Guest Article

Payment of Administrative Expenses from Plan Assets: The DOL's Kansas City Initiative

In the past several months, the Department of Labor (DOL) has begun an initiative focusing on the appropriateness of using plan assets to pay for certain plan expenses, particularly fees generated by third-party service providers. The DOL's audit activity originated in the Kansas City regional office, but recent reports indicate that six of the 10 DOL regional offices are instituting plan expense audits modeled on the Kansas City program. The approach marks a dramatic shift from the DOL's prior approach, thereby creating new risks for plan fiduciaries.

Historic DOL Approach

The DOL has issued a number of opinion letters that provide guidance as to when plan assets may be used to pay various expenses associated with ERISA plans. These letters propose a two-step test for determining whether expenses are properly payable from plan assets. The first step separates the expenses into "settlor" versus "administrative" expenses, and the second step asks whether the expenses classified as administrative are also "reasonable and necessary." Only administrative expenses that are deemed reasonable and necessary are properly payable from plan assets. In addition, such expenses may be paid from plan assets only if expressly permitted under the plan and trust documents.

The DOL based its conclusions on two sections of ERISA. Section 401(c)(1) provides that the assets of a plan shall be held for the exclusive purposes of providing benefits to participants in the plan and their beneficiaries, and defraying reasonable expenses of administering the plan. Similarly, Section 404(a)(1)(A) provides that a fiduciary shall discharge his duties with respect to the plan solely in the interest of the participants and beneficiaries for the exclusive purpose of providing benefits to participants and their beneficiaries, and defraying reasonable expenses of administering the plan.

Historically, the DOL had suggested that the following were settlor functions that could not be paid out of plan assets:

The DOL believed that the employer should bear the cost of these settlor expenses because the costs relate to the business activities of the employer and involve expenses an employer could reasonably be expected to incur in the normal course of business. The DOL previously suggested that the following were administrative expenses payable from plan assets provided such expenses are reasonable and necessary:

New DOL Position

Despite the fact that the DOL's settlor versus administrative distinction did not have any specific basis in ERISA, many plan administrators and other benefit plan professionals became familiar with and relied upon the DOL analysis. However, it now appears that the DOL is beginning to apply new, stricter standards in determining which expenses may be paid from plan assets. The DOL appears to have increased its audit activity in this area, in particular challenging the use of plan assets to pay fees charged by outside service providers.

The recent DOL activity suggests that the department believes the employer must pay a portion of service provider fees if the service provides any value to the employer. As a result, many administrative expenses that were thought of as plan expenses are now considered partially or totally settlor expenses that must be paid entirely by the employer or shared by the employer and the plan.

For example, expenses related to the maintenance of a plan's tax qualified status should be allocated between the plan and the sponsor based on the relative benefit to each, as determined by examining the relevant facts and circumstances. While there is currently no published guidance on this allocation, DOL auditors appear to be using a 50-percent guideline. Expenses related to nondiscrimination testing should be allocated in the same way. Similarly, plan termination expenses may be allocated between the sponsor and the plan.

Although the DOL has not published any official guidance on its new aggressive approach, DOL representatives did give a presentation on Sept. 28, 2000, regarding the payment of expenses. In that presentation, the DOL maintained that the employer must pay all or part of any expenses that provide more than an incidental benefit to the employer. For example, DOL auditors are now asking that employers share expenses related to: (1) applying for and maintaining the plan's tax-qualified status; (2) performing nondiscrimination testing; and (3) terminating a plan. The DOL did not provide any concrete basis for how to allocate shared expenses between the employer and the plan, stating that it is a "facts and circumstances" test, but it appears that the DOL generally has been using a 50-50 allocation formula.

Other expenses indicated as settlor fees include:

Plan Fiduciaries Beware

The ultimate determination of whether expenses are reasonable and necessary must be made by the plan fiduciaries pursuant to their fiduciary duties under ERISA to act prudently and for the exclusive purpose of providing benefits to the participants and their beneficiaries and defraying reasonable administrative expenses. While this standard is an easy concept, it is difficult to apply as the DOL is auditing plans on this issue without providing plan fiduciaries with published rules or regulations regarding the standards that they use.

Formal guidance is expected on this issue in accordance with the normal rulemaking procedures and differences in the types of retirement plans (that is, charging expenses against an overfunded defined benefit plan has a much different effect on participants than does charging expenses against a 401(k) plan where expenses are effectively a "drag" on participants' earnings). Until such formal guidance is available, plan fiduciaries should be wary of any expenses incurred when going beyond ERISA's basic requirements. In this regard, plan fiduciaries may wish to request service providers to provide them with itemized and detailed invoices of all plan expenses to aid in the determination of whether such expenses are properly payable from plan assets.

More information and updates on plan expenses is available in the Pension Plan Fix-it Handbook.

Reprinted with permission from the January 2001 supplement to The Pension Plan Fix-It Handbook, ©Thompson Publishing Group, Inc., 2000. All rights reserved.

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