plan sponsor roundup 08

Education Needs ImprovementSeveral rising stars of the industry address the questions around participant education and offer their recommendations for a solution.

A New Dawn in the Wake of PPAEveryone's focus this past year was on implementing the various provisions of the PPA, and it likely will be again in 2008.

Plan 2008

Roundup

JANUARY 2008 • emii.com

Sponsor

401(k)Plan Sponsors-laydown 12/19/07 4:38 PM

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2008 PLAN SPONSOR ROUNDUP

JANUARY 2008 2008 PLAN SPONSOR ROUNDUP 3

6 A New Dawn in the Wake of PPABy Stephen BrownAlthough signed into law in 2006, the PensionProtection Act was largely digested and implementedby the industry this past year. Aside from additionalrules and guidelines, the law created new opportuni-ties for financial service providers, and it likely willcontinue to do so in 2008.

10 Investment Education Needs ImprovementThe Pension Protection Act created new rulesdesigned to boost participation and improve educa-tion, which has been an ongoing struggle. Several ris-ing stars of the industry discussed the questions thatarise from these rules and offered their recommenda-tions for a solution.

16 A Smart AlternativeJPMorgan’s target date strategies seek to achievebetter risk-adjusted returns through the use ofextended market and alternatives exposure. Top man-agers of the strategy took the opportunity to discussthe philosophy behind the strategies’ investments,where they are now and where they are headed.

22 Fixing Your 403(b) Plan: Adopting a BestPractices ApproachBy Tom BlancharNew regulations for 403(b) plans bring increasedscrutiny to the operation, fee structure and practicesprevalent in the retirement plans available to ournation’s teachers, health care workers and employeesof charitable and non-profit organizations. But therules also offer the opportunity to create a betterproduct and service offering.

24 Playing It S.A.F.E.RIf you are a fiduciary, you are always at risk of gov-ernment scrutiny and legal action. RSM McGladreyhas created five steps to help plan sponsors managefiduciary liability and minimize their chances of havingissues down the road.

A New Dawn in the Wake of PPA

Table of Contents

6

10InvestmentEducation

NeedsImprovement


4 2008 PLAN SPONSOR ROUNDUP JANUARY 2008

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Editor’s NoteWelcome to the 2008 Plan Sponsor Roundup, a review of the mostimportant issues affecting defined contribution plan sponsors last year and a preview of the challenges and opportunities ahead in the New Year.

Our inaugural issue is packed with insight and analysis from thedefined contribution community. We start with an overview on the stateof the market, including what plan sponsors have been doing this pastyear in response to passage of the Pension Protection Act, and pre-dictions on where the industry is headed (see story, page 6). We fol-low that up with a roundtable discussion on solutions to one of everyplan sponsors’ biggest perennial concerns – participant education –featuring four rising stars of the retirementplan community (see page 10).

Beyond our own original coverage, theRoundup includes articles sponsored bymajor players in the defined contributionmarket, including JPMorgan AssetManagement, The Standard and RSMMcGladrey. The topics of those articlesrange from the use of alternative invest-ments in target-date funds (see page 16)to best practices for fixing 403(b) plans(see page 22) to better managing fiduciaryliability (see page 24).

The 2008 Plan Sponsor Roundup is the latest in a series of specialsupplements produced by Institutional Investor News exclusively forour newsletter subscribers. It is part of our commitment to bringing ourreaders the freshest news and in-depth analysis on important sectorsand timely topics within the financial markets.

All the best in 2008,

Erik KolbEditor of Business PublishingInstitutional Investor News

Education Needs ImprovementSeveral rising stars of the industry address the questions around participant education and offer their recommendations for a solution.

A New Dawn in the Wake of PPAEveryone's focus this past year was on implementing the various provisions of the PPA, and it likely will be again in 2008.

Plan 2008

Roundup


Sponsor

From the publishers of:


Total Retirement Services • TPA • Defined Contribution • Defined Benefit • Taft-Hartley • Nonqualified • 403(b) • 457 • IRA

© 2007 Massachusetts Mutual Life Insurance Company. All rights reserved. MassMutual Financial Group is a marketing name for Massachusetts Mutual Life Insurance Company(MassMutual) [of which Retirement Services is a division] and its affiliated companies and sales representatives. Securities offered through MML Investors Services, Inc., memberFINRA and SIPC (www.finra.org and www.sipc.org). RS: 12884-00

CONTRARY TO POPULAR BELIEF, THERE ISN'T SOME FAR OFF DREAM OF SUCCESS.There is the place you actually reach every time you take a step forward in your practice.There is a big opportunity seized. A new market uncovered. A valuable relationshipforged. And retirement plan advisors working with MassMutual get there all the time –with the help of powerful resources like our comprehensive Fiduciary Warranty, Smart ArchitectureSM Investment Program and patent-pending e4SM on-the-spot enrollmentand education tool. MassMutual is more committed than ever to helping prepare retirement professionals to succeed. To learn more, call your MassMutual sales representative or contact us at 1-866-444-2601, massmutual.com/PowerToGrow

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T HE GREATEST IMPACT on the401(k) industry this past year actuallydidn't occur in 2007. It occurred in2006 with the signing of the PensionProtection Act (PPA) – a 900-page,

legalese-choked edict that produced the most significantchanges to pension plans since the Employee RetirementIncome Security Act of 1974 (ERISA).

New legislation and regulation usually is greeted with a col-lective groan from plan sponsors and vendors, as most of whatemanates from Washington, D.C., does little to improve effi-ciency and everything to aggravate administrative headaches.But PPA is more than a paperwork creator; many of the pro-visions in the law create new opportunities for financial serv-ice providers, few more important as those related to auto-matic enrollment.

Pronouncements, Procedure and Protection The PPA introduced two important concepts for 2007 thatenabled automatic enrollment to be, well, more automatic.The first was the preemption of state payroll withholding lawsthat interfere with automatic enrollment. The second provid-ed an optional nondiscrimination safe harbor for plans estab-lishing a qualified automatic contribution arrangement(QACA). Plans adopting a QACA do not have to satisfy thenondiscrimination tests each year, though the QACA mustprovide minimum and maximum contribution rates withautomatic escalation features that are applied uniformly: 3%during the first and second years, 4% during the third year,5% during he fourth year and 6% after four years.

The mandatory contribution provision, though a windfall forsome participants, isn't a free lunch. For some plan sponsors,it considerably raises the cost of implementing automaticenrollment. “There are a lot of issues whether to auto-enrollor not,” said Trisha Brambley, president of Resources for

Retirement in Newtown, Penn. “We see a lot of companiesbalking at the costs of administration and the additionalmatch before signing on. For them, it wasn't so automatic.”

Costs not withstanding, PPA further encouraged automaticenrollment by providing legal protection for employers whoautomatically enroll their employees and direct their contri-butions into diversified investments. These investments couldbe a stand-alone product or a fund of funds comprised of var-

A New Dawn inthe Wake of PPAPlan sponsors deal with the effects of the landmark legislationfor much of last year, and most likely will this year as wellBy Stephen Brown



ious investment options. Examples include target-date andlifecycle funds and certain managed accounts. This legislativeaegis allowed plan sponsors to direct employees to invest-ments that more closely adhered to modern portfolio pre-cepts, instead of directing them to less efficient (and lesseffective) portfolios that merely minimize annual volatility.

“Only the very biggest plans had anything other than stablevalue as a default because people were disinclined to have anegative return on their default fund,” said Mark Tomkins,principal at Tomkins & Associates. “What the qualifieddefault investment alternative (QDIA) did was point out tothe industry that it has a fiduciary responsibility to partici-pants who don't make an election.”

In October, the Department of Labor issued final regulationsthat provided additional guidancewith respect to qualified defaultinvestment alternatives under an auto-matic enrollment plan. In short, aplan fiduciary that complies with thefinal regulations will not be liable forany loss that results from investmentsin a QDIA.

So far, results are matching intentions.Hewitt Associates found the numberof companies automatically enrollingemployees in their 401(k) planincreased to 34% in 2007, up from19% in 2005.

As would be expected, automaticenrollment also is driving participa-tion rates, according to DiversifiedInvestment Advisors’ recently releasedReport on Retirement Plans – 2007.

The report found that companies with 1,000 to 4,999employees reported a 90% or better participation rate in their401(k) plan. At the same time, automatic enrollment hashelped fuel growth of target-date funds, which grew to $152billion in assets by the second quarter of 2007.

Fees were another front-burner issue for many plan sponsors in2007. Hewitt found that more companies were scrutinizing401(k) plan fees, a trend due, in part, to an upsurge in govern-ment and media scrutiny. In fact, 61% of employers noted theyare ‘very’ or ‘somewhat’ concerned about plan expenses.

These concerns led more plan sponsors to embrace openarchitecture. Advances in recordkeeping and trading technol-ogy have made such an arrangement an available and reason-ably priced alternative. What's more, these hard-dollar pay-ment arrangements – fees paid to pension administrationfirms for required IRS filings and compliance testing, toERISA attorneys for plan document drafting and review andto CPA firms if a plan audit is required – are fairly easy tomonitor, and most plan sponsors can reasonably justify costsfor services provided.

The same cannot be said for soft-dollar arrangements, wherethe link between services and fees can become obfuscated.As multi-fund manager platforms have become more indemand, the revenue-sharing arrangements among the fundmanagers on the platforms have become increasingly signif-icant, and increasingly complex. The challenge for planfiduciaries is to understand what they are purchasing anddetermine if they are receiving value for their outlay.

Many of the expense complaints that arose in 2007 targetedthese revenue-sharing arrangements, whichtypically involve the transfer of asset-basedcompensation from investment managementservice providers to administrative serviceproviders. Complainants – most often planparticipants – contended that fees paid underrevenue-sharing arrangements are excessivefor the service provided.

If enough complaint are recorded (andenough were), the end result is a class-actionlawsuit, which occurred with greater frequen-cy in 2007. The St. Louis-based law firm ofSchlichter, Bogard & Denton was particular-ly active, having filed the first 13 lawsuitsagainst 401(k) plan sponsors for allegedlypaying excessive fees. The lawsuits allegedthat plan sponsors failed to meet their fiduci-ary responsibilities by ignoring payments thatinvestment managers paid to recordkeepersand other service providers. The suits also

“What the quali-fied default invest-ment alternative(QDIA) did waspoint out to theindustry that ithas a fiduciaryresponsibility toparticipants whodon't make anelection.”

— Mark Tomkins

From Left to Right: Mark Tomkins, principal at Tomkins & Associates, and Trisha Brambley, president of Resources for Retirement



alleged that plan executives failed to disclose these fees toparticipants as required by ERISA.

According to Erik Daley, managing director at theMulthomah Group in Portland, Ore., increased litigationhas forced more small- and mid-sized sponsors to embracebenchmarking to justify costs. “Vendors are better articulat-ing what they are doing for sponsors,” he said. “Vendorsused to perform recordkeeping duties but, because theytended to commoditized themselves, the employers saw it asno value added. Now there is so much pressure on vendorsto disclose fees, they are more willing to disclose what theyare giving plan sponsors. The sponsors, in turn, can evaluateif the fees are reasonable.”

Fees were less of an issue with mutual funds, which com-prise more than 50% of 401(k) investment portfolios. TheInvestment Company Institute reported that the averagestock mutual fund had an expense ratio of 1.5% at the endof 2006, while 77% of stock mutual fund assets in 401(k)plans were invested in funds with a total expense ratio ofless than 1%. On an asset-weighted basis, the averageexpense ratio incurred by all mutual fund investors in stockmutual funds was 0.88%, and the asset-weighted averageexpense ratio for 401(k) stock mutual fund investors waseven lower at 0.74%. Overall, the asset-weighted averageexpense ratio across all mutual funds in 401(k) plans was0.71% in 2006.

Presages, Predilections and ProphesyAutomatic enrollment should continue to drive 401(k) par-ticipation in 2008. Starting in plan years beginning afterDecember 2007, an employer may automatically enroll aneligible employee at a specified contribution level, unless theemployee affirmatively elects to have contributions made ata different level or elects not to defer any compensation.

The auto-enroll trend should further fuel target-fund sales,though not everyone believes these funds are the Rosettastone to a comfortable retirement. As they gain popularity,more of their shortcomings will likely be exposed, accord-ing to George Bush, president of Advanced Financial &Design Solutions in Endwell, N.Y. “I'm not a big fan of thelifecycle funds,” he said. “I think they offer too much riskfor minimal downside protection.” Bush's primary com-plaints are that they can be too expensive, too conservativeand too concentrated.

A broader investment menu would seem a logical alternativeto target-date funds. Indeed, the average number of availableoptions grew to 16 in 2007, according to Hewitt Associates.Unfortunately, the menu is often composed of similar, corre-lated fare. “Many plans I come across are overloaded on large-cap equity, with hardly any small- or mid-cap and no foreignexposure,” Bush noted.

Does that mean a greater array of lower correlated invest-ments will be in the offering this year, particularly in light ofthe hyperbolic chatter given to alternative investments in2007? Probably not. “The more exotic things like hedge fundsand real estate were getting popular, but that has cooled downbecause those investments are cycling through,” Tomkinssaid. “The positive is that you are seeing greater interest inemerging markets and international funds.”

Exchange-traded funds (ETFs) could prove to be an enticingvoid-filler, as they are cheaper than mutual funds and offer anequal array of asset allocation options. Between January 2002and September 2007, assets invested in open-end mutualfunds increased by roughly 71%. In the same period, ETFassets increased by roughly 564%. Notwithstanding thosedivergent growth rates, conventional mutual funds still dwarfETFs by a margin of more than 21-to-1, with conventionalfunds accumulating $12 trillion in assets compared to the$551 billion in assets populating ETFs.

The problem for ETFs is that they are bought and sold likestocks, with investors paying broker commissions for each trade.This structural barrier has only recently been hurdled, asBenefitStreet and Barclays Global Investors have partnered to cre-ate a 401(k) platform offering Barclays’ iShares ETFs. The plat-form allows participants to invest directly in the ETFs rather thanthrough a collective trust (a common configuration for offeringETFs in mutual fund form), thereby minimizing commissioncosts and providing fee transparency.

Education, a constant conundrum for any retirement plan,has been another problem. ETFs are foreign to many planparticipants. In addition, some advisors are hesitant to recom-mend them because most issues are relatively callow and haveyet to be stress-tested in a down market.

From Left to Right: Erik Daley, managing director at the Multhomah

Group, and Alan Vorchheimer, principal at Buck Consultants



Plan participants, though often unwilling toeducate themselves, are willing to acceptinvesting advice, which could help bridgethe ETF gap. A 2007 survey by CerulliAssociates found that 88.9% of participantsseek advisor guidance to ensure their moneywill last through retirement, which impliesadvice-giving could play a larger role in401(k) management in the future.

Historically, employers balked at the notion oftelling their employees how to invest, fearful thatthat errant advice would result in litigation, butthe PPA provides an exemption from the pro-hibited transaction rules under ERISA forinvestment advice provided by a ‘fiduciary advi-sor’ under an ‘eligible investment advice arrange-ment.’ A fiduciary advisor is defined by the PPAto include banks, insurance companies, broker-dealers and registered investment advisers.

To qualify as an ‘eligible investment advicearrangement,’ investment advice must bearranged so that either the fees do not vary based on the investmentoptions selected or the advisor uses a computer model. The computermodel cannot be biased in favor of the investments offered by the advi-sor and must account for all the investments offered under the plan, aswell as the participant's age, life expectancy, risk tolerance and otherassets; must be certified by an independent investment expert; and mustapply to generally accepted investment advice theories. The advisor alsomust be willing to undergo independent audits to ensure compliance.

Additional Department of Labor guidance and the spread of inexpen-sive computer modeling are encouraging more companies to provideadvice. Hewitt Associates found that 25% of large employers offerindividualized advice either online, over the phone or through person-to-person consultations. Another 44% of employers said they wereeither ‘very’ or ‘somewhat’ likely to add advice in the coming year.

The person-to-person strategy could be the delivery mechanismthat gains the most traction in coming years. “In the late 1990sand early 2000s, the push was for interactive Web sites,” saidDaley. “There was almost an endless amount of resources, but thereality is that the majority of the workforce isn't ready to go there.More tactile education seems to work better. You're seeing a lotmore one-on-one interaction.”

Maintaining and justifying costs also will remain a hot-button issuein 2008, with more plan sponsors demanding benchmarks to meas-ure costs. Bush believes a benchmark coupled with a contemporarydue-diligence report will become indispensable for most plan spon-sors. “We show a high degree of disclosure on risk-return, actualreturns, style drifts and correlation metrics,” he said. “Large firmscan offload the due diligence to the consulting team they've hired,

but you're going to see more due diligence andco-fiduciary relationships with smaller spon-sors and consultants.”

One area on the 401(k) front that couldremain mired is the Roth 401(k). About 20%of plan sponsors offer Roths, according to theProfit Sharing Council of America. Roughlyhalf the companies they surveyed are stillconsidering whether to add a Roth option totheir 401(k) offering, and many of them arewaiting to see how Roth 401(k) implementa-tion unfolds at other companies before mak-ing any changes. Some financial experts haveopined that most workers, except those closeto retirement, would be better off contribut-ing to a Roth 401(k) than a traditional401(k), but future income-tax assumptionsand complexity limit their appeal.

“Even with online calculations and educa-tion, you need to decide how much you wantto put into the Roth, but it depends on your

future tax rate in retirement,” said Alan Vorchheimer, principal atBuck Consultants. “That's when participants’ eyes glass over. Youneed to be a little more sophisticated, which is why they are oftenbetter suited for more professional businesses.”

While the rise of defined contribution plans at the expense ofdefined benefit plans has been an ongoing theme for the past sev-eral years, the most powerful trend for 2008 and beyond could bethe gradual assimilation of defined benefit characteristics bydefined contribution plans. Vorchheimer believes guaranteed life-time funds built on variable annuities and other guaranteed con-tracts will likely gain stature into the relevant future. “One of thebenefits of a defined benefit plan is that you could annuitize,” hesaid. “Defined benefit plans offer guaranteed money, and morepeople are going to want that. You'll see more focus on mortalityrisk and the like, with many of the complexities associated withdefined benefit plans migrating to defined contribution plans.”

The defined benefit paradigm also could influence how plan spon-sors measure their success. “The big thing I see is the utilization ofmore results-based measures to determine the efficacy of the retire-ment plan, rather than looking at the inputs, flow rates, allocationand participation,” Daley said. “Let's start looking at this like adefined benefit plan: Will a participant who joins us at 25 andworks until 65 have a successful retirement? That's how successshould be measured.”

If Vorchheimer's and Daley's prophesies hold, 401(k) planscould soon carry all the tools and accoutrements associatedwith their defined benefit brethren – a trend more consultantsand advisors see gaining momentum.

“You'll see morefocus on mortalityrisk and the like,with many of thecomplexities asso-ciated withdefined benefitplans migrating to defined contri-bution plans.”— AlanVorchheimer



InvestmentEducation Needs

ImprovementTop advisors say current programs fall short

of desired goals, but they can be remedied

In the past two years, the

U.S. has seen a major

change in the retirement

savings landscape.

Exacerbating these

changes was the passage of the

Pension Protection Act (PPA) in

2006, which brought stricter funding

requirements for corporations provid-

ing traditional defined benefit pension

plans, as well as rules to encourage

employers with 401(k) plans to offer

greater levels of investment educa-

tion, a greater breadth of investment

options and automatic enrollment of

employees into the plans.



However, given the passage of the PPA and the fact that anincreasing number of companies are switching from a traditionaldefined benefit plan to a 401(k) plan, serious questions have beenraised about the 401(k) industry. Do employees of U.S. compa-nies have enough investment education to set the proper assetallocations for their retirement accounts? Are 401(k) plans, ingeneral, sufficient tools to allow employees to save for retirement?Are employees educated enough on the risks and drawbacks asso-ciated with 401(k) plans, such as taking out loans?

Institutional Investor News sat down with some of the leadingwealth and financial advisors – including James Worrell, presidentof GPS Investment Advisors; Jennifer Flodin, co-founder andretirement plan advisor at Plan Sponsor Advisors; Tony Ciocca,managing director at Institutional Investment Consulting; andStephen DesRochers, a wealth management advisor at MerrillLynch & Co. – to discuss these questions.

IINews: It’s no secret that most participants of defined contri-bution plans generally do not have enough investment knowl-edge to sufficiently save for retirement. What needs to bedone, especially in the wake of the PPA, to encourage employ-ers to provide more investment options and to implementautomatic enrollment?

Worrell: I believe we have a crisis in America. If we - plan advi-sors, plan providers, employers, associations, media and the gov-ernment - don’t succeed in changing how people save and invest,many Americans will not be able to enjoy the type of retirementthey deserve or expect.

Social Security was only meant to replace 30-40% of income. Therest has to come from other sources. Given that defined benefitplans have been steadily disappearing, the 401(k) becomes the keysource of supplementing that Social Security income.

With 401(k)s, where employees are expected to take an active rolein the saving and investing effort, I believe that it is crucial tomake it as easy as possible for people to do what is right for theirretirement. This includes saving a high percentage of their pay ina retirement plan, investing it in a diversified mix of investmentsappropriate for their age and keeping track, rebalancing and real-locating it so it continues to match their time horizon and risktolerance. Some recent trends toward accomplishing this includeage-based funds, automatic enrollment, automatic deferral escala-tion, default funds that include equities, quicker plan eligibilityand entry dates, increased plan portability and rollover options.

Flodin: What PPA encourages employers to do is add a qualifieddefault investment alternative (QDIA) to invest in a fund that hasboth equity and fixed income exposure. The PPA doesn't encourage

adding funds for the sake of it, rather it promotes the addition offunds that are balanced and hopefully will have a better long-termappreciation for the participant than a stable value investment.

So, to answer your question, plan sponsors need to not only adoptauto-enrollment - for all eligible employees, not just new hires -but add auto-escalation as well. If sponsors only add the auto-enrollment feature, they will only be getting their participantshalf way to the finish line. They need to make sure the deferralrate increases each year.

Ciocca: The QDIA allows for the use of target-date portfolios asdefault investment options. These options, combined with auto-enrollment and auto-escalation, can help participants that other-wise would have never invested for their retirement. The use oftarget-date portfolios can make the investment decision mucheasier for the average investor.

DesRochers: It is my experience that most plans do not needmore investment options. In fact, far too many plans still believethat more is better, despite research that shows plan usage actualdecreases with too many investment options. For years, we calledit ‘analysis paralysis,’ but today it is known as the ‘paradox ofchoice,’ or the fact that more actually brings you less.

When it comes to automatic enrollment, I am finding that, onceplan sponsors are comfortable that they are covered from a liabil-ity standpoint and that the administration will not be overly bur-densome, they are very willing to consider it. I think mostemployers believe that the idea of helping their employees to helpthemselves is not a good idea. So long as it doesn’t create a sub-stantial burden on them, they are willing to try it.

IINews: We’ve all seen and heard the horror stories regard-ing people who’ve retired from their companies with zerosavings. What will employers need to do to provide anenhanced investment education program for employeesregarding their retirement savings?

Worrell: Plan sponsors must illustrate the dollar amount theemployee will need in retirement in comparison to what theycurrently have, as well as what their current saving and invest-ing level will produce at retirement age. If employees don’tthink they have a gap, they won’t be motivated to close thatgap by changing their behavior.

Flodin: In light of PPA, I think there needs to be a re-analysis ofwhat we need to educate participants on. I would look to elimi-nate the basic education of what asset allocation is and start edu-cating people on how much they are going to need in retirementand how they can get there.


For most people, this retirement account is the largest accountbalance they have ever had. Yet, they have no comprehensionhow far this will take them through retirement and how muchthey can expect to take annually and not run out of money.Typically, they can only take out 4-5% of their retirement sav-ings per year for the first 10 years of retirement.

DesRochers: In an era where the burden of retirement incomehas shifted from employer to employee, I don’t believe theanswer is as simple as an investment education program. Sure,an education program is a part of any solution, but the bestsolution is going to involve fostering a corporate culture thatembraces helping its employees help themselves and prides itselfon sending well-prepared employees into retirement.

The simple fact is the change from defined benefit plans todefined contribution plans may have released companies from along-term financial burden, but companies still have the samemotivations they did when defined benefit plans originally weredeveloped. Companies want happy, productive employees whofeel like a valued part of the company they work for. Employeeswho are constantly worried about not having enough for retire-ment or who hear through the corporate grapevine that retiringfrom their employer only leads to a dismal future are not happyand productive. Imagine the morale at a company whose last

four years of retirees are living on food stamps. The brightestcompanies will figure out quickly that helping their employeesto help themselves makes sense for both parties.

IINews: In the wake of PPA, many more companies are mak-ing the switch from defined benefit plans to 401(k) plans.In terms of education, how difficult has the transition been?

Worrell: Most of us learn about finances from prior genera-tions. Because the prior generations had pensions, they didn’thave to worry about saving in a 401(k) and therefore didn’tteach the current generation about the importance of saving ina 401(k). It is now abundantly clear that today’s worker willhave very little in retirement other than Social Security unlesshe/she has built up a 401(k). After more than 20 years, this mes-sage is beginning to sink in, as people realize they need to savefor their own retirement.

With defined benefit plans, the employer saved and investedfor the employee’s retirement and managed their income pay-ments in retirement through death. Now, with 401(k)s, plansponsors are asking employees to handle that complex task.What the statistics – such as average account balances, aver-age investor returns, asset allocation, investor behavior, etc. –show is that employees are not doing nearly as good a job as

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Gallagher Retirement Services currently delivers consultingand service expertise to more than 725 clients representingover $30 billion in assets under care. Our clients includesmall, mid and large-size companies with 50 to 500employees, but increasingly more than 10,000 employees.



the actuaries, investment consult-ants and other professionals, whoin the past would have managedthat employee’s account. The tran-sition therefore has been very diffi-cult and not well executed, thoughgreat strides have been maderecently in plan design, legislationand industry approaches to educa-tion and tools.

Flodin: It is very difficult.Participants are not educated tounderstand how much they shouldsave, how they should invest andhow much they can spend eachyear in retirement. All the things adefined benefit plan automaticallytook care of now have been thrust into the employee’s lap forhim/her to decide.

Ciocca: I would say that the transition has been taking place overthe last 25 years or so. With auto-enrollment, auto-escalation andthe use of target-date funds as default options, we have started theprocess of simplifying the 401(k) plan.

DesRochers: Education actually has become easier in light of thechange from defined benefit plans. Most employees understoodvery little about defined benefit plans and very few understood justhow valuable a benefit they actually had.

When was the last time you heard of a perspective employeeinquiring if a company had a defined benefit plan and what typeof formula it used to calculate the benefit. On the other hand, if acompany has a 401(k) plan and how much of a match they offeris a standard question of perspective employees. There are ofcourse exceptions to this, where the culture is built around definedbenefit plans. Police, firefighters and educators come to mind.

IINews: One of the big worries plan providers have is thattheir employees take too many loans from their 401(k) planswithout thinking about the implications of taking out a loanor liquidating their accounts altogether. What needs to bedone in terms of both education and regulation to improvethis situation?

Worrell: Employees don’t understand the impact on their accountof taking out a loan. They need to be educated at the time they areasking to take a loan on the negatives of doing so. Once anemployee gets into the habit of using the plan as a loan vehicle, itis harder to break the cycle. Therefore, intervention is critical thefirst time an employee requests information about a loan.

Plan sponsors need to collaborate with their providers to reduce thenumber of loans. This can be done through print media and, espe-cially at point of inquiry, with live phone reps or live chat operators.Human resource executives need to be included in the discussionand need to understand the negative impact so they can help com-municate it with the rest of the organization and with employees.

Flodin: There needs to be more behavioral education – real lifeexamples that demonstrate what taking a loan can do to your future.I also think there has to be data that talks about the myths and real-ities of taking a loan. For example, it is not bad in general to take aloan from your 401(k) account. The behavior that is bad is stoppingyour deferrals while the loan is outstanding and having those dollarsgo towards your loan payment. If you keep your deferral rate thesame and make your loan payments in addition, that isn't nearly asbad as the alternative of stopping deferrals until the loan is paid off.I think vendors can help educate participants on those details.

Ciocca: I have worked with some very successful plans that do notoffer a loan provision, but many plans are afraid that if they take thisapproach they will lose participants. As an industry, I think we havesent a mixed message on the loan issue. Some folks actually talkabout it as a huge benefit of a plan, using the rationale that you arepaying yourself back the interest as a way to make the loan look likean attractive solution.

I am not sure we will see any major changes to the loan regulations,but I would like to see regulation limiting participants to one out-standing loan at a time. In the meantime, more education aroundthe consequences of taking a 401(k) loan would help some.

DesRochers: Loans are a double-edged sword. The fact that theyexist and are available in an emergency helps to make many partici-pants more comfortable about saving in the plan, thus helping

From Left to Right: Tony Ciocca, managing director at Institutional Investment Consulting; James Worrell, president of GPS Investment Advisors; and Jennifer Flodin, co-founder and retirement plan advisor at Plan Sponsor Advisors

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participation. Clearly, the downside is participants using theirretirement plan as a savings account. As an industry, I am notsure we have done a great job of showing the effects loans canhave on retirement savings.

IINews: With the PPA encouraging more investmentoptions in 401(k) plans, what do advisors, advice providersand bundled providers need to do to educate participantson diversification?

Worrell: I have heard that the number one most widely heldinvestment in a plan today is company stock and the numbertwo is a money market fund. This indicates to me that employ-ees don’t truly understand the concentration risk of companystock or the inflation risk of money markets.

Plan sponsors need to educate employees on the long term ben-efits of diversification and make it easier for employees todiversify through proper design of the fund menu. The ways todo this are to offer pre-diversified or managed accounts and tooffer model portfolios of the plan’s underlying funds.

Ciocca: The best plans seem to have one thing in common: themanagement of those organizations makes the plan a priority.The organization’s culture can make a huge difference in thesuccess of an education program, and typically you’ll seemandatory 401(k) meetings with significant involvement fromsenior managers. Of course, there are problem plans at organi-zations with great corporate culture and vice versa, but withoutsenior level buy-in it is hard to run a great plan.

DesRochers: Behavioral finance has shown us pretty clearlythat most employees are not interested in becoming investors.Concentrating education efforts on investment topics, such asasset allocation, diversification, dollar cost averaging and thelike, is a mistake. These topics attract the minority of employ-ees and usually the very ones who would seek out such knowl-edge without our help.

Education efforts are best focused on creating savers ratherthan investors. Keeping employee education simple, com-pelling and easy for the average person to walk away with aworkable plan, a plan that they are convinced can make a dif-ference, is the key to reaching the majority of employees

The best way to solve diversification issues is through asset allo-cation programs, advice programs and diversified funds such aslifestyle funds. These programs give employees a simple answerto a concept that many find complex and are a great step for-ward, but I do have some concerns. I would caution that suchprograms still need to be combined with advice and a very cleardescription of how such programs work. I am concerned that

many employers are using such programs as an opportunity toremove advice and counsel from plans, believing that such pro-grams take the place of this feature.

The early results for these programs are promising, but they arecoming in a market that, until very recently, has been very favor-able to investors. The true test of whether these programs werepositioned correctly will be how many participants move theirinvestments to fixed accounts and/or stop contributions duringtimes when the markets show negative returns.

For years, I have been using asset allocation programs tobuild clients diversified portfolios. No matter how muchexplaining I do, during times of market turbulence, I spendmuch of my time hand-holding those very clients who clear-ly understood the concept six months or a year ago. I am notyet convinced that there is a good alternative available thatcan take the place of talking to another human being whocan listen to your concerns and reassure you that you aredoing the right thing.

IINews: With automatic enrollment becoming easierthrough the PPA, is there a way to encourage 401(k) par-ticipants to save more?

Worrell: Automatic enrollment and automatic deferral escala-tion are great tools that tap into key behavioral economicfindings about how people think about saving and investing.These techniques in themselves will not solve the problem,especially when participants can opt out.

It is key to pair these techniques with a continual messageabout the dollar amount each employee will require to retirecomfortably. Other solutions include personalized gap analy-ses, suggestions for how much to save and how to invest toachieve a targeted goal and information repeatedly deliveredin a way that participants can act upon, such as check the boxreply cards.

DesRochers: Auto enrollment is simply another tool. Whencombined with lifestyle funds, it may simply be the best set oftools our industry has ever had to help employees. However,I still am a firm believer that success ultimately will comedown to a partnership between employee and employer, not asingle tool or law change.

The shift from corporate pensions to personal accountabilityis a major cultural change. The effects of the change will notbe readily apparent as they will take years to move throughthe system, but one way or the other they will be society’s tosolve. It makes sense for all involved that we find a way tohelp employees help themselves.

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W HEN THE PENSIONProtection Act was passed in2006 and again when theDepartment of Labor issued newguidelines for retirement plan

fiduciaries, many asset managers and plan sponsors scrambledto meet their new obligations. Specifically, the new regulato-ry focus required managers and sponsors to balance returnand capital preservation, neither to the exclusion of the other.

Managers at JPMorgan Asset Management believe that thenew rules are a confirmation of the approach they already hadin place with their SmartRetirement strategy and target-date

funds. The commingled portfolio was introduced in August2005, with the similarly managed mutual funds introduced inJune 2006.

Some of the challenges that plan sponsors are facing in assur-ing that their employees can retire comfortably are how toget participants into the plan and how to keep them there.Great returns and low costs in the default fund will help, butgetting eye-popping returns usually means taking on a lot ofrisk and accepting a lot of volatility. That may work foraggressive, veteran investors, but a downturn in the marketsmay prompt conservative or inexperienced investors to eitherchange their investments to cash or stable value or to stopcontributing altogether.

A SmartAlternativeJPMorgan’s Target Date Strategies Seek to AchieveBetter Risk-Adjusted Returns with Extended Marketand Alternatives Exposure

SPONSORED ARTICLE

“It's hard to imagine crafting a robust definedbenefit portfolio from the choices in most definedcontribution plans...and isn't that a standard we

should be holding ourselves to?”—Anne Lester, Managing Director

JPMorgan SmartRetirement Portfolio Manager


JPMorgan’s strategy is an illustration of one of its core beliefs:highly diversified target-date strategies that include non-tra-ditional assets, such as emerging equity, emerging debt, directreal estate, REITs and high-yield fixed income, may help ahigher percentage of participants reach retirement with the401(k) balance necessary to provide income security andmaintain their lifestyle.

Recently, JPMorgan’s top managers of the strategy – AnneLester, managing director, and Daniel Oldroyd, CFA and vicepresident, both of the Global Multi-Asset Group - took theopportunity to discuss the philosophy behind the strategies’investments, where they are now and where they are headed.

Q: What led you to develop target date strategies with anallocation to alternatives?

Lester: We have managed money on behalf of some of thelargest and oldest defined benefit plans for more than 75 years— this is our institutional heritage. Before we launched thetarget date portfolios, 70-80% of our business had been indefined benefit plans, so we are very well versed in managingassets and liabilities and thinking in terms of surplus volatili-ty optimization.

Our target date philosophy comes straight from our desireand ability to bring institutional-quality diversification todefined contribution plans. By offering similar access toextended and non-traditional asset classes, we are able toprovide additional diversification, which leads to better risk-adjusted performance. We have for some time included assetclasses such as emerging market debt,emerging market equity, direct realestate and real estate investment trusts(REITs) in our institutional portfo-lios, and more recently in our 130/30long-short strategies. We have thetools and techniques to constructbroadly diversified, risk-efficientinvestment vehicles.

Oldroyd: When you look at the results— especially over the past few quarters,which have seen significant marketvolatility — our approach is justified.Focusing more tightly on capitalpreservation and growth, we have beensuccessful in our pursuit of risk-adjust-ed returns since inception. What’s real-ly important is that we are not relianton any particular alpha technique.

Q: What are your assets under management so far?

Lester: We have a little more than $3 billion in assets undermanagement in the SmartRetirement strategy. That breaksout into a little more than $1.8 billion in the commingledportfolio, $800 million in mutual funds and one separateaccount with about $500 million.

Q: Do the mutual funds mirror the commingled funds?

Lester: They do to a very large extent, but there are a fewthings we can do in the commingled portfolios for ERISAinvestors that we simply cannot do in the mutual funds.

Direct real estate is one. In addition, mosthedge fund strategies cannot be boughtthrough a mutual fund. Altogether, there isan 80–90% overlap in the underlyingstrategies.

Q: Philosophy, asset allocation and disci-pline translate into performance. Howhave you done?

Lester: If you look at our fund performancesince inception, we are really pleased withnot only performance, which has been solid,but also with the volatility that we have seenin our strategy. We really feel like we aredelivering to plan sponsors exactly what wesaid we would: risk-adjusted performance.

Oldroyd: Let's remember that we have putextended and alternative investments in ourstrategy to minimize volatility and risk. Our


From Left to Right: Dan Oldroyd, vice president, and Anne Lester,

managing director, both of the JPMorgan Global Multi-Asset Group

“Our objective is not return at any price. It is to eliminatevolatility so plan sponsorscan encourageemployees to get in and stay in.” — Dan Oldroyd

SPONSORED ARTICLE



SPONSORED ARTICLE

Comparison of Asset Allocation Glide Paths



objective is not return at any price. It is to eliminate volatili-ty so plan sponsors can encourage employees to get in andstay in. We are trying to narrow the range of outcomes. Weneed to be clear on that goal, and we are asking plan sponsorsto be clear with participants. The risk of unmet expectationsfor sponsors is frightening.

Q: How do you counter that risk of unmet expectationsfor plan sponsors?

Lester: The major problem is that not enough people aremaking it to retirement with enough money. We have con-structed our portfolios to maximize the number of individualplan participants who reach retirement with the level ofincome replacement they need in order to maintain theirworking lifestyle. We figure that to be 40% of pre-retirementincome from the 401(k) plan, and we anticipate that SocialSecurity will account for another 40%, for a total of 80% ofpre-retirement income.

That is very different from the goal of having the maximum amountof money in the plan for any given individual. If you care about thenumber of people who make it to that 40% replacement level, thenyou care passionately about those people who fail. If you target thehighest balance per participant, then there will be a greater numberof people with more money, as well as a greater number of peoplewith less money. The winners will win bigger, and the losers will losebigger. We want to avoid fat tails on the distribution of returns, espe-cially on the downside. That balancing of risk and reward comesfrom our heritage as defined benefit managers.

Oldroyd: The challenges facing partici-pants are compounded by the realitythat people are living longer. Combinedwith the fact that they are not savingenough, there is a very real chance thatmany retirees will run out of money atsome point in their retirement.Longevity risk is a major consideration.Many participants cannot afford topotentially lose what little they havesaved. So understanding behavioralfinance and the drivers of participantbehavior and incorporating that into ourphilosophy is central to our approach ofseeking risk-adjusted returns throughenhanced diversification.

Lester: The most important questionfor plan sponsors to ask participantsand for participants to ask themselvesis if they are on track or not. That iswhy we work for risk-adjusted

returns. It is possible to get higher returns with greater risk,but then you see volatility. That’s when people open theirstatements, say “Ugh” and stop contributing.

You have to understand behavioral finance. Losing hurtsmore than winning delights. Plan sponsors and portfoliomanagers have to care about downside volatility. That is whatthe extended market and alternative investments are for.

Q: In balancing risk and reward, how did you decide whatto include in the strategy?

Oldroyd: The test for what would go into theSmartRetirement strategy was the relative liquidity of theinvestment, how transparent it is, what the costs are and howwe could execute on the strategy. There are lots of things wecould use, but we wanted to be sure that whatever assets wereincluded fit well within the strategy.

Once we decided what would fit into the strategy, we had to fine-tune how each asset class would grow or shrink within the retire-ment glide path. Among the alternative investments and extend-ed markets, the biggest proportional position is in direct realestate, the true alternative. That makes up 10% of theSmartRetirement portfolio for a 25-year-old participant and 7%for someone 65 years of age or older. REITs are a close second,declining from 8% to 3% over time. Emerging markets equitystarts at 5% and is adjusted down to 2% for older investors. Incontrast, high yield and emerging market debt each make up just2% of the initial allocation but grow to 5%.

Q: Is there a balance or juxtapositionbetween your direct real estate holdingsand your REIT holdings?

Lester: There is no direct relationshipbetween the two. Of course, that is becausethey perform like separate asset classes on ashort to medium timeframe. REITs act morelike small-caps, while real estate is not close-ly correlated to equity performance.

Our return assumptions for REITs and directreal estate are pretty close. For REITs, theexpected 10- to 15-year annualized compound-ed return assumption is 7%. Due to leverage,that is a bit higher than the return on direct realestate. The return assumption for the unleveredU.S. direct real estate is 6.75%. That is lessthan equity, but more than fixed incomereturns. And, as we noted, it has a low correla-tion to both. Our current performance reflectsstrong yields from operating income.

“If you’ve got theskill and an unlim-ited fee budget,you can do any-thing. But wehave to balancethe ideal portfoliowith what themarket is going toaccept in terms ofliquidity andtransparency.”

— Dan Oldroyd

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Q: What other asset classes might youconsider adding?

Lester: There are two other huge buckets thatpeople typically think of in terms of alterna-tives — private equity and hedge funds.Private equity is something we would love tofigure out how to include, but if you have per-formance fees, those are difficult in a daily netasset value (NAV) investment. And with pri-vate equity, you are potentially holding some-thing at book value for a while. How do youfigure that out for the daily NAV?

With regard to hedge funds, we use market-neutral strategies and tactical asset alloca-tion. Many people would call both of thosehedge fund strategies, so we are using a littlebit of that. But both of those types of strate-gies are liquid, transparent, have a dailyNAV and have no performance fees, at leastthe way we use them.

Oldroyd: If you’ve got the skill and anunlimited fee budget, you can do anything. But we have to balancethe ideal portfolio with what the market is going to accept in termsof liquidity and transparency. We also have an eye on expenses. Webuilt this strategy understanding that costs are a critical factor forsponsors, and sponsors are trying to figure out how to get some-thing plan participants will see value in.

Lester: We are constrained by the need to strike a daily NAV, andwe have to care about the fees. We are very aware of the effect thesticker price has on the participants and how their reaction affectsthe plan sponsor.

Oldroyd: We are trying to create an attractive basket of invest-ments that is liquid, transparent and economical. That limits us toabout 10% true alternative investments and about 15% in theextended market.

Q: Even if you are doing well with your alternative investments,do they intimidate plan participants or even some potentialsponsors?

Lester: The extended market and alternative asset classes aredefinitely an advantage for most plan sponsors, but sometimeswe need to do a little education around the benefits of an insti-tutional approach to 401(k) investing. Most sponsors welcomethe opportunity to give their participants access to things likereal estate or emerging markets without having to worry abouthow they might be misused if they were put in the core fundline-up of the plan.

With regard to participant education, wereally focus on our ability to help participantsunderstand whether or not they want to man-age their own investments directly or whetherthey want to hire a professional to do it forthem. We discuss the use of a broad set ofasset classes in the context of the overall riskof the strategy and avoid an attempt to edu-cate them on how to create an efficient fron-tier. There is broad consensus in the industrythat we can’t turn participants into sophisti-cated investors by pushing more education atthem – that is one of the reasons why somany plan sponsors are embracing target-date funds and using them as default funds.

Oldroyd: In our first year or two, we haveseen tremendous interest on the part of retire-ment plan sponsors. Part of the reason is thatwe are running this much more in the style ofa defined benefit plan than the defined con-tribution program that it is. We have alsodesigned it with plan sponsors in mind. Wehave a lot of options and, for a sponsor, more

options are good. But the ultimate focus is risk-adjusted returns.Those are what are going to bring participants into the plan andkeep them there. We do the things that defined benefit programsdo and that more defined contribution plans should consider.

For more information, contact David Skinner at (212) 648-2496 [email protected]. You also can visit our website atwww.jpmorgan.com/definedcontribution.

Opinions, forecasts and statements of financial market trends that are basedon current market conditions constitute our judgment and are subject tochange without notice. We believe the information provided here is reliablebut should not be assumed to be accurate or complete. These views andstrategies described may not be suitable for all investors. References to specif-ic securities, asset classes and financial markets are for illustrative purposesonly and are not intended to be, and should not be interpreted as, recom-mendations.

Assumptions are provided for illustrative purposes only. They should not berelied upon as recommendations to buy or sell securities. Forecasts of finan-cial market trends that are based on current market conditions constituteour judgment and are subject to change without notice. References to specif-ic asset classes and financial markets are for illustrative purposes only andare not intended to be, and should not be interpreted as, recommendations.

JPMorgan Asset Management is the marketing name for the asset manage-ment businesses of JPMorgan Chase & Co. and its affiliates worldwide.Those businesses include J.P. Morgan Investment Management.

Copyright © 2008 JPMorgan Chase & Co. All rights reserved.

“There is broadconsensus in theindustry that wecan’t turn partici-pants into sophis-ticated investorsby pushing moreeducation at them– that is one of thereasons why somany plan spon-sors are embrac-ing target-datefunds.”

— Anne Lester

SPONSORED ARTICLE



A CCORDING TO SPECTREMGROUP, approximately $652 bil-lion was invested in 403(b) plans asof December 31, 2006. Of thoseassets, 45% were invested in fixed

annuities, 34% in variable annuities and the remainder inmutual funds. The majority of the assets (44%) was investedthrough higher education programs, 26% was investedthrough public school (K-12) programs and another 19% wasinvested through healthcare programs. The remainder wasinvested through private school (K-12) and other programs.

On July 23, 2007, the IRS issued final 403(b) regulations, thefirst comprehensive guidance in 43 years. The new regula-tions generally will take effect on January 1, 2009. With sucha large amount of retirement savings at stake, the issuance ofthe new 403(b) regulations is a long-awaited and welcomeevent in the retirement plans industry.

The Opportunity Is NowThe final 403(b) regulations bring increased scrutiny to the oper-ation, fee structure and practices prevalent in the retirement plansavailable to our nation’s teachers, health care workers and employ-ees of charitable and non-profit organizations. Today, plan spon-sors have an exciting new opportunity to make significant contri-butions toward a best-practices approach to sponsoring a 403(b)plan. The end result can be a vastly improved product and serviceoffering for plan participants.

The regulations will place new administrative duties uponplan sponsors. The good news is that there is highly qualifiedhelp available. 403(b) plan sponsors have an opportunity toleverage plan assets to attract knowledgeable and seasonedretirement plan advisors, product providers and other servicevendors who can help them deliver the best retirement planpossible to their employees.

Learning From The Past: More Is Definitely Not Better!The most prevalent model by far in the public education sec-

tor, and in many of the 501(c)3 organizations, is the multi-provider platform. This model, which one rarely sees in the cor-porate sector, has developed over time in an effort to provideemployees the ability to choose their investment options from amenu of retirement plan providers. In the past, it has not beenuncommon for many well-meaning (but uninvolved) employersto have approved 10, 20 or even 50-plus insurance and mutualfund companies as investment providers.

The multi-provider model is flawed in two very basic waysand has produced just the opposite results that were intend-ed. First, there have been numerous studies that show whenpeople are given too many choices of anything, they lose con-fidence (or make no decision) because the choices are over-whelming. Second, the multi-provider platform is inefficientand does not allow sponsors to leverage total plan assets andreceive appropriate pricing based on aggregate assets.

The Advantage of a Single-Provider ModelThe single-provider model can alleviate the two major con-cerns that 403(b) plan sponsors have regarding the new regu-lations: greater fiduciary responsibility and increased admin-istrative duties. By selecting a single provider, plan sponsorscan enhance their purchasing power and can negotiate lower,transparent investment fees for participants. In addition, par-ticipants get a more manageable number of institutional-quality investment options to choose from, as well as benefit-ing from customized and consistent enrollment, educationand ongoing communication materials.

Fixing Your 403(b) Plan:Adopting a Best Practices ApproachNew regulations offer the opportunity to create a better retirement plan for allBy Tom Blanchar, 403(b) Product Manager, The Standard

A Snapshot of the Final 403(b) Regulations

• Written plan documents must be adopted and main-tained by the employer

• New requirements for 90-24 transfers• Revised testing and notification requirements for uni-

versal availability• Increased employer responsibilities regarding loans,

hardships, catch-up contributions and required mini-mum distributions

• Increased fiduciary role for the selection and monitor-ing of available investment options

SPONSORED ARTICLE



Such a 403(b) plan can give the employer an advantage overthe competition in attracting and retaining employees. Thesingle-provider model also allows the plan sponsor to out-source many or all of the plan administrative responsibilitiesand receive accurate and timely reporting of plan activityand regular monitoring of the investment options availableto participants.

Fiduciary Responsibility: Awareness Is Critical The new regulations make it clear that even plans not coveredby ERISA place some fiduciary responsibilities on 403(b)plan sponsors.

There is currently much litigation and media coverage regard-ing fees and marketing agreements currently underway in the401(k) arena. The 403(b) arena is not without its own litiga-tion. One of the more high-profile lawsuits currently in exis-tence involves the National Education Association (NEA).According to a July 2007 article in the New York Times, thelawsuit contends that the NEA breached its duty to membersby accepting millions of dollars in payments from two finan-cial firms whose high-cost investments it recommended to itsmembers in an association-sponsored retirement plan.

The case was filed on behalf of two NEA members who hadinvested in annuities sold by the two providers. It contendsthat, by actively endorsing these products (which purported-ly carry high fees), the NEA through its NEA Member

Benefits subsidiary took on the role of a retirement plan spon-sor, which must put its members’ interests ahead of its own.The suit contends that, by taking fees from the two providers,the NEA breached its fiduciary duty to the participants.

403(b) plan sponsors should require that the retirement planprovider accept contractually, where applicable, ERISA sec-tion 3(38) fiduciary responsibility for the selection and mon-itoring of a 403(b) plan's investment options.

Full Fee Disclosure and Cost Comparison Are an Absolute Requirement403(b) plan sponsors should require that their retirementplan providers be forthcoming and transparent regarding thefees that plan participants pay. Fiduciary responsibilityrequires that expenses must be reasonable in relation to theproduct and/or services received. And if fees are hidden, likethe revenue sharing an intermediary (such as an outside advi-sor or plan provider) might receive from the mutual fundprovider, then how does someone know if the fees are reason-able or not?

Leveraging Technology to Reduce Plan ExpensesIf the plan sponsor wants to lower the cost of its plan evenfurther, then it must assist in making enrollment and employ-ee education more efficient. Technology is the key and needsto be used to educate and enroll 403(b) plan participants viathe Internet and other available media like VRS and call cen-ters. This requires cooperation with the provider and commu-nication to employees. Not only does this make good sense, italso provides a way for the plan sponsor to meet its obliga-tions under the ‘universal availability’ rule applicable to403(b) plans.

Conclusion: Imagine the Possibilities!Although the new regulations represent new and unchartedground for most 403(b) plan sponsors, the opportunity existsfor improved plan offerings to employees. By becoming edu-cated and developing best practices, both employer andemployee will benefit. The result will be a better retirementplan for all. And, just maybe, a better retirement for all.

Tom Blanchar is the 403(b) and457 Plan Product Manager forStanCorp Equities, Inc. (“TheStandard”). He can be reached at(866) 559-5510, or he can beemailed at [email protected].

5 BEST PRACTICES FOR PLAN SPONSORSAn Action Plan

1. Form a 403(b) advisory board of five to seven members.

2. Seek out assistance from qualified outside advisory servic-es. Employing the services of an experienced and knowl-edgeable retirement plan consultant or advisor can helpplan sponsors in many ways:• Knowledge of the marketplace• Education regarding appropriate fees and fee disclosure• Meeting fiduciary responsibilities• Written plan requirements and provisions• Development of an Investment Policy Statement• Development and distribution of RFPs; analysis and

evaluation of RFP responses

3. Review existing providers for investment performance,investment options, fees, expenses and service standards.

4. Seek proposals from qualified defined contribution planproviders and do not limit the process to current vendors.

5. Create standards for ongoing monitoring of the plan.

SPONSORED ARTICLE



P ERHAPS YOU’RE A MEMBERof your company’s 401(k) plan com-mittee or someone entrusted withmanaging the plan. Maybe you’veattended investment committee

meetings or perhaps you helped select the third-party admin-istrator or investment advisor. Your day-to-day routine prob-ably consumes most of your time without even thinkingabout fiduciary liability. You may even have fiduciary liabili-ty insurance so you don’t spend too much time thinkingabout it. But with volatility in the investment markets,greater scrutiny by regulators and increasing plan level litiga-tion, you could be headed for trouble.

To determine whether you are or could be a fiduciary, it ishelpful to review the definition under the EmployeeRetirement Income Security Act of 1974 (ERISA). For pur-poses of ERISA, a fiduciary is generally anyone with discre-

tionary authority or control over the management of a plan,administration of a plan or disposition of a plan’s assets. Thus,many of the activities involved in operating a plan can makethe person or entity performing them a fiduciary, to theextent discretion is used. Fiduciary status is based on thefunctions performed for the plan, not just a person’s title.

In most cases, authority to administer the plan and select itsinvestments falls on either the company sponsoring the plan(plan sponsor) or the plan committee. Therefore, the compa-ny and/or the committee usually are fiduciaries under ERISA.This is true even if a third party actually administers the plan.Most third-party administrators limit their activities to min-isterial duties, performed at the discretion of the plan sponsoror plan committee, to avoid becoming fiduciaries to the plan.

Every plan must have at least one ‘named’ fiduciary, who canappoint other fiduciaries. Anyone who makes such appoint-ments has a duty to prudently select those persons and toperiodically review their work to make sure they are fulfillingtheir responsibilities. Fiduciary appointments might includethe plan’s trustees and investment advisor and any committeesthat have discretionary authority to manage the plan or itsassets. If a plan committee is appointed, the individual com-mittee members are fiduciaries and must perform their dutiesunder ERISA fiduciary standards.

All fiduciaries have potential liability for the actions of theirco-fiduciaries. For example, a fiduciary who knowingly par-ticipates in another fiduciary’s breach of responsibility, con-ceals the breach or does not act to correct it is also liable.The duties of plan sponsors and their fiduciaries are numer-ous and complex. It is nearly impossible for employers to beaware of all relevant rules, and plan sponsors usually needassistance to ensure compliance. Yet failure to comply withERISA rules can result in penalties, government audits andeven personal liability.

Whether you or one of your colleagues is a fiduciary, thequestion is how do you protect yourself from governmentalscrutiny and worse - penalties or even personal liability?While there are many opinions on this, we have developed aunique approach for helping our clients manage these respon-sibilities. Following the S.A.F.E.R concepts outlined below

Playing It S.A.F.E.R Five Steps to Help Plan Sponsors Manage Fiduciary Liability

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can help you to minimize your chances of having issues downthe road.

Spell It OutLet’s start with S for Service Providers and the impact of theselections made. By adhering to a clearly defined methodology,fiduciaries can limit exposure. In deciding who to work with, startby determining the services needed from outside providers tomanage the plan effectively. Services can range from plan designand documentation to employee education and investment selec-tion. Request formal bids from potential providers and ask poten-tial providers about their range of services, experience with thespecific type of plan, fees and expenses and customer satisfaction.

There are two basic arrangements that plan sponsors and fiduci-aries can consider:• A single bundled provider who can deliver all required

services • A team of providers with specialized expertise in each

service area

Both approaches have advantages and disadvantages, and oneapproach may be better suited than the other for your com-pany and plan. Make sure you understand the terms and con-ditions of any agreements presented and all fees associated.Most importantly, prepare a record of the process followedand the reasons for which decisions were made. If challengedwith regard to these decisions, this documentation will go along way to protect you and show that you acted in a pru-dent manner.

A is for Asset Management. This is probably one of theareas that causes the most concern forfiduciaries and makes them feel mostvulnerable because plan participantsfocus on investment returns. As afiduciary, you may be called upon todemonstrate that you followed pru-dent procedures in selecting andmonitoring investment options forthe plan and participants. In order tocomply, you should be able to pro-duce a written Investment PolicyStatement and documentation show-ing how the plan’s investment optionswere selected.

Monitoring investment performanceon a regular basis is equally important.Prepare and keep reports to documentyour on-going oversight of investmentperformance. Evaluating and selectingassets can be a daunting process.

Working closely with an experienced retirement plan invest-ment advisor during this process will help to address the fidu-ciary responsibilities for making prudent decisions.Investment advisors also can help monitor investments on anon-going basis.

On-going asset management responsibilities include:• Following criteria in your written investment policy

guidelines• Meeting regularly to evaluate investment performance• Seeking information and advice from experts and service

providers • Monitoring performance, expenses and benchmarking• Removing and replacing underperforming investment

options

Fiduciaries also may need to consider default investmentalternatives. This includes deciding how to invest the funds ofparticipants who do not submit investment elections.Fiduciaries have liability for the proper handling of theseinvestment selections. These situations commonly arise whenconverting to a new investment provider or as a result ofusing automatic enrollment provisions in the plan.

While many plan sponsors choose money market or stablevalue funds, Qualified Default Investment Alternatives(QDIAs) also should be considered as they can provide somefiduciary protection under Section 404(c). The Department ofLabor has finalized the QDIA regulations and, in order to qual-ify for relief, assets must be invested in either age-based lifecy-cle funds, risk-based lifecycle funds, balanced funds or a man-aged account. There also are certain notice requirements. A

QDIA notice must be given to participants atleast 30 days in advance of the date theybecome eligible for the plan OR at least 30days in advance of the date any investmentsare made in the QDIA.

The notice must:• Describe the circumstances under which

assets may be invested on behalf of a par-ticipant

• Explain the rights of participants to directthe investment of assets in their individualaccounts

• Include a description of the QDIAs and adescription of where the participants canobtain additional investment informationabout the other investment alternativesavailable under the plan

Remember to document, document and con-tinue to document. This will help to successful-

“Remember to

document, docu-

ment and continue

to document. This

will help to suc-

cessfully defend

any decisions

made in the event

that participants

bring litigation

against you.”

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ly defend any decisions made in the event that participants bringlitigation against you. With litigation on the rise, this process iscritical.

Fees and expenses comprise the F in S.A.F.E.R and rep-resent an area under intense scrutiny by Congress and govern-ment regulators. Because of this, fiduciaries should be moreconcerned with understanding and evaluating plan fees andexpenses. Compensation paid directly or indirectly toproviders must be reasonable. Therefore, fiduciaries mustunderstand the following:• All direct and indirect fees applicable to plan investments

and plan services• How service providers are being paid• What services are being provided for the fees the plan is

being charged

Fiduciaries should be proactive in obtaining informationabout fees and expenses. Vendors will provide informationabout direct and indirect fees and expenses relating to planassets if requested. This information will serve as the basis fordetermining whether the expenses are reasonable. Becausereasonable is sometimes difficult to ascertain, you shouldcompare the fees and expenses of your plan with those thatare available from other vendors.

A 401(k) fee disclosure worksheet can be found on theDepartment of Labor’s website at www.dol.gov/EBSA. Thisworksheet will help determine the total costs of the plan andcompare fees and expenses of competing providers. Whenevaluating fees and expenses, fiduciaries should keep in mindthat the lowest cost is not always the best value and that costis only one factor in determining if fees are reasonable.

E is for Employee Education. This is perhaps one of thetoughest areas for a fiduciary. There are many challenges in thisarea, including the ability to:• Reach all demographics within the employee population• Help employees understand the importance of saving for

retirement• Provide enough information for employees to make informed

decisions• Offer a variety of investment alternatives

Fiduciaries can measure the effectiveness of education programsby monitoring participant investments. When monitoring results,be sure to consider:• Actual investment activity vs. industry benchmarks• Analysis of statistics for subsets of the employee population• Review of existing programs and services and their effective-

ness• Alternatives to current programs and services• Setting reasonable goals for improvement

In an effort to make investment advice more available to plan par-ticipants, the Pension Protection Act of 2006 amended ERISA§408 and IRC §4975 to create a statutory exemption from theprohibited transaction rules governing revenue from fiduciaryadvice, if certain conditions are satisfied. Qualified advice isdivided into two categories and may be provided by investmentadvisers whose fees do not vary depending on the investmentsselected, or those whose fees vary by fund if a computer model isused. Both must acknowledge that he/she is a fiduciary, and anindependent auditor must conduct an annual compliance auditand provide the plan sponsor with a written report.

This brings us to R, which stands for Review InternalProcedures. Many employers feel their fiduciary responsibili-ties are satisfied once they have engaged outside specialists to serv-ice the plan and often overlook tasks that are critical to operatingthe plan properly. Examples include documenting the processesrequired to enroll participants on a timely basis, ensuring partici-pants are able to defer and receive employer contributions on alleligible compensation and tracking years of service properly.Requiring written guidance on such internal steps for eachdepartment (human resources, payroll, finance) reduces thechance for mistakes during periods of turnover or absence of thestaff responsible for each function.

It is critical that employers operate the plan according to theterms of the plan document. This is difficult when good internalprocedures are not in place. Without written internal procedures,mistakes can occur which can be costly to correct. Mistakes canrange from allowing ineligible employees to participate to failingto make timely deposits of employee deferrals.

How can you lessen your risk associated with the plan as afiduciary? A first step is to implement the principals thatdefine the S.A.F.E.R concept. Certain steps can be time con-suming, and you may not have the time it takes to fully inte-grate S.A.F.E.R. You might consider hiring a firm that special-izes in retirement plan consulting to assist you. While youwill still be liable for your actions or lack thereof as a fiduci-ary, a retirement plan specialist can assist with much of the legwork and analysis. The specialist also can assist in drafting anInvestment Policy Statement.

When you do engage any consultant or advisor, be sure toclearly communicate what you want them to do, get a clearunderstanding of the fees and closely monitor their progress.And remember to act upon the recommendations of the spe-cialist. It will be up to you to implement any changes and tocontinue to monitor your plan going forward.

To learn more about these S.A.F.E.R concepts or the services pro-vided by RSM McGladrey, please visit us online atwww.rsmgladrey.com/retirement or call (888) RET-401K.

To inf80invPasfor diviGroGoldby tFun

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Asset Allocation Portfolios from Goldman Sachs. Long, favorable track records. That’s what Goldman Sachs offers clients interested in asset allocation funds. In fact, the Equity Growth Strategy Portfolio ranks in the top 1% of 398 funds in its Lipper category for 5 years of performance through October 31, 2007. To learn how Goldman Sachs can help you find balance in an ever-changing investment landscape, visit www.goldmansachsfunds.com or call 1-800-526-7384.

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To learn more about Goldman Sachs Funds, visit www.goldmansachsfunds.com. Prospectuses containing more complete information are available online, and may also be obtained from your authorized dealer, or from Goldman, Sachs & Co. by calling800-526-7384. Please consider a Fund’s objectives, risks, and charges and expenses, and read the prospectus carefully before investing. The prospectuses contain this and other information about the Funds.Past performance does not guarantee future results. Lipper Analytical Services, Inc., an independent publisher of mutual fund rankings, records rankings for this and other Goldman Sachs Funds for 1-year, 3-year, 5-year, and 10-year total returns periods. Lipper Total Return Rankings: Lipper compares mutual funds within a universe of funds with similar investment objectives, including dividend reinvestment. Rankings are based on total return at net asset value and do not refl ect sales charges, and do not imply that the fund had a high total return. As of 10/31/07, the Equity Growth Strategy Portfolio (A) ranked 65/631 (1 yr) and 2/398 (5 yr); as of 9/30/07, it ranked 75/627 (1 yr); and 2/397 (5 yr) among Mixed-Asset Target Allocation Growth Funds. The ability of the Goldman Sachs Asset Allocation Portfolios to meet their objectives is directly related to the ability of the Underlying Funds to meet their objectives as well as the allocation among the Portfolios by the Investment Manager. An investment in the Asset Allocation Portfolios will involve not only the expenses of a Portfolio itself but a proportionate share of the expenses of the Underlying Funds (including operating costs and investment management fees). Goldman, Sachs & Co. is the distributor of the Goldman Sachs Funds. © 2008, Goldman, Sachs & Co. All rights reserved.


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