Are Revenue Sharing Fees Part of Plan Assets?

[Guest jmiskey]

A while back, I posted a thread that asked, among other things, if revenue sharing fees could be used to offset plan expenses in 401(k) plans (see http://www.benefitslink.com/boards/index.p...649&hl=revenue).

Both Jon Chambers and Mojo were kind of enough to respond and provide some great information. Both suggested that the revenue sharing fees could be used to offset "plan expenses", but not "settlor expenses". A reference was made to the Frost National Bank DOL ruling, which I checked out.

It all follows that revenue sharing cannot be used to offset "settlor expenses" IF revenue sharing fees are considered to be part of the plan assets. My question is this; are ALL revenue sharing fees (including 12b-1, sub-TA, and Finder's Fees) considered to be part of plans assets? Someone in our office maintains that revenue sharing fees might NOT be considered to be part of plan assets, and hence could be used to pay settlor expenses.

If anyone could refer me to anything from the code or DOL starting that revenue sharing fees are considered parts of plan assets, that would be even better!

Thanks.

[Jon Chambers]

Here's an opinion on the topic from a McHenry Consulting white paper:

"Did your firm, its affiliates or associates, provide plan clients with GUST amendments and assist with adoption strategy at no charge? Do you use plan assets as a criterion for determining which plans are charged for this service?Based on our conversations with regulators on related topics, and firms interviewed on this specific issue, there are several things to look at if you answered 'yes' to either question:

The Department of Labor considers revenue generated by investments to be a plan asset.

Some plan amendment activities are settlor expenses, and cannot be paid for out of plan assets.

Directing plan assets to pay a settlor expense may be deemed a fiduciary act.

Use of plan assets to the benefit of the settlor may violate exclusive use rules.

What to do?

McHenry believes the 'no free lunch' principle may apply. Where a settlor function is performed, there should be a corresponding expense and payment trail. Plan service providers that do not charge for settlor services, or charge only selected clients for certain settlor services based upon the amount of plan assets, may eventually be put at risk if the DoL audits and asks to 'look under the covers'. "

here's a link to the whole paper:

http://www.mchenryconsulting.com/research/...lert6_20_02.asp

They also have a thorough report on revenue sharing here:

http://www.plantools.com/pdfs/RevenueShari...Report_9_01.pdf

[Guest jmiskey]

Jon,

Thanks for the reply.

I have already seen the second article, but the first article you referenced has more of what I am looking for, specifically, it comes right out and says that the DOL considers revenue generated by investments to be a plan asset. I just wish it made reference to the ruling/letter where that came from (I always like to track it back to the primary source)!

Now this leads to another interesting question. We have seen it to be common practice where the TPA collects and keeps the revenue sharing amounts over and above the amounts needed to cover their client's plan expenses (there is usually a special agreement signed to allow this).The question is this: If the revenue sharing is deemed to be part of plan assets, how can the TPA keep the overage (over and above their fees)? This seems like it would violate some laws.

[Jon Chambers]

Note that McHenry couches its opinion in the following terms:

"Based on our conversations with regulators on related topics..."

This leads me to believe that guidance is verbal rather than published. You could call Ward Harris directly and ask him what his source was (800) 638-8121.

On your second point (TPAs keeping excess revenue share), this would appear to contradict the assumptions underlying the Frost opinion that you reviewed, however, I hear DOL may be moving away from Frost. In any event, Frost dealt with a specific case, and while indicative of DOL's thinking, doesn't constitute law.

[Guest jmiskey]

In discussions with others in the office, some are of the opinion that Revenue Sharing fees are not considered to be assets of the plan. In that second link you provided, I was working off the line "The Department of Labor considers revenue generated by investments to be a plan asset.".

Their belief is that the revenue referred to here would be interest and dividends, not revenue sharing fees. They believe that since revenue sharing fees are generated from the asset-based compensation and are part of the expense ratio, they would not be included in the plan assets.

Hence, it is not necessarily the case that revenue sharing fees are restricted from being used to pay "settlor expenses". The other McHenry report ("Whose Money Is It?"), seems to support the notion that it is unknown and the DoL has not expressed an opinion yet (pg 13, under Government Reporting).

[GBurns]

As you have pointed out ""The Department of Labor considers revenue generated by investments to be a plan asset.". This raises the question of, What is the source of the revenue that is being shared?

IMHO, since the only things that can generate the revenue are (1) the amount invested or (2) fees charged.

If the revenue that is being shared is derived from the money invested, then the answer is clear that it is a plan asset.

If the revenue that is being shared is derived from fees that were charged, then although it might not be a plan asset, it certainly raises other serious issues. If from fees does that not mean that the fees were overcharged? What is the fiduciary liability for knowingly condoning an overcharge? Is it not a PT to get these fees? What services were rendered for which the fees are being shared? etc It certainly would look to many as improper rebating.

[MoJo]

Fundamentally, I think you need to look at this a little differently - which leads to the conclusion that revenue sharing fees typically are going to be plan assets. Where do the fees come from? They are generated off of the assets held within the plan (and yes, in the case of mutual funds by virtue of the investment of fund assets, which are typically not considered plan assets, but would not exist but for the invest by the plan in the fund) and are paid via some mechanism inherent in the operation of the fund itself (such as 12b-1 fee programs, sub-t/a arrangements, or even investment management fees). BUT FOR the investment fund paying the revenue sharing to the service provider, the assets of the plan invested in the fund would typically be larger - and hence, by taking the revenue sharing fees, the plan has lost value which otherwise would have been gain to the participants. The DOL, in my experience, has now gone so far as to question promotional give-aways (such as drawings at conferences, golf outings, client conferences and the like) because no matter how you slice it, the funds used to pay for those events/gifts were funds that had they not been taken would have enhanced the return to participants, and hence are a misuse of plan assets, and are a violation of the exclusive benefit rule (which holds that only "reasonable" expenses may be paid by plan assets). If spending money on gifts earned through revenue sharing arrangements is evidence of the less than reasonableness of fees PAID BY PLAN ASSETS, in violation of the exclusive benefit rule, then the revenue sharing fees received must be, in the DOL's eyes, plan assets.

Trust me on this one. We fought. We lost. We even pointed out the eggregious things our competition was doing for their client conference and trade conferences (Palm Springs? All expenses paid except for airfare? DVD players? Ping clubs?) We got nailed on a $200 Best Buy gift certificate, and 9 holes of public course golf at our client conference located at our corporate headquarters (a long, long way away from Palm Springs).

[Guest SCHAEFM2]

You may wish to watch for the opinion from the District Court in Hartford, CT on Haddock v. Nationwide Mutual Insurance Company. It seems to be directly on point with your question. Resolution may come as early as this summer.

[Guest jmiskey]

Thanks for all the replies. It certainly has opened up an interesting dialog.

Mojo, there is one part of your response that I must respectfully disagree with:

BUT FOR the investment fund paying the revenue sharing to the service provider, the assets of the plan invested in the fund would typically be larger - and hence, by taking the revenue sharing fees, the plan has lost value which otherwise would have been gain to the participants.

The revenue sharing fees are part of the funds fee expense ratio. They are charged whether they are collected or not. If they are not collected, the mutual fund company will keep them, but they certainly are not put back into the fund or plan assets. In essence, the plan loses no additional value by the collection of these revenue sharing fees. On the contrary, the only difference they can make to the plan assets if they are collected, and then used to offset other plan expenses which are typically charged to participant account balances.

[MoJo]

jmiskey: I agree in practice that what you say is correct - unfortunately, the DOL has taken the position that a prudent fiduciary would most certainly take the revenue sharing fees (i.e. to leave them on the table for the benefit of the mutual fund company would be a breach of duty) and then, once taken, belong to the plan. Most of the fees taken are 12b-1 fees, and hence can't inure back to the fund company (and do, in fact, in many case remain within the mutual fund until taken) Once taken, the issue of what to do with them becomes important.

On the flip side, if a prudent fiduciary does not intend to take the revenue sharing fees, then they should be looking for a fund that has no 12b-1 fee program, or otherwise has a lower expense ratio. Many funds have multiple classes of shares and you can invest in one with no 12b-1 fee program expense.