an investigation are not available, but it is a common belief that some examinations may be linked to referrals by other security regulators. Although the program has been around for several years, the DOL is likely to use this enforcement technique more prominently as a result of the newly issued participant-level and 408(b)(2) disclosure regulations.

A DOL Investigation will require the release of multiple documents, including consulting agreements with advisers. A review of these contracts would likely detail the fiduciary standing of the advisory organization serving the plan sponsor as well as its compliance with current regulations. To address potential violations that may be uncovered, such as the failure to adhere to plan investment guidelines and improper selection or monitoring of its consultant or adviser, the DOL may also investigate individual plans.

It is clear that the regulators intend to monitor the advisory community and its relationships with plan sponsors more critically. Sponsors should be aware of the increasing regulatory scrutiny and CAP initiative, and consider examining their current adviser relationships so they do not get caught in the crossfire.

Wal-Mart, Merrill Lynch Agree to Pay Settlement in 401(k) Fiduciary Lawsuit

In the Missouri federal court decision of Braden v. Walmart, $13.5 million was agreed to in a settlement that should serve as a reminder of the importance of identifying basic conflicts of interest that may exist in ERISA plan service arrangements.

This suit claimed that Wal-Mart (the world’s largest private employer) breached its fiduciary duty to the nearly 2 million past and present employees in the company’s $10 billion 401(k) plan. The settlement provides that the agreed amount be paid directly to the plan to offset certain plan expenses and administration fees. This would reduce the amount the costs that otherwise would be charged to future individual participant accounts.

The plaintiffs alleged that Merrill Lynch, the broker dealer hired by Wal-Mart as the plan’s recordkeeper and investment consultant, also functioned as a fiduciary in its role serving the plan.

Although, neither Wal-Mart nor Merrill Lynch has admitted any wrongdoing, Wal-Mart indicated it would begin to offer investment options with reasonable fees, remove mutual funds that charge high fees and provide more financial education to its employees. As part of the settlement terms, Wal-Mart will also retain an independent fiduciary to advise it on the selection and monitoring of the plan’s investment options, and regularly review potential conflicts of interest in the plan. This settlement is only one of many cases claiming fiduciary breaches relating to excessive plan fees. The case followed the classic allegations of other excessive fee suits, including Caterpillar and General Dynamics, when the plaintiff’s accusation was that the plan offered mostly mutual funds with higher-cost, retail-like fees instead of institutionally priced investments, when the plan was clearly large enough to negotiate lower fees.

However, the most explosive outcome of this case is not simply the result of this plan fee case, but that Merrill Lynch would pay as much as $10 million of the settlement. This is presumably because of the allegation that Merrill Lynch acted as a fiduciary while serving Wal-Mart’s plan and breached its duty by offering investment managers based on the amount of revenue sharing it would receive. This alleged action violated ERISA because the company used its role to generate additional fees for itself or its affiliates.

Survey Reveals Sharply Lower Economic Outlook, yet Greater Commitment to Retirement

Americans are more committed to save for their retirement despite growing pessimistic views of the economy, according to 2011’s Mercer Workplace Survey™. In 2010, most
participants viewed the economy as improving, but were pessimistic about their personal situation. In 2011, the results were reversed. The 2011 survey found:

  • 42% of Americans expect a recession, up from 23% in 2010 (of that, 45% of them fear job loss and are planning to delay retirement, up from 36% last year).
  • Over the past year, 41% of participants claimed to have increased their 401(k) contribution rate, up from 31% last year.
  • 40% reallocated their existing portfolios; up from 33% last year, and 38% reallocated their future contributions, up from 29% last year.
  • 11% of the participants indicated that they plan to increase their contributions to their 401(k) plans, up from 8% last year.
  • 85% feel confident in their 401(k) asset allocation, 83% in their investment selection and 77% in their contribution amount – showing astounding improvements over 2010 as well as pre-recession results.

The increase in the sense of personal accountability among retirement plan participants is welcoming news for plan sponsors and their on-going efforts to increase employee engagement
in the retirement planning process. The results indicate that participants are saying they cannot rely on the financial markets, their employer or the government to build their retirement savings, and that they must take personal control. Plan sponsors should consider this as a unique opportunity to offer and promote resources and tools to encourage participants to make wellinformed retirement decisions.

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