The Enron debacle, as well as other corporate scandals, opened the eyes of many government regulatory agencies to a number of issues concerning the operation and administration of retirement and other employee benefit plans. Accounting and actuarial abuses, mutual fund scandals, hidden investment expenses and fiduciary breaches have contributed to a significant reaction by all branches of the federal government, including new court decisions, new legislation from Congress and more visible enforcement by the Securities and Exchange Commission, Internal Revenue Service, Department of Labor and even the Pension Benefit Guaranty Corporation. The regulatory environment that has now emerged makes it important for corporate counsel to examine all of the internal operating procedures of the company's employee benefit plans in order to establish a "Best Practices" standard of compliance. This article provides a brief overview of the steps that an employer should undertake with respect to its employee benefit plans to establish a "Best Practices" policy, not only to meet legal requirements, but also to reassure participants in its employee benefit plans that retirement assets and other benefits are secure from the abuses that have been highlighted in the press.
In responding to increased scrutiny of a company's adherence to various internal compliance requirements, corporate counsel and human resource officers need to understand and appreciate the significant liability that can arise from poor administration of retirement and welfare benefit plans. Moreover, taking action to establish "Best Practices" in the area of benefit plan operation and management will go far in reaching the compliance goals demanded by government enforcement agencies. The establishment of strict compliance expectations in the form of a set of "Best Practices" procedures will ensure compliance with the extensive rules and regulations under the Employee Retirement Income Security Act of 1974 (ERISA), the Internal Revenue Code and employment discrimination laws, among other laws.
The most effective procedures for the proper administration of an employer's benefit plans are developed by understanding the current practices for each benefit plan offered by the company. To do this, an employer should obtain each benefit plan document for easy reference. In most circumstances, this task is very challenging. For health and welfare plans, for example, an employer is not always aware of any documentation other than the small explanatory benefit booklets that are put together by insurance providers and provided to employees. In such cases, contact the company's insurance broker or the carrier directly in order to obtain the underlying insurance contracts and actual plan documents. In addition, when employees are paying for premiums on a pre-tax basis, find the governing "125 Plan" or "Cafeteria Plan" document. If it is not available from the insurance broker, ask the company's payroll service provider if it set up the arrangement and whether it can provide a copy of the plan document. In the case of retirement plans, look for the plan documentation from the plan's record keeper and/or service providers. In general, where an employer's retirement plan is a prototype arrangement with a financial institution, obtain the plan's adoption agreement, corresponding master plan document and trust or annuity contract.
Once all plan documentation is obtained, review the current operational practices with the human resources department for each benefit plan and any existing written administrative procedures. These may include, for example, enrollment procedures, investment policies, domestic relations order procedures, service agreements, loan procedures and retirement commencement and distribution procedures. At a minimum, consider the following:
1. For each plan, confirm compliance with all of the provisions that are set forth in the plan's language. If changes have been made operationally, determine that such changes have been properly adopted and incorporated into the language in the plan documentation to reflect the current practices.
2. For each retirement plan, determine operational compliance with the tax qualification requirements under the Internal Revenue Code and other requirements imposed by ERISA and other applicable law. In particular, confirm that all eligible employees are properly covered by the plan. Also, confirm that all service for participation, vesting and benefits accruals is being appropriately credited to plan participants. Evaluate the practices related to the distribution of benefits and make sure all employees are receiving a correct distribution of their benefits. One method by which this can be accomplished is to take a random test sample of distributions to confirm the correct benefit is being paid.
3. For each benefit plan document, confirm the plan language is in compliance with applicable laws and regulations. For example, qualified retirement plan documents should be reviewed to determine that they set forth language required by Section 401(a) of the Internal Revenue Code. If a plan fails to be qualified, it could lead not only to negative tax consequences, but also to a detrimental effect on the plan sponsor's financial statements. The tax benefits that an independent auditor presumed to exist because of a belief that the retirement plan is tax qualified do not actually exist because of the plan's disqualified status.
The use of ERISA legal counsel in reviewing existing practices and procedures may be prudent since counsel can bring experience and specialized skill to the process. Also, the involvement of outside counsel is generally protected by the attorney client privilege. Professional assistance may be more efficient as well, saving significant time for existing staff to focus on their primary job responsibilities. Once all benefit plans have been reviewed, assess where new procedures or changes to existing procedures are required and develop such policies in a manner that will assure compliance. Don't make rules or procedures that cannot be followed because of practical or economic limitations. Written procedures are very helpful as evidence of compliance in the event of an audit or other enforcement action. When complete, these procedures will set forth a "Best Practices" policy. Therefore, create written procedures to address the major administrative requirements for each plan. Some of the more important areas where written policies and procedures will prove helpful follow below.
In the area of investment of plan assets, written policies should be established to set forth the process of investment selection, review of fees, the ongoing monitoring of investment managers/funds, including the review of all publicly disclosed information, the voting of shares and the change or termination of existing investment options. Policies should require regular meetings of plan fiduciaries responsible for the oversight of investments. Give significant consideration to using independent professional advisors during these meetings. When applicable, adopt meaningful investment guidelines that provide standards for asset allocation (including appropriate choices for participant directed investments) and performance measurement. These guidelines should reflect a well-developed investment policy that is designed to meet the retirement expectations of the participants and to comply with applicable provisions of ERISA concerning the investment options available to participants. It is particularly important to make sure that compliance with investment policy guidelines is reviewed regularly. In the case of retirement plans that are offering participants the opportunity to direct investments of their own individual accounts, such a review will ensure the appropriateness of available investment selections. It is also important to review compliance with investment guidelines regularly because it is not uncommon for investments to change asset classes over the course of time. A small cap investment fund, for example, may become a mid cap or large cap investment fund. These changes impact the overall investment strategy for a fund and may require rebalancing according to the applicable investment objectives.
The review and management of any retirement plan's funding levels are critical to both the plan sponsor and the plan's participants. Often, funding obligations and other information related to funding are determined either through an actuarial evaluation that includes determinations based on interest rate assumptions, inflation, salary increases and estimated retirement age of participants. A plan's funding status can have a significant impact on the financial statements of the plan sponsor. Therefore, adopt written policies that require actuarial assumptions to be regularly evaluated and determine whether or not they reflect reality with respect to the plan and its participant population. Actuaries sometimes refer to this as an experience study. Companies may find themselves responding to concerns about their accounting practices if the assumptions made in connection with a plan's funding do not properly reflect the situation applicable to a particular plan.
Establish procedures for the regular review of all participant communications to ensure that participants are receiving current and accurate information about the operation and administration of the plan in a timely manner. These communications include summary plan descriptions, COBRA and HIPAA notices, enrollment forms, investment information and proper distribution notices. Failure to review and ensure the accuracy of participant communications could result in significant liabilities if the communications that are being sent to participants are inaccurate. Older documents, for example, may promise benefits that are no longer or never were offered under the actual plan documentation. There are also significant government penalties for failing to provide accurate employee communications when requested. In addition, if participant communications are not managed properly, there is an increased risk of miscommunication and sharing of inaccurate benefits information.
Adopt procedures that will address situations where an operational or document error is discovered. These procedures should set forth how and when to correct common problems and will be instructive to administrative personnel when implementing the correction. Include a process for making a submission to the IRS or Department of Labor under one of their existing correction programs. This will facilitate the decision making process when faced with the question of whether or not to make a government submission if an error is discovered.
The establishment of "Best Practices" procedures for an employer's employee benefit plans can prevent numerous headaches in the event of any type of scrutiny, be it from the government, shareholders, investors or a group of plan participants. Companies should be proactive in the administration of their benefit plans. The goal should be to get away from the burdens that accompany purely reactive administrative methods. Prevent fires before they start rather than constantly putting them out after they start. Written procedures will also ensure easy transition with staff changes, provide evidence of compliance and go far to assist in monitoring the operation of each plan according to existing rules.
Published July 1, 2005.