PPA 2006 ERISA FIDUCIARY UPDATE: Products, Programs and Problems

1. PPA 2006 ERISA FIDUCIARY UPDATE: Products, Programs and Problems

2. Who is an ERISA Fiduciary? A person with discretion over plan assets, distribution, administration, or who renders investment advice for a fee, including Trustee Plan Administrator Investment Advisor Member of Investment or Administrative Committee Others Persons who are not formally designated as a Fiduciary may have fiduciary duties under ERISA

3. Fiduciary Rules Basic Fiduciary Duties and Standards Prohibited Transactions

4. Basic Fiduciary Duties The �Exclusive Benefit� Rule Incidental benefit Economically targeted investments The �Prudent Expert� Rule Modern portfolio theory Liquidity and current portfolio return v. anticipated cash flow requirements Diversification Purpose and type of plan Type of investment vehicles Across and within styles and sections

5. Prohibited Transactions Prohibited Transaction Rules Apply to ERISA Plans and IRAs Not governmental or church plans Not non-ERISA 403(b)(1) or 403(b)(7) plans Prohibited Transaction Rules Apply to �Parties in Interest� and Fiduciaries Parties in Interest Include: Fiduciaries Service providers Employers Unions

6. Prohibited Transaction (ERISA �406) Party in Interest Transactions (�406)(a)) Sales and exchanges/Leasing of property Lending and extensions of credit Furnishing of goods, services or facilities Use of �plan asset� Fiduciary Transactions (�406)(b)) Self-dealing Conflict of interest Kickbacks

7. Participant Investment Advice � Prior Law Provision of investment advice for a fee is a fiduciary act subject to ERISA If the advisor (or an affiliate) would receive additional fees as a result of providing such advice, it may result in a prohibited act of self-dealing under ERISA

8. Participant Investment Advice � Prior Law Participant Advice Programs � Pre-PPA Education v. Advice � DOL Bulletin 96-1 PTE 77-4 Frost/Aetna SunAmerica

9. Participant Investment Advice � Prior Law DOL regulatory relief indicated: Fee-offset arrangements that eliminate financial incentives would not run afoul of ERISA An advisor could provide advice through an independently developed computer model that provides investment recommendations (SunAmerica) Even if a regulatory exception applies, a plan fiduciary still has fiduciary responsibility for prudent selection and monitoring of advisors Technical explanation of PPA indicates that new investment advice provisions are not intended to displace existing guidance

10. Products, Programs, Problems Participant Advice Programs � PPA Eligible investment advice arrangement Default investments Mapping and �black out� scenarios

11. Participant Investment Advice PPA exemption permits advisor (acting as fiduciary) to provide participant-level advice to plan participants for an additional fee Even if advisor is in some way affiliated with the underlying investments available under the plan The term �fiduciary adviser� is broadly defined for these purposes, including: Registered Investment Adviser Banks Insurance companies Registered broker-dealer Affiliates Others

12. Participant Investment Advice Advice must be provided pursuant to an �eligible investment advice arrangement� Plan sponsors/fiduciaries who make such an arrangement available are eligible for some measure of relief from liability Exemption does not extend to �plan-level� advice

13. Eligible Investment Advice Arrangements There are two recognized eligible investment advice arrangements: Fee neutral arrangement Computer model arrangement Fee-neutral eligible investment advice arrangement: Advisor�s fee not affected by the actual investment allocation Somewhat similar to existing fee-offset arrangements Not clear at this point how the fee-neutral approach will be interpreted by the DOL

14. Eligible Investment Advice Arrangements Computer model investment advice arrangement must: Apply generally accepted investment theories that take into account the historic returns of different asset classes Use relevant information about the participant or beneficiary, (age, life expectancy, retirement age, risk tolerance, other assets or sources of income and preference, etc.) Use prescribed objective criteria to provide asset allocation portfolios comprised of investment options offered under the plan Operate in a manner that is not biased in favor of investments offered by the adviser or a related person Take into account all investment options under the plan in specifying how a participant�s or beneficiary�s account should be invested (without inappropriate weighting of any investment option

15. Eligible Investment Advice Arrangements An �eligible investment expert� must certify (in accordance with rules prescribed by the DOL) that the computer model meets the five requirements

16. Eligible Investment Advice Arrangements Under the computer model approach: The only advice permitted is the advice generated by the computer model; A transaction must occur solely at the direction of the participant or beneficiary; and The participant or beneficiary may seek investment advice that is outside of the computer model, but only if advice was not solicited The computer model approach does not yet apply to IRAs (pending DOL study)

17. In addition to the specific requirements for the computer model and fee-neutral exemptions, there are also general requirements that apply to both: Use of an exemption must be authorized by an independent plan fiduciary An independent expert must audit the arrangement (at least annually) and confirm that it fits within one of the statutory exemptions Detailed disclosure requirements must be satisfied before the advice is first provided and at least annually thereafter Other general requirements (compliance with applicable securities disclosure laws, compensation received by advisor must be reasonable and transaction must be arm�s length) Eligible Investment Advice Arrangements

18. A plan sponsor or other fiduciary that makes an eligible investment advice arrangement available under a plan will not be treated as failing to satisfy ERISA�s fiduciary requirements by offering such an arrangement provided it satisfies all of the applicable requirements The plan sponsor or other fiduciary is still responsible for the prudent selection and monitoring of the advisor but there is no duty to monitor the specific investment advice given by the investment advisor New provisions apply to advice provided after December 31, 2006 Eligible Investment Advice Arrangements

19. Fiduciary Relief for Default Investments BACKGROUND - ERISA �404(c) currently provides fiduciary relief in the case of a defined contribution plan that permits participants to exercise control over the investment of amounts credited to their plan accounts Must have at least three different investment options each of which is diversified and has materially different risk and return characteristics Must be able to change investments at least once every three months Must be provided with detailed information regarding investments Special rules for employer stock

20. Fiduciary Relief for Default Investments BACKGROUND - ERISA �404(c) DOL Positions Affirmative Participant direction required Relief only to extent of participant control (no relief for menu selection; but see Unisys case) �404(c) compliance not mandatory (maybe misleading)

21. Fiduciary Relief for Default Investments PPA expands ERISA �404(c) fiduciary relief for investment in a default investment fund, effective for plan years beginning after December 31, 2006 EBSA has proposed a regulation implementing the PPA default investment relief (published Sept. 27, 2006) The proposed regulations can be relied upon pending issuance of the final regulations next year The proposed regulation deems a participant to have exercised control over assets in his or her account if, in the absence of investment direction from the participant, the plan fiduciary invests the assets in a qualified default investment alternative (QDIA)

22. Fiduciary Relief for Default Investments The proposal establishes the following conditions for fiduciary relief: Assets must be invested in a QDIA Participants and beneficiaries must have been given an opportunity to provide investment direction, but failed to do so A notice must be furnished to participants and beneficiaries 30 days in advance of the first investment, and at least 30 days in advance of each subsequent plan year, and must include: a description of the circumstances under which assets will be invested in a QDIA; a description of the investment objectives of the QDIA; and an explanation of the right of participants and beneficiaries to direct investment of the assets out of the QDIA

23. Fiduciary Relief for Default Investments In addition: Any material, such as investment prospectuses and other notices, provided to the plan by the QDIA must be furnished to participants and beneficiaries Participants and beneficiaries must have the opportunity to direct investments out of a QDIA with the same frequency available for other plan investments but no less frequently than quarterly, without financial penalty The plan must offer a �broad range of investment alternatives� as defined in the Department�s regulation under �404(c) of ERISA Plan fiduciaries are not relieved of liability for the prudent selection and monitoring of a QDIA

24. Fiduciary Relief for Default Investments Under the proposed regulation, a QDIA must satisfy the following requirements: A QDIA may not impose financial penalties or otherwise restrict the ability of a participant or beneficiary to transfer the investment from the qualified default investment alternative to any other investment alternative available under the plan A QDIA must be either managed by an investment manager, or an investment company registered under the Investment Company Act of 1940 A QDIA must be diversified so as to minimize the risk of large losses A QDIA may not invest participant contributions directly in employer securities A QDIA may be a: Life-cycle or targeted-retirement-date fund; Balanced fund; or Professionally managed account

25. Fiduciary Safe Harbors The PPA establishes new fiduciary safe harbors applicable to �mapping� and �black out� scenarios �Mapping� occurs when participant accounts are transferred from one investment option (usually being terminated under the plan) to another investment option with reasonably similar characteristics �Black out� refers to a period during which a plan participant�s ability to direct investments in his account is suspended by the plan sponsor or fiduciary Under prior law, even if a plan otherwise met ERISA�s �404(c) standards, the plan sponsor or fiduciary would not have any fiduciary protection for mapping and/or black out scenarios

26. Fiduciary Safe Harbors Under the new mapping safe-harbor, plan sponsors or fiduciaries will continue to have �404(c) protection if between 30 and 60 days before the change Participants are notified of the impending change Participants are given information about the existing and new investment options, as well as a description of the investment mapping process No contrary investment instructions are received from the participant A participant�s account is reallocated among remaining or new investment options that have reasonably similar investment characteristics (not clear what to do if there are no reasonably similar investment options)

27. Fiduciary Safe Harbors Under the �blackout� period safe-harbor, the PPA clarified that a fiduciary will not have any liability for losses during a blackout as long as the blackout notice requirements have been satisfied These fiduciary safe harbors are effective for plan years beginning after 2007 and subject to DOL regulations that are to be issued.