The Impact of 408(b)(2) on Advisers

What will the effect of the new 408(b)(2) guidance on compensation and revenue sharing be for advisers?

Obviously, the first effect will be to change the agreements and procedures for disclosure of compensation and conflicts of interest. For example, the 408(b)(2) proposal will, when implemented, require that all advisers have written agreements with plans and that the agreements contain specified provisions. Less known, but perhaps with even greater impact, is the requirement in the proposed regulation that advisers disclose all of their compensation, direct and indirect, as well as any conflicts of interest, before they are hired to be the adviser for the plan and before the agreement is signed. Those changes will, in many cases, alter the order in which information is provided to plan sponsors (or, more accurately, to the “responsible plan fiduciary”) and may add to the information that is delivered to plan sponsors.

We have already been hired by a number of RIA firms and broker-dealers to review their agreements and to advise them of the needed changes—to both their agreements and their procedures.

However, there is also another major impact. That is that plan sponsors will now be receiving significant disclosures about compensation and conflicts of interest from all of their providers. While they will have seen some this information before, much of it will be new (or will be focused on for the first time).

Think about it. Plan sponsors will now be given information about 12b-1 fees, sub-transfer agency fees, bonus payments, finder’s fees, additional payments to dealers, investment management fees from affiliated mutual funds, and so on. Most plan sponsors won’t know the terminology, much less understand the concepts. Also, in many cases, plan sponsors will become aware for the first time that payments are made among their service providers—in other words, what the 401(k) community calls revenue sharing.

That raises the obvious question, who is going to explain this information to plan sponsors and help them evaluate it?

My belief is that the burden will fall primarily on advisers. However, some of the support will come from providers. While providers are well-suited to offer written information, they are not, except for large plans, in a position to have individual meetings with plan sponsors. For most plans, that job falls on the adviser.

As a result, I believe that the industry norm will be for the adviser to be the primary consultant to the plan sponsor on those issues. If I am correct, that will be one more step in accelerating the process towards the prevalence of specialized 401(k) advisers. For example, experienced advisers will be familiar with these concepts and will have access to information that enables them to help plan sponsors determine whether the revenues and costs are reasonable under the circumstances.

While this creates additional work for advisers, it also creates an opportunity for focused 401(k) advisers to distinguish themselves from the “occasional” adviser.

Because of that, I believe that this is an opportunity for high quality advisers to improve their position in the marketplace ... and to help improve the performance of plan sponsors and the results for plan participants.

Postscript: Advisers who are not focused on 401(k) plans should consider working with providers who offer substantial support services. The 401(k) world is becoming more complex—with traps for the unwary.

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